Investment Column: Serco reassurance argues against selling

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The Independent Online


Our view: hold

Share price: 547.5p (+0.5p)

That Serco's shares managed to remain strong throughout the session after the outsourcer issued an update yesterday is creditable. Worried by Europe's sovereign debt crisis, the markets were volatile throughout the day, making the strength in Serco's stock more meaningful.

And indeed, the update was reassuring, with the group saying that it remained on track to deliver on expectations for 2011. The order book stood at £16.6bn at the end of December, and the new year has already seen some notable contract wins.

The problem is that, as far as the UK is concerned, market sentiment is likely to remain clouded as the Government's austerity drive takes root. Remember, we have only seen the tip of the iceberg, and much more is due in the way of cuts and tax hikes.

You could go with the view that this is good for the outsourcers as the Government farms out services to the private sector. Though valid, that only holds water to a point, as there are still likely to be headwinds, in our view. Serco's attempt last year to demand rebates from suppliers, for example, was scotched by the Government, which said it wanted supply chains to be exempt from pricing pressures.

On the upside, the rebate episode led to a reassessment of the pro-outsourcing narrative in the markets. Serco's shares fell back in the weeks afterwards, and though they mounted a strong rally in February, they have fallen back again. Currently, they remain below the levels seen when the rebate issue first spilt out into the public domain.

Of course, they could slide further – particularly if, as Panmure Gordon warns, the group seeks to make acquisitions that increase execution risk in the near term. But while we agree about the potential for pitfalls, we do think that Serco is fairly valued at current levels. The fact is that the market has become more realistic about the upside, and the downside, for outsourcers. That, coupled with the reassuring update, argues against a sell. But the risks mean that we aren't quite ready to buy at this point.


Our view: buy

Share price: 1,562p (+13p)

When we last looked at Lonmin, we held back from buying despite the face that the share price was relatively weak at the time, and despite the prospect of gains in platinum price.

Our caution was down in part to the fact that the miner came across as a high cost producer.

Yesterday, it confirmed its guidance for costs in 2011, which it expects to be broadly in line with wage inflation. This is encouraging, although one analyst did point out Lonmin still has a lot do in terms of meeting that target.

That said, we think the company deserves the benefit of the doubt. After all, the City was worrying that it might cut its full year sales target. But no such reduction was forthcoming.

Besides, the stock is down around 20 per cent since the beginning of the year. Although many are fretting about a correction in commodity prices and its impact on mining equities, Lonmin has already been through quite a correction. If the wider sector does in fact move south, it should stand firm, in our view.


Our view: hold

Share price: 414.3p (-1.9)

Hiscox, the Lloyd's of London insurer which issued an update for the first three months of the year last night, has confirmed that its hit from the Japan tsunami could be up to $150m, while its loss estimates for the Queensland and New Zealand earthquakes remain at £15m and £60m.

Gross written premiums year-on-year fell by 8 per cent to £453.5m, in line with expectations, as the insurer remained disciplined when it came to underwriting and walked away from poorly-rated risks.

More importantly its reinsurance rates are now back to 2010 levels, with increases in some areas, especially in the Asia-Pacific region. That means it is well-positioned to take advantage of the coming US hurricane season. In fact, there could be average rate rises of around 10 per cent during the June-July renewal period, according to the company.

There were also positive figures from the UK's retail business with premium income climbing 8 per cent to £86.2m. However, with Japan losses still subject to a large degree of uncertainty at the present time, we would be wary of wading in right now.