Broker tips: Travis Perkins, Man Group, Rolls-Royce, Close Brothers, DWF Group
Shares in builders' merchant Travis Perkins got a boost on Tuesday as Bank of America Merrill Lynch double-upgraded it to 'buy' from 'underperform' and hiked its price target to 1,700p from 1,000p, pointing to upside from an improving volume backdrop, asset disposals and a new chief executive.
"We believe that the combination of a stabilising backdrop for UK renovation activity, low interest rates for longer, the planned simplification of the business through asset disposals and the new CEO starting this summer could lead to a re-rating of the stock," Merrill said.
The bank upped its 2019-20 earnings per share estimates by 6% to 7% and now stands around 4% above consensus.
It reckoned that the upcoming disposal of the plumbing and heating business and the medium-term strategic reflections around Wickes could be "transformational" for the group and lead to higher returns on capital.
"While the UK macroeconomic backdrop is likely to remain uncertain for several months, we believe the worst case scenario is now less likely to materialise and don’t see signs of incremental deterioration," it said.
It noted signs of stabilisation in residential transactions in recent months, which combined with persistently low interest rates and more stable consumer confidence could lead to a more benign outlook for merchanting demand.
"In the general uncertain climate driven by Brexit headlines, we do not expect an acceleration of renovation activity but believe that Travis Perkins is likely to make the most of a more stable market, with potential market shares gains in merchanting and Toolstation."
Berenberg has initiated coverage of Man Group shares with a ‘buy’ recommendation, arguing that it is a “compelling growth stock”.
The German broker noted that Man Group, an active investment management firm and hedge fund, had sold a number of very high-margin products to retail investors before the financial crisis.
“The subsequent run-off in these products weighed on the group’s revenues,” it explained. “With most of these legacy products now run off, we expect underlying growth the group’s business model will become more evident.”
It estimated that the group’s compound annual growth rate of revenues of -1% over the last five years would have been +8% if the legacy products had been excluded. “Put simply, Man Group has spent the last five years running just so it can stand still.”
Berenberg, which had a share price target of 206p on the stock, added that the company's gross sales were now double what they were five years ago, “reflecting strong institutional demand for quantitative strategies and alternative products. These assets are stickier too, with Man Group’s funds now held for 50% longer than they were five years ago.”
It continued: “Man Group has diversified materially in recent years, both across its investment strategies and within those strategies. This means that it is only modestly exposed to the performance of any one particular fund.”
Overall, however, Berenberg argued: “With a 2020 estimated PE of only x10.4, Man Group looks like an attractive value proposition. It is not. It is a compelling growth stock. Freed from the earnings drag created by the runoff of legacy products, we believe Man Group has reached an inflection point in its growth.”
Analysts at Morgan Stanley reiterated their 'overweight' recommendation for shares of British engineering company Rolls-Royce on Tuesday, with improved cash flow quality expected to result in an increased focus on its improving fundamentals over the next twelve to eighteen months.
The investment bank believed improving cash flow quality could drive a reappraisal of the group's fundamentals and, with Rolls-Royce having underperformed the sector on a two-year view, during which time the debate had been dominated by discussion on the quality and timing of cash flow.
The firm's growing installed base, rigorous cost discipline and operating leverage would drive FCF growth "significantly ahead of peers" post-2020, the analysts said in a research report sent to clients.
"If Rolls-Royce achieves its mid-term targets, the stock could double on a five-year view," they added.
Looking out to the medium-term, the broker highlighted five positive drivers for Rolls-Royce's share price, including the widebody replacement cycle of older 747s and 767s, Installed base gains, a higher share of maintenance revenues, pricing tailwinds and its improved operating leverage given its much smaller aftermarket base than peers.
"We have been surprised how little attention is focused on underlying drivers, and believe this can change," Morgan Stanley said.
While the investment bank noted that cash was still a battleground for the stock, the analysts said it was a "nice problem to have". Crucially, Morgan Stanley expected that the improvement in the quality of FCF over the next year would make this debate "largely redundant".
Morgan Stanley also kept its 1,100p target price unchanged.
RBC Capital Markets initiated coverage of Close Brothers with a 'sector perform' rating and 1,500p price target on Tuesday, highlighting little upside at the current valuation.
The Canadian bank said a strong track record is driving a premium valuation for Close Brothers relative to the UK banks and lenders, of around 11x estimated 2020 price-to-earnings compared to 7-9x at other names, but leaves it "with little to get a excited about given slower growth at tighter margins with Brexit still a risk".
It pointed out that net interest margin has declined fairly consistently since 2012, reflecting a lower cost of risk environment and competition. It also noted that growth has pulled back due to competition.
"We expect loan growth of 7% 2018/21e compound annual growth rate, down from an average 11% year-over-year in the previous five years. Given the short duration of the loan book and the high proportion of commercial lending, however, loan growth can quickly change with any potential shock to the UK economy."
RBC expects capital to increase modestly from 12.7% in 2018 to 13.9% in 2021 due to lower loan growth, with a 50% dividend payout ratio which leads to a 5% per year rise in dividend per share.
Analysts at Jefferies have initiated coverage of DWF Group at 'buy' with a 165p target price, pointing to a slew of potential positives for the international legal services firm - subject to management's ability to execute successfully.
The German broker described the company as a "market-leading" firm with a "unique proposition".
"Our due diligence with customers and peers suggests that DWF commands a strong position in the insurance sector. In addition they are differentiated in their service offering and have been successful in offsetting industry price pressure by material growth with new and existing clients."
That, they said, would allow it to grow organic revenues at a double-digit pace, driving "strong" gross margin improvement of 295 basis points between fiscal years 2019 and 2022, thanks to embedded growth within current investments, such that as top-line growth grew into the current cost base earnings per share would grow at a compound annual rate of 35%.
Jefferies also anticipated good cost control and dubbed the company's 70% payout ratio "appealing".
They were also hopeful that the company would be able to lower the number of lockup days, made up work-in-progress plus debtors, from 200 in fiscal year 2019 to below the peer average of 191 by 2022, in turn freeing up cash and cutting the firm's net debt to EBITDA to 0.6 times by fiscal year 2020 which in turn would open the door to M&A.