Small Caps | Jun 20 2014
-Upside potential to share price
-Acquisitions to contribute strongly
-Ability to capitalise on opportunity
By Eva Brocklehurst
IT services provider UXC ((UXC)) has cautiously signalled a recovery in earnings is underway. An improvement in second half earnings has been assisted by contributions from recent acquisitions and as improvement was also weighted to the end of the half, this increases broker confidence that FY15 will reveal better growth.
The company is guiding to underlying earnings of $35.2-37.0m in FY14, a slight improvement on FY13. The company has erred on the side of caution, trimming operating margin targets across the three main divisions. The targets the company has set remain realistic, in Moelis' view, despite a subdued environment. Fundamentals are undemanding, given the 25% share price decline in 2014 as well as UXC's quality and unique industry position in applications. This underpins Moelis' assertion that the weakness in the first half was, in large part, attributable to project over-runs. Cost over-runs in the second half have been minimal and Moelis believes this is an important positive indicator from a risk management perspective.
JP Morgan is not overly concerned, despite implied second half earnings being behind its expectations. The broker believes its earnings forecasts are on the conservative side and a reduced valuation suggests meaningful upside exists to the current share price. The broker is comfortable with the growth outlook and retains an Overweight rating. Recently-won contracts and acquisitions should generate close to $100m in revenue in FY15 on an annualised basis. The broker lowers its target to $1.02 from $1.20 in line with a lower discounted cash flow valuation, which is partly offset by rolling forward the target date. JP Morgan considers the lessons learned in the delivery of key projects should assist in margin performance on larger contracts in the months ahead.
Management has confirmed the Keystone acquisition made in late 2013 is now fully integrated. Keystone, Australia's largest re-seller and service provider for ServiceNow, is achieving its targeted run rate and should contribute $90-100m in revenue in FY15. Two smaller acquisitions were completed in June 2014 and will be fully integrated in the Oracle and SAP segments, with $7-10m in revenue expected to be generated in FY15. Moelis believes, despite limited organic revenue growth for contracting and infrastructure, the increase in activity for applications and an ongoing focus on lifting margins should stand the company in good stead. The broker retains a $1.00 target and Buy rating.
UXC has a strong relationship with application vendors such as Oracle, SAP and Microsoft Dynamics. It also has balance sheet capacity and a reputation for delivering on large contracts. JP Morgan considers these strengths should allow it to capitalise on opportunities for growth in North America, on the back of Microsoft applications, in cloud-based applications aligned to ServiceNow, and via cross selling. On JP Morgan's estimates the company offers a 4.7% dividend yield on FY14 forecasts, rising to 7.3% in FY15 and 8.1% in FY16. Moelis' estimates suggest 5.4%, 6.9% and 8.0% respectively.
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