EUR 850.00 For Business Accounts Only

Morningstar | Short-Term Pain, Long-Term Gain, G4S Remains Undervalued

No-moat security giant G4S delivered a pretty disappointing third-quarter update with a management statement that can be summarised as “short term headwinds, long term tailwinds." Investors are clearly tiring of the “jam tomorrow” story, however, with the shares falling close to 10% after the results. Management has guided for full-year PBITA to be flat year over year, which will result in us taking down our 2018 forecasts a touch; however, we expect this to have only a modest impact on our GBX 337 fair value estimate. For investors with the ability and patience to look through the current malaise, there is an attractive opportunity.

Organic revenue growth of 2.5% in the third quarter was actually a reasonable pick up from the flat performance in the first half, with 3.4% growth in guarding and 2.9% growth in cash solutions. In normal circumstances this would have resulted in a reasonable top-line growth rate for the group; however, well publicised issues with the prisons business have impacted revenue here over the period. Ultimately, we believe the failure of the company in its management of the facility in Birmingham, U.K. to be isolated from the rest of the division, and growth should return to this division in the coming quarters. Although it has been a frustrating 12 months for investors, with the company almost having to put out a different fire every other quarter, the long-term thesis is intact. The onerous contracts engaged in by the previous management are continually rolling off, and the shift to higher value services is gaining momentum in both the guarding and security solutions businesses. Both of these factors should lead to higher top-line growth and improved margins in the coming years, underpinning our positive view on the stock.