Higher debt payments are here to stay, emphasising challenges in tightening policy for the next government

“The detail of today’s release emphasises the scale of the fiscal challenge facing the next government. Debt interest payments are soaring and, given that government debt continues to grow, these payments are only going to get larger. And yesterday’s softer labour market figures suggest that social benefit payments will remain high for some time to come. With these parts of public spending likely to remain high for the foreseeable future and the main parties promising to protect front-line services, this emphasises how difficult it will be to rein in spending after the election.”

- Incremental growth of the enlarged group would be restricted. Babcock’s position as a contractor to MoD in the marine and Defence Estates areas is likely to create a conflict of interest that would prevent the enlarged group from participating in the potential outsourcing of MoD’s procurement activities. This is an area of potential growth in MoD and from which a standalone VT is extremely well positioned to benefit.

- The benefits of the potential cost synergies postulated by Babcock, to the extent that they can be realised, are unlikely to be fully retained by the enlarged group as MoD would typically expect to share in these cost savings, which in some cases is a contractual requirement.

 Further synergies required — Within this range we estimate that the company
would need to increase the synergies required to c.£35-45m to support a higher
bid, something which we believe it possible if Babcock management are allowed
access to VT’s books.

 Supportive to raised bid — We continue to believe that this is a good deal for
Babcock and that future potential synergies could support an increased bid. From
a VT perspective a bid at in this range would be a 27%-34% premium to the 3
month average price for VT.

 Retain Buy Recommendation — We retain our Buy recommendation on Babcock,
even within the proposed range, we believe that the company would trade on a pro
forma c.9x 2011E PE and c.7.7x EB/EBITDA. We retain our Hold recommendation
on VT Group (VTG.L; £6.22; 2M).

He is working on plans to buy portfolios of distressed loans or property assets that are currently destined to fall into the hands of the Irish government. Jenkins is also examining the possibility of leading the refinancing of one of the Irish banks, possibly with Middle Eastern backing.

The financier, who set up the £7 billion refinancing of Barclays at the peak of the credit crunch, has launched an advisory firm in Dublin called Elkstone Capital.

**** CURRENT PENSION DEFICIT PAYMENTS NOT SUFFICIENT – The crystallisation of the pension deficit last week when the actuaries validated a IAS 19 deficit of £9.0bn, and a potential need for higher future contributions are the key drivers behind the downgrade.

**** Importantly, the rating already reflects BT ability “to maintain focus on cost savings and incremental improvement to FCF with net debt/EBITDA ratio to trend down toward 3.0x” (from 4.2x). As a result, if access to credit market reduces, management may have limited options other than reviewing dividends policy to ensure a smooth debt re-financing.
**** CONCLUSION : FURTHER PRESSURE ON THE STOCK TO BE EXPECTED. LAST SET OF RESULTS ONCE AGAIN REDUCED VISIBILITY ESPECIALLY ON FUTURE FCF USE. UNLESS WE GET MORE CLARITY THAT ORGANIC FCF IS IMPROVING AS GLOBAL SERVICES TURN-AROUND IS ACHIEVED, I CAN SEE THIS STOCK TRENDING TOWARDS THE 100P LEVEL AGAIN.