As we have discovered in recent weeks there’s a greater chance of getting blood from a stone than a UK-listed company voluntarily confessing to M&A activity.
So it’s to Serco’s credit that it has has attempted to set the record straight following reports which claimed the outsourcing firm had made a $2bn offer for SRA International, a US security, defence and health services company.
From Monday’s RNS:
Serco Group plc (Serco), the leading international service company, notes the recent speculation regarding a possible acquisition by Serco. Serco confirms that it is not in any discussions regarding any major transaction at this time.
So far so, so good. Unfortunately, that statement leaves us with more questions than answers.
Serco may not be pursing a major acquisition at the moment, but did it approach SRA?
The FT says it did and backed-off as the share price of SRA started to run away:
Serco, the FTSE 100 outsourcing group, has walked away from SRA International after the US security, defence and health services company rejected a near-$2bn approach. Serco’s board was unwilling to sweeten its indicative offer, people familiar with the matter said. Its decision not to pursue the approach further followed a strong run in the New York-listed company’s shares, which have risen 27 per cent since the turn of the year.
And is Serco’s interest in SRA an admission, as broker Charles Stanley claims, that its core UK business is slowing, that contracts from central governments and local authorities are taking longer to materialise than anticipated and margins are under threat?
Partly.
There’s no doubt the spending review has hurt Serco, as evidenced by its none too subtle attempt to squeeze its suppliers. Certainly, today’s statement can been seen as an attempt to allay those fears and also calm any worries about a big cash call. In order to fund the acquisition of SRA, Serco was looking at launching a £500m rights issue.
But Serco has also been pursuing international growth for some time — for example its acquisition of SI International, which provides technology and network solutions to the US Department of Defense, a couple of years ago.
20 per cent of its revenues now come from the US and a further 17 per cent from other international markets such at the Middle East (managing new airports and metros) and Australia (immigration work), notes David Brockton of Espírito Santo Investment Bank.
Indeed, these international markets are growing faster than the UK and the US, says Brockton. SRA for example is guiding to growth of between 4-7 per cent — which hardly justifies its expensive price tag. A $2bn bid would have implied a 2011 and 2012 price earnings ratio in excess of 20 and an EV/EBITDA in excess of 12!
In that light, Serco’s interest in SRA is a little difficult to understand, unless, as Brockton suspects, the company is trying to replicate what it has here — big health, transport, defence and nuclear operations — in all of its markets.
If so, Serco is likely to acquire something sooner rather than later, reckons Brockton:
Even if SRA became too expensive, I would still expect the intent to be there to acquire internationally.
Shore Capital takes a similar view:
We believe that it is likely that Serco is looking for further acquisitive/corporate development at present – as always the focus being on growing the company’s skill base. It is also likely that overseas development is to he fore, given the environment in the UK public sector (though we accept this should bring organic opportunities in due course). We believe that Serco has a strong track record in finding transactions and integrating businesses into the group. Serco’s balance sheet is strong at present with recourse net debt estimated at end December 2010 of c£240m; this is set to fall to a net cash position over the next two years – thus financially inefficient, to our minds.
Yet another one for the UK M&A watch list.
At pixel time, shares in Serco were unchanged at 557.5p.