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Beaufort Securities Breakfast Alert: Prospex Oil & Gas, Intertek Group, Mitchells & Butlers

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Prospex Oil & Gas (LON:PXOG)
Intertek Group (LON:ITRK)
Mitchells & Butlers (LON:MAB)

"Revolution is in the air and (so far at least) the markets seem to like it! So the big question now is whether or not other European Union members, which still control world’s largest economic block, have decided it is time for them to pick up the baton. With Italy’s own constitutional referendum taking place on 4th December, we may not have too long to wait. If Mr Renzi loses and resigns (as promised), political chaos could ensue in a territory whose economy and well-being has imploded since it adopted the Euro in 1999. France’s own presidential election will be held in April 2017 and, judging by recent polls, a victory for the National Front’s Marine Le Pen is no longer a remote possibility. She, of course, has promised a Frexit referendum whose success would, undoubtedly, be the final nail in the EU’s coffin. Their exit from the Euro would, theoretically at least, presage the biggest default in history as they, presumably, revert to their legacy currencies. Whether Mrs Merkel could then muster sufficient domestic support to salvage such a desperate situation through wide-ranging proposals for a European fiscal and political union would stretch even the most ardent Europhile’s imagination. These clouds are looming and whether investors are choosing to simply dismiss them as wholly unrealistic, or perhaps even consider they would ultimately be the best outcome for the EU still remains to be answered. But today’s focus for Europe will be Philip Hammond’s Autumn Statement. While most now expect a rather unexciting speech, just tinkering around the edges, it should at least provide an insight into Theresa May’s proposed response to the challenges of Brexit. With the Dow Jones closing above 19,000 for the first time and all other US major US equity indices also rising modestly, traders did not appear to be fazed by China’s apparent warning of retaliation if the US imposes the import levies suggested during Trump’s electoral campaign. The Shanghai Composite and Hang Seng, by comparison, both gave up early gains, leaving the ASX to be the region’s best performer as traders continued to pin hopes on next week’s OPEC meeting. The Chancellor is due to start his speech at 12:30hrs today while later this afternoon the US discloses FOMC meeting minutes. UK corporates due to report earnings or trading updates include CMC Markets (CMCX.L), Finsbury Food Group (FIF.L), Paragon (PAG.L), Thomas Cook (TCG.L) and United Utilities (UU..L). The FTSE-100 is expected to rise 25 points in early morning trading "
- Barry Gibb, Research Analyst

Markets

Europe

The FTSE-100 finished yesterday's session 0.62% higher at 6,819.72, whilst the FTSE AIM All-Share index closed 0.27% up at 816.12. In continental Europe, the CAC-40 finished 0.41% better-off at 4,548.35 whilst the DAX was 0.27% higher at 10,713.85.

Wall Street

On Wall Street overnight, the Dow Jones gained 0.35% to 19,023.37, the S&P-500 firmed 0.22% to stand at 2,202.94 and the Nasdaq rose 0.33% to finish at 5,386.35.

Asia

In Asian markets this morning, the Nikkei 225 had risen 0.31% to 18,162.94 and the the Hang Seng firmed 0.08% to 22,695.18.

Oil

In early trade today, WTI crude was down 0.48% to $47.8/bbl and Brent was up 0.49% to $48.88/bbl.

Headlines

Supermarket prices 'to rise by 5%'

Prices in the UK's supermarkets will rise by at least 5% over the next six months, according to the former boss of Sainsbury's. Justin King thinks that, after years of the cost of the weekly shop barely moving, we should expect to see inflation return. Mr King told Newsnight that the fall in the value of the pound would cause "a profound change" for supermarkets. He ran Sainsbury's for a decade until stepping down in 2014. In that time, the company's revenue grew almost constantly, but prices rose much more slowly. In recent years, food prices have even had spells of deflation. Mr King, now vice-chairman of the investment firm Terra Firma, says some supermarkets will be "squeezed in the jaws" of resisting price rises while also dealing with increased costs, and says some companies may not survive the squeeze. His claim has been backed up by the trade body that represents many suppliers. Ian Wright, director-general of the Food and Drink Federation, told Newsnight that he expected prices to rise next year by "somewhere between 5 and 8%". He believes we may not see the full impact of the weak pound for another year, but said it would make the UK grocery market even more competitive than it already is.

Company news

Propsex Oil & Gas (LON:PXOG, 2.80p) – Update

Prospex announced it is on track to spud the Boleslaw 1 well this quarter, which means sometime in the coming weeks. Prospex has uploaded photos on it website which show the drill pad is all but completed, and waiting for the rig to arrive. The drilling phase is expected to take 32 days and once started, the next news item will probably be wireline logging results mid to late January.

Our view: All appears to be progressing as planned. The drilling plan (Plan Ruchu) needs approval but we understand this is a procedural matter and environmental approval has already been received. We look forward to the drilling starting mid December.

Intertek Group (LON:ITRK, 3,186.66p) – Sell

Intertek, a leading Total Quality Assurance provider to industries worldwide, yesterday released a Trading Statement for the period from 1 January to 31 October 2016, ahead of its full year results which are due be announced on 7 March 2017. Management confirmed the Group is on track to deliver ‘robust revenue growth’ in 2016 with stable margins. Recent acquisitions contributed £200m of additional revenues, leaving organic revenue growth at constant rates by division (Products +5.5%, Trade +1%, Resources -13%) slightly lower. During the year-to-date, revenue grew: +10% at constant rates, +18% at actual rates, with the higher margin Products division reporting overall revenue growth +22% at constant rates, +33% at actual rates. Management continued to emphasise its differentiated Total Quality Assurance growth strategy which it considers will move the centre of gravity of its portfolio “towards the attractive growth and margin opportunities in the industry based on a disciplined approach to revenue, margin, portfolio and cash performance management, with a disciplined capital allocation to deliver attractive returns for our shareholders."

Our view: The Group remains on track to deliver its 2016 target of robust revenue growth at constant currency with stable margin and strong cash generation. It continues to benefit from the acquisitions made since January 2015, which will deliver stable organic growth at constant currency. The US$250bn global quality assurance industry in which the Group operates undoubtedly has attractive structural growth prospects, driven by an increased focus of corporations on risk management, global trade flows, global demand for energy, expanding regulations, more complex sourcing and distribution operations, technological innovations, government investments in large infrastructure projects, and increased consumer demand for higher quality and more sustainable products. The trouble is that Intertek is not the only player to have noticed this opportunity, to the extent that the industry is now becoming crowded, contracts harder won and margins squeezed. Although Intertek’s model provides quality and highly cash generative earnings, the first four month of the second half disappointed with a 0.7% contraction in organic revenue growth, against a consensus forecast closer to +0.7%, with contracting Resources capex being principally to blame. Given the Board’s statement was punctuated throughout with the word ‘stable’, when referring to both organic revenue growth and margin guidance, however, Beaufort has now chosen to trim back its rather ambitious 2017E earnings estimate. We already had a low-end 2016E eps forecast of 160.0p, but now cuts 2017E back to 175.0p (previously 180.0p), implying a still expensive 18.4x P/E multiple for the new year along with a 2.6% yield. The shares have fallen sharply since Beaufort moved its recommendation down to Sell back on 2nd August, but in the absence of a more inspiring near-term vision being provided by management, the recommendation remains unchanged with a price target lowered to 3000p/share.

Mitchells & Butlers (LON:MAB, 259.54p) – Hold

M&B yesterday released full year results to end-September 2016. Highlights for the year include a return to like-for-like sales growth, an acceleration of estate investment and good progress on its three strategic priorities. Total revenue of £2,086m (FY 2015 £2,10) was reported, with full year like-for-like sales down 0.8%, but with an improving trend including the most recent eight weeks up 0.5%. Adjusted operating profits were £318m (FY 2015 £328m), gave adjusted earnings per share of 34.9p (FY 2015 35.7p) and a final dividend of 5.0p, making a full year payout of 7.5p/share. Management stressed that it made good progress in its three priority areas: building a more balanced business; instilling a more commercial culture; and driving an innovation agenda. This focus is starting to have a positive effect on sales, with improved performance against a subdued market in recent months through continuation of the momentum seen at start in the second half of last year. Sales growth in the first eight weeks was impacted by the Rugby World Cup in the prior year, but underlying momentum of recent weeks has returned to the levels seen in the summer.

Our view: M&B will see further downward pressure on margins in the current financial year, as the sector incurs the additional cost headwinds including the first full year of the National Living Wage, indications of two potential increases in the National Minimum Wage, the impact of exchange rate movements bearing on foreign currency c£100m denominated purchases, and the recent business rates review. But this is already mostly understood, while a flattening of net restaurant openings means that the Group will at least have a fighting chance of maintaining market share. For 2017E should one assume flat LFL growth and operating margins marginally down to 15.1%, a pre-tax profit of the order £184m appears achievable, although the near-term risk clearly remains to the downside. M&B is clearly poised for recovery targeting site conversions of over 300/year while also reducing its investment cycle back to seven or less years. This is sound enough, but the various calls on Group cashflow (bond amortisation, capex, pension calls, etc.) are likely to provide a continuing brake on the bottom line and management’s ability to significantly bolster the dividend. Trading on a 2016/17E P/E multiple of 7.5x with a 3% yield, the shares are priced for recovery, but having bounced quite strongly from its July lows, Beaufort has decided to take the recommendation down from Buy to Hold awaiting a more confident scenario.

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