WYG. Overseas development. Internationally important. Positioned to deliver growth. Valuation: Rating comparable to larger peers

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1 WYG Overseas development Focus on international Support services In a year of further progress, a UK profit turnaround is likely to catch the eye although, in our view, international development is equally important. WYG has created strong positions in its overseas markets and is taking steps to enhance its presence across its regional structure. This strategy improves earnings quality and offers structural growth opportunities. The company s rating is now more in line with larger UK quoted peers but a faster, high-quality earnings growth profile would warrant a premium. 24 April 2014 Price 106.0p Market cap 69m / Net cash ( m) at FY14e 12.5 Shares in issue 64.7m Free float 90% Year end Revenue ( m) PBT* ( m) EPS* (p) 03/ (5.4) (7.0) 0.0 N/A N/A 03/ N/A 03/14e /15e Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments. DPS (p) P/E (x) Yield (%) Code Primary exchange Secondary exchange Share price performance WYG AIM N/A Internationally important Overseas operations have grown to become an expected 40%+ of WYG revenues and almost 70% of EBIT in FY14 from virtually zero 10 years before. They have also provided some stability during the UK cyclical downturn, remaining profitable throughout. Donor-funded programmes have traditionally dominated workflow. Within this segment, WYG has sought to expand its client portfolio beyond traditional EU agencies and is making progress in this. Additionally, WYG has gradually built private sector client revenues on the back of its regional activity and this now represents c 10% of international revenue. Positioned to deliver growth Development funding programmes are highly visible allocations of capital within a framework of strategic policy making by national and international organisations. Within this architecture, there is a great deal of complexity, regulations, procedures and local knowledge required to win and successfully implement funded work. WYG is right at the forefront of this process and has developed a strong position via its track record and partnership network. Having identified the key themes and agencies for growth, WYG is putting resource in place (including infill acquisitions) to deliver this. The recent announcement of a new trade finance facility is a strong indication of intent in this area. Valuation: Rating comparable to larger peers WYG s share price is almost 50% higher than a year ago, representing relative outperformance of c 40%. The P/E for the year just closed is 21.2x and 16.4x for FY15. EV/EBITDA on the same basis is 11.1x and 9.6x respectively. For FY16, management s own aspirations are above our projections and would bring the rating down sharply on this basis. If we deducted share-based payment charges in line with larger quoted peers, WYG would be valued at a comparable level to these companies. % 1m 3m 12m Abs Rel (local) week high/low p 74.50p Business description WYG is a multi-discipline, international project management and management service consultancy with over half of revenues generated in the UK and the remainder in a spread of international markets. Next events FY14 results AGM Analysts 3 June 23 September Toby Thorrington +44 (0) Roger Johnston +44 (0) industrials@edisongroup.com Edison profile page WYG is a research client of Edison Investment Research Limited

2 Investment summary Company description WYG is an independent multi-discipline provider of front-end consulting services internationally. UK/Ireland operations account for just over half of expected FY14 revenue and around one-third of EBIT. Overseas operations have a wide geographic spread, currently with greater focus on regional and country-level development funded by international organisations. WYG appears to be about to enter a growth phase with progress expected from both domestic and international workflow. Valuation: Rating comparable to larger quoted peers Following upgraded estimates and a healthy share price performance over the last year, WYG is trading on a P/E rating for the year that has just closed of 21.2x falling to 16.4x one year out. EV/EBITDA on the same basis is 11.1x and 9.6x respectively. Owing to our faster earnings growth expectations, WYG s rating is slightly above RPS and Hyder Consulting by FY16 and on a small discount to WS Atkins. These comparisons are made using current estimates and exclude sharebased payment charges. Management s own aspirations are above our FY16 projections and, on this basis, bring the FY16 P/E and EV/EBITDA multiples down to 9x and 5.5x respectively. With a similar treatment to peers, ie inclusion of share-based payment charges, this illustrative rating is, again, similar to that of its larger quoted peers. Financials: Strong end to FY14 Having returned to profitability in FY13, FY14 appears to be have been characterised by improving margins on a stable revenue platform. A year-end IMS (27 March) confirmed that WYG had experienced strong Q4 trading and we increased our PBT estimate by 0.3m. Order book growth and success on framework tenders, especially in the UK, suggests that FY15 should also start well. We expect to see a further improvement in UK/Ireland performance in FY14 and ongoing development of the two international reporting regions, with regard to both capability and profit contribution. We estimate that WYG ended FY14 with c 12.5m net cash compared to 18.6m a year earlier. This reflects positive and improving underlying free cash flow (as profits rebuild) funding c 3-4m cash outflow on legacy items and a managed reduction in bonded work (with an attendant reduction in advances held). Additionally, c 1.5m cash consideration for three acquisitions is factored in. While we currently model further reductions in bonded advances, WYG has a new international trade finance facility in place and the cash flow profile subject to successfully winning new work may be different. Lastly, the flagged resumption of dividend payments is unlikely to have a material short-term cash impact, but represents a significant marker of how far the company s finances have been transformed in a comparatively short period of time. Sensitivities: Client and business model diversity The availability of project and programme funding is the key macro business driver. WYG has a range of private and national and supra-national public sector clients across international markets. The private sector typically exhibits greater cyclicality and while public sector spending is clearly not immune to this should bring greater visibility, stability and relative strength in certain markets. An established track record and partnership network in target segments is important for winning new work. Delivering these projects successfully relies on the appropriate level of resourcing to execute projects and financial management systems to monitor progress against agreed tender or framework terms. UK operations have a higher fixed cost base delivering consultancy services via in-house technical resource and a regional office network. Hence, utilisation rates and profitability are more sensitive to activity levels in the UK. In comparison, international operations have a more flexible model, using more local, third-party services as part of a delivery package. WYG 24 April

3 Company description: Multi-discipline consultant WYG is an independent multi-discipline provider of front-end (programme and project management and technical) consulting services with an increasingly global presence. Client profiles, workflow and service delivery models differ between UK and international markets but all three reporting regions are positioned to deliver enhanced profitability. Development of the natural, social and built environments is the common thread running through the range of consulting services that WYG offers. In more mature regions such as the UK, traditional planning disciplines (especially for infrastructure, urban and environmental projects) are dominant. Overseas activities focus more on policy and institutional advice and programme planning for the implementation of development funding, usually from external agencies. Exhibit 1: WYG geographic revenue split Exhibit 2: WYG revenue split by client type Middle East, North Africa (MENA) 14% Public Sector donor funded 32% Public sector not donor funded 34% Europe, Africa, Asia (EAA) 31% UK/Ireland 55% Private sector 34% Source: WYG Source: WYG Linking these two charts together, UK/Ireland client fee revenues are split broadly evenly between the public (national and local government) and private sectors. In the other regions, public sector (donor funds from international development organisations) account for around 75% of fee revenue in total while c 10% is from private sector clients. WYG s UK office structure delivers substantially all of the required consulting services using in-house professional staff, whereas the international model engages local specialists on a project team basis under a WYG management contract. Growth from focus on three themes Having returned WYG to profitability after restructuring, management is now aiming to deliver a phase of revenue and profit growth. A focus on three themes (urban development/connected cities, preserving the global environment and fragile states/stabilisation) brings a multi-sector, multi-discipline and multi-agency approach. In the medium term, increasing technical consultancy and greater private sector workflow are desirable features for ongoing international development. Management stability: WYG s board has now been very stable since 2009, with Sean Cummins appointment as FD in 2011 the only change. The turnaround strategy (from FY12 EBITDA and PBT losses of 1.5m) has been successfully executed to date and, having returned the group to profitability, the next phase is to reach stated FY16 targets (EBITDA 10m+ and PBT 9m respectively, excluding share-based payments of c 3.2m per year). Revenue growth, margin expansion and some contribution from acquisitions are the expected core drivers of this. To this end, three deals (the first by this management team) have been made in FY14: Upper Quartile accesses DfID Fragile & Conflict States framework (eg Libya) Higham UK-based town planning specialists, strengthens North-West region Delta Partnership Solutions international development consultants focusing on East Africa (complements Upper Quartile) WYG 24 April

4 WYG International: High-quality earnings International work clearly enhances WYG s earnings quality with good project visibility and strong, well-funded clients. WYG is adding technical consulting work to its established policy advice and programme management services and aims to broaden revenues by both project and client type. Development: WYG had a small overseas presence at the beginning of 2000 but the acquisition of the UK-headquartered IMC businesses in June 2004 represented a significant step. IMC had a fast growing and profitable revenue base largely derived from serving international financial aid development spending in European countries. (A smaller sister operation delivering traditional engineering and environmental services to a wider client base became part of WYG s UK network.) Management services and office network: IMC s management services revenues (ie consulting and project management) expanded WYG s front-end project capabilities. WYG quickly secured a South African contract and added a Durban office to IMC s existing ones in Ankara, Brussels, Bucharest, Moscow and Warsaw. These form the backbone of WYG s non-uk operations today. In 2007, WYG acquired a small management consultant (DeLeuw International), adding to its Turkish presence and a financial consultancy (Management Consultants Group) specialising in budget support and implementation with a broader government and public bodies client base. Contract characteristics and quality of earnings: Typical contract awards tend to be cost plus and range from comparatively small to multi-year programmes (with extensions). At contract start there is often an advance payment which may require a matching financial bond or guarantee. (On acquiring IMC, 60% of its advances were secured with bonds and were at a similar level in WYG s FY13 annual report, though down from c 68% at the end of FY12 and 100%+ in the two preceding years.) This is a business cost but donor-funded social and economic development work typically has extended contract award visibility (multi-annual plans, publication of tender lists eg OJEU), and generates above-average margins for WYG from high quality funding clients. Exhibit 3: WYG international revenue development Exhibit 4: International revenue split by sector % 40% 30% Development & Infrastructure 79% Urban & Commercial Development 7% m % 10% Energy & Waste 6% Mining, Metals & Minerals 5% % Transport 3% Revenue % Group Source: Company data Source: Company data Trading record: International revenue almost doubled between 2006 and 2010 and accounted for 40% of group revenue in FY13. The order book grew up to FY11 (peaking at 87m) but contained a higher proportion of larger project awards that had a positive impact on revenue but bonding costs constrained profitability. That said, financial performance has been more resilient in both regards compared to UK/Ireland. The decision to de-emphasise bonded work (a subset of donor funded work) reduced revenues and the order book in the short term, but resulted in improved EBIT. WYG International today: We expect FY14 revenue and EBIT of 55m and 2.9m respectively. A direct headcount of c 250 is split across two divisions: Europe, Africa & Asia (EAA) and Middle East & North Africa (MENA), both of which have regional hub MDs and a project-based office structure. Of WYG s target sectors, Development and Infrastructure is the dominant sector in International, with Energy and Waste, Environment and Transport also addressed. We understand that revenues split c 75% donor funded, 15% other public sector and 10% private sector by client type. WYG 24 April

5 EU aid structure: A Multi-annual Financial Framework The European Union is a significant promoter of social, economic and regional development both for EU members and non-member countries. Expenditure in this area and others is largely included in the EU s Multi-annual Financial Framework (MFF) which sets Annual Budget expenditure limits in the context of a longer term programme of policy implementation towards EU 2020 targets. The latest MFF for the period was approved in December 2013 and the 2014 Annual Budget more recently in February. The European Union is, overall, a significant WYG client. EU membership countries Regional development (or economic, social and territorial cohesion) is the second largest EU internal programme (after natural resources, including agriculture and fisheries) with 352bn funds at current prices under MFF (or 32.5% of the total). A Common Strategic Framework and new Cohesion Policy 1 have been adopted to co-ordinate and harmonise several funding components to improve their overall efficiency and effectiveness 2. There is to be greater focus on thematic objectives consistent with the 2020 targets. The aim is to stimulate growth and narrow regional imbalances across EU members both at the country and intra-country levels. The programme mix (regional objectives translated into projects and aggregated to country level) and absolute level of funding, type and administration depend on relative levels of development. Essentially, this involves a concentration of funding into the least prosperous regions while also promoting better governance. The less developed regions are chiefly, but not exclusively, in eastern Europe while transition regions are EU wide. More developed ones have a greater focus on increasing competitiveness in a wider context. Exhibit 5: MFF funding allocations Exhibit 6: Regional development and funding Transition Regions 10% Other 5% Category ERDF ESF CF 352bn More Developed Regions 15% Cohesion Fund 18% Less Developed Regions 52% Less Developed Region 51% Transition Region 30% More Developed Region 15% Other 4% Source: European Union Source: European Union 3 Exhibit 6 matches the key funding vehicles to the regions; their primary policy objectives (or investment priorities) are shown below. European Regional Development Fund (ERDF) R&D, innovation, climate change, infrastructure, ICT, SME support and public administration European Social Fund (ESF) Population; employment, labour mobility, education, social inclusion and institutional capability Cohesion Fund (CF) Transport and environmental infrastructure WYG 24 April

6 Clearly, there are areas of overlap and programmes that can affect more than one of these objectives, so the onus in MFF is on a more co-ordinated and structured overall approach, which may include co-funding programmes. At country level, each EU member (in conjunction with European Commission) produces a commitment to contribute towards achieving the Europe 2020 targets in Partnership Agreements (PAs). Among other things, these contain a list of Operational Programmes to be carried out together with their intended timing and funding source during the MFF period. This is how the macro budgeting and micro implementation aspects come together. Slightly counterintuitively, the spread of transition regions means that some of the leading G8 countries are also allocated significant funding. This is because each of these countries has comparatively underdeveloped regions to whom a significant proportion of the funds is allocated. For example, large areas of southern Spain and Italy are classified as transition or less developed, while the UK, France and Germany (especially the east) also have regions marked as transition. These areas may have fared less well during the recession, particularly where systemic banking and finance problems sharply curtailed development. So, the overall scale and shape of country-bycountry development funding is very visible over an extended time horizon. The new MFF PAs are currently in advanced draft form, with expected approval in Q314. This need not be a constraint on programme activity as phasing and extensions results in spending spreading across budget periods. WYG in alignment with larger areas of spend. The 13 countries who have acceded to the EU from 2004 onwards account for 90% of the MFF Cohesion Fund allocation and 70% of that for Less Developed Regions. These countries typically need assistance with establishing functional public and financial administrative structures to facilitate the flow of development funding as well as project planning and these are core areas for WYG, especially in the Development & Infrastructure and Transport segments. As mentioned earlier, the latest MFF is placing greater onus on efficient resource deployment and with more use of results measurement and performance incentives this theme plays to WYGs planning strengths. Some observations on budget trends. The Cohesion Policy component of the latest MFF was agreed in February 2014 at 325.1bn (2011 prices), c 8.4% below MFF Moreover, the Annual Budget for 2014 is expected to be 10-14% lower than 2013 (depending on which measure is used). While this is unhelpful at face value, the scale of funding overall is still clearly huge. The annual profile outlined for MFF shows stability and modest growth rather than volatility or a downward trend. In the absence of visibility on how funding is expected to be allocated (ie between goods and services and, specifically, consultancy services), it is difficult to be too definitive on the impact on WYG s market opportunities. In the context of our expected c 55m ( 66m) total international revenues for FY14, we feel confident in suggesting that there are more opportunities than threats in this area. Bear in mind that WYG now has more financial flexibility to expand overseas than it had in the latter half of MFF and the latest framework places greater emphasis on efficient resource deployment (requiring better front end disciplines). WYG has established a regional structure geared to expansion and this is not all expected to derive from EU-related projects. Timing of country OP approvals Approval of the MFF was delayed by changes to the financial and regulatory framework before coming into effect in December The associated country-level Partnership Agreements and Operational Programmes are to be submitted during 2014 with prescribed time periods for review and adoption. WYG s current bidding activity is against the tail of MFF programmes, with MFF work likely to start in WYG 24 April

7 Non-EU membership: Global Europe The MFF also contains a foreign policy funding allocation, ie addressing development aid for non-eu members. The Development and Cooperation directorate (known as EuropeAid) is responsible for designing and delivering policies for aid programmes to more diverse geographic regions as well as other non-eu European countries, some of whom may be aiming for EU accession at some stage. There are three primary geographic funding instruments: European Development Fund African (49 countries), Caribbean (15) and Pacific (15) regions as well as 25 overseas territories of EU member states (OCTs, eg Falkland Islands, French Polynesia). European Neighbourhood & Partnership Instruments North Africa, eastern Mediterranean, Eastern Europe and Russia (17 countries). Development Co-operation Instrument Latin America, Asia & Central Asia, Gulf region and South Africa (47 countries). Note that the EDF is not part of the MFF and is funded separately by contributions from member states although its 11th budget does now run co-terminus with the latest MFF (ie ) planning period. The ENPI and DCI are the central geographic policy instruments of the MFF. This outlines the breadth of the EU international aid programme. Funding allocations with individual countries under multi-annual frameworks are conducted under specific programming under the MFF and or, for EDF, country and regional strategy papers. As well as this region and country-based funding, there are complementary instruments within MFF that address some specific areas of policy interest. For example, these include human rights and nuclear safety. Instrument for Pre-accession Assistance (IPA), which provides funding support for identified candidate and potential candidate countries to create the appropriate structures for receiving broader regional development funds (as described earlier) once they become full EU members. Instrument for Stability (IfS) is primarily available to respond to short-term crises (eg conflict or post-conflict states or natural disasters). It also supports institutional capacity building (eg border controls, effective law enforcement, anti-terrorism) to promote longer-term security and stability. Exhibit 7: Summary of EU member funding for external development EDF 33% DCI 20% bn 2011 prices 58.7 MFF Global Europe total 17.4 Development Cooperation Instrument ENPI 17% 14.5 European Neighbourhood Instrument 10.4 Instrument for Pre-accession assistance 2.1 Instrument for Stability MFF Other 16% IfS 2% IPA 12% 14.3 Other (>50% = humanitarian aid + margin) 29.1 European Development Fund Source: European Union MFF is 3.3% larger (at 2011 prices) than its predecessor; we do not have full comparability but IPA and IfS are expected to be stable, although spend in some of the larger categories is understood to have been reduced. The 11 th EDF (adjusting for a seven-year term versus six previously) is c 10% higher (at 2011 prices) on an annual average basis. More immediately, Annual Budgets for 2014 generally appear lower than in 2013 though this may be due to project phasing and/or a natural pause during the transition from one MFF to the next. WYG 24 April

8 Focus on WYG s larger country operations Poland and the Balkan states are the largest components within WYG s ESAA region while Turkey is the dominant country within MENA. Exhibit 8: Country focus: Poland, Turkey and the West Balkan states Poland Status: EU member (acceded 2004) Less Dev eloped 66% More Other Dev eloped 1% 3% Cohesion Fund 30% WYG region / hub: MFF allocation: ESAA / Warsaw 77bn (at current prices) The largest country beneficiary of the regional development or Cohesion Policy component of the MFF, accounting for c 22% of the total value. One of 15 eligible countries, Poland is a significant beneficiary of the Cohesion Fund. WYG projects undertaken: > Three year business consultancy & training services programme (Rapid Response) > Transport studies: Railway infrastructure modernisation & construction > Project & financing proposal for forestry recultivation Turkey Status: EU candidate country (since 1999) WYG region / hub: MENA / Istanbul Human Cross border Resources 0% Instrument for Pre-Accession: 903m (2013 funding allocation) 10% Accounts for over half of the IPA funding and, with access to all five components of Regional this Instrument see pie chart), is the largest single country recipient of IPA funds. 41% Rural Borders some Black Sea countries and the northern Gulf states 23% Transition 26% WYG projects undertaken: > Services to facilitate the delivery of waste water treatment plants > Technical assistance for building EU affairs capacity in Turkey's Governorates > Strengthening regional cooperation on climate and the environment West Balkan States WYG region / hub: ESAA / Belgrade Other Croatia EU member (acceded 2013) 2% Cohesion MFF allocation: 8.6bn (at current prices) Fund The newest member of the EU and the second of the former Yugoslavia countries 30% (after Slovenia in 2004) to accede to full membership. Received c 1bn funding from IPA between Less Dev eloped 68% WYG projects undertaken: > Planning for University of Zadar extension > Business advisory services to SMEs > Feasibility study for the regulation of the Sava River EU candidate countries EU potential candidates Instrument for Pre-Accession: Serbia, Macedonia, Montenegro Albania, Kosovo, Bosnia & Herzogovina 570m (2013 funding allocation) Kosov o 12% B &H 8% Serbia 37% WYG projects undertaken: > Serbia: public financial management strengthening programme > Montenegro: technical services for construction of water supply works > Bosnia & Herzogovina: motorway toll study, hydropower project support Source: Edison Investment Research, EU Albania 17% Montenegro 6% Macedonia 20% WYG 24 April

9 Donor funds and other finance agencies outside the EU So far, we have concentrated on the EU and its myriad development funding mechanisms, aligned with its own policy and the status and needs of individual countries. Europeaid frequently works alongside other international agencies that may also provide project funding, and we now look briefly at some of these other international financial organisations. Department for International Development (DfID): Separate from the Foreign & Commonwealth Office, DfID is the UK government s primary agency for the development and delivery of overseas aid doing so either directly with partner countries (bilateral) or channelled through international organisations (multilateral), including those below. In total, the UK distributed 8.8bn of Official Development Assistance in 2012 and DfID accounted for 87% of this. Of DfID s policies for developing countries, we would identify Promoting economic growth, Helping them to become better run and more accountable, Providing clean water and sanitation, Preventing conflict in fragile states and Promoting stability in the west Balkan states as those most closely aligned with WYG s areas of expertise. WYG is currently a Registered Contractor on DfID s Wealth Creation and Global Evaluation Framework Agreements. (Wealth Creation covers a number of policy areas while GEFA is concerned with the effective delivery of consultancy services to evaluate its programmes.) WYG has undertaken work for DfID in Romania (building institutional capacity), southern Africa (water infrastructure), Nigeria (public finance reform) and an eight-country landmine clearance project. European Bank for Reconstruction and Development (EBRD): Established in 1991 and owned by the EU, the European Investment Bank and 64 shareholder countries, it has some similar objectives to the main EU MFF, although is ultimately aiming to promote a strong market economy. The EBRD raises funds via the issue of structured bonds (444 outstanding, value 26.8bn at the end of 2013 with a 2014 borrowing programme of up to 6bn) for investment in commercially viable projects. These are mainly, but not exclusively in the private sector where there is a funding gap and where the EBRD provides a proportion of the required finance alongside other partners. A historic focus on eastern Europe has widened to include central Asia and, more recently, southern and eastern Mediterranean. Hence, the regional focus is comparable to the ENPI and, within WYG, much of ESAA. WYG has worked with the EBRD in Georgia (on environmental improvement) and parts of central Asia (public financial management). European Investment Bank (EIB): Established 1958 and owned by the 28 EU member states, the EIB provides finance and expertise for projects promoting growth and employment consistent with the EU policy objectives. This can be conducted stand alone or via joint initiatives (in areas such as urban development and pre-accession funding) to maximise benefits arising from aid programmes. Like the EBRD, the EIB raises funds for investment in international capital markets and lent c 72bn in 2013 (90% to EU states). The EIB is the majority shareholder of the European Investment Fund, a risk investor in SMEs. We are aware of an EIB waste water supply improvement project in Montenegro for which WYG provided construction supervision. Other: We note that WYG has provided services on projects funded by the Asian Development Bank (eg Bangladesh climate change; Cambodia public financial management; Tajikistan climate change). Although we have referred to a number of other projects that WYG has been involved with outside Europe and the MENA regions, historically, exposure to other parts of Africa and Asia has not been significant in a group context. Contract wins and an acquisition with a focus on east African countries may result in a broader portfolio of development agency work for WYG, including the African Development Bank and, possibly, the World Bank Group (a UN-led family of five agencies that provide project finance to reduce poverty). WYG has a stated strategic aim to both diversify the pool of donors served and to increase the level of private sector work. WYG 24 April

10 Sensitivities WYG provides consultancy services related to the preparation and conceptual design development of projects in the following seven segments. Exhibit 9: WYG consultancy services segments Segments (% FY13 revenue) % % Development & Infrastructure 53 Transport 5 Urban & Commercial Development 20 Mining, Metals & Minerals 3 Defence & Justice 9 Environment 2 Energy & Waste 8 Source: Company UK/Ireland operations undertake projects in all segments apart from Mining, while International is dominated by Development & Infrastructure work with exposure to Energy, Transport and Mining. The availability of funding in these project areas is a key macro business driver and having an established track record and partnership network in these segments is important for new business wins. Regional business models are very different but winning and delivering projects successfully with the appropriate level of resourcing and financial management systems are common threads. UK/Ireland (FY14e: 56% revenue, 28% EBIT) Consultancy services are delivered almost entirely by WYG staff from an 18-office network, which indicates a significant fixed cost base within the business. The client profile is split 50% public sector and 50% private sector; client spend in both streams contracted during the recession and steps were taken to scale the cost base accordingly. (Provisions relating to property leases and professional indemnity exposure during this period are on WYG s balance sheet.) Hence, aligning the level of technical resource with expected revenue is a key determinant of profitability in UK/Ireland. With an expectation that revenues in the region can begin to grow again, the need to attract and retain high calibre staff may take greater prominence than in the recent past to sustain the upward momentum in re-building profitability. International (FY14e: 44% revenue, 72% EBIT) As we have seen, overseas operations have established relationships with international funding agencies representing c 90% of international revenues with a historic bias towards relevant consultancy services for developing regions and countries. The ESAA and MENA regions each have a principal hub (in Warsaw and Ankara respectively) with other smaller ones to service other material or potentially material revenue clusters eg Belgrade (Balkans), Abu Dhabi (Gulf states) and Moscow. This network, together with some project specific locations, engage specialist service providers and agencies on a local level and maintains relationships with core donor agencies. (They are also considered to be the bridgehead to wider business connections in the private sector with a view to developing this as a revenue stream, bringing in group expertise in the other sectors shown above.) Hence, international operations tend to have a higher proportion of variable costs, though with some longer project timelines resourced accordingly they could be thought of as semi-variable in the near term. As with UK/Ireland, the ESAA and MENA regions are required to attract and retain a core of high calibre personnel with technical consulting skills but also a deep understanding of aid agency workings. International funding agency programmes offer excellent forward visibility at a high level and documentation at regional level that is attractive to planning and targeting business growth for WYG. Short-term profit variability can occur over and above the timing of project completions. For example, investing for growth (as in MENA), possible aid suspension (eg from civil unrest) and foreign exchange movements (revenue is typically in euros, costs in local currency) and could all influence financial performance. That said, we consider that these agencies offer less potential exposure to unrecovered debtors compared to say a small construction contractor client in the UK. WYG 24 April

11 Valuation WYG s share price is up almost 50% since the beginning of 2013 and, following the 27 March IMS, has moved back above 100p. In valuation terms, WYG is now trading on comparable ratings to its larger UK quoted consulting peers and a premium to the smaller ones. Our estimates are still set conservatively against management s FY16 target, offering potential scope for further upgrades at some point. Beyond this, the medium-term recovery in UK earnings and broader development of International will be the key relative rating differentiators. Ahead of this, WYG s imminent return to the dividend list removes one anomaly with its quoted peers. Target earnings level implies single-digit FY16 P/E rating Since the beginning of 2013, our headline PBT estimates have increased by 0.7m (20%) and 0.4m (8%) for FY14 and FY15 respectively. Our FY16 estimates are unchanged since inception (in June 2013). Based on these figures and using a fully diluted 70.9m shares, WYG is trading on a P/E ratio of FY x, falling to FY x, and an EV/EBITDA of FY15 9.6x and FY16 7.7x. Management has not changed its stated target of c 9m PBT by FY16. (Acquisition effects may account for some of the difference to our own estimates, for which we have not made any explicit changes to earnings at this stage.) Using this as a valuation benchmark suggests indicative FY16 ratings of P/E ratio FY16 9.0x and EV/EBITDA FY16 5.5x. These calculations assume no share-based payments (currently running at c 3.2m per year). Moving in line with larger UK support service peers Acknowledging that the areas of direct comparability are limited, we now look at the ratings of some UK quoted support service peers of WYG. Their recent trading records have been mixed, so we look at year three ratings, anticipating more normal conditions for each company by then. Exhibit 10: WYG UK quoted peer ratings Year end Price (p) Mkt cap ( m) P/E ratio EPS growth FY-1 FY0 FY+1 FY+2 FY0 FY+1 FY+2 Atkins (WS) Mar % 9% 9% RPS Group Dec % 7% 8% Hyder Consulting Mar % 2% 14% WYG* Mar % 29% 26% Sweett Group Mar % 6% 10% Waterman Group Jun % 86% 31% Source: Bloomberg. Note: Ranked by market capitalisation, priced at close 22 April *WYG excludes share based payments from EPS. On the basis presented and on current estimates, for FY16 WYG is on a small premium rating to RPS and Hyder Consulting and a small discount to Atkins, with faster expected earnings growth (PEG <1x) versus its larger peers. These four companies sit on a significant premium to the smaller Sweet Group and Waterman Group, whose P/E ratings on this timescale remain in single digits. We should note that WYG s earnings calculation excludes share-based payment (SBP) charges. Including them, on the same basis as the larger peers shown, would double the FY16 P/E (FY+2) rating shown in Exhibit 10. For illustrative purposes, if we used the company s FY16 PBT target and adjusted this for the current SBP run rate, then the implied earnings and rating would be c 10% above WYG s FY16 rating in Exhibit 10. WYG 24 April

12 Financials Returning to profitability in FY13 represented the first phase of management s financial turnaround plan. Phase two comprises margin improvement on comparatively flat revenues and we expect this to characterise FY14 results. Subsequently, generating revenue growth and reaching 9m PBT by FY16 (partly via acquisitions) is the final phase of the initial programme. Following the 27 March IMS, we increased PBT estimates by 0.3m. P&L re-build to continue Trading in the last three years has seen UK/Ireland stabilising revenue and restoring profitability while International has improved its revenue mix (less bonded work) with growth and investment to develop a stronger regional platform. At group level, the key metric has been the return to operating profit. UK operations moved from significant loss to marginal profit in FY13, adding to international earnings, which have shown greater stability. We expect this effect to become more pronounced for FY14 with all three regions clearly profitable. Beyond this, we factor in modest growth in revenues and further EBIT recovery (to 4.7% margin by FY16), split broadly evenly between UK/Ireland and International. Our estimates also include a modest bank interest credit, a reduced bond interest charge and a tax charge that should remain at relatively low levels (c 15% for FY14) especially as UK profitability rises with accumulated losses in that region. Management has flagged a return to the dividend list in FY14 and we factor in a nominal payout with growth thereafter. Note, at the PBT level, our 6.5m normalised (ie excluding share-based payments) FY16 estimate is set conservatively below management s own target. Expect free cash flow neutral prior to bonding advances Net cash stood at 18.6m at the end of FY13. Of this, 14.8m was considered to be unrestricted, so not committed to specific projects. As profits rebuild, we expect legacy items (ie property leases and professional indemnity or PI, claims) to absorb c 3-4m EBITDA pa. Management aims to reduce WIP working capital to 90 days in FY14 (versus c 100 in FY13), partly reflecting a reduction in bonded donor funded work. We have made some allowance for working capital investment as revenue growth resumes and regional mix will have some influence. After capex slightly ahead of depreciation and cash tax payments, we model broadly neutral free cash flow before movements on bonded advances over the forecast period. We have assumed that advances declined in FY14 but will now increase again in FY15 and FY16 owing to the utilisation of a new trade finance facility. Below this three FY14 acquisitions have been made with expected FY14 cash outflow of 1.5m, followed by a similar sum in FY15 and 0.5m in FY16 as deferred consideration. Dividend cash outflows will now resume during FY15. Net asset stability as legacy items draw down cash Working capital management has a significant bearing on balance sheet structure. Net WIP and trade debtors amounted to 42.2m at the end of FY13 versus c 126m of revenues in that year. After allowing for trade creditors ( 5.2m) and payments received on account ( 15.2m) the balance sheet investment was somewhat lower but still material in the context of c 16m net assets. The other current components of the balance sheet (including cash) were broadly matched. Otherwise, we should highlight c 18m of other longer-term provisions carried, mainly for expected PI and redundant property lease costs, being used at 3-4m pa as outlined above. WYG has modest fixed capital investment requirements. At the end of FY13, it had 14.8m of committed bonding facilities (c 4.5m used) scheduled to expire at the end of This has now been replaced with a new three year 15m trade finance facility, we assume on more favourable terms, which should increase flexibility to take on new projects when appropriate. WYG 24 April

13 Exhibit 11: Financial summary 'ms e 2015e 2016e March IFRS IFRS IFRS IFRS IFRS IFRS PROFIT & LOSS IAS19R IAS19R IAS19R IAS19R Revenue EBITDA 1.6 (1.9) Operating Profit (before GW and except.) 0.1 (3.5) Net Interest (3.6) (2.0) (0.8) (0.2) Intangible Amortisation (0.9) (1.0) (1.0) (1.1) (1.1) (1.1) Other (0.7) (2.0) (2.5) (3.2) (3.2) (3.2) Exceptionals (23.6) 20.3 (0.6) Profit Before Tax (norm) (3.4) (5.4) Profit Before Tax (FRS 3) (28.6) 11.9 (3.3) (0.2) Tax 0.5 (0.5) (0.1) (0.6) (0.7) (0.7) Profit After Tax (norm) (3.0) (5.9) Profit After Tax (FRS 3) (28.2) 11.4 (3.4) (0.8) Average Number of Shares Outstanding (m) EPS - normalised (p) (3.8) (7.0) EPS - normalised (p) FD (3.8) (7.0) EPS - FRS 3 (p) (35.7) 13.4 (5.2) (1.2) Dividend per share (p) EBITDA Margin (%) Operating Margin (before GW and except.) (%) BALANCE SHEET Fixed Assets Intangible Assets Tangible Assets Investments Current Assets Stocks Debtors Cash Current Liabilities (58.0) (52.8) (44.7) (42.7) (48.5) (55.3) Creditors (57.8) (51.6) (43.7) (42.7) (48.5) (55.3) Short term borrowings (0.2) (1.2) (0.953) Long Term Liabilities (81.5) (31.0) (23.3) (19.0) (15.5) (12.0) Long term borrowings (48.4) (0.1) Other long term liabilities (33.0) (30.9) (23.3) (19.0) (15.5) (12.0) Net Assets (26.6) CASH FLOW Operating Cash Flow 7.8 (23.9) (2.6) (2.1) Net Interest (3.0) (1.6) (0.8) (0.2) Tax (0.5) (0.8) (0.2) (0.6) (0.6) (0.7) Capex (1.3) (2.0) (1.3) (1.7) (1.9) (1.9) Acquisitions/disposals (0.8) (1.8) (1.5) (0.5) Financing (0.0) 0.0 (0.0) 0.0 Dividends (0.3) (0.3) Net Cash Flow (5.6) (6.2) Opening net debt/(cash) (23.0) (18.6) (12.5) (12.8) HP finance leases initiated (0.4) (0.2) (0.0) Other (1.7) (0.0) 0.0 Closing net debt/(cash) 29.2 (23.0) (18.6) (12.5) (12.8) (15.9) Source: Edison Investment Research, company data WYG 24 April

14 Contact details Arndale Court Headingley Leeds, LS6 2UJ United Kingdom Phone:+44 (0) Website: Revenue by geography FY13 CAGR metrics Profitability metrics Balance sheet metrics Sensitivities evaluation EPS e N/A EPS e 191% EBITDA e 40.8% EBITDA e 51.3% Sales e 1.9% Sales e 2.0% Management team CEO: Paul Hamer ROCE 14e 336% Avg ROCE e 144.% ROE 14e 21.0% Gross margin 14e N/A Operating margin 14e 3.4% Gr mgn / Op mgn 14e CEO since March 2009, having previously been MD at VT Nuclear Services. Contracting, energy and chemicals industry experience. Former chairman of the Association of the Association for Consultancy and Engineers. Chairman: Mike McTighe Chairman since August Also a board member of Ofcom and chairman at a number of private companies. Previously CEO at Carrier International and COO of global operations of Cable & Wireless. N/A Gearing 14e Interest cover 14e N/A N/A CA/CL 14e 1.4x Stock days 14e 57.0 Debtor days 14e 63.9 Creditor days 14e 121 Litigation/regulatory Pensions Currency Stock overhang Interest rates Oil/commodity prices FD: Sean Cummins FD since December 2011, having previously held the same role at Scott Wilson, Yule Catto and BTR Power Systems (an Invensys division). Chartered accountant. COO: Graham Olver Group services director and company secretary from August 2009 before becoming COO in February Previous commercial and legal roles at Thames Water and Alsthom. Principal shareholders (%) Hargreave Hale 11.1 Golden Peaks Capital 10.8 Artemis Investment Management 10.1 Soros Fund Management 9.7 Robert Keith 9.3 Henderson Global Investors 7.1 Fidelity Worldwide Investment 6.3 River & Mercantile Asset Management 5.6 Franklin Templeton Fund Management 5.2 % UK/Ireland Mid East/N Africa 60% 26% 14% E Europe/S Africa/Asia Companies named in this report Atkins (WS), RPS Group, Hyder Consulting, Sweet Group, Waterman Group Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. 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Frankfurt +49 (0) WYG Schumannstrasse 24 34b April High Holborn 245 Park Avenue, 39th Floor Level 25, Aurora Place Level 15, 171 Featherston St Frankfurt Germany London +44 (0) London, WC1V 7EE United Kingdom New York , New York US Sydney +61 (0) Phillip St, Sydney NSW 2000, Australia Wellington +64 (0) Wellington 6011 New Zealand