Indra BPI EQUITY RESEARCH. Buy. Spain. Restructuring play. Medium Risk. Indra vs. IBEX35 vs.

Transcription

1 EQUITY RESEARCH Restructuring play (YE16 PT raised from to 11.00; Rec. upgraded from Neutral to Buy) 4 4Q results to be a turning point: The market has already discounted that IDR will not meet its aggressive targets and the sentiment on the name seems to have touched bottom. This set of results should be the last kitchen sinking and we expect the company to provide more visibility on the short term outlook which is bound to be a strong positive trend. There are still some question marks, namely on the provision to be booked in Brazil and the outlook in the country, but we believe that this set of results will likely be the turning page for IDR and we expect market confidence to start building up from here. 4 Capital increase no longer seems an inevitability: As the company starts to show the first signs of recovery, we believe that a capital increase would be a good decision as it would improve strategic flexibility and market perception. Having said this, Net Debt by YE15 will be lower than we thought it would in the beginning of this process and we are more confident on CF conversion in the short term. Therefore, while before we saw a capital increase as almost inevitable we now believe it seems possible to go by without it. 4 Upgrading to Buy: We fine tuned our estimates and our macro assumptions increasing our YE16 Price Target to (+7%). The stock is trading at a 35% discount to 2018 blended peers' P/E and historically has traded in line with peers leading us to believe that expected growth is not priced-in. Downbeat expectations, first signs of a positive trend approaching, fewer concerns on the CF front and an attractive valuation justify upgrading our recommendation to BUY. Indra vs. IBEX35 vs IDR Indra MSCI SC IBEX35 IT Buy Medium Risk 19th February 2016 Spain 60 Feb-15 Aug-15 Feb-16 Source: Bloomberg. Stock data Price (18 th Feb.): 8.38 Price Target (YE16): Nr. of shares (mn): M. Cap. ( mn) / F. Float: / 63% Reuters/Bloomberg: IDR.MC/IDR SM Avg. Daily Vol. ( mn): Major Shareholders: SEPI (20.1%); C. Alba (10.0%); TEF (3.2%) Estimates F 2016 F 2017 F 2018 F PE Adj Dividend yield 4.0% 4.0% 0.0% 0.0% 0.0% 0.0% 0.0% FCFE Yield -4.6% 4.8% 1.1% -13.3% 0.9% 8.1% 13.5% FCFF Yield 2.3% 7.3% 10.4% -13.7% 7.3% 8.3% 10.3% PBV EV/EBITDA (1) EV/Sales (1) (1) EV is fixed with current market cap and MV of remaining items. Historical Recommendation Recommendation 08-Sep-14 Reduce 08-Sep-15 Neutral 30-Nov-15 Reduce 20-Jan-16 Neutral Analyst Pedro Oliveira pedro.pinto.oliveira@bpi.pt Phone Available on our website: Online, and Bloomberg at NH BPD

2 INVESTMENT CASE Revenues should still fall in 2016 Top line should continue under pressure as IDR reassesses its portfolio and reduces exposure to problematic contracts apart from FX headwinds. The company stated it wanted to reduce its exposure to low margin projects from 24% in 2014 to 11% by 2018 and the downward adjustment should be mostly done in 2015 and 2016 (revenues to fall 2.5% and 1.2%, respectively). Beyond 2016 we expect IDR to start growing top line, still we continue to deem highly unlikely that IDR will meet its 2018 revenue targets as it would imply revenue growth levels around 9% for 2017 and Our revenue estimates stand 11% below the company is mid-range target for Projects with low margins (% of sales) 30% Geographical breakown of revenues 2015 F 25% 24% 20% 15% 10% 11% 11% 5% 0% E Source: IDR. Source: Equity Research The positive news is that the mix of revenues is improving, reducing the overall risks of the investment case. Spain & Europe accounted for 57% in 2013 and should account for 62% of total in Margins to grow materially in 2016 and 2017 Since the beginning of the year, Indra has reported astonishing low margins for an IT company with a Tech flavour. It is obvious the consolidated picture conceals a dual reality picture. Indra continues to have highly profitable lines of business with strong margins (though weaker than in the past) and other contracts with zero or even negative margins that have proved devastating for the company s profitability. The new management is committed to change this by focusing the company on profitable lines of business which together with an efficiency plan for the next years is bound to enhance margins materially. The margin enhancement goes hand in hand with revenue decline as Indra shuts down loss making business which justifies our scepticism on the company s top line targets. estimates vs IDR 2018 targets IDR GAP Revenues % Tech ,1% IT % EBIT Rec ,0% EBIT mg 9.3% 10.5% -1.2pp Capex % FCF % Net Debt / EBITDA 1.3x 1.0x - Source: IDR & Equity Research. 2

3 The efficiency plan, including the ongoing personnel restructuring in Spain and Brazil, is expected to provide savings of around 190mn. Taking to in consideration that we expect a slight revenue growth for the period F (+ 126mn) the potential for margin repair is palpable. Despite our optimism in the trend, we remain more conservative on margins than the company forecasted in its Investor Day targets as we believe that a lower than expected top line is likely to take a toll on margins. We estimate an EBIT mg of 9.3% vs. the company target of 10.5%. Our EBIT stands 21% below the company mid-range target for Cash conversion to improve materially The focus on profitable lines of business should gear IDR towards projects with higher cash conversions which together with a tight WK management are bound to provide the needed oxygen that will reduce overall risk and lead investors to rethink the investment case. Cash conversion is the area where we believe the company is more likely to meet its targets as we believe the 200mn FCF were conservatively set and do not account for the tax shield IDR will benefit in coming years due to the amount of restructuring/provision charges it has booked in the recent quarters. We estimate 225mn recurrent FCF for 2018 (or 189mn if we exclude the tax shield impact) ahead of the 200mn target provided by the company. Cash conversion analysis ( mn) EBIT FCF cash conversion ratio 1.2x 1.0x 0.8x 0.6x 0.4x 0.2x 0.0x -0.2x -0.4x Capital increase still seems the best alternative but pressure is decreasing We continue to defend that a capital increase would be a good alternative to the equity story as it would improve strategic flexibility (for organic and inorganic growth) and would change faster the market perception on the name. Having said this, Net Debt by YE15 will be lower than we thought it would be in the beginning of this process and we see some signs that improve our confidence on CF conversion in the short term. Therefore, while before we saw a capital increase as almost inevitable we now believe it seems possible to go by without it. 3

4 Net liabilities evolution ( mn) Net Debt Factoring Net liabilities / EBITDA 10.0x 9.0x 8.0x 7.0x 6.0x 5.0x 4.0x 3.0x 2.0x 1.0x 0.0x Trading at a discount to most of its peers IDR is trading at a discount of 6% to the blended EV/Op.CF and 35% discount to the blended P/E for The additional leverage partially explains the gap between the two metrics but in 2018 the leverage has already been materially reduced. The main reason in our view lies with the fact that IDR has systematically presented a higher EBIT to earnings conversion than its peers. Moreover, IDR in the last 5 years has traded at an average 0.5% discount to the 12-month blended P/E and is currently trading at 1% premium to peers. We believe that as IDR delivers on its expected earnings growth the gap to peers' 2018 E P/E starts to narrow. Company 2018 targets if achieved would provide bulky upside The bullish case for IDR is in our view assuming that the company will be able to deliver its 2018 targets. Incorporating those growth and margins into our model, our fair value for the company would jump to 14.70/share, 76% above the current market prices. We continue to believe that the company s targets are overly optimistic but we also acknowledge that our estimates are somewhat conservative, namely on margins, and consequently we see more risks on the upside than on the downside for our numbers Multiples of IDR vs. Peers EV/Op.CF P/E IT Atos 6,8x 8,7x Altran 8.0x 10.5x Average 7.4x 9.6x Tech Thales 8.9x 12.7x Ultra Electronics 9.9x 14.5x Bae systems 8.6x 8.9x Average 9.1x 12.1x Blended multiples 8.2x 10.7x IDR 7.7x 7.9x Upgrading to Buy We fine tuned our estimates and macro assumptions increasing our IDR's YE16 Price Target to 11.0 (+6%). Given the need IDR faces to de-leverage we maintain our Dividend Discount Model approach supported on a dividend policy that allows the company to reach Net liabilities (Net Debt + Factoring)/EBITDA of 0.9x. Change in estimates (%) Revenues -0.4% -0.4% -0.4% EBIT Rec. 22.8% 1.8% 1.8% Net Profit 5.4% 4.8% 3.3% 4

5 DDM - Gordon Model ( mn) Valuation Summary ( ) FCFE Dividend DPS Pay-out FCFE 17% 0% 0% 0% 0% 0% 20% Pay-out 48% 0% 0% 0% 0% 0% 20% Net Debt Net liabilities Net liabilities / EBITDA 3.2x 8.6x 3.5x 2.7x 1.9x 1.4x 0.9x Source: IDR & Equity Research. Downbeat expectations, first signs of a positive trend approaching, fewer concerns on the CF front and an attractive valuation set a good entry point leading us to upgrade our recommendation to BUY. Equity Value (DDM) Financial Investments 44 Total Equity # shares (mn) 164 YE16 Price Target ( ) DCF Assumptions Re 9.9% Rf (1) 4.3% Beta Equity 0,9 Market Premium 6.0% Rd 5% Tax marginal rate 25% Perpetuity NOPLAT margin 10.1% (1) Includes Country Risk Premium. DCF Sensitivity ( /share) EBIT mg -2% 0% 2% Rf -1% % CrP 1%

6 4Q15 RESULTS TO BE A BOTTOM? The market has already discounted that IDR will not meet its aggressive targets and the sentiment on the name seems to have touched bottom. This set of results should be the last kitchen sinking and we expect the company to provide more visibility on the short term outlook. We expect top line falling 6.7% in the 4Q, as Brazil downward pressure persists and Spain presents a more negative trend due to tough comparables. However, Underlying EBIT should improve qoq as the restructuring plan and overall efficiency measures are implemented. We expect a recurrent EBIT mg of 4.4% (3.5% in Q3). Net profit will be impacted by additional provisions in Brazil (as announced by the company in the 3Q) which we conservatively estimate could be in the range of 80mn. We assume the cash outflow of this provision will be impacting 2016, 2017 and Our net profit estimate for the 4Q stands at -9mn. CF generation of the operations should be very strong in the 4Q compared to previous quarters benefiting from improvements in the WK management, which should be a one-off impact. On the other hand, IDR is expected to have had a cash outflow with the personnel restructuring in Spain of roughly 100mn in the 4Q. Consequently, we expect Net Debt to increase slightly qoq (+ 8mn). IDR should provide some guidance for the FY16 that should reflect a material uplift on margins as the restructuring program in Spain and Brazil should have already a material impact in 2016 and the provisions recorded will eliminate the overruns in Brazil & others from the recurrent EBIT. On the CF front we expect the company to set an improved trend for 2016 on the operational front, but we still expect non-recurrent items to represent 154mn of cash outflow in All in all, IDR earnings seem to have touched bottom and we believe the trend will be positive onwards. There still some question marks, namely on the provision to be booked in Brazil and the outlook in the country. Nonetheless, we believe that this set of results will likely be the turning page for IDR and we expect market confidence on the name to start building from here. Indra 4Q15 preview ( mn) Consensus Revenues Rec. EBITDA Rec. EBITDA mg 7.0% 7.5% Rec. EBIT Rec. EBIT mg 4.4% 5.3% Net Profit Source: Bloomberg, Equity Research. 6

7 Indra estimates breakdown mn 4Q15 4Q14 yoy Revenues % Rec. EBITDA % Rec. EBITDA mg 7.0% 7.5% -7% D&A % Rec. EBIT % Rec. EBIT mg 4.4% 5.7% -22% Non recurrent costs % EBIT % EBIT mg -7.4% -21.4% -65% Net financials % Profits of associates & others investments % PBT % Taxes % Minorities % Net Income % Source: IDR and Equity Research (F). Revenues ( mn) Transport and Traffic % Telecom and Media % P.A. and Healthcare % Financial Services % Energy & Industry % Security & Defence % Source: IDR and Equity Research (F). Revenues ( mn) Domestic ,2% International ,0% Source: IDR and Equity Research (F). 7

8 P&L CAGR ( mn) F 2016 F 2017 F 2018 F F Revenues % EBITDA % EBITDA adj % EBITDA adj. mg. 10.2% 9.5% 9.1% 4.1% 10.1% 11.5% 12.4% Depreciation & others % EBIT n.s. EBIT adj % Net financial results % Income Tax n.s. Others % Minority Interests n.s. Net Profit reported n.s. Net Profit adj % Balance Sheet CAGR ( mn) F 2016 F 2017 F 2018 F F Net Intangibles % Net Fixed Assets % Net Financials % Inventories % ST Receivables % Other Assets % Cash & Equivalents % Total Assets % Equity & Minorities % MLT Liabilities % o.w. Debt % ST Liabilities % o.w. Debt % o.w. Payables % Equity+Min.+ Liabilities % CF Statement ( mn) F 2016 F 2017 F 2018 F + EBITDA Chg in Net W.C Income Taxes = Operating Cash Flow Growth Capex Replacement Capex Net Fin. Inv = Cash Flow after Inv Net Fin. Exp Dividends Paid /- Equity Other =Change in Net Debt Net Debt (+)/Net Cash (-) Growth per share data and ratios F 2016 F 2017 F 2018 F Sales growth 9% -1% 1% -3% -1% 3% 3% EBITDA Adj. growth -4% -7% -4% -56% 140% 18% 11% EPS Adj. growth -13% -12% -25% n.s. n.s. 35% 20% Avg. # sh (mn) Basic EPS EPS Adj. Fully diluted DPS Payout 42% 48% 0% 0% 0% 0% 0% ROCE (after tax) 10% 9% -2% -37% 10% 13% 16% ROE 15% 13% 10% -8% 27% 28% 26% Gearing (ND/EV) 28% 29% 31% 36% 35% 31% 23% Net Debt/EBITDA Source: Company data and Equity Research (F). 8

9 This research report is only for private circulation and only partial reproduction is allowed, subject to mentioning the source. This research report is based on information obtained from sources which we believe to be credible and reliable, but is not guaranteed as to accuracy or completeness. This research report does not have regard to specific investment objectives, financial situation and the particular needs of any specific person who may receive it. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this research report and should understand that the statements regarding future prospects may not be realized. Unless otherwise stated, all views (including estimates, forecasts, assumptions or perspectives) herein contained are solely expression of 's Equity Research department and are subject to change without notice. Recommendations and opinions expressed are our current opinions as of the date referred on this research report and they may change in the period of time between the dates on which the said opinion or recommendation were formulated and made public. Current recommendations or opinions are subject to change as they depend on the evolution of the company and subsequent alterations to our estimates, forecasts, assumptions, perspectives or valuation method used. The valuation models are systematically reviewed and validated, particularly with regard to the method of valuation and assumptions used. Investors should also note that income from such securities, if any, may fluctuate and that each security's price or value may rise or fall. Accordingly, investors may receive back less than initially invested. There are no pre-established policies regarding frequency, update or change in recommendations issued by Equity Research. The same applies to our coverage policy. Past performance is not a guarantee for future performance. Group accepts no liability of any type for any indirect or direct loss arising from the use of this research report. For further information concerning Research recommendations and valuations, please visit This research report did not have any specific recipient. The company subject of the recommendation was unaware of the recommendation or did not validate the assumptions used, before its public disclosure. Each Research Analyst responsible for the content of this research report certifies that, with respect to each security or issuer covered in this report: (1) all of the views expressed accurately reflect his/her personal views about those securities/issuers; and (2) no part of his/her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst in the research report. There are no conflicts of interests between or its Analysts and the issuer covered, except when mentioned in the Report. The Research Analysts do not hold any shares representing the capital of the companies of which they are responsible for compiling the Research Report, except when mentioned in the Report. Analysts do not participate in meetings to prepare 's involvement in placing or assisting in public offers of securities issued by the company that is the subject of the recommendation, except when disclosed in the research report. has compiled policies and procedures applicable to the investment recommendations activity. Such document is available for consultation on request. In November 2007, Banco has celebrated an "Equity Swap" contract with Sonae Investments with strictly financial settlements (Cash Settled Share Swap Transaction), to cover the inherent risk in the acquisition of 6.64% of Sonae's share capital, at a price of E2.06 per share. In this contract, the periodic repercussion over Sonae Investments of the amounts corresponding to Sonae share price changes relative to the above-mentioned price was agreed as well as the amounts equivalent to the proceeds to be received by Banco under the exercise of rights inherent to these shares. The contract had a maximum maturity of 3 years, and it was successively extended on October 2010, November 2013 and November 2014, over currently a total of 118,798,124 SONAE shares, corresponding to 5,94% of its share capital. In November 2015, this contract has been extended for an additional 12 month period, up until November 2016, and it may subsequently be automatically extended for successive 12 (twelve) month period if neither party notifies to the non-renewal. Banco and/or Banco Português de Investimento participate or have participated, as a syndicate member and/or providing assistance services to the issuer/ offeror, in the capital market operations of Sonae Industria, Mota Engil, and Semapa, and in the bonds offerings of EDP, Mota Engil, NOS, Portucel, and Semapa. In September 2015, Banco Português de Investimento acted as a Sole Bookrunner in the private offer of own shares of Corticeira Amorim, representing at such date 5.56% of Corticeira Amorim's share capital, through an Accelerated Bookbuilding process. Group may provide corporate finance and other investment banking services to the companies referred to in this report. Amongst the companies covered by Equity Research, Group has qualified stakes in Ibersol, Impresa, NOS SGPS, Portucel and Sonae SGPS. Group, members of the board, or Group employees, may hold a position or any other financial interest in issuer's covered by Equity Research, subject to change, which shall be disclosed when relevant for assessing the objectivity of the recommendation. 's activity is supervised by both Banco de Portugal (the Portuguese Central Bank) and by the CMVM (Stock Exchange Regulator). INVESTMENT RATINGS AND RISK CLASSIFICATION (12 MONTH TOTAL RETURN): Low Risk Medium Risk High Risk Buy >15% >20% >30% Neutral >5% and < 15% >10% and <20% >15% and < 30% Reduce >-10% and < 5% >-10% and < 10% >-10% and < 15% Sell < -10% < -10% < -10% These investment ratings are not strict and should be taken as a general rule. INVESTMENT RATINGS STATISTICS As of 29 th January Equity Research investment ratings were distributed as follows: Buy 40% Neutral 31% Reduce 18% Sell/Accept Bid 5% Under Revision/Restricted 6% Total 100% BANCO PORTUGUÊS DE INVESTIMENTO, S.A. Oporto Office Madrid Office Paris Office Cape Town Office Rua Tenente Valadim, 284 Pº de la Castellana, 40-bis-3ª 31, Avenue de L'Opéra 20th Floor, Metropolitan Life Centre, Porto Madrid Paris 7 Walter Sisulu Avenue, Foreshore, Cape Town, South Africa Phone: (351) Phone: (34) Phone: (33) Phone: (27) Telefax: (351) Telefax: (34)