ii view: government outsourcer Serco warns on costs

This FTSE 250 company helps governments across much of the world to cut costs. We assess prospects. 

Full-year 2022 trading update to 31 December

• Expects revenue up around 8% year-over-year to approximately £4.5 billion
• Expects adjusted profit up around 20% to £235 million
• Expects net debt of £220 million

Guidance for 2023:

• Expects similar adjusted profit of £235 million 

Chief executive Rupert Soames said:

"2022 will turn out much better than we expected at the start of the year as strong growth across the business largely replaced Covid contracts.  Customers across the world continue, as they did during the pandemic, to turn to Serco as a trusted and capable partner to help them deal with the challenges they face delivering public services.”

ii round-up:

Government services provider Serco Group (LSE:SRP) today detailed full year 2022 expected results broadly in line with City estimates, but pointed to a flat 2023 profit outcome given rising costs. 

Revenues and adjusted profit for the year to the end of December are expected to rise by around 8% and 20% respectively year-over-year. That's because falling demand for Covid related testing services has been countered by increased immigration and defence related demand. Adjusted profits for the year ahead are expected to come in at a similar £235 million.

Serco shares fell by around 1% in UK trading having come into this latest announcement up by close to a fifth year-to-date. Shares for fellow support services operator MITIE Group (LSE:MTO) have risen by just over a tenth during 2022, while the wider FTSE 250 index is down around a fifth. 

Serco operates across the five sectors of Defence, Justice & Immigration, Transport, Health, and Citizen Services. Its chief executive Rupert Soames is retiring, with current head of Serco's UK & European business Mark Irwin replacing him in the new year. 

Aided by inflation adjusted contracts, revenues for 2023 are expected to come in marginally ahead of 2022’s £4.5 billion at around £4.6 billion. Adjusted profit for 2023 is forecast to prove similar to 2022 at around £235 million, with new contracts helping to offset cost headwinds. Adjusted net debt is expected to fall to around £130 million by the end of 2023 from around £220 million. 

Broker UBS reiterated its ‘buy’ stance on the shares following the trading update. 

Annual results are expected to be announced on 23 February. 

ii view:

Tracing its roots back to 1929, Serco today has around 50,000 people assisting governments across the UK & Europe, North America, Asia Pacific and the Middle East. Examples of services it helps deliver include Immigration-related assistance in the UK and Australia and healthcare insurance eligibility services in the US. Most of its sales now come from outside the UK. 

For investors, as with businesses generally, rising costs such as potential wage demands offer headwinds. Covid related work is declining, the dividend was previously halted, while revenues generated overseas can be negatively affected by currency movements. 

On the upside, financially stretched governments following assistance for both the pandemic and soaring energy costs are likely to seek further ways to cut costs, including potential outsourcing of services. Diversity of both customer sector and geographical region are offered, while the dividend is being paid again, with an estimated future dividend yield of close to 2%.  

On balance, and with analysts currently estimating a fair value at over 200p per share, room for longer-term optimism looks to persist. 

Positives: 

• Diversity of both services offered and geographical location
• Ongoing government desire to reduce costs

Negatives:

• Rising costs
• Currency movements can drag on performance

The average rating of stock market analysts:

Buy