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G4S Plc: Buy, Sell Or Hold?

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I’m always searching for shares that can help ordinary investors like you make money from the stock market.

Right now I am trawling through the FTSE 100 and giving my verdict on every member of the blue-chip index.

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I hope to pinpoint the very best buying opportunities in today’s uncertain market, as well as highlight those shares I feel you should hold… and those I fell you should sell!

I’m assessing every share on five different measures. Here’s what I’m looking for in each company:

1. Financial strength: low levels of debt and other liabilities;

2. Profitability: consistent earnings and high profit margins; 

3. Management: competent executives creating shareholder value;

4. Long-term prospects: a solid competitive position and respectable growth prospects, and;

5. Valuation: an under-rated share price.

A look at G4S

Today I’m evaluating G4S (LSE: GFS), a British multinational security services company, which currently trades at 229p. Here are my thoughts:

1. Financial strength: The company has adequate financial strength with net debt of 3.5 times EBITDA and interest cover an ample 5 times. However, net debt has been trending higher from £500m in 2008 to £1.8bn in 2012.

2. Profitability: The company has performed very well in the last eight years with revenue per share compounding by 6% per year, operating profit per share by 21% per year, and adjusted-earnings per share by 10% per year. Operating margin has been consistently around 6% to 7% and return on equity (ROE) has been very good around 15%-20% per year and has been steadily increasing.

3. Management:  Under Nick Buckles’ leadership, the company has expanded into 125 countries and its value has grown more than 2.5 times from a market capitalisation of £1.2bn in 2004 to £3.3bn today. Also, dividends per share have consistently grown for eight straight years compounding at an annual rate of 22%. However, under pressure after a rough 2012, where the company bungled security staffing at the Olympics and after the botched acquisition of the catering and cleaning business, ISS, Nick Buckles resigned as CEO at the end of May. Ashley Almanza, the CFO, who joined the company in March, has taken over as chief executive since June.

4. Long-term prospects: G4S makes money by providing a variety of security services from electronic monitoring such as CCTVs to manned security in ports, airports, oil and gas facilities to security services for government departments such as police, health, and border control to the management of transportation of cash for retailers and financial institutions.    

The company has a diversified revenue base and is not dependent on a single customer which has enabled it to withstand the weak marcoeconomic environment of the last few years. Despite sluggish European revenue growth of 3.5% per year during the past five years, this has been more than offset by strong revenue growth in North America and developing markets of 11% and 14% per year respectively.    

Also, the company derives its revenue mainly from recurring sources by fostering long-term partnerships with customers through long-term contracts, some of which run up to 25 years in length, and also short-term contracts with repeat customers. The company boasts of a 90% customer retention rate which enables it to lock up customers for many years regardless of the contract length.

Furthermore, G4S is poised to continue growing in next few years. The global security market is expected to generate £96bn in revenue per year and set to grow by 7% per year until 2021, while 23% of the company’s revenue comes from developing markets -its fastest growing region. 50% of the global security market’s revenues are expected to come from these fast growing regions by 2016.

5. Valuation: Shares are trading near its 52-week low and at a prospective price-to-earnings (P/E) ratio of 11, below its 10-year average P/E of 13. It also returns an above-average prospective dividend yield of 4%, twice covered.

My verdict on G4S

Since being founded in 2004 from the merger of Securicor Plc and Group 4 Falck, G4S has been consistently profitable, with stable margins, very good cash flow generation, and excellent dividend growth. Also, the company has a strong global exposure and has a lot more room to grow: The security industry is expected to grow at healthy rates in the next couple of years, and with G4S possessing a solid competitive advantage with its large scale and long-term partnerships with customers, it has a strong chance on improving its 8% market share in a highly fragmented industry. Moreover, the shares look very attractive at an earnings yield — the reciprocal of the P/E and is basically the ‘interest rate’ of a share assuming no growth in the future — of 9% and a dividend yield of 4%, which gives you a return of at least 13% per year.

So, overall, I believe G4S at 229p looks like a buy.

More FTSE opportunities

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In the meantime, please stay tuned for my next verdict on a FTSE 100 share.

> Zarr does not own any share mentioned in this article.

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