Shares in support services company Capita (LSE: CPI) have fallen by as much as 6% today following a rather mixed set of full-year results for 2015. While revenue increased by 7% and earnings per share rose by 9% during the year, the company’s outlook has disappointed investors somewhat.
That’s because Capita’s bid pipeline total contract value currently stands at £4.7bn, which is down from last year’s £5.1bn and indicates that the company’s financial performance could come under a degree of pressure over the medium term.
Of course, Capita’s near-term growth prospects remain sound. It is expected to increase its bottom line by 7% in the current year and by a further 6% next year, which is roughly in-line with the growth rate of the wider index. However, the company’s shares trade at a discount to many of their index peers, with them having a price to earnings (P/E) ratio of 13.3.
This indicates that there is upward re-rating potential on the cards and when this is combined with the 13%+ growth in earnings that’s due to take place over the next two years, a gain of over 20% in the company’s share price seems relatively likely.
Similarly, BAE (LSE: BA) offers enticing future prospects, with the improvement in the US economy being key to the company’s long term future. The reason for this is that the US remains the major military spender in the world by some distance and so the performance of its economy has a huge bearing on BAE’s sales, with a growing US economy less likely to implement cuts to its defence budget.
With the US economy recording upbeat growth numbers, BAE is now expected to post a rise in its bottom line of 6% in the 2017 financial year. This rate of growth could lead to improved investor sentiment in BAE and cause its rating to rise from its current level of 13. Were it to trade 20% higher, it would equate to a P/E ratio of just 14.7 using next year’s forecast earnings.
Given the quality of BAE as a business, its economic moat and the resilience it has shown during a challenging period for the defence industry, such a valuation would not be excessive and is therefore very achievable.
Feeling the pain
Meanwhile, IGAS Energy (LSE: IGAS) continues to be highly volatile, with its shares rising by as much as 8% today before falling back to being flat. This means that its shares are now down by a third in the last six months, with IGAS’s most recent update indicating that it continues to feel the pain of a lower oil price.
For example, its revenue was almost halved in the first half of the current financial year. When impairments of £19.5m are also considered, it’s little surprise that the company widened its losses versus the first half of the prior year. And while IGAS is making encouraging progress with regard to its cost reduction programme, as well as its five year development plan, it may be worth looking elsewhere for investments within the oil and gas space.
That’s not to say that 20% gains are impossible, but rather that a number of IGAS’s sector peers may offer superior risk/reward ratios.
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Peter Stephens owns shares of BAE Systems. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.