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Is the reinstated Serco dividend a sign of things to come?

About six years ago, the UK outsourcer Serco Group (LSE: SRP) was on the brink of bankruptcy following a scandal surrounding Ministry of Justice tagging contracts. This week, strong earnings results allowed the company to reinstate its dividend for the first time since 2014, and I for one think this is a good sign.

First signs of recovery?

At first glance, you could be forgiven for thinking this is just the start of Serco’s recovery but it is the result of a lot of work in recent years. Indeed CEO Rupert Soames described the issuance of the one-penny per share dividend as an “important milestone”, saying the company had “finally achieved escape velocity, leaving behind the gravitational pull of past mis-steps”.

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Looking back at its shares over the past few years, I think this analogy of reaching terminal velocity to get away from its troubles is perhaps the best way of looking at this week’s news. As far back as 2016 there were signs that things were on the up for Serco, and indeed, that year did see its share price almost double from trough to peak.

These gains were soon given back however, and the stock started 2019 at the same levels it started 2016. Naturally, this suggests caution. But the share price gains during 2019 do seem to be significant, particularly following a couple of years of a fairly stagnant price. The fact that the company is confident enough to now pay out a dividend would seem to suggest it feels secure in its finances once again – with good reason.

Zero-sum game

Though in practical terms very few industries or sectors are truly zero-sum games, Serco has had a lot to benefit from in the outsourcing sector following controversy and financial troubles for many of its rivals.

In 2018, Carillion went bust after, among other things, a number of botched government contracts. Interserve is now in the hands of its creditors, while rivals Mitie and Capita are also struggling after a number of profit warnings.

Just this month, Serco won a £200m contract to take over the running of two immigration removal centres, in large part because the other big player in the sector, G4S, did not bid following controversy raised about its conduct at the centres by a Panorama documentary in 2017.

Serco’s latest full-year results show that revenue climbed almost 15%, while underlying profit jumped about 30% on the previous year to £120m. Much of this comes on the back of large contract wins: a £1.9bn deal for asylum-seeker accommodation, an £800m prisoner escort and custody contract, and a £600m deal with the Australian defence forces to provide healthcare services.

Nor is the company resting on its laurels, acquiring a US navy supplier last year in a deal worth £225m. In fact, this expansion into the US, as well as contracts such as the Australian defence forces one, mean that international business now accounts for about 60% of Serco’s revenues.

Given the gains made in the share price, I am slightly cautious about investing just yet, holding out for a short-term dip might bring about a buying opportunity. In all honesty though, nothing I can see would suggest this will be forthcoming. Perhaps this is a case of the adage “buy high, sell higher”.

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Karl has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.