Defence firm QinetiQ (QQ.) dropped 3.4% to 199.1p in early trading despite a pre-close update confirming it was on track to deliver in-line results for the year to 31 March 2013. Investors were spooked by news of a $25 million exceptional charge to its US operations, mainly costs of reducing property and management, and a lack of guidance on 2014. Furthermore, analysts now expect a goodwill writedown for its US services arm.


This is clear example of how little the market likes uncertainty, as demonstrated by the experience of mining giant Kazakhmys (KAZ) which last month flagged up impending write-downs, sending its share plummeting downwards as investors worried about the potential scale of the event. Subsequent confirmation of these figures (which were worse than expected) provided another negative catalyst for the stock.


Hampshire-based QinetiQ was spun out of the Ministry of Defence and its technical team are widely assumed to be the inspiration behind James Bond's gadget man Q. The group has substantial exposure to the US (36% of 2012 revenue) where defence spending is under considerable pressure thanks to the sequestration process enacted in March.


In total, almost $60 billion is likely to be indiscriminately knocked off the Department of Defense budget this year, inevitably leading to delays and the cancellation of certain programmes. As well as announcing a $25 million exceptional charge related to cost reductions in its US services arm, the £1.2 billion cap noted a 'more competitive trading environment' across the Atlantic.


QQ - Comparison Line Chart (Rebased to first)


A two-year restructuring programme enacted by chief executive officer Leo Quinn in May 2010 has helped drive a significant recovery in the share price which has more than doubled from a November 2010 low of 97p. This self help has supported a significant recovery in cash flow. The group reported net cash of £21.5 million in its interims last November, having carried net debt of £550 million as at 31 March 2009, and in this latest statement it reported that 'the balance sheet and cash generation remains strong'.


However, the turnaround strategy may now have run its course and broker Liberum Capital, which has a 'hold' recommendation on the stock, expects a 20% decline in earnings per share in the March 2014 fiscal year. It says: 'The market remains tough and QinetiQ needs to pull another rabbit out the hat... There are lots of known headwinds in 2014 and the valuation looks full relative to peers.'


Based on a consensus forecast March 2014 earnings per share of 14.1p the shares are on a forward price/earnings ratio of 14.1.

Issue Date: 28 Mar 2013