Carlyle gets Innovation Group on the cheap

Innovation Group has spent a lot of time and money developing its business and in June won an impressive 10-year contract with a major insurance company. That clearly caught the attention of private equity firm Carlyle Group which has just had a £499 million bid for Innovation accepted. Some investors argue that this still undervalues the supplier of software and outsourcing services to the insurance, fleet, automotive and property industries.

Carlyle is offering shareholders 40p for each Innovation share. That's a 10-year high, a 13.5% premium to the 35.25p closing price before the news broke, and almost double the 52-week low. It also equates to a price/earnings (PE) multiple of 23 times earnings for the 12 months to 31 March.

Panmure Gordon analyst George O'Connor reckons Carlyle could afford more, but is still thinks shareholders will push the deal through, even though this rules out the possibility of future dividends.

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"In our view the recommended offer undervalues Innovation Group. However investors are likely to take this bird in the hand (even if it is a magpie) given the management uncertainty at Innovation - a chairman who had planned to retire, a CEO going part time and the associated uncertainty regarding the outlook for the two divisions," explains O'Connor.

After heavy investment in its software business, Innovation's management is confident it has the potential for future growth on its own, but this acquisition will support the expansion of its business services division, increase its acquisitive growth and scale up its software division. By boosting its financial and operational flexibility, Innovation will be able to execute its strategy over the longer-term.

While the possibility of another bidder cannot be ruled out, O'Connor doubts the firm's divisions will be of interest to many.

In June, the group secured a £46 million 10-year contract with an unnamed insurer, which helped support a share price rally from lows of 21p in April. At 40p the shares trade on 18 times forward earnings.

O'Connor has downgraded his rating from 'buy' to 'hold' and has lowered his target price from 51p to 40p. He reckons Innovation will generate £237.2 million sales, with £33.6 million pre-tax profit giving earnings per share of 2.2p in the 2015 financial year.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.