National Express: Why transport midcap's shares are approaching a 12-month high

UK midcap transportation group National Express (LON:NEX) is nearing its 12-month high (425.60p), and investors eyeing midcap opportunities in volatile times appear to be giving the FTSE 250 company their vote of confidence, as reflected in the stock's recently recorded liquidity. 

Several factors are colouring the vision of those betting on the stock’s upside potential. National Express’ latest financials ought to be a good place to start. At its last mid-year filing, the diversified coach, bus, tram and train operator banked an H1 adjusted pre-tax profit of £100.7m, implying a market pleasing uptick of 13.3% on an annualised basis.  

What’s more the company's H1 free cash flow (FCF) level was logged at £85.2m for the six months to 30 June 2018; an uptick of 3% accompanied by a full-year guidance of £170m. The company also remains on course to deliver both its board's and analysts' expectations, and its interim dividend was hiked by 10.1% to 4.69p per share. 

Given that set of figures, for many the stock’s current level of around 400p appears to be a steal, especially as Morgan Stanley’s National Express share price target is 680p (as of 15 September).

A word of caution is needed here, the US investment bank’s target is an exception rather than the norm, and represents a downgrade from an even more optimistic earlier target of 705p. Most City price targets, including that of a panel of ReachX experts, are in the 410p to 450p range.

Things are arguably looking up for National Express, despite short-term operating challenges and a looming Brexit. And the company has sizeable operations beyond British shores with businesses in Canada, Germany, Malta, Morocco, Portugal, Spain, and the US.

Furthermore, on Wednesday (17 October), National Express received an upgrade from rating agency Moody’s to Baa2 from Baa3 for its backed senior unsecured debt ratings. But the agency also revised National Express’ upgraded rating outlook to ‘stable’ from ‘positive’.

Moody’s rationale is that it sees a “consistently improving financial and business profile” for National Express.

“We also place strength of the group's positioning in its core markets. It is Moody's expectation that the company will be able to sustainably maintain a financial profile that is commensurate with a Baa2 rating,” the agency added. 

More generally, according to Moody’s, its Baa2 for the company rating reflects: 

(1) the strong cash flow generation of its North American and Spanish businesses, contributing approximately 75% revenues and cash flow; (2) the UK bus and coach business, which could, despite challenging market conditions, offset margin pressure via cost efficiencies and active revenue management; (3) the disposal of the UK rail business c2c to Trenitalia in 2017, freeing up capital for growing international operations; and (4) National Express' disciplined investment and acquisition plans allowing the company to maintain a moderate leverage level of Net Debt/EBITDA between 2.0-2.5 times (unadjusted).

The rationale is hard to disagree with. In summation, National Express’ operational and geographical diversity, business profile, FCF, and organic and bolt-on acquisition-led growth hold it in good stead for the next 12 months.