Broker tips: SSE, Lancashire, China Meditech

8th Nov 2010 13:40

Nomura has downgraded its stance of power and water utility Scottish and Southern Energy (SSE) to 'reduce' due to a risk of lower earnings and a possible threat to the dividend.The broker has cut its SSE earnings forecast for 2012 and 2013 by 7% and 11% respectively because of a weaker power price environment.Nomura also has balance sheet concerns, despite SSE's £500m placement last year and a groundbreaking £1.2bn hybrid corporate bond offering.To meet the expectations of rating agencies, spreads on power prices from both gas-fired and coal-fired generators need to rise by an unlikely £4/MWh (megawatt hour) and a dividend cut is not completely out of the question, the broker says.In the longer term, management will also need to decide on future growth platforms and capital expenditure commitments, which may require additional equity funding that could also affect SSE's major attraction - the dividend.SSE shares are not significantly overvalued but Nomura prefers Centrica. The SSE target price has been revised to 1,110p.Despite an "extraordinary" combined ratio in a catastrophe-free quarter, finnCap advises a 'hold' for Lancashire Holdings. The property insurance group has announced a combined ratio of 39% in the third quarter due to the absence of hurricanes and other catastrophes. "Lancashire's business plan makes it remote from losses, and even more so when such activity is limited", analyst Charles Coyne said. "The company has bought back over 25% of its stock in four years, together with massive dividends to leave the stock yielding over 15% by dint of a $1.40 special dividend (from $1.25)", Coyne added. Net tangible assets (NTA) per share have grown year-on-year to $8.43, from $8.09 previously. The broker estimates NTA of 540p per share by the year end. With shares on an 8% premium to net assets, the target price stands at 600p, and a 'hold' rating is confirmed. "Expect earnings upgrades of over 10% based on these numbers".Panmure Gordon thinks Hutchison China Meditech's (Chi-Med) subsidiary MediPharma is "on the cusp of transformation" and has upgraded its target price from 400p to 600p. Chi-Med announced Monday that the investment arm of Japanese conglomerate Mitsui will invest $12.5m directly into MediPharma in return for preference shares that convert to 12.2% of the subsidiary's share capital. The investment implies a valuation of $100m for Chi-Med's drug development subsidiary, surpassing the broker's current $80m figure. Analyst Savvas Neophytou hopes this will be the "first step in unlocking significant shareholder value from MediPharma". "Mitsui's investment, which values at 124p per Chi-Med share, should be a catalyst for the market to focus on the full value of Chi-Med's consumer healthcare business", Neophytou said. The broker says that although some investors may find the valuation of such companies unrealistic (trading at 40-60 times price to earnings ratios), consumer healthcare in China is the one area of "real growth in healthcare currently". "In a deflationary environment in most other mature economies of the West, 40-60 times is the going rate for that sort of clean growth". MediPharma could also see a "lucrative licensing deal" for its inflammatory bowel treatment drug HMPL-004 which is expected in the next 12-16 weeks. This could provide "further external investment in what we perceive to be an excellent drug development business by anybody's standards", the broker said. With its current value believed to be understated, the broker has reiterated its 'buy' recommendation and increased its target price to 600p, from 400p.