SRA [NYSE:SRX - Jan. 7, 2010 price $18.75] is dedicated to solving complex problems of global significance for government organizations regarding national security, civil government and global health markets. Founded in 1978, the company and its subsidiaries have expertise in such areas as air surveillance and air traffic management; contract research organization (CRO) services; cyber security; disaster response planning; enterprise resource planning; environmental strategies; IT systems, infrastructure and managed services; logistics; public health preparedness; public safety; strategic management consulting; systems engineering; and wireless integration.
SRA has been listed as one of Fortune magazine’s "100 Best Companies to Work For" for ten consecutive years. The company has more than 6,900 employees and is headquartered in Fairfax, Va. with offices around the world.
Fiscal year 2009 (ended June 2009) marked SRA’s first down year for EPS since its May 2002 IPO. The first quarter of the new FY saw renewed growth however with record revenues and the highest September quarter earnings they’ve ever posted. Consensus estimates for FY 2010 and 2011 are now running $1.21 and $1.34 respectively. That would represent 20% growth year-over-year from 2009 to 2010.
Here are SRA’s (split adjusted) per share figures from continuing operations as reported by Value Line:
Share Price Range
At this morning’s price of $18.75 SRA is trading at about 15.5x current FY estimates and 14x next FY’s expectations. Compare those multiples with their historical P/E levels in the chart above. Also note that despite record sales and book value SRX shares are now offered at a price well below the peak prices achieved in each year since 2003.
The glamour associated with serving the homeland security and disaster response niches kept the average P/E at > 26x from 2002 through 2009. If SRX shares were to bounce back to even a 19 multiple the shares could see about $23 by mid-year 2010. That’s a 22.6% upside from today’s somewhat depressed valuation.
Is that a reasonable target price? Standard and Poors sees ‘fair value’ as $24.50 and SRX has actually changed hands above that price during each of the past seven years. That $23 goal is also below the annual lows for both 2005 and 2006 – fiscal years when earnings were $1.02 and $1.08 versus current FY estimates of $1.21.
SRA’s balance sheet is solid. Their corporate cash holdings are about equal to total debt, which is only about 9% of total capital. Value Line rates their ‘financial strength’ as B++, a very good mark for a mid-cap company. SRX also scores high for ‘earnings predictability’ with an 80th percentile ranking (with 100th being best). There are no preferred shares. There is no defined benefit plan.
If you look out about 18 months SRA International could see a target price of about $27 at even 20x the FY 2011 estimates. If the mood improves, the upside could be much higher. SRX shares hit peak prices of $31.90 - $38.00 during each calendar year 2004 – 2007.
SRA International seems to offer good upside with only moderate risk.
For the option savvy crowd here’s a buy/write play that looks good to me right now:
Buy 1000 SRX @$18.75 /share
Sell 10 June $20 calls @$1.30 /share
Sell 10 June $20 puts @$2.45 /share
Net Cash Out-of-Pocket
If SRA Intl. rises to at least $20 (+ 6.7%) by June 18, 2010:
· The $20 calls will be exercised.
· You will sell you shares for $20,000.
· The $20 puts will expire worthless.
· You will have no further option obligations.
· You will end up with no shares and $20,000 in cash.
That best-case scenario result would be a $5,000 gain on a cash outlay of just $15,000. A 6.7% (or better) rise in the shares will provide a 33% cash-on-cash return (assuming you write the puts against paid-up, marginable securities already in your margin-type account).
What’s the risk?
If SRA Intl. remains< $20 on June 18, 2010:
· The $20 calls will expire worthless.
· The $20 puts will be exercised.
· You will be forced to buy an additional 1000 SRX shares.
· You will need to lay out another $20,000 in cash.
· You will have no further options obligations.
· You will end up with 2000 SRX shares.
What’s the break-even on the whole trade?
On the original 1000 shares it’s their $18.75 /share purchase price less the $1.30 /share call premium = $17.45 /share.
On the ‘put’ shares it’s the $20 strike price less the $2.45 /share put premium = $17.55 /share.
Your overall break-even would be $17.50 /share or 6.6% below the trade’s inception price.
This buy/write combination offers a best-case cash-on-cash total return of 33% on any move up of at least 6.7%. It also offers a ‘margin of safety’ of 6.6% should the shares unexpected decline.
Disclosure: Author is long SRX shares and short SRX options.