Smiths Group - Holding out for a hero...

Smiths Group: When Philip Bowman joined as CEO, in December 2007, most investors saw his prime remit as the sale of the group, either as a whole or in bits. This was a fair assumption as Smiths was an uneasy mix of activities and Bowman’s previous two jobs had been the sale of Allied Domecq and Scottish Power. Now, as he heads for retirement at the end of the year, the group is also looking for a new CFO as Peter Turner departs for ‘other opportunities’. Whilst the 2007/8 banking crisis greatly reduced the appetite and firepower of financial and corporate buyers, the great failure is that the group is substantially the same beast as when Bowman arrived. So now it is a case of who next and what next. 

In these interims to 31^st January 2015, reported revenue is down 2% and operating profit down 5% on a 60bps margin squeeze, with a currency headwind partly to blame. This drops through to eps of 38.5p, down 3% and a dividend of 13p (up 2%). Operating cash flow conversion was 88%, but debt crept up from £804m to £929m due to higher dividends, pension costs and forex. The pension hole grew from £236m to £338m, as falling yields hurt. Across the five divisions, Medical made operating profit progress, as did Flex-Tek, whilst John Crane marked time and Detection and Interconnect fell back. Getting all five cylinders to fire at once has been the elusive challenge for Bowman and remains so. The mixed outlook for the second half sees Medical likely to slow, Interconnect to be below last year’s second half, John Crane to see the effect of the oil price collapse, Flex-Tek to grow and Detection to pick up against soft comparatives.

The strategy talks about targeting revenue growth, “as we seek to re-position” the group. I’m not quite clear how, ahead of major boardroom changes, this will be a year of significant achievement or change. It feels like a case of wait and see for news of new appointments, which will no doubt presage a strategic review a few more months down the line. For now the shares are 1160p, which on eps of (at a stretch) 80p is a PE of 14.5x. Long-term dividend cover is targeted to be around 2.5x, but is nearer 2x at present. So a 40p dividend would be an acceptable yield of 3.5%. So, as is often the case with Smiths, the shares look OK value, but the real spice will only come with a new boardroom team that excites the company and the shareholders. (Neil Cumming^, 18^th March 2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk  Twitter:  @DividendPower

Morrison (Wm.) Supermarkets - we are all Tesco now

Morrison (Wm.) Supermarkets: As the board might say “we are all Tesco now” as new CEO David Potts settles down next to fellow Cheshunt alumni Andrew Higginson (Chmn.) and Trevor Strain (FD). These annual results to 1^st February 2015 were grim with the dividend outlook trashed, but we all expected that. It is now all about the future and whether Morrison can rediscover its mojo. (Not that mojo is on many of their customers’ shopping lists.) It is tough to be a supermarket when your LFL sales are down 5.9% (on top of the -2.8% in 2013/14) and operating margins were down 189bps year-on-year. This sent operating profits down to £442m, but then come impairment and property disposals to take the group to a £696m loss. Property impairments of £1,273m show how much demand for such assets has been eroded. (So well worth checking your property company shares for risk in this respect.) Underlying eps were 10.9p (-53%) on the back of which they have bumped the (now uncovered) total dividend up 5% to 13.65p, in line with previous guidance.

Now starts the hard slog of investing in more price cuts and achieving cost savings. The former total £315m so far, offset by £224m of cost savings with an eventual savings target of £1bn. Many of previous CEO Dalton Philips diversions (Kiddicare etc.) have already gone, but now comes their acceptance that the late entry into conveniences stores has not been a success. New ‘M’ store openings will be severely curtailed and the worst of the shops will be closed. Another cost saving is the dividend, which will be “not less than 5p per share” this financial year. All this will probably avoid the need for fresh equity, but that is not a certainty. The group is claiming some early success in turning the trading tide, but generally conditions are still ferocious, with a general background of deflationary pressures helping no one much. Morrisons needs to bin the de-misters and get back to being the great value first port of call for its heartland customers. Whether that will be enough, is unknowable at this stage. So far, the shares have rallied since the lows of the autumn, to around 203p. Assuming flat eps at 10.9p for FY2015/16 is perhaps harsh, but prudent. Along with a 5p dividend that is a PE of 18.6x and a yield of 2.5%. That may be tempting if you believe in a recovery, but I can’t see the rush, especially if income growth is your bag. (Neil Cumming^, 16^th March 2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk  Twitter:  @DividendPower

Serco - Churchillian resolve needed by all

Serco Group: This is going to be a long haul stock. The still fairly new CEO, Rupert Soames, has taken the chance to clear the decks and get fresh equity on board, ready for the voyage. The final dividend has been passed and there will be no dividend in FY2015 (and maybe a token final in FY2016?), but the stock still has interest as a fallen angel. The key takeaway from the strategic review is that Serco will focus on the Business-to-Government sector across specific sectors and geographies, which look set for structural global growth as governments seek to control costs and improve efficiencies. The key for Serco (and others) is to avoid previous top-line obsessions and make sure that contracts are profitable and well constructed.

In these red-inked results to 31^st December 2014, revenue was down 7.7% at £3.96bn and a corking £1,317m operating loss. This included £745m of provisions, impairments etc. at the trading line and £661m of exceptional items. Back in November the group suggested that a rights issue of around £555m would be needed and in recent weeks some had suggested that less would be required, leading to a rally in the share price. Low and behold, we now have the full £555m (1 for 1 at 101p). These proceeds will reduce net debt to EBITDA to around 2x, with a medium term range of 1x-2x. It is noticeable that there has been a dramatic loss of contract momentum in the business as the clear out has gone on. Whilst £3.6bn of new contracts were signed (similar to the £3.5bn in 2013) and the order book was £15.8bn, (down slightly on 2013’s £17.1bn), the pipeline of opportunities has shrunk from £12bn to £5bn. Whilst the group has re-iterated its broad guidance for 2015, it has withdrawn guidance for 2016 and beyond until the dust settles. For 2015 eps will be low single digits, but whether that is 3p or 4p, it still leaves a big PE and no yield. With no guidance, estimates for 2016 and beyond are educated guesswork. The nadir for sales is headed for £3bn-£3.5bn, with a post rights EV of some £2bn-£2.2bn, providing some support to the equity.

Strictly speaking this is a stock that holds no interest for equity income investors. However, Rupert Soames has a big fan club after his work at Aggreko. Investors in Serco will need a lot of patience, but as a management/recovery situation it could well be worthy of a nap selection. (Neil Cumming^, 13^th March 2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk  Twitter:  @DividendPower

G4S - on parole

G4S: The UK Government has many problems, one of which is the likes of G4S and Serco. Over the last five years the coalition has been downsizing the civil service and out-sourcing whatever it can. However, many outsourcers have shown themselves to be devious/incompetent/sloppy/greedy/cynical (take your pick). Realistically though the Government has no one else to turn to, so after a spell in the sin bin you can re-join the game. This is roughly the stage that G4S has got to. (The other big risk at present is the upcoming General Election, which could result in political deadlock and a hiatus in outsourcing.) In the case of G4S, Nick Buckles was hounded out of office, to be replaced as CEO by Ashley Almanza in June 2013. So in Almanza’s first full year (to 31^st December 2014), what is the state of play? Well, these results seem to be a small beat. On an underlying basis revenue is up 3.9% at £6.8bn and PBITA up 7.9% at £424m. Most of the revenue growth came from North America and Emerging markets, whilst UK/Europe marked time. This dropped through to eps of 13.6p (up 5.4%) and a 1.5x covered dividend of 9.24p (+3.1%). Net debt was £1.58bn, up on last time’s £1.55bn and a considerable burden (2.8x EBITDA) on the balance sheet, although operating cash flow was boosted by 25% to £526m. All this is at a time of much deck-clearing with a £45m increase in UK government contract provisions and restructuring charges of £29m with eight business unit disposals since Almanza’s arrival. A further 20 units are slated to be sold or closed and as such 2015 will be another year of renovations, although the messiest bit should be over.

Looking forward, contract retention is running at 90% along with a good pipeline of opportunities, so 2015 could see eps of around 15.75p (still a long way from the 21p plus of a few years back mind you). Allowing dividend cover to re-build might mean a dividend growth lag, to say around 9.5p. At 285p, these are a PE of 18.1x and a yield of 3.3%. For a recovery play these seem reasonable, but I would wait until the election is out of the way and we have a clearer idea of the ideology and strength of the new administration before getting in too deep. (Neil Cumming^, 11th March 2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk  Twitter:  @DividendPower

John Menzies - the seatbelt sign is still on

John Menzies: Back in November, I was worried that Jeremy Stafford’s arrival as CEO would place a query over a high, but affordable, dividend. Those concerns were correct with today’s finals for calendar year 2014 including a near 40% cut from 26.5p to 16.2p. After an increase in the interim, this means that the final of 8.1p is less than half last year’s level. In the results we continue to have the ‘boring’ old distribution side propping up the aviation services side, which should provide the structural growth but isn’t. That said, the results were pretty much in line with reduced expectations, with flattish turnover feeding through to underlying pre-tax profits, down 16% at £44.6m after a £3.5m currency headwind. Underlying eps were down 25% at 49.2p, leaving the reduced dividend covered 3x. The dividend optimists will point out that the old 26.5p dividend would still have been covered almost 1.9x, but a new CEO has one chance to cut the dividend without personal blame and Stafford has taken it.

On the distribution side, profits were flattish, with cost cutting offsetting structural declines in newspapers. The buzzy sounding future here is to try and latch on to e-commerce logistics growth. In the aviation side last year was a ‘mare, with contract churn and margin erosion compounded by airline terminal relocation at Heathrow. Going forward the plan is to concentrate more on hubs (a recent win at Oslo is cited) and on North America. This will, they hope, avoid having a geographic splat of operations with less added value and lower customer engagement. The balance sheet is still in decent nick with £74m of operating cash flow and £110.9m of net debt, so the re-structuring can be paid for. However, the dividend cut (of c£4m) will free up some (but not a lot) of cash to help in this process.

The outlook implies that last year’s disruptions have impacted the early part of 2015 with this year “more than usually weighted to the second half”. So I will go with flat eps for this year of 49.2p, a PE of 7.9x at 387p (down around 4% on the day). A 16.2p dividend would be a yield of 4.2%, (assuming that the 50% cut in the final doesn’t mean we should look at 13.2p as the new base). If Stafford can deliver, then these are attractive valuations, but the cautious may prefer to wait for one more trading update just to see if aviation has really turned the corner. (Neil Cumming^, 10^th March2015)

These comments are not a personal recommendation to deal. Any investments can fall as well as rise in value, so you could get back less than you invest. I may have a financial interest in some of the stocks written about. www.dividendpower.co.uk or e-mail at info@dividendpower.co.uk  Twitter:  @DividendPower