Tag Archives: share splits

Stocks in Focus: Melrose

Earlier this year, Melrose acquired the much larger British manufacturing firm, GKN, in a controversial £8bn takeover. Some commentators described the hostile takeover as opportunistic, suggesting the deal materially undervalued GKN’s assets at a time when the management team were struggling to improve margins and encumbered by a glaring pension deficit. On the other hand, Melrose is renowned for buying struggling companies and turning them around before selling them on for a profit.

This buy-improve-sell strategy does not always sit well with long term investors. However, there is no denying that the Melrose management team have a good track record, having delivered total shareholder returns of around 3000 percent since listing in 2003. Critics of Melrose’s strategy argue that these returns have been delivered by improving margins rather than growing earnings. In turn, this margin improvement is often partly achieved via controversial measures such as cutting the workforce, which could generate significant backlash within GKN. Having said this, Melrose has promised to continue investment into the company at 2.2 percent of revenue per year, which will abate some concerns.

Melrose announced interim results on Thursday 6th September, which included 73 days of ownership of GKN and substantial costs involved in the transaction. The board was happy with progress and investors reacted positively to the news, reassured that Melrose had not found any cause for concern in the subsequent review since owning GKN’s assets. Looking forward, investors will be anticipating the first evidence that Melrose is starting to deliver the margin improvements that it has targeted for GKN’s assets.



Stocks in Focus: Rolls-Royce

This week I am looking at 112-year-old British company, Rolls-Royce, and its biggest transformation plan in nearly 20 years. During a capital markets event last week, chief executive, Warren East, stated that an overcomplicated way of working was holding the engineering giant back. A six-month long evaluation revealed unnecessary complexities in processes and a lack of accountability and cost awareness throughout the business. As a result, Mr East has announced that he will be implementing some further restructuring in the business as part of the ongoing changes.

Earlier this year, the CEO announced plans to consolidate the company into three focused business units – Civil Aerospace, Defence and Power Systems, as opposed to the current five business unit structure. This is designed to remove management duplication between the three new units, with each having a greater degree of autonomy to allow them to work faster. The announcement made last week will involve cutting 4,600 back office and middle-management jobs over the next two years to make the business simpler and more efficient. All of the redundancies will involve non-manufacturing staff, with roughly two-thirds affecting the UK headquarters in Derby. The company currently needs production staff to help it deliver a sizeable order book of new aero engines. This shake-up is aimed at saving £400m a year by 2020 and generating about £1.9bn in free cash flow over the next five years.

It has been a tough couple of years for Rolls-Royce after five profit warnings, dividend cuts and a dividend freeze. The new plan sounds promising and brings a breath of fresh air. Investors welcomed the transformation plan and sent the shares soaring to a six-month high. However, the business will need to start delivering against its targets on operational improvements, cost reductions and cash generation before it can convince the market that it is on a sustainable path to recovery.


Stocks in Focus: Pennon Group

This week I am looking at Pennon Group, which recently released its full year results to 31 March 2018. The group is split between two main functions, water and sewage services the South West of England and Viridor, the UK’s largest waste management recycling company.

Pennon’s results were met with a positive reaction from the market and shortly after the release the shares had risen by 5%. Pre-tax profits had risen by 25%, following strong performance from the Viridor and South West Water divisions, and the company confirmed another dividend rise of 7.3%.

Viridor accounts for 52% of the group’s revenues and within the results they announced that they have been encouraged by the ‘Blue Planet’ effect. Ever since the popular BBC program aired in late 2017, the country has gained focus on the need to control plastic consumption and to improve recycling efficiency. Viridor is at the forefront of this and are hoping that changes will be announced in the Resources & Waste Strategy later this year that will continue this momentum.

Despite these positive results, the sector still faces regulatory pressures and the utilities industry is set to see price controls from 2020. The price controls are based on the Regulatory Asset Base, this is a system designed primarily to encourage investment in the expansion and modernization of infrastructure.  However, these utility companies will work on an allowed rate of return in which they recoup the investment from consumers, therefore capping future income.

These pressures are affecting the whole industry but Pennon remains in a strong position. They have the best record of water quality and customer service in the sector and have less regulatory exposure than competitors due to the diversification offered by the Viridor business.


Points of View: Schroder Asia Pacific

This week I am looking at Schroder Asia Pacific, an investment trust which invests in equities listed in the Asia Pacific region excluding Japan. The fund has been managed by Matthew Dobbs since inception in 1995 and has become the largest trust in the sector.

Performance of the fund has been very strong over the last 3 years, 51% vs 29% for the MSCI Asia ex Japan benchmark, which has been driven by large weightings to Chinese and technology based stocks.

Chinese equities make up around half of the portfolio (this is c3.7% overweight compared to the benchmark) and this has been steadily increasing over the last couple of years. Mr Dobbs gains exposure to these stocks through the Chinese and Hong Kong stock exchanges, traditionally preferring the Hong Kong listed companies due to tougher listing requirements and better corporate governance. Mr Dobbs feels that this weighting is justified due to favourable economic conditions and a shift towards services and the consumer.

Technology is the largest sector weighting in this fund at 34%. Over the last 18 months the technology sector has seen strong performance and those listed in Asia have been no different. Despite the strong rise in the share price of companies like Alibaba and Tencent (the Chinese equivalent of Amazon and Facebook respectively), Mr Dobbs feels that these companies will continue to be the key beneficiaries of the technological disruption going on in the region. Tencent already has around 320m users who spend more than 4 hours a day on the platform.

Arguably, the large weightings to China and technology increase the risk of the fund. However, over the 23 years since inception, Mr Dobbs and his team have established a great track-record of identifying drivers of growth for the fund to benefit from.


Stocks in Focus: Rolls-Royce

This week I am looking at the British engineering giant Rolls-Royce, following its annual results last week. I last wrote about Rolls-Royce in January, after it made the announcement that it would restructure its five divisions into three core operating units – a decision that was welcomed by investors. The annual results have come as further good news, with the cost-cutting drive that included the restructure helping the company to return to profit, following its largest ever pre-tax loss in 2016.

The results came in ahead of prior expectations, with the company making £4.9bn in pre-tax profits in 2017.  £2.6bn of this came from non-cash gains on its foreign exchange hedging strategy, thanks to a strengthening sterling. The operating performance was also positive, with underlying revenues increasing by 6% to £15.1bn.

Despite the encouraging results, the year has not been without difficulties for the company. Technical problems were found with its Trent 1000 jet engines, used to power Boeing’s 787 Dreamliner, and some of its Trent 900 engines, resulting in them wearing out more quickly than expected. The issues cost the company £170m in 2017, with management forecasting an increase in cost to a peak of £340m in the coming year. However, CEO Warren East has reassured investors that the problems will be fully resolved by 2021-22.

Although the engine fault issues will continue to be costly for the company over the next 5 years, Mr East continues to look for opportunities to cut costs in other areas. Two years after making initial cuts to management, a further restructure is under way that should result in significant cost savings. Mr East has also reassured investors that the ambitious promise of £1bn free cash flow by 2020 is still possible, which will be impressive if achieved.


Stocks in Focus: DS Smith Plc

Over the past couple of years we have seen a rise in acquisition activity across many sectors, with companies seeking alternative ways to drive growth in order to tackle the on-going challenging market conditions.

One company that has proven successful with this strategy is DS Smith, a leading packaging business with a primary focus on the design, manufacturing and supply of corrugated packaging goods throughout Europe. Since joining the company as CEO in 2010, Miles Roberts has successfully implemented a new strategy intended to add value to their customer offering.

By using Mergers and Acquisitions (M&A), DS Smith has been building its presence throughout Europe and has a 16% market share of the fragmented packaging market, with plenty of scope for further growth. Economies of scale offer significant cost advantages over smaller competitors, as well as the ability to manufacture in large volumes and research better solutions for their customers needs.

One problem facing the industry is the cyclical nature of certain types of packaging, with demand and raw material pricing affecting sales. To tackle these risks, their strategy has been aimed at corrugated packaging for fast-moving consumer goods products. These day-to-day goods are in high demand globally and often have a relatively short shelf life, making them somewhat resilient to economic cycles. DS Smith has continued to invest significantly in innovation within this area to develop new solutions such as retail-ready packaging, whereby the goods are delivered to the retailer in a ready-to-sell merchandised unit that can be placed immediately on to the shelf without the need for unpacking.

This integrated business model also extends on to recycling and waste management services. With more companies wanting eco-friendly business plans, DS Smith differentiates itself from its peers by offering an all-in-one supply chain solution, whilst also helping to reduce their environmental footprint.


Points of View: UK interest rates

Another week on and we continue to face more surprises following the UK’s vote to leave the European Union. Last Thursday the Bank of England (BoE) decided to keep interest rates on hold at 0.5%, despite strong expectations of a 0.25% cut.

No one knows the precise impact that Brexit will have on the UK economy, but the BoE has highlighted that business and consumer confidence has fallen significantly both before and since the vote. Specifically, data suggests that many businesses have frozen investment decisions and the fear is that this will lead to an economic slowdown and possibly a recession.

The rationale for an immediate cut in interest rates is that this would in theory mitigate any slowdown by encouraging spending and investment. So why has the BoE decided against such action? Essentially, it is on the basis that that the loss of confidence could prove temporary as the Brexit shock recedes. Nevertheless, the BoE has stated that it will do everything within its power to reduce the downside risks facing the UK and, unless there is some evidence that confidence is rebounding, a 0.25% interest cut seems likely in the coming months.

It remains difficult to predict how the economy will be affected by the Brexit vote, but unless rising inflation becomes a greater concern, the BoE looks set to keep interest rates “lower for longer” in the face of uncertainty. From an investment perspective, we would again highlight the importance of creating robust, diversified portfolios that are not overly sensitive to any one scenario in an uncertain environment.