Investment Column: Severn afloat on uncertainty

Arla milks merger benefits for profits boost; Steer clear of Christian Salvesen after poor results
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The Independent Online

Severn Trent has raised some eyebrows in the City with the planned departure of four top directors.

Severn Trent has raised some eyebrows in the City with the planned departure of four top directors.

The annual results yesterday showed all is well in the water company's operations but analysts worry that a new team could lead to a strategy change.

By the end of the current year, the chief executive, chairman, finance director and managing director of the core water business will have left. The message yesterday from Robert Walker, still chief executive, was very much that the current strategy would continue.

While this seems the most likely outcome, much depends not only on the new management but also what the water regulator concludes from the next five-year period, which begins next year.

Severn Trent is a good business which has not gone down the heavily indebted strategy of some of its water industry rivals. It provides water and sewerage services to 8 million people in the UK, from the Bristol Channel to the Humber Estuary. That is the core regulated business, which provided £338m of the £441m of operating profits in the year to 31 March. Alongside that is a growing, non-regulated business, comprising Biffa waste management and SVT services, which provides a labs and purification business, contract operations and billing systems.

Five years ago, non-regulated operations made up 10 per cent of turnover. Now it is more than half. Severn Trent has made two significant acquisitions in the waste business.

The water industry is waiting for the sector regulator to pronounce on the next five years. Severn Trent has put in for an ambitious £2.9bn capital expenditure programme that would be financed by a 31 per cent rise in prices. The signs are that the regulator will be gentle on the industry but this remains an area of obvious risk.

Severn Trent shares, at 808p, have had a good run since September, making this a hold.

Arla milks merger benefits for profits boost

The human kindness of milk looks set to give Arla Foods' UK shareholders a profitable ride for the next two or three years. The company, a product of last year's merger with Express Dairies, announced yesterday a higher-than-expected maiden interim pretax profit of £21.1m and unveiled a two-year contract with TNT to deliver parcels and large letters on its milk floats.

The TNT deal came soon after the group surprised its rivals by winning the contract to supply Asda supermarkets. While the TNT tie-up has unquantifiable potential, Asda gives Arla a solid underpinning.

Meanwhile the other side of its business, dairy brands, is roaring ahead. Its Lurpak brand grew 10 per cent in the six-month trading period, Anchor Spreadable was up 13 per cent from a low base, and Cravendale milk slurped ahead by a mouth-watering 23 per cent.

Cravendale, one of the UK's few luxury milk brands, still has only 3 per cent of the total market, so there is far to go.

Arla is busy rolling out the full milk product range under the Cravendale banner, from cream and cheese to "adult" flavoured milks. This will help to offset a declining market in doorstep sales.

On the cost side, the company is going for £20m of savings from the merger. The shares, at 59p, have had a useful run, they still trade on an undemanding p/e of 11.3 for the current year and yield of 2.5 per cent.

Oriel Securities believes the economies and sales growth in the pipeline should take the earnings multiple down to seven within two years. Buy.

Steer clear of Christian Salvesen after poor results

Christian Salvesen, the logistics group, posted another set of poor results yesterday, confirming investors' fears that its troubles of the past two years are still far from behind it.

A year ago, after the group had already made three profits warnings in the previous 15 months, this column advised investors to avoid the stock. Since then, things have got worse. After a failed takeover bid last summer, shares slumped once more, and have never recovered. By April this year, the group was issuing yet another profits warning, which was followed last month by the departure of its chief executive of seven years, Edward Roderick.

While investors may have been heartened by the board's move to inject fresh life into an increasingly stale business, there was disappointment that Mr Roderick would walk away with a £900,000 pay-off.

After another rough year, there is almost a feeling of defeatism emerging from the company. At yesterday's annual results, which showed a 15 per cent drop in profits, even the finance director conceded that short-term prospects don't look good, with its margins set to remain under pressure. The only good news was that the dividend was kept intact. Mr Roderick has yet to be replaced, and maybe new blood will be just the tonic. But with the shares down more than 20 per cent since last year, this is still a stock to steer clear of in 2004. Avoid.

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