The Investment Column: A&L is compelling only to a few

Batteries set to power AEA Technologies; Hays still worth holding despite the setbacks
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The Independent Online

For the medium-sized mortgage lender Alliance & Leicester, conditions have been near perfect in recent months. Demand for home loans has been strong at a time when the size of mortgages has been rising with the gravity-defying price of the average house.

Now, as concerns mount that this boom could be coming to an end, A&L can take comfort that the environment of rising interest rates will provide an opportunity to ease some of the pressure on margins on both loans and savings products.

The bank has done much to get itself in shape in the past two years. It is on track to deliver double-digit growth in earnings per share this year and is cutting costs, including closing 46 underperforming branches.

Yet A&L is operating in a fiercely competitive market, in which its rivals' businesses are several multiples the size of its own. One area where the problem is very apparent is in the key arena of mortgage lending.

In a trading statement yesterday, A&L revealed that it had notched up a substantial 4.5 per cent of the new lending market - more than double its slice of the market last year. However, it paid the price in its mortgage margins, which fell from 1.29 per cent in its fourth quarter last year to just 1.15 per cent in the first three months of this year.

That is partly because A&L immediately writes off any up-front discounts it makes to new customers - unlike some rivals, which amortise it over the period of the loan. But in the main it is reflective of the fact that A&L does not have the scale to make decent profits while also competing at the razor-sharp end of the market.

One major attraction for investors in A&L has been its generous dividend policy. The shares should yield 6 per cent this year. Another has been the perennial - if vague - hope that it will be snapped up by a larger bank. A&L's shares no longer trade at a premium to their sector, but they are not a compelling buy for anyone but an income-focused investor.

Batteries set to power AEA Technologies

AEA Technologies was the commercial arm of the Atomic Energy Agency, privatised by the Conservative government in 1996. The company has struggled on the stock market, finding itself with a rag-bag of technologies and consultancy revenues that it has had difficulty explaining to investors. Worse, the work it did for the nuclear industry - helping decommission plants, mainly - has proved unprofitable and had to be sold off or shut down.

It makes a lot more sense these days. It has two main divisions. First, environmental, which works mainly for the Government, giving advice on environmental policy and running "green" campaigns aimed at encouraging businesses to be more energy efficient. Second, rail, which investigates accidents, sells design services and software systems, and has invented gadgets for stopping leaves on the line from disrupting the running of trains.

The chaotic running of the rail industry has meant sales have been flat in this division, and one has to be sceptical of hopes for a quick upturn, but environmental services are growing strongly and there is plenty of upside from a batteries division selling mobile power packs to the military. Buy.

Hays still worth holding despite the setbacks

The buy case for Hays shares is that, because the recruitment business bears the high fixed costs of its chain of high street offices, any extra fees it generates as the UK employment market improves ought to feed swiftly through to profits. A trading update yesterday dented that case, and sent Hays shares down 4 per cent.

Despite a healthier than expected 10-11 per cent rise in fee income this year so far (the growth rate had been half that in February), analysts were guided not to raise their profit forecasts - suggesting quite a lot is getting eaten up in higher administrative charges. Disappointment was compounded by the suggestion Hays may have to write off a £45m loan.

This remains an expensive play on the UK recruitment market which, because of its generalist nature, operating across many sectors, is likely to see less upside than competitors operating in the more bombed out markets of financial and IT recruitment. The decision to demerge rather than sell is mail business was also a blow, but there is still scope for share buybacks, improvements in profitability and the valuation benefits of being a focused company rather than the conglomerate of old. Hold.