The Investment Column: Labour pains pay off for joyous Mothercare

Hold on to paper maker DS Smith; Why it's all systems go at Gooch & Housego
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The Independent Online

The business had suffered terrible neglect from its former parent, the Storehouse group, and its high street stores became dowdy and tatty. Once the first warm and fuzzy destination of every radiantly expecting mother, Mothercare was suddenly left abandoned in favour of rivals such as Asda, Tesco or Next, which began selling goods at prices with which Mothercare could not compete.

A dose of tender loving care and a bit of intensive nurturing from Mr Gordon, who came in as chief executive three years ago, and Mothercare is now making its first, joyous steps as a successful business. From making losses of £19m when he joined, it is now making profits of £20m.

Mothercare said yesterday that despite the slowdown in consumer spending that is wreaking havoc on the high street, its sales had actually improved over the past three months. From a slight decline, they are now roughly flat.

The spoonful of sugar has been a revamp of its stores, now 75 per cent complete, and a radical improvement in product quality. The company has also now finally sorted out its warehouse distribution, which was failing to deliver goods into stores quickly enough. Soon, half of its products will be sourced direct from manufacturers, cutting costs and complexity in the supply chain.

It also delivered good news on international expansion yesterday. It now has 247 stores overseas, from Ireland to Indonesia, and it is also opening 40 stores in India. That country's booming economy and large population of children under four makes it an ideal market. The overseas operations are run on a low-risk franchise bases. Like-for-like sales outside the UK are running at 9 per cent.

Babies just keep on arriving, with not a thought for the economic cycle, so Mothercare should be protected from the consumer's whims. Its expanding international presence, particularly in the growing Asian economies, also makes it more attractive than other retailers. At 313p, the shares appear to have priced in many of the benefits of Mr Gordon's improvements, but there are still solid growth prospects in the business. Keep cradling your shares.

Hold on to paper maker DS Smith

DS Smith, the paper manufacturer, has been looking a bit dog-eared of late. Each results statement or trading update seems to bring a fresh piece of bad news, and profit forecasts have come down and down.

The problem is that profitability in this vital but well-served industry is paper thin, and the likes of DS Smith must constantly cut out costs to stay competitive. When demand takes an unexpected turn for the worse, or costs rise, the earnings can move sharply downwards.

Right now, demand has taken a turn for the worse and costs have risen. The cost of energy for its mills has soared in line with the oil price, and it has not been able fully to pass these costs on to its customers. It has raised paper prices in continental Europe in recent weeks, but its biggest customers are likely to claw back at least some of these in discounts.

And there has also been disappointment on the cardboard side of the group. There is a glut of capacity in the industry that is only now being addressed by factory closures, while at the same time demand has been falling because manufacturing businesses in Europe have shifted to the Far East.

To cap it all, a sideline in stationery wholesale has missed its profit targets this year, according to yesterday's trading update. This at least looks a temporary management misjudgment.

The near-6 per cent dividend is not threatened, and this is a management team with a good track record in restructuring. At 145.75p, keep holding.

Why it's all systems go at Gooch & Housego

A little manufacturing business based in a converted court house in the pretty Somerset town of Ilminster is already making millions shipping some of the world's most sophisticated laser components to China and across the globe. Think what it can achieve when it moves out of its Dickensian digs to something more state-of-the-art next year.

The business is Gooch & Housego, which makes the tiny components that turn lasers into tools for (in industry) cutting, drilling or welding or (in healthcare) cauterising. Its product, called a Q-switch, is a market leader, and the company is finally living up to its potential after an internal shake-up under Gareth Jones, the chief executive.

Simple improvements to marketing were behind yesterday's news that profits in the year to September are ahead of forecast. A more productive product innovation team and the new factory in Ilminster will keep them moving forward.

The shares, up 8.5p to 265.5p yesterday, trade on 17 times this year's earnings, a slight and justified premium to the market. They have quadrupled since their nadir in 2002 because Mr Jones's self-help measures coincided with an improved economic situation. The economic outlook may be less clearly positive from here, but there is more efficiency to be gained. Buy.