The Investment Column: Rentokil looks too pricey: seek better catches elsewhere

Punch Taverns; Pure Wafer
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The Independent Online

Our view: Sell

Current price: 165.6p

The days of Mr 20 Per Cent, Sir Clive Thompson, must seem like a lifetime ago. Since the year 2000, when Rentokil first missed its ambitious growth target, the shares have stagnated, and even if there are signs of life those kind of returns look a long way off. At least Rentokil isn't Farepak, Sir Clive's more recent, ill-fated venture.

Yesterday's third-quarter numbers at the rat-catching to lavatory products group are beginning to show benefits from two years' worth of restructuring and an acquisition spree. The company has made 36 acquisitions in the year so far, most small bolt-ons, and integration of the additions looks to be going as planned.

Revenue increased in all divisions and revenue as a whole is 25.3 per cent better than in the comparable quarter of 2006.

Pre-tax profits for the quarter were £59.1m, a gain of 21 per cent, although for the first nine months of the year pre-tax profit is 2 per cent worse than last year. The company is comfortable with 2007 guidance but did not indicate any increase on 2008 forecasts.

However, the lack of any more bullish guidance is cause for concern. The shares still look expensive on more than 17 times consensus 2008 earnings forecasts. That is a decent premium to most of its support services peers, and it is hard to argue that such a premium is deserved.

Although the prospective 4.5 per cent dividend yield is attractive to income seekers, most of the next few years' worth of growth looks priced in – and considering the company is still carrying almost £1bn worth of debt, there are undoubtedly better growth opportunities elsewhere. While management should be applauded for the progress made so far, the shares are too expensive. Sell.

Punch Taverns

Our view: Hold

Current price: 928.5p

We have commented several times in the past that the pub industry's bullish forecasts about the impact of the smoking ban could turn out to false. Beer volumes are lower, and for all the talk of food sales making up for the smoking shortfall there is little evidence that it will be enough.

That said, the blue-chip pub group Punch Taverns still managed to post a well-received set of full-year numbers yesterday, mainly because they were no worse than expected.

Pre-tax profits were in line with forecasts at £279m, up 13 per cent, a good performance given the stock's dismal run-up to the results. Despite the headwinds the group is operating against, revenue was also better at £1.7bn.

Punch runs a portfolio of 8,400 pubs, making it the largest UK landlord, of which just over 10 per cent are managed directly. Sales at the managed estate, most of which came into Punch's hands via last year's acquisition of Spirit Group, were marginally worse, offset by a 2 per cent jump in sales at the non-managed estate, by a long way the more important of the two business units.

Looking forward, the shares look reasonably valued on under 11 times forecast 2008 earnings. But investors should be wary – working past the smoking ban in the summer is one thing, but the winter will be harder, as has already been proved in Scotland, where the ban has already included one winter.

Punch looks attractive on a valuation basis and trades at a decent discount to the sector. But despite this encouraging set of results the industry will have to run to stand still. Punch looks the pick of the bunch, but if the property cycle has turned and smokers decide to stay at home over winter, there is little point in buying the shares at this stage. Hold.

Pure Wafer

Our view: Sell

Current price: 86p

Recommending anything after a company has shed almost half of its value feels rather like shutting the door after the horse has bolted. But as a general rule of thumb, selling on the first warning is never a bad idea.

Pure Wafer, the Swansea-based developer of wafer technology for the semiconductor industry, told investors yesterday that it now expects to report "significantly lower" full-year pre-tax profits and turnover than analysts had forecast.

The problem lies with its 50 nanometre wafers, which it was expected to begin deliveries of in the first half of next year. That now looks like being much later in the year, and although deliveries of other wafers have begun, and the US business is particularly encouraging, it will not be enough to offset the problem.

As a result, revenue from the new product is not expected until 2009 at the earliest, assuming there are no more hiccups along the way.

The company also noted the impact of a weaker dollar and increasing competition – not a good sign if it is struggling to manufacture its products.

In light of yesterday's statement the fall in the share price is justified, and with little for investors to do other than wait for more news the advice at this stage must be to get out. There are plenty of high-risk opportunities elsewhere with decent news flow.

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