The Investment Column: Yield makes DS Smith worth holding for now

Bloomsbury; Sinclair Pharma
Click to follow
The Independent Online

Our view: Hold

Share price: 148.25p (+1p)

The Smurfits became one of Ireland's richest families last century from the business of making cardboard boxes. However, the boom times are long gone in that industry and investors are unlikely to make a fortune by putting their money into DS Smith, a rival of the privately-owned Smurfit Kappa.

The FTSE 250 group yesterday unveiled a sharp drop in annual profits to £53m from £73m in the previous year. DS Smith blamed high energy prices for the slump. The packaging industry also faces excess capacity these days, which has forced DS Smith to close some of its higher-cost paper mills. This resulted in a hefty exceptional charge.

Another problem that cardboard box makers face today is the fact that many of their client industries have moved to low-cost countries. The consumer electronics sector is the best example of this. DS Smith has had no choice but to follow suit and now has operations up and running in Turkey, the Czech Republic, Poland and Ukraine. However, this whole process is not cheap.

Key for the company in the near future is to what extent it will be able to pass on the high energy costs it faces to its customers. If it fails, a profit warning could follow.

DS Smith also does a sideline in office supplies. It is one of Europe's biggest wholesalers of office items such as pens and paper. Unfortunately, things here are also not going too well for the company. It is facing increased competition and has been forced to cut its prices to remain competitive. The management are taking steps to reduce the cost base of the business.

Investors should not expect a meaningful recovery in DS Smith profits in the coming year. Earnings downgrades look a distinct possibility. Nevertheless, the shares are well supported by a 6 per cent dividend yield, which is 1.9 times covered for now, and this makes them worth holding.


Our view: Hold

Share price: 319.5p (-2.5p)

Bloomsbury Publishing finds itself in a lull following the publication of the sixth Harry Potter book last year and the release of the seventh and final book in the series expected some time next year. Yesterday, at its AGM, the company was keen to emphasise that it has a strong list for 2006 including the authors Joanna Trollope, Susanna Clarke and Ben Schott.

Although JK Rowling has only one more Harry Potter book to write, Bloomsbury believes it has at least five more years of launches to come from the blockbuster franchise. Between paperback editions, special editions and film versions, the momentum behind the books should continue until 2011 or later. Then the franchise becomes part of the publisher's backlist.

Bloomsbury has £53m of cash on its balance sheet, which has led to calls for the company to make a major acquisition. However, for the time being, it seems determined to grow the business organically. It has earmarked £15m for publishing deals in a new area for the group - that of celebrity titles. These will cover music, television, film and sport.

Compared with making acquisitions, this strategy is much lower risk and is capable of producing quicker returns. It success simply depends on Bloomsbury backing books that sell. Given the group's track record this should not be too much of a problem.

Trading at 16 times forward earnings, the stock is worth holding on to.

Sinclair Pharma

Our view: Buy

Share price: 111.5p (+0.5p)

Sinclair Pharma yesterday signed the biggest licensing deal in its two-and-a-half year history as a listed company and yet its shares barely moved. This state of affairs presents investors with a good opportunity to buy into the biotech.

The deal was for Sinclair's lead product, its Decapinol rinse for gingivitis, a gum complaint, and was with the US healthcare giant Johnson & Johnson.

Analysts estimate the UK group will receive up-front payments of between £13m and £16m from J&J along with a cut of future sales once the drug hits the market.

The great thing about Decapinol from an investor point of view is that it has already been approved by regulators on both sides of the Atlantic and should be on sale in the US within a year.

Although there is a plethora of mouth washes already on the market, Sinclair boasts that its product does not simply kill all bacteria as standard treatments do but only destroys harmful microbes and preserves the good ones, leading to a "healthier ecology of the mouth".

With J&J backing Decapinol, the group's drug is likely to be a success. Nevertheless, Sinclair is by no means a one-trick pony. In total it has 13 products with regulatory approval in Europe and 10 in the US including treatments for a strong skin care portfolio. This strong portfolio is expected to drive rapid revenue growth in the coming years.