The Investment Column: Yule Catto is still trying to find the right formula

Baggeridge Brick has scope to build a solid future for its shareholders; Leave John Menzies on the shelf until OFT report
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The Independent Online

Yule Catto, the Essex-based group, produces a heady cocktail of chemicals that go into products from paints and glues to medical gloves and drugs. Suffering one of its periodic comedowns, the company had to admit yesterday that profits at its pharmaceutical arm, which produces the active ingredients that make pills work, continue to slide.

Things have gone quiet on the drug front - the company has no major new products up its sleeve until at least 2007 - which is especially disappointing after drugs including the ulcer-busting Omeprazole produced bumper earnings. Yule specialises in generic drugs where sales usually soar when a product is launched but are quickly eroded as competitors copy the product. Yule has seen its margins squeezed across the group by record oil prices and the cost of related raw materials.

The main business, polymer chemicals, is doing somewhat better - good volumes and better prices mean margins are improving. Yule is trying to cut costs and reshape the third part of the business, performance chemicals, to limit the slide in profits there. It's making good progress with the sale of the Autoclenz division, announced this month. It shut a factory in Huddersfield in July and the chief executive, Alex Walker, hinted there could be more site closures soon, though probably not in the UK.

The company is named after its founders Sir David Yule and Thomas Catto, who set up rubber plantations in Indonesia more than 100 years ago. It slashed its interim dividend by one-third in September to 3.7p, freeing up £6m, to fund investment and expansion opportunities. The board decided this week to expand the synthetic latex plant in Malaysia, which makes the key ingredient for non-allergenic medical gloves. Asia is becoming a more important market and accounted for 21 per cent of group sales in the first half, compared with 17 per cent the previous year.

However, even the group's assurance that its performance would meet City expectations failed to reassure the market, with the shares down 6 per cent yesterday. Merrill Lynch analysts described the pharmaceuticals update as "bad news" and downgraded earnings forecasts. At 275.5p, the stock is a hold at best.

Baggeridge Brick has scope to build a solid future for its shareholders

Investors' reluctance to hold on to shares in Baggeridge Brick after yesterday's annual results from the UK's No 4 brick maker is understandable. The group reported a 30 per cent drop in profits to £5.5m and warned its profits for the first half of its new financial year will be well below last year's.

To put it mildly, the company is suffering from tough business conditions. Demand for its bricks is weak because developers are building greater numbers of apartment blocks and fewer detached houses. Apartment blocks require fewer bricks and so Baggeridge suffered an 8 per cent fall in volumes last year.

Meanwhile, Baggeridge's cost base has soared because of the high price of natural gas. This state of affairs means the group, along with many of its competitors, will be implementing shutdowns at some factories over Christmas. The company says it has sufficient brick stocks to meet any short-term demand issues. Baggeridge is planning price increases next month to try to pass on the higher costs to its customers, but these are unlikely to make up for energy costs at current levels.

It is never good when a company is suffering from falling demand for its products and rising costs. But Baggeridge has a strong balance sheet which should help it weather the crisis in the UK brick industry. When gas prices finally do ease - they will most probably start to do so towards the end of the winter - profitability will largely be restored at the company. In the meantime, its valuation is underpinned by 150p a share of assets, the bulk being clay reserves which are in increasingly short supply. Investors should not rush for the exit but hold on.

Leave John Menzies on the shelf until OFT report

From a distance, John Menzies shares look cheap in the wake of yesterday's trading statement from the logistics group. The stock trades at just 10 times forecast earnings for this year despite the fact the company has assured the City it is on target to meet expectations. However, a closer examination reveals exactly why the company is on such a low rating.

The Office of Fair Trading is investigating the UK's market for newspaper and magazine distribution amid fears it suffers from a serious lack of competition. John Menzies generates about two-thirds of its profits from this industry and it is unclear exactly what form it will have in the wake of the OFT's findings. Should the authorities push for reform of the way newspapers and magazines are distributed in Britain, it could seriously undermine profits at John Menzies. The report is due to be published early next year.

The aviation division, which provides ground handling services to airlines, recently experienced a tail-off in business because of a fall in cargo volumes. The unit also lost a BAA contract at Heathrow, while its Cancun operations have been disrupted by Hurricane Wilma. The shares are best avoided, at least until after the OFT report.

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