Cash-rich Farnell looks overseas

THE INVESTMENT COLUMN

Lucky Farnell Electronics just doesn't know what to do with all the cash thrown off by its successful catalogue-based component distribution business. Despite paying pounds 37m on acquisitions - principally fellow distributor Combined Precision Components in May - Farnell still had over pounds 70m in net cash at the end of July, representing 38 per cent of shareholders' funds.

Unless the group finds something to spend the money on, this embarrassment of riches is only going to deepen. Yesterday's half-year results to July were inflated by the pounds 35.3m gain on the sale of Farnell's manufacturing arm, but underlying profits grew by a healthy 25 per cent to pounds 36m. That translated into operating cash flow of pounds 17.6m even before acquisitions and disposals.

CPC, which sells to the UK repair market, is going like a train and actually ran out of catalogues in the spring. There is still plenty of scope to lever its 15 per cent margins, possibly up to the 20 per cent plus typical in the rest of the group's catalogue business.

What can be done is illustrated by Multicomponents, acquired in December 1993 and now a large part of the group's other division, distributing electronic bits and pieces to industrial customers. Margins have been raised from around 1.5 per cent to 6 per cent, tripling profits in under two years, and management is now aiming to lift the divisional return on sales to over 10 per cent.

Even so, with over 80 per cent of the home market tied up between Farnell and Electrocomponents, its slightly bigger competitor, the more exciting growth is to be had overseas. The European market, worth up to $6bn, is six times as big as that of the UK, while the US is three times as big again. The Far Eastern market is also substantial.

Farnell is having success with its formula overseas. Australia and France are becoming substantial businesses and the only real disappointment in the half year was Germany, where restrictions on supplies from IBM knocked sales though profits doubled.

But the real excitement must come from Farnell's entry this month into the key US and Far Eastern markets. The pounds 1.5m or so cost to profits this year could take up to three years to pay back, but the cash cost will be small and fully justified by the potential returns.

Upgraded forecasts put profits at pounds 75m this year, rising to pounds 86m next, giving a prospective p/e of 18, falling to 16, with the shares at 658p, up 7p. The overseas moves carry some risk, but that does not justify the substantial discount to Electrocomponents' rating. Hold.

Famous Grouse about tax bill

Whether or not you agree with the Scotch industry's persistent bleatings for a more equitable tax regime, full- year figures from Highland Distilleries yesterday underlined the need for something to give.

With input costs on the rise, overheads already pared down effectively and retail prices remaining under pressure it is hard to see where profits growth is going to come from.

Not from growing volumes, if sales trends in the world's biggest markets are any guide. Last year Europe as a whole was flat as a pancake, although even that flatters as the UK, still more than half Highland's business, fell worryingly.

That led to a disappointing pre-tax profits rise of just 1 per cent to pounds 42.9m (pounds 42.5m). It was punished by the stock market, where the shares fell 12p to 379p.

Forecasts, already fairly unambitious, were reined in yesterday.

The only bright spot for investors was the comfortable dividend cover, which meant that despite earnings per share only improving slightly to 22.1p (21.9p), the full-year payout was able to jump 9 per cent to 7.9p (7.26p).

Highland's biggest problem is its unusually large exposure to the UK consumer, which last year bought 7 per cent less Scotch than the year before. That makes it even more vulnerable than the rest of the industry to what does appear to be an unfairly harsh tax bill, which accounts for pounds 7.63 of the cost of a pounds 12.50 bottle of whisky.

The company has stuck to its guns on price but doing so has had the inevitable result, with consumers objecting to paying maybe pounds 2 more per bottle for Famous Grouse than for the supermarkets' own brands.

In the short term profits are unlikely to exceed more than about pounds 45m this year.

On a prospective price/earnings ratio of over 16, a big premium to Guinness, the shares still look expensive.

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