Carillion is no Amey but investors require nerves

Thus offers few attractions; No need to scoff Thorntons
Click to follow
The Independent Online

Carillion and the other companies operating in the construction and support services sector have been hit by one very big problem: Amey.

Carillion and the other companies operating in the construction and support services sector have been hit by one very big problem: Amey.

The market has been shocked by the accounting practices revealed by Amey, which the company blamed largely on a change in accounting rules (including the snappily titled UITF Abstract 34).

All companies involved in project work have to adopt this new accounting practice, which decimated Amey's profits, so investors have transferred Amey's problems to the rest of the sector and sold the lot.

This is unfortunate as some companies are less affected than others. Carillion, which specialises in rail contracts, road building and facilities management, showed yesterday that the effect on its profits is not nearly as dramatic. UITF 34 wipes £6m off operating profit this year and another £6m in 2003. This trading update was enough to provoke more selling, with the shares closing down a further 17.5p yesterday at 151.5p (down from 227p since April).

The jittery market ignored the fact that the company said that earnings per share figures were unaffected, meaning 15 per cent EPS growth is still expected this year.

UITF 34 concerns when and how companies account for bid costs, which are considerable for the Private Finance Initiative projects that Amey and Carillion are engaged in. The rule change means that companies have to take initial bid costs (before preferred bidder status is granted) as an expense through the profit and loss account – instead of capitalising these costs on the balance sheet. The bid costs are still refunded on successful bids but expenses have to be taken up front, denting profits in the early phase of a bid.

As Carillion said, after 2004, as the bid costs are reimbursed, £6m will be added to operating profit for the next few years. That should end the panic, though you wouldn't think so from yesterday's share price reaction. But canny investors should use this as a buying opportunity.

The reason is that PFI is going to continue to be a huge growth market. Carillion said yesterday that its order book stands at £5bn. The Government has abdicated all "public expenditure" to the private sector through the PFI, ie all roads, schools, hospitals etc will have to be built and maintained through the PFI. Expect the Chancellor to confirm this at next week's Comprehensive Spending Review and spell out the tens of billions worth of infrastructure projects pending. Now that is an opportunity for a company competent at this kind of work, such as Carillion – PFI is recurring revenues at decent margins.

On Teather & Greenwood's full-year profit forecast of £50m, the stock is trading on a lowly multiple of nine. A strong buy, if you can hold your nerve.

Thus offers few attractions

The share price graph of Thus, the Scottish telecoms group, is a scary sight with a seemingly inexorable downhill slope. But given the abysmal market conditions which have already claimed several high-profile scalps in the telecoms sector, investors should perhaps be thankful that the group is still around at all.

Thus freely admits these are the toughest trading conditions, with the most aggressive pricing pressure it has ever seen. It does not expect this position to change this year.

But against that backdrop, Thus says its own trading is "satisfactory" in the first quarter to 30 June although turnover is predicted to be slightly below the £72.7m recorded in the fourth quarter due to seasonal factors.

It also expects a "strong" improvement in pre-tax losses, continued improvement in cash flow and is confident of improving on the underlying, or Ebitda, profit recorded in the fourth quarter.

Furthermore, the company has stuck by its previously stated financial targets of growing turnover by 20 to 25 per cent for the year and increasing margins to seven to nine per cent.

Thus' track record in delivering on targets like these has, so far, been good, but they are undoubtedly predicated on market conditions staying as they are.

While Thus claims its business plan is fully funded, analysts expect several more years of bottom-line losses and a further deterioration in trading would upset the apple cart.

But the management seem competent and its game plan of "sticking with the knitting" seems the only sensible strategy for a loss-making telecoms company in this climate.

More of the same should go some way toward relieving nervy investors, who, for obvious reasons, continue to give the sector a wide berth. It is not enough reason, however, to start buying the stock.

No need to scoff Thorntons

Investors in Thorntons, the chocolate manufacturer and retailer, have been enjoying a recovery after ending up in a sticky mess in 1998 to 2000. The company over-expanded and remains at saturation point with 400 UK stores.

Yesterday was a case of no news is good news with a trading statement which showed that full-year profits for the year to 29 June should be in line with expectations. That means profits of about £6.8m and the relief factor was enough to leave the shares unchanged at 112.5p in a market down more than 100 points.

The only other news was the departure of Peter Baldwin, supply chain director, who is leaving with immediate effect. He is replaced by Jon Pollard, a factory manger in the manufacturing division.

Thorntons' strategy has been to drive more growth from existing stores. So far this has been working with like-for- like sales growth of 4.1 per cent in the half year. That is forecast to fall to 2 to 3 per cent when the company reports later this month. Other changes include store upgrades and the company is also starting to leverage its brand.

The shares trade on a forward multiple of 15 for the year just ended to 13 for the current year. There is no need to scoff more at that level.

Comments