Investment Column: Home Retail bid rumours fail to convince

Amlin; Porvair
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The Independent Online

Our view: Sell

Share price: 208.1p (+3.5p)

Home Retail was back in the spotlight yesterday after it emerged that a US private equity investor had bought a 4.25 per cent stake in the owner of Argos and Homebase.

Madison Dearborn Capital Partners typically invests between $100m and $600m in each holding and it has raised its stake in the general-merchandise group from 3.2 per cent in the middle of March.

Ahead of its full-year results on 20 April, the purchase lifted shares in Home Retail, partly as it rekindled persistent speculation of a takeover bid. Of the potential suitors, the Walmart-owned supermarket chain Asda was believed to have considered a bid for the group in the spring of 2010, though it decided against an aggressive non-food land grab.

While the speculation surrounding Asda or a buyout giant launching a bid has refused to go away, we are not convinced it now holds much more water than a Homebase plant pot.

This is partly because the group's profits, margins and earnings per share are set to decline over the next year and the outlook for UK consumers looks as tough as a hoodie in one of the group's Argos stores. As recently as last month, the company guided down its profits for the year to the end of February this year to between £250m and £255m.

In our view, a break-up of the group is far more likely, but not for the foreseeable future. In its defence, Home Retail has a strong management team, generates lots of cash and has completed a £150m share-buyback in the past year. Furthermore, Argos has a slick multi-channel operation and performed far better than many expected over Christmas.

But Home Retail's shares have jumped around 10 per cent this year and now trade on forward earnings multiples of 11.2 times, which is by no means a bargain.

According to Seymour Pierce, a private equity takeout model implies a valuation of around 280p a share. But with consumer spending likely to be in the doldrums for the rest of this year, we think a bid is unlikely and Home Retail is better left alone.


Our view: hold

Share price: 389.6p (+2.9p)

Insurers are still counting the cost of the earthquake in Japan, and as Amlin showed yesterday, huge uncertainty remains over the payouts they face.

The Lloyd's of London insurance group said the initial estimates of its losses in the first three months of 2011 could be anywhere between £205m and £275m. This also includes the more predictable cost of the floods in Australia, forecast at £15m, and the £110m incurred from the second earthquake in New Zealand. This is below the £160m hit from the first quake in the region.

Of course, if there's one thing investors hate, it is uncertainty. While these forecasts are not the most precise, they should offer some comfort to the market. That said, Royal Bank of Scotland's Joanna Parsons explained that full-year forecasts would remain uncertain, as we still have three-quarters to run until the end of the financial year, and we have yet to see the impact of the hurricane season.

On the upside, the group's reinsurance strategy means that it should be relatively well-protected from further catastrophes. RBS has the stock on a forward earnings multiple of 7.3 times, which looks cheap, and the forecast rise to the dividend yield looks enticing. But that pesky uncertainty makes us nervous.


Our view: Buy

Share price: 115.5p (+10.5p)

Porvair is surfing the wave of the global economic recovery, and if the first months of 2011 are anything to go by, this year will be a corker.

The filtration specialist saw revenues soar by 8 per cent in the four months to March, according to the interim management statement published yesterday. The update was a litany of good news: borrowings down by 31 per cent, order books consistently strengthening, revenues not only ahead of last year but also significantly up on management's expectations.

Specifically, the metals filtration division sales shot up 14 per cent, extending the healthy recovery in 2010, while microfiltration sales climbed 4 per cent, with a boost from improvements in the recession-battered aerospace industry. Energy is also a strong growth area, with a £2m increase in orders for nuclear and broader energy projects in March alone. What's not to like?