Investment Column: Imperial on defensive over smoking plans

Babcock; Hampson
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The Independent Online

Our view: Buy

Share price: 2038p (+36p)

The controversy over government plans to halve the number of smokers in Britain continued to smoulder yesterday. Imperial Tobacco complained that proposals to force cigarette makers to remove branding from their packets amounted to a "counterfeiter's charter". The smoke generated meant that little attention was paid to the company's interim management statement, which was positive.

It is hard to completely divorce oneself from the smoking debate when looking at Imperial as an investment. For the record, the Government is starting to look repressive (as is so often the case these days) in its treatment of smokers and smoking in general. But in other parts of the world (particularly poorer parts) it is hard not to feel discomfited by the tobacco companies' activities where regulation is light or non-existent.

On a purely investment front, Imperial appears to have a fair wind behind it. With the notable exceptions of Germany and Spain, the company's sales volumes are up across the board and it is continuing to grab market share from its rivals. In its developed markets, it may be that there is only a hard core of smokers left, many of whom would not stop even if an outright ban was imposed. Elsewhere, there could be much sales growth to come.

On valuation grounds, the company is a shade cheaper than its rival British American Tobacco, although the yield is a bit lower. Whichever way you look at it, a multiple of just over 11 times full-year 2010 forecast earnings is undemanding and the yield of 4.2 per cent is respectable.

Litigation is always going to be an issue for a tobacco company such as Imperial but, as a general rule, the shares offer a good deal of value and would be worth having in a portfolio for their defensive qualities alone. If you suspend ethical considerations, that makes Imperial Tobacco a buy.


Our view: Hold

Share price: 592p (+31.5p)

"Optimistic" is a word increasingly used by companies reporting that their trading conditions have improved. One such group is Babcock International, the engineering support outfit. After a pretty ropey performance in the latter part of 2008, when its share price appeared to go into freefall, it has bounced back impressively and the stock has put on almost 20 per cent over the past six months (although it has been softer recently).

Yesterday, Babcock proclaimed itself satisfied with its third-quarter performance, saying trading had been strong, especially in its marine and defence units. The full year is on track.

Even the casual observer will have recognised that Babcock's reliance on public-sector work may be a little risky since heavy government spending cuts are expected after the election. But this does not seem to worry analysts who argue that, while some areas (large capital projects, defence) will suffer, ministers will try to reduce costs in other areas through more outsourcing, which should benefit Babcock.

What is more, the shares look cheap. Trading at 12.5 times forecast 2010 earnings, they offer a 22 per cent discount to their peer group. Add to this a 3 per cent dividend yield and a pretty strong investment case emerges. We remain concerned about the impact of cuts (no one yet knows what will be hit, or how heavily) but the stock is worth holding on valuation grounds at least.


Our view: Speculative buy

Share price: 64p (-0.75p)

Hampson made a deeply discounted cash call yesterday which it hopes will raise £59.5m, chiefly to cut its debt. This was accompanied by a downbeat trading statement, with only cautious optimism and a forecast that its numbers will be down on last year. Investors could be forgiven for heading towards the exit but we think that could be the wrong call in the long term.

Hampson deals in precision engineering, making enormous moulds used in the construction of aircraft parts, together with many of the bits that hold them together. It is heavily into the carbon parts used by the new generation of airliners because they are lighter and require less fuel.

With aviation fuel the biggest outlay for airlines, which face growing calls to reduce carbon emissions, sales of lighter, more fuel-efficient aircraft will likely pick up sooner or later.

Hampson trades on just 6.2 times expected earnings for 2010 and offers a forecast yield of 2.6 per cent, falling to 2.1 per cent in 2011. Rumours of a cash call had circled the company for weeks, so there could be a short term bounce in its shares even though the trading statement was not hugely positive (Arbuthnot cut its forecasts).

In the long term there is an argument for buying the shares on the potential for future growth. We therefore make Hampson a speculative buy.