Investment Column: Stock up in Morrisons's bargain basement

Morgan Sindall; Hill & Smith
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The Independent Online

Our view: Buy

Share price: 278.5P (+6.1p)

Some members of the Morrisons board will have used August to get away from work. But Dalton Philips, the supermarket's new chief executive, has had to ponder the long-term direction of the UK's fourth biggest grocer.

Mr Philips, previously chief operating officer at the Canadian grocer Loblaw, will on 9 September provide his first thoughts on his strategic plan for the 425-store chain, alongside its interim results. The Irishman has plenty to shoot at. For instance, the grocer still does not have an online grocery offer, a financial services arm, convenience stores, a loyalty card, a presence overseas or a non-food offer that could be compared to the scale of Tesco's, Sainsbury's or Asda's.

While analysts at Bank of America Merrill Lynch expect to hear Mr Philips' initial thoughts next month on online grocery and "stretching" its formats, possibly into the convenience sector, they are not expecting major announcements until after it runs trials in these areas. Nor does the investment bank believe a whole new strategy for non-food or international is in the immediate pipeline.

Instead, Mr Philips may go after productivity gains – such as sharpening up its private label and shelf life strategy, as well its labour scheduling processes to improve in-store labour costs – to boost its margins.

While his strategic vision will take time to deliver, there are plenty of reasons why Morrisons remains a compelling investment case. Despite its underlying sales growth falling back to 0.8 per cent for the 12 weeks to 2 May, largely due to low food inflation, more recent industry data points to Morrisons continuing to grow faster than its big three rivals.

Moreover, the grocer trades on a 2011 price to earnings ratio of 11.9, which makes it one of the cheapest European food retail stocks. Morrisons will face a constrained consumer over the next year, but its plans to become a "nationwide" grocer by further expanding in the south, progressive dividend policy and robust financial position make us buyers even before Mr Philips steps up to the plate next month. Buy.

Morgan Sindall

Our view: Hold

Share price: 570p (+11p)

There was support among the analysts for Morgan Sindall yesterday as the construction group published its interim results, saying that despite concerns over government cuts, demand for office space is still strong.

A number of the experts labelled the update "robust" and "solid," despite the company confirming a 14 per cent drop in revenues compared to the same period last year, and a 10 per cent drop in profits. The wider construction industry is still in recession, conceded the chief executive, John Morgan.

Investors can view the construction sector in two ways: either government cuts will hit the sector like an express train – and with groups like Morgan Sindall relying on the state for as much as 50 per cent of revenues, it is time to cut and run – or the falls in the sector's stock prices are a sign that the market is already factoring George Osborne's axe into the equation, especially as the company trades on a discounted 2010 price to earnings ratio of 9.1 times.

As such, if investors are looking for a punt on the construction sector Morgan Sindall might not be a bad bet, especially as the group maintained its 12p dividend yesterday, giving investors a chunky 7.5 per cent yield.

With cash up 55 per cent to £138m, and a forward order book £500m healthier (at £3.7bn) than at the start of the year, we think this yield is well protected. With that in mind we would keep hold of the shares, but don't expect much from the share price. And if that dividend looks like it's in danger, offload as quickly as possible. Hold.

Hill & Smith

Our view: Avoid

Share price: 280p (-14)

Hill & Smith, which makes crash barriers for motorways, is hoping that government cuts do not cause an accident for its backers. The company said yesterday that profit in the first half of the year jumped by 4.9 per cent, helped by a rise in overseas orders. But the chief executive, Derek Muir, said that the firm's full-year earnings would be hit to the tune of £15m to £20m as the Government eyes up transport for a painful dose of public spending cuts.

As such, it is rather difficult to back Hill & Smith, even if the dividend was increased to offset what is a falling share price. Despite an undemanding price to earnings ratio of 7.4 times, analysts like those at Evolution Securities cut their share price target yesterday.

In fairness to the group, it is pushing for more growth overseas, but for us there is just too much uncertainty about the size and scale of the cuts to regard the stock as a sound investment. Accordingly, we wouldn't take the risk. Avoid.

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