Investment Column: Yule Catto's debt worries are overstated

Chemring Group; Oxford Metrics Group (OMG)
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The Independent Online

Our view: Buy

Share price: 101p (+10.5p)

The dirtiest word as far as investors are concerned is the "D" word. Companies with too much debt, especially those exposed to the teeth of the recession, might as well pack up and leave now because a punt is just not worthwhile in most cases. There is an opportunity for buyers, however, if they can find businesses that are gradually overcoming these problems.

The shares of Yule Catto, the specialist chemicals group, were until recently dampened by investors' concerns that it would have trouble paying back £33m last year and a further £33m in September. That was until the first payment was met and the group reported a big increase in sales as part of its full-year results in March. Since then the share price has more than doubled. It rose again yesterday when the company said in a trading statement that its markets were improving. Full-year pre-tax profits will fall below last year's level, but will be ahead of what the market expected, ot predicted.

The chief executive, Adrian Whitfield, is adamant that September's deadline will be met, which probably accounted for a further 11.6 per cent rise in the shares yesterday. We believe Yule's debt is still a worry and would guard against jumping in blindly, but certainly investors can breathe more easily than in previous years.

According to analysts at Royal Bank of Scotland, the stock also trades at a sizeable discount to the sector. They said: "The shares trade on a December 2009 price-earnings ratio of 5.6 times. That is materially below the peer average (12.9x), with Elementis on 7.7 times, Croda 10.2 times and Victrex 20.9 times. This pattern is repeated on December 2010 forecasts, with Elementis on 7.2 times, Croda on 9.4 times and Victrex on 12.6 tomes. We are likely to move our target price to about 110p."

This, we would argue, is again down to shareholders' concerns that the company has too much debt. Quite often, the market takes some time to catch up with events and we would urge buyers to take Yule Catto before everyone else realises the red lines on the balance sheet are gradually receding. We expect the stock to outperform the market and would buy.

Chemring Group

Our view: Hold for now

Share price: 2096p (+97p)

David Price, the chief executive of the defence equipment maker Chemring, is right to say he can do little about a share price that resolutely refuses to move north.

Mr Price reckons the stock will eventually follow the group's performance after another impressive set of interim figures published yesterday – its profits increased by 67 per cent, the dividend jumped 40 per cent and the group's order book is up by 42 per cent, so can a share price increase be far off?

The problem is that Chemring has been performing well for a while, and yet the shares remain unexcitable. Mr Price says some investors tell him they are off to more cyclical stocks and that they might return if things get hairy again. For potential investors this is not much solace. Yes, one school of thought would tell you that Chemring is a reliable stock, and the dividend is always nice, but if the shares are not going to react to the ever-improving operational performance, in the long term there is not much point buying.

We would never sell Chemring shares because of the company's safe-as-houses performance, but nor are we persuaded to go and buy without further evidence that the stock will soon get a shot in the arm. We would hold the shares and be on guard for signs of life.

Oxford Metrics Group (OMG)

Our view: Hold for now

Share price: 25.5p (-0.5p)

Oxford Metrics Group, a company which produces "image understanding products" such as motion capture technology and video analysis for military drones, said yesterday that its trading in the six months to 31 March was "mixed".

Not much for buyers to go on there, but the group's chief executive Nick Bolton urges investors to consider where the company has come from. In just four years, OMG, based in Oxford, Los Angeles and Denver, has created two new businesses and doubled its turnover. While profits in some areas have been dented over the past six months, analysts at Daniel Stewart reckon the share price will grow by 62 per cent in the next 12 months.

We are impressed with its recent growth and think investors should be heartened by OMG's exposure to what are regarded as resilient markets, especially defence. While the share price may grow, we are not sure it will have quite the year Daniel Stewart is predicting, especially trading on a price-earnings ratio of 9.5 times, which the brokerage itself says is pretty expensive. We regard OMG, because of its size, as one of those stocks whose price is driven by newsflow and as such would wait for a more upbeat statement before buying. Hold for now.