SmithKline learns new tricks

The Investment Column
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The Independent Online
It was hardly surprising that SmithKline Beecham's shares should pause for breath this year. Over the course of 1994 and 1995 they doubled, sending the market value of the drugs manufacturer up to a daunting pounds 20bn. The highly fashion-conscious pharmaceuticals sector was, by the beginning of 1996, very much in again and SB one of its favoured members.

Figures for the first six months of the year were at the top end of expectations with a strong second quarter making up for a less impressive first term. In the three months to June sales rose 17 per cent to pounds 1.92bn while pre- tax profits climbed 14 per cent to pounds 342m and earnings per share of 8.3p were 12 per cent up on the previous year.

That was a creditable performance given the dynamics of the drugs industry, which remain far from ideal. After the fat years of the 1980s, pharmaceuticals companies have had to learn new strategies to cope with a trading environment in which price rises in the largest, most mature markets are nigh on impossible to achieve.

Jan Leschly, chief executive, described the pricing environment in Europe yesterday as "pretty traumatic", with pressure on governments' spending plans compounded by arbitrary tax squeezes in some countries. In the US matching inflation is considered a real achievement while the Japanese have learnt to keep a tight lid on healthcare costs.

To make money in this giant, but competitive and highly regulated market, companies have been forced to concentrate much more than they ever had to on innovation, on geographical diversification into young markets such as Latin America and Eastern Europe, and on diversity of income streams. SmithKline has performed well in all three areas.

Rather against the trend two years ago, the acquisition of Sterling sent SB deeper into the toothpaste and nicotine-patch consumer end of the market. With profit growing 22 per cent in that division, the deal is looking better and better. Clinical Laboratories and DPS, a US pharmaceutical benefit manager, are less obviously successful sidelines.

The key to SB, however, at more than three-quarters of profits, remains the prescription drugs arm, where new products continue to drive profits growth. Almost a third of sales come from drugs that did not exist five years ago, essential in a business where market share and margins literally implode when patent protection runs out.

So that is all the good news. The bad is that it is all in the price. With full-year forecasts of just over pounds 1.5bn receiving only minor upgrades yesterday, the shares stand on a prospective p/e ratio of 19. Compared to a forecast growth rate in low double digits that leaves no scope for further growth in the short run.

An illusion at Euro Disney

In the Magic Kingdom of Euro Disney nothing is ever quite what it seems. And so it is with the debt-laden theme park's latest set of results. At first glance the results look encouraging and appear to show that last year's 20 per cent price cut really is enticing more punters through the gates.

Though net profits in the three months to June fell from last year's Ffr170m (pounds 21.8m) to Ffr147m, the previous year's figure was inflated by Ffr79m of exceptional items. In addition, operating revenue from the park and hotels edged 4.5 per cent higher over the quarter to Ffr1.4bn. All this means that in the nine months the company cut net losses to Ffr22m, compared with Ffr71m in the same period last year.

But there is more to these figures than meets the eye. Euro Disney's revenue was increased dramatically from last summer when it introduced the new Space Mountain ride. The third-quarter year-on-year comparison is still benefiting from the new ride but that will drop out of the figures soon and some analysts are expecting only a flat performance in the final quarter.

In addition, the company is still benefiting from graduated interest payments and a holiday on management fees and royalty payments until 1999- 2000. The company needs to go some if it is to reach break-even by the time it returns to full payments.

The company says it plans new attractions, such as a Planet Hollywood restaurant, a new cinema and a shopping mall, which will attract more visitors. Admissions are on an upward trend with hotel occupancy encouraging, even though no fresh figures have been released.

But Euro Disney is faced with a difficult French economy, with high unemployment and a strong franc, which makes the park expensive for visitors from countries such as Britain and Italy. According to Nigel Reed of Paribas, the current value of Euro Disney shares might be just Ffr3, even assuming it can increase revenue by 30 per cent over the next four years.

Analysts are forecasting full-year profits of Ffr184m. But with the interest and royalty payments looming the shares - down 7p to 164p - still look unattractive.

Mitie keeps on growing

Mitie is the growth stock par excellence. Yesterday's 38 per cent jump in pre-tax profits for the year to March from pounds 4.6m to pounds 6.3m was the seventh successive rise of more than 30 per cent, confirming that the cleaning, engineering and painting services company's remarkable growth story remains intact.

After a 33 per cent rise in earnings per share to 16.2p, the dividend was increased by a similar margin, but still remained four-times covered at 4p (3p).

Mitie provides a range of services to property owners, whether in the private sector, such as BT, IBM and British Aerospace, all big clients, or government departments such as the Treasury, which buys engineering maintenance from the company. Engineering accounts for 40 per cent of sales, as does cleaning, with painting chipping in another 20 per cent.

It hardly sounds glamorous work, but the contracts Mitie signs its customers up to are typically long (between one and five years) and so predictable, the company ties up little capital (hence its great return) and is highly cash generative.

Sales, which have grown from about pounds 10m in 1989 to more than pounds 160m last year, are set to continue growing for three main reasons. The market for out-sourced services is growing as companies and the public sector concentrate on their core activities. Mitie is gaining critical mass and it has enormous scope to grow market share, to spread into new regions and to add new services.

Mitie's shares have faltered recently, coming back from a peak of 415p last month in line with a jittery market, and possibly reflecting concerns over a minimum wage which, if introduced by an incoming Labour government, could increase costs noticeably. Mainly, however, the market has simply started to jib at paying 18-times prospective earnings, even for a company with such an excellent track record. Fair enough in the short term but this is a good long-term hold.