Smiths remains pick of the bunch

Investment Column
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The Independent Online
There was understandable caution in the run-up to Smiths Industries' figures yesterday, following disappointing performances from a number of the engineer's peers. Not Smiths, however, which reported another set of solid results and justified our comment last April that it was the pick of the bunch in the areas of aerospace, medical equipment and industrial products.

Profits and margins grew in all three areas, no mean feat given the troubles in the aerospace industry that have led firms such as Lucas to scale back operations. Pre-tax profits up 17 per cent to pounds 138m - on turnover also up 17 per cent at pounds 899m - were slightly above forecasts and were accompanied by an encouraging confidence about the future.

Star performer was the medical division, which contributed 45 per cent of Smiths' operating profits and has the capacity to grow still further. Smiths' pounds 135m purchase last year of US medical operation Deltec - part of pounds 390m spent in the past three years - has not diluted earnings as feared and margins in the division remain stable. Any further purchases are likely to be made in this area, and Smiths is unconcerned about US healthcare reforms.

Surprisingly, perhaps, the industrial businesses also advanced rapidly, making profits 34 per cent ahead at pounds 37.6m on sales of pounds 249.7m. A lot of this profit was bought through acquisitions, although Smiths says 10 per cent of the profits rise was from existing businesses. While recent acquisitions have yet to make a full impact, however, the rate of growth at the industrial division can be expected to slow in line with general economic conditions.

The aerospace businesses also invite caution in the short term. On the military side the company is doing well, and recent contracts by the UK and Dutch governments for Westland's Apache helicopters mean orders for Smiths' electronic hardware. But on the civil side, which accounts for 40 per cent of turnover, things are not so positive: 1996 will be the nadir for the building of civil airlines, with a pick-up for the industry from 1997. And US planemaker Boeing, to which Smiths is a big supplier, is going through protracted industrial action and may soon start cutting production.

Smiths is strong enough to weather such hiccups, although investors should perhaps hold back until the picture becomes clearer. Pre-tax profit forecasts for this year are around pounds 155m, with 35p of earnings. A prospective price/earnings ratio of 17 reflects a solid and well managed company knocking on the door of the Footsie index, but it doesn't leave much room for disappointment.

WPP reassures

the doubters

A respectable 8 per cent growth in revenues in the first three quarters of 1995 will soothe WPP shareholders who doubted highly-paid chairman Martin Sorrell and his turnaround strategy.

Thanks to strong growth in the US and UK advertising sectors, the integrated ad and market services holding company managed to add sales even as it cut debt - by 20 per cent in the period. Moreover, revenue growth also suggests higher productivity gains.

But what about the future? Advertising companies are notoriously subject to economic cycles, riding the booms and plunging with the busts.Could WPP be in for a fall? Probably not. It is far more reliant than some competitors on marketing services, public relations and the like. Activities such as direct marketing, promotion and other services, which represent about 40 per cent of revenues and about 30 per cent of operating profits, are less vulnerable to the ups and downs of economic cycles.

That provides some protection, but even the more volatile advertising business is betting that governments in the key markets of the US and the UK will not allow their economies to slow down too dramatically in the lead-up to elections.

Even if the markets don't help, Mr Sorrell reckons WPP is firing on only three of four cylinders, and wants to see improvements in the performance of the public relations arm, Hill & Knowlton. Progress there, as well as further growth in market share in the US and UK advertising markets, could add another 1 percentage point to margins.

The third quarter's new business looked good. Ogilvy & Mather took on a $50m account from Kodak and another $45m from Cheesborough Pond's. In the UK, J Walter Thompson won business from Stena Sealink, the cross-Channel ferry operator.

Earnings for the full year could easily hit pounds 110m, or about 9p a share, for a price-earnings multiple of about 17 at last night's unchanged close of 154p. Pricey, but probably sustainable, if 1996 is as good as predicted.

Little cheer at

Enterprise Inns

The biggest challenge facing Enterprise Inns over the past few weeks has been convincing institutions that it is anything more than a rather dull rent collector and beer wholesaler. Judging by the price it has achieved for its pounds 41m share placing, it can feel pretty pleased with its presentational skills - investors would demand more than a 5.5 per cent yield if they could really see no growth in earnings or income.

But the fact remains that Enterprise's end of the pub-owning market, 486 tenancies in the Midlands, North-west and Yorkshire, lacks the glamour of the successful managed pub groups such as JD Wetherspoon, Regent Inns and the latest entrant, Tom Cobleigh.

Although Ted Tuppen, chief executive, describes the business as a retail partnership with the pubs' landlords, in reality it enjoys only a 5.5 per cent yield on its pounds 84.2m property portfolio and a margin on the beer it ties its tenants into buying.

Coming to the market will ease some of Enterprise's challenges, wiping out pounds 12m of mezzanine debt which, at 8 per cent over base rates, is a miserable way to have to raise finance. Arguably it should have tried to raise more, reducing gearing below 50 per cent and giving it a fair chance of leveraging the shareholder return from subsequent acquisitions.

Without that, it is a little difficult to see where the growth will come from to justify a payout that, while attractively above the market average of under 4 per cent, compares unfavourably with the yield offered by a host of solid, but out-of-favour, Footsie companies. A prospective price/earnings ratio of nine is cheap but appropriate.

Interest from private clients, who have a claim on 20 per cent of the pounds 41m firm placing, is reported to be strong, so the issue is unlikely to be a flop. But anyone expecting a repeat of the sparkling share price performance enjoyed by Wetherspoon and Regent will be disappointed.

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