The Investment column: Tomkins set to unlock Gates

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The Independent Online
Tomkins, which embraces everything from bread to petrochemical valves, has stuck doggedly to its conglomerate roots, despite the ending of the City's love affair with the sector. It has been rewarded with a share price which has underperformed the rest of the market for five long years. Although it may be too early to call a change in sentiment, there are straws in the wind which look more hopeful than for some time.

Chief among those is perhaps the potential of Gates, the world's leading maker of automotive belts and hoses, for which Tomkins is paying $1.36bn. After six months waiting for the various approvals, that deal is set to go through at the end of July, giving Tomkins chairman Greg Hutchings and his team the green light for a classic revitalisation job.

Profits at Gates have doubled to pounds 40.3m in the past three years, but margins are well under Tomkins' level. While there has been plenty of investment at the operating end of the business, paternalistic management has left "mom and pop store" reporting systems and lax balance sheet controls. Installing Tomkins' tight controls should provide an immediate boost to margins by weeding out unprofitable lines, while the company talks ambitiously of savings of around pounds 250m from tightening up working capital, particularly stock, at Gates.

That cash flow will come in handy as Tomkins develops the existing product base and expands into new areas. However, Mr Hutchings and his team still have to convince the City. Judging by yesterday's niggardly 3p rise in the share price to 251p, the market, at least, has grown bored with Tomkins' consistent earnings record. The group unveiled pre-tax profits increased by 6.6 per cent to pounds 323m in the year to 27 April, which fed through to earnings per share growth of similar order. The results easily beat the company's forecast in May and mean Tomkins' average annual average earnings increase has outperformed the UK average by nearly 24 percentage points over the past 12 years.

The figures were held back by the particularly severe and prolonged US winter, which cut sales of Murray lawnmowers by a quarter in the peak season of March and April. Operating profits from the professional, garden and leisure division slumped 24 per cent, but some of that should be made up.

The potential for Gates was again reflected in the bread and food divisions which represent the old Ranks Hovis McDougall acquired in 1992. Margins have been raised 30 per cent and around pounds 200m has been invested from cash squeezed out of the business.

With order books rising, profits at Tomkins should hit pounds 425m this year, including Gates, putting the shares on a prospective p/e of 12. Good value, with a share buy-back in prospect to boot.