Aviva looks a good long-term bet

LA Fitness vulnerable to squeeze on spending; Shire vows to buy in growth

Stephen Foley
Thursday 26 September 2013 02:34

The UK's biggest insurance group took the name Aviva after the series of mergers between Commercial Union, General Accident and Norwich Union made its acronym too much of a mouthful.

As mergers go, Aviva is now running pretty smoothly, and the group said yesterday that after a drop in profits, its fortunes had turned a corner.

Sales for the half-year were flat, as insurers struggled to sell products to customers who have become unwilling to invest after getting mauled by the bear market. This was most marked in the UK, where sales dropped sharply, but Aviva says savers are returning with their cheque books. With the biggest insurance brand in Britain, Norwich Union, Aviva is bound to pull in market share.

Aviva also has the benefit of being a well-diversified group, in terms of geographical spread, sales channels and product mix. Continental Europe now accounts for nearly half Aviva's business by profit and growth here is set to continue. It has set up strong relationships with banks to sell its products. Sales were up 56 per cent through this channel in the half-year and it now accounts for a quarter of its business. Aviva also has turned around its general insurance business. This brings in plenty of cash while life insurance sales struggle.

The group has also been cutting costs, taking out £30m in the first half alone. It made the bold decision to slash its dividend by 40 per cent last year and this early move has helped strengthen Aviva's balance sheet and puts it in a good position to grow the business from here. The new dividend still gives shares a nice yield of nearly 5 per cent.

At 516p, they are not nearly as cheap as they were. The company is valued at 1.1 times its embedded value, although this does only put it in the middle range of the sector. Its fortunes will always be geared to the stock market, but its financial strength, diversification and market position still make it a good long-term bet.

One to tuck away.

LA Fitness vulnerable to squeeze on spending

Fitness clubs are notorious for burning more pounds from their members' wallets than from their arses - and their relationship with investors is no different. The past year has seen three health club groups limp away from the stock market, after over ambitious expansion plans. Today, just LA Fitness survives to face the wrath of shareholders who have seen once corpulent returns slimmed right down.

Yesterday's update suggested the company was in reasonable shape, trading in line with market expectations. The group, which styles itself as an "upmarket budget" operator, said it opened nine clubs in the last six months. It has 66 clubs, against 53 a year ago, including one in Barcelona.

As ever, exercise-induced endorphins were pumping through the group's co-founder and chief executive, Fred Turok, who said the company's growth prospects and its banking covenants were as healthy as ever. LA Fitness's plans to open just six clubs next year mean the group can no longer be categorised as high growth, but at least it can fund the new openings from its cash flow.

Although there is still growth left in the sector, in terms of new openings, health club memberships will be among the first things to go when record debt levels finally catch up with consumers. Up 3.5p to 104.5p, the shares look fully valued.

Shire vows to buy in growth

The drug industry is having a crisis of confidence about its ability to discover enough new medicines, and Shire Pharmaceuticals went as far yesterday as closing down its early-stage research labs in Canada, promising instead to buy in products discovered by others. It is cheaper and less risky, certainly, and looks the right short-term move for Shire, which has never traditionally done such pioneering research work.

So it is back to a strategy of growth by acquisition. The new chief executive, Matthew Emmens, felt emboldened to promise earnings will grow, on average, by a "mid-teens" percentage during his tenure. Not everyone is so confident, and growth by acquisition is risky, too. That industry-wide crisis of confidence means Shire will be up against companies equally desperate to get their hands on other people's pills. Because Shire still needs to reduce its dependency on one major product (the attention deficit drug Adderall), it has long had a team searching for deals, and this has not drawn much other than blanks in recent years. Mr Emmens has beefed up the team, but he will be judged by results. Even if the company finds new purchases, it will need to show it is not overpaying.

There are also patent challenges to a number of Shire's second line drugs and the prospect of a copycat competitor to its once-a-day Adderall, too. To top it all, US approval for the kidney drug Fosrenol has almost certainly slipped into next year.

These fears for the future have been reflected in Shire's depressed shares for some time, and the stock (at 477.25p) still does not give enough credit for the cash being generated here and now. But it should be on a discount to the rest of speciality pharmaceuticals sector. Hold.

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