Investment Column: Exploration success fuels Tullow Oil

Lookers; Melrose

Edited,Nikhil Kumar
Thursday 10 March 2011 01:00

Our view: Buy

Share price: 1,413p (-47p)

Ignore the market, which sucked 3.2 per cent out of Tullow Oil's value yesterday largely because of election-related delays to the company's long-running tax dispute in Uganda.

Leaving the froth aside, the annual results for 2010 published by the FTSE 100-listed oil prospector showed strong progress. In a year described by chief executive Aidan Heavey as "transformational" with the achievement of first oil from the Jubilee field in Ghana, the group's pre-tax profits rose by a whopping three and half times to $152m, on revenues up by a fifth to more than $1bn.

In the short term, the steadily rising oil price – both before and since the political upheavals in the Middle East – is clearly a point in Tullow's favour. But there is more to recommend the stock than simple macroeconomic fluctuations. Even without the boost in the price, Tullow's finances are set for a major lift this year, as production from Jubilee steadily ramps up.

The company's string of exploration and appraisal successes – with an 83 per cent hit rate last year and seven successes so far in 2011, including interesting discoveries off the coast of Ghana and Sierra Leone – also bode well for the year ahead. "With a diverse 40-well exploration and appraisal campaign planned for 2011, we look forward to another year of significant progress," Mr Heavey said yesterday.

There is even room for some optimism on Uganda. Local sources this week suggested that the tax issue may be within days of resolution, paving the way for Tullow to farm down its stakes as planned, giving the group's balance sheet a significant boost.

Notwithstanding yesterday's wobble, the shares are up by more than a fifth since early December. And as Tony Shepherd, an analyst at Charles Stanley, noted yesterday: "There are plenty of drilling announcements to keep investors excited. If further exploration success continues, it could drive the share price closer to its £18 net asset per share value," Mr Shepherd concluded. We agree.


Our view: Buy

Share price: 63p (-1p)

Lookers, the company behind more than a hundred franchise car dealerships, boasted a record trading performance in 2010, driven by a barnstorming performance from its automotive parts business.

Its full-year pre-tax profits rose by 19 per cent to £33.6m, on revenues up 7.7 per cent to £1.9bn, which was ahead of City expectations. While the rise in profits followed similarly upbeat results from Vertu Motors, Pendragon and Inchcape over the past fortnight, unlike some of its rivals Lookers relies solely on dealerships in the UK and Republic of Ireland. This makes its results particularly impressive.

Certainly, Lookers' parts division motored ahead last year with pre-tax profits up 11 per cent to £12.3m. The division delivered growth across all its major customer groups and further benefited from the new product lines introduced in previous years. While Lookers' much bigger motor division saw a 4.8 per cent fall in total new car sales, the unit grew pre-tax profits by 12 per cent to £28m helped by cost cutting measures and by a scaling back of its low-margin fleet business.

As if that was not enough, Lookers only trades on a forward earnings multiple of 9.7 and it yesterday said its progressive dividend policy, which it had followed until the "difficult trading" in 2008, has now been restored. It will pay a final dividend of 1.2p per share. While there are far better yields to be had elsewhere, we think Lookers' shares are undervalued.


Our view: Buy

Share price: 311.6p (-0.4 p)

Its strategy of buying struggling engineering businesses, turning them around and then selling them off has worked wonders for Melrose, with its share price increasing more than fourfold in two years Although its final results last night did not produce quite the boost of last August's half yearly report, the figures still looked impressive, showing a rise of nearly 45 per cent in its underlying pre-tax profit.

The focus was Dynacast, with Melrose saying it is currently considering selling the die-cast metal parts manufacturer, and shareholders should see a large cash return if it succeeds.

Melrose has certainly had a strong run, yet it looks fairly cheap. Further updates on disposals or acquisitions should drive the share price, so it could well be worth buying in advance.

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