If the adage, “as goes the first week of January, so goes the rest of the year” is correct, then we’re in for a brutal 2008.
But I’m not too pessimistic. Although global growth has been trimmed to below 5%, strong expansion in China and India, together with steady progress in Europe, will offset US weakness.
Also, lower UK interest rates should weaken the pound further, boosting exports to counterbalance the weaker domestic economy. Assuming I’m right, then a stockmarket crash should be avoided, with the FTSE 100 bouncing around the 6,000 mark for the rest of the year.
Filtronic (FTC), rated a BUY by Panmure Gordon
Even so, with volatility testing the nerves of even the most thick-skinned investors, it’s sometimes safer to err on the side of caution. So with a defensive strategy in mind, I’ve opted for Filtronic as my tip of the week. Here’s why.
Filtronic has undergone a radical haircut, following Charles Hindson’s appointment as CEO in November 2006. First, its wireless infrastructure business was sold for £144.5m; then the handset unit for £55m; and just before Christmas the loss-making compound semiconductor unit went to RF Micro Devices for £12.5m. As a result, Filtronic now has a rock-solid balance sheet with a huge cash pile (around £130m), which should underpin the stock even in the severest of storms.
This has left the group with two hi-tech and rapidly growing divisions, which are both profitable and cash generative. The largest is the wireless broadband unit, which generated revenues of £22m and operating profit (EBIT) margins of 10% last year. It designs and makes microwave products, and is one of the world’s two largest independent suppliers of equipment for point-to-point radio applications (typically used in mobile-phone base stations). Sales of these components rocketed by 93% in 2006/2007, driven by strong demand from Nokia, Siemens, Alcatel-Lucent and Ericsson. This has continued in the first half (H1). With 2007/2008 turnover and EBIT margins forecast to be £36m and 11.5% respectively, I would value the broadband unit at roughly £50m (or 65p per share).
Filtronic’s other unit designs microwave components and integrated subsystems for the UK defence industry, with underlying revenues up 18% last year. These products are used in military radar and electronic measuring systems to protect sites, with the technology incorporated within early-warning systems to defend naval bases, fighter aircraft and even foot soldiers. For 2007/2008, this unit looks set to achieve sales and EBIT of £17.6m and £1.7m (or 10% margin), and to me looks worth around £15m. Deducting the £35m group pension deficit, I would ascribe a total sum-of-the-parts valuation for the stock of £160m (or 215p).
So what are the risks? There is some foreign exchange exposure, especially to the US dollar, but the only major concern is that much of the turnover in the broadband unit is concentrated in just three wireless equipment manufacturers, who have all issued downbeat comments on the softness of the North American market.
But with such a cast-iron balance sheet, attractive growth opportunities and first-rate technology, I rate Filtronic as good value for the more cautious investor. Broker Panmure has a target price of 227p on the stock, and interims are due out on Monday 21 January.
Recommendation: BUY at 174p
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments