This supplier of metallurgical services to the aerospace and automotive industries has suffered from fears that a global slowdown could hit its customers’ order books. However, the company now looks like good value for the long-term investor.
Bodycote International (BOY), rated OUTPERFORM by Credit Suisse
Bodycote is the world’s top provider of specialist metallurgical services for the aerospace (20% of turnover), automotive (19%), oil and gas (8%), power generation (6%) and general manufacturing industries. Its largest unit is metals heat-treating, at 66% of sales, followed by materials testing (27%) and hot isostatic pressing (7%), which is used to produce top-notch components.
All three units are doing well, driven by robust markets, increasing regulation and outsourcing. Despite tougher conditions in North America, especially in car production, like-for-like sales in constant currency terms rose by 8% in the second half from 7.3% in the first, reflecting resilient demand in all its main markets. Due to the sophisticated nature of its technologies and the solid economics underpinning outsourcing deals, the group’s operating profit margins are also healthy at around 15%.
Chief executive John Hubbard says the trend towards outsourcing (accounting for around 22% of turnover) has helped Bodycote’s “growth in Western nations, where manufacturing may be stable or shrinking, and in developing countries, where it’s also often much cheaper to bring in a specialist”. At a trading update in December the board reconfirmed that 2007’s underlying results would hit City hopes and that it was confident of the firm’s prospects. It added that “our key aerospace, power generation and oil and gas sectors are forecasting buoyant conditions for 2008”.
Analysts have pencilled in 2007 sales and underlying earnings per share (EPS) of £640m and 19.4p respectively, rising to £685m and 21.3p in 2008. That puts the stock on attractive p/e ratios of 8.8 and 8.0, while paying a 4.5% dividend yield. This looks secure, covered 2.5 times by earnings, and the firm has even been buying back its stock amid recent share-price weakness.
So why the lacklustre rating? Well, with fears over the health of the global economy, investors are worried that Bodycote’s customers will suffer, hitting future earnings. Secondly, at last count the group had £163m of net debt on top of a £33m pension deficit – albeit interest payments are comfortably covered ten times by adjusted operating profits. Finally, it has hefty exposure to the dollar and euro, but this currency risk may actually boost results if sterling continues to soften in 2008.
With its leading position in growing markets, Bodycote looks good value for the long-term investor. Indeed, two non-executive directors, including the chairman, seem to agree, as together they splashed out £66,000 on shares before Christmas, at prices ranging between 184p and 192p. Lastly, at these downtrodden levels there is always a chance that it could receive another takeover approach, following its rejected offer of 346p per share from Swiss engineer Sulzer in April 2007. Bodycote’s full-year results are due on 26 February, with a progress report on its acquisition strategy out shortly.
Recommendation: BUY at 177p (market cap £573m)
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments