As a recuperating basket case in an unpredictable industry with huge chunks of cash flowing in and out, it is prudent to keep a close eye on progress at Babcock International. It is the UK’s only nationally owned civil nuclear contractor and a significant supplier to the aerospace and defence sectors, making weapons, warships and submarine launch systems. It owns the Devonport and Rosyth dockyards.
Tuesday’s half-year results were notable for swathes of bandages and sticking plaster, but the crutches have been put to one side for now. Revenue was 8.2 per cent higher at £2.22 billion, a dramatic turnaround in statutory operating profit from a £785.3 million loss to a £75.4 million positive. These figures have been restated to reflect more conservative accounting policies. That has cut most of the numbers, but cleared the decks for a cleaner future. A rare beneficiary of the changes has been the underlying operating profit for the nuclear division, and even that was only a few million.
So the company is moving in the right direction, after a torrid seven years which took the shares down from £13 to 217p in October. They have since climbed back above 300p, which is a start. David Lockwood, the chief executive, is patently straining every sinew, but from the results webcast it was clear that there is still much to do. “It has gone a bit better than plan,” was the best he could do. Jefferies, the broker, points to consistent execution emerging.
Babcock, which has American origins, was long known mainly as a boilermaker, but from the First World War onwards it has been a natural contributor to UK defence efforts and became increasingly entangled in what President Eisenhower called the military-industrial complex. The downside is that governments are not always the easiest of customers.
Lockwood concedes that Babcock is at the mercy of “geopolitical stuff” — winning or losing national defence contracts for political rather than commercial reasons. A vivid example is the recent internationally sensitive Aukus security pact between the UK, Australia and the US. The political posturing made the headlines, but below the surface several suppliers will prosper from the submarine deal that is the first fruit of Aukus. Good news, as Babcock is among the chosen few. But that will make it harder to do business in France, the country most hurt by being left out of that pact.
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Lockwood fretted over Omicron, rising inflation and supply chain constraints. While stressing that the company is only in year one of what will be a multi-year turnaround, he was able to say that the balance sheet is “in a safe place”. That suggests that shareholders should be spared cash-raising operations for now but falls well short of a guarantee. The £160 million cash outflow is concerning, even though it was mainly down to capital spending and pension payments. In this type of business, cash really is king.
Lockwood has put a modest sum where his mouth is, recently spending £119,000 on Babcock shares at a discounted price of 199p. In the past year the company’s insiders — mainly directors and senior executives — have been nibbling at the shares, but still reportedly own only 0.2 per cent of the total, worth about £2.7 million. Hardly a ringing endorsement.
Joe Brent at Liberum calculates the price to earnings ratio at 8.7 and rates the shares a “buy”, as do Panmure. But, even with a takeover bid possible, there is not sufficient reason to deviate from this column’s verdict in September that the risk-reward ratio is biased towards risk.
Advice Hold
Why Existing investors, having weathered so many storms, should stick around for what begins to look like a credible recovery
PZ Cussons
It is quite a leap, from turning round a heavy engineering defence contractor to doing the same at a soap manufacturer. But, like Babcock, PZ Cussons has a fairly new management which is trying to put the business back on a growth track.
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Babcock’s David Lockwood would love the problems that his Cussons counterpart, Jonathan Myers, has accompanied by moderate borrowings and positive cashflow.
While the pandemic has given Cussons difficulties that are common to nearly all businesses — supply-chain hiccups, staff shortages and rising inflation — the company is also a considerable beneficiary. Sales are up for its Carex hand sanitiser, with more than a third of the UK market, and the recently relaxed behaviour of the British public has been stiffened by the arrival of Omicron.
The Myers turnaround strategy is pretty basic: “low to mid-single-digit sustainable, profitable revenue growth” by boosting a stable of brands from Imperial Leather soap to St Tropez beauty products. He told shareholders last month: “Our job is to serve consumers better than the competition. Very intentionally, we’re trying to put a competitive edge in there because we have to fight or have to earn the right for the consumers to buy our brands.”
Cussons is going to focus on hygiene, babies and beauty in four core markets: UK, Australia, Nigeria and Indonesia. Oh, and the US for beauty. This column makes that five, but never mind.
Such an apparently random set of target markets is partly explained by the company’s origins in Sierra Leone in 1884. But Myers has so far not been tempted either to scrap the former colonial territories or, conversely, go full-bore for the African and Asian markets.
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Investec Bank’s analysts reckon that Cussons is “off to a good start on its transformational journey”, going along with the consensus expectation of £66-68 million pre-tax profit for the year to next May 31. That would be, if anything, a slight fall from last year’s £68.6 million but would comfortably protect a well-covered 2.9 per cent dividend yield. We will hear more from another update next week.
Advice Hold
Why Reliable income rather than exciting growth on offer
