This should be a great time for the top team at Melrose. Underperforming companies are their meat and drink — and with Ukraine and inflation there will be plenty of possible targets in their sights. While all around it equity values are falling, the balance sheet is cash-rich.
In 2021, statutory revenue fell £249 million to £6.88 billion and adjusted operating profit jumped from £141 million to £375 million. The two main divisions, automotive and aerospace, formerly part of GKN, were naturally impacted by the pandemic but began to pick up towards the end of the year.
Automotive revenue was down £52 million at £3.74 billion, Aerospace fell by £261 million to £2.54 billion, but operating profit for automotive jumped from £82 million to £172 million and for aerospace from £14 million to £112 million.
The clue to the real driver at Melrose was restructuring costs at those divisions totalling £387 million. The name of the game is buying and selling on companies.
Melrose is the latest in a corporate line stretching back to Slater Walker and Hanson Trust, where the product is not what comes off the conveyor belt but what lands in management’s and shareholders’ pockets. While, like Slater and Hanson, Melrose has been accused of asset-stripping, it has cast itself as a company doctor, nursing targets back to health before selling on. “We simplify, decentralise management, and incentivise people running a business at a divisional level,” Simon Peckham, chief executive, has said. “We’re not a charitable act. But we have serious skin in the game and we invest to make improvements.”
The company is at a periodic crossroads, when most of its operations are nearly ready to be sold. Money will be returned to shareholders, but the hunt is on for fresh meat. That will transform Melrose, as usual leaving investors to decide whether to keep faith in Peckham’s people.
Last year Melrose sold about a fifth of itself. All being well the aerospace and automotive divisions will go in the next two years, leaving small, promising powder metallurgy and hydrogen technology operations.
The controversy that surrounded their takeover of GKN, a former bastion of British industry, may deter the reclusive management from going for anything as high-profile again. Talk in the company is of scanning the US for strugglers in smokestack industries, possibly unloved divisions of larger groups.
The shares have slid since Russia invaded Ukraine. Investors’ caution looked justified last week, when Justin Dowley, chairman, signalled that the conflict had put on hold plans for another return of capital this year. Supplies of titanium and palladium are also at renewed risk.
Consequently the share price is in the doldrums at 113¼p, down 32 per cent so far this year. On the back of 2021’s 4.1p earnings per share, that translates to a 27.5 p/e ratio, while the 1.75p dividend gives a 1.54 per cent yield.
Current Melrose investments are highly cash generative and several analysts foresee a surge in profits that could cut the p/e ratio to 8.5 within two years, moving the dividend up to 3.5 per cent without taking account of any capital repayments. “We see the equity mispriced and material upside for shareholders,” said JP Morgan Cazenove, who think the shares could hit 240p by June next year.
As long as the company has automotive and aerospace activities it will be subject to developments in Ukraine. That may produce added defence orders and depress the price of target businesses, but attempts to float the divisions could be delayed. That could leave Melrose in limbo for an extended period.
ADVICE Avoid
WHY While the company has plenty of promise, the shares may have further to fall amid the present uncertainties
Hammerson
This company once bestrode the UK property industry, with a grandiose head office in a Park Lane mansion. That has gone, replaced by more practical but prosaic glass-and-concrete premises behind King’s Cross station.
Long before Covid it bet heavily on out-of-town indoor shopping centres, owning the Bull Ring in Birmingham, Bristol’s Cabot Square, the Reading Oracle and a large chunk of Brent Cross Shopping Centre in north London, which opened in 1976. Under its Value Retail business, the group embraces the more recent fashion for outdoor malls such as Bicester Village and others around Europe. But that still ties Hammerson’s fortunes to traditional shopping.
The British Retail Consortium says that retail park footfall was down 10.2 per cent in February, and visits to shopping centres were down 35.2 per cent.
Last year Hammerson’s net asset value shrank by 18p to 64p, nearly twice the shares’ 33p market price. In 2007 the shares were trading at £58.80.
Nevertheless, Rita-Rose Gagné, its chief executive, says: “We are starting to see stabilisation.” She unveiled 2021 results showing adjusted earnings up from £37 million to £81 million on the back of net rental income £20.2 million higher at £189.8 million. Easing Covid restrictions encouraged more people to visit, prompting a strong recovery in Value Retail earnings and lower finance costs. Occupancy rates are back to 96 per cent, and 90 per cent of last year’s rent arrears have been collected, but loans remain high, at 47 per cent of value.
Hammerson is returning to dividends, either 0.2p a share cash or an enhanced scrip dividend alternative of 2p a share. Because the firm is a real estate investment trust, both options will be paid as a property income distribution, net of withholding tax where appropriate.
But investors lack a clear path ahead. Gagné said: “Our role is to create and curate relevant, appealing and sustainable spaces for the future.” Yes, but how? There is little clue as to how she will tempt online shoppers away from their computer screens and back outdoors.
ADVICE Avoid
WHY Hard to know yet if the management can solve its problems
* Our Melrose analysis has been amended. We had stated that Melrose’s share price was below its level in 2013. This failed to reflect a share consolidation last year, which means the current share price is above the 2013 level on a like-for-like basis.
