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Croda looks a beauty

The defensive nature of Croda's consumer care business should reveal its full value if western economies suffer another recession
December 15, 2011

Mike Humphrey has been at Croda for 42 years and spent the past 13 years running it. In January, the group's experienced European chief, Steve Foots, takes over. Even so, the future for the speciality chemicals company remains bright.

IC TIP: Buy at 1756p
Tip style
Growth
Risk rating
Medium
Timescale
Long Term
Bull points
  • Postive third-quarter trading
  • Growth accelerating in consumer care
  • Debt falling
  • Takeover candidate
Bear points
  • Industrial specialities weak
  • Effect of recession on discretionary spending

You'll find Yorkshire-based Croda's ingredients in everything from make-up, shower gels and wrinkle creams to industrial lubricants and packaging, most derived from natural oils. Its shares were listed in 1964 when the company made sales of £2.5m and a profit of £232,000. Fast forward to 2010 and sales of over £1bn produced profits in excess of £192m.

And most of the group enjoyed "improving trends" in the third quarter of 2011. Sales grew 5 per cent to £266m, driving an 18 per cent increase in operating profit to £57.6m. True, industrial specialities, which generate roughly a fifth of group profits, made nearly 7 per cent less as one-offs trimmed divisional sales by 3.5 per cent. The division was also responsible for much of the 15 per cent fall in volumes. Tough comparative figures, a weak July, and competition in low-margin commodity chemicals, such as fatty acids and glycerine, were blamed.

Besides, the third quarter is usually the group's slowest and business did pick up in August and September - coatings and polymers and lubricant additives sold well. And the fast-growth, high-margin consumer care division took up the slack. Croda's sexier - and highly profitable - side grew sales by 13.6 per cent to £146m, far better than expected, and made £42.5m of profit, up 31 per cent. Despite a £50m share buy-back, net debt fell by £15.5m.

Sensibly, Croda has always been quick to pass on higher raw-materials costs to customers and slower to cut prices when they fall. With input prices easing, that lag should bring valuable benefits during the fourth quarter and into 2012, just as another economic crisis threatens the global economy.

CRODA (CRDA)

ORD PRICE:1,756pMARKET VALUE:£2.38bn
TOUCH:1,753-1,756p12-MONTH HIGH/LOW:2,115p1,438p
DIVIDEND YIELD:3.1%PE RATIO:15
NET ASSET VALUE:223pNET DEBT:84%

Year to 31 DecTurnover (£m)Pre-tax profit (£m)Earnings per share (p)Dividend per share (p)
20078056129.715.8
20089119648.019.8
20098289142.621.5
20101,00219295.435.0
2011*1,080240120.955.0
% change+8+25+27+57

Normal market size: 2,000

Matched Bargain Trading

Beta: 0.8

*Bank of America Merrill Lynch estimates

Consumers' appetite for cosmetics, deodorants, hair-care products, and anti-ageing lotions held up during the last recession - the so-called "lipstick effect". This tendency not to trade down to cheaper alternatives is good news for Croda, whose peptides turn up in high-end products sold by L'Oréal, Chanel and Estée Lauder. Male grooming, too, is increasingly popular and living healthier lifestyles is driving sales of Croda's omega-3 oils. An ageing world population is also good for business. Still, there is no getting away from it that prolonged recession would hit demand for the higher-value products that contain Croda's ingredients.

Yet with customers running inventory levels near to historic lows, even if the worst happens in 2012, the scale of de-stocking is unlikely to be much worse than 2009. And almost a third of group sales are into the emerging markets of Asia and Latin America, more if you add in exports of finished products from customers in the west. Exposure to China, India and Brazil is growing too.

Of course, high quality businesses such as Croda attract takeover attention. "There's no doubt in my mind that Croda will be on someone's radar," says James Tetley, an analyst at broker Brewin Dolphin. Two of its three largest rivals - Cognis and International Specialty Products - have already been snapped up, while the third is owned by France's Air Liquide. Yes, economic turmoil deters bidders, but, with chemicals giants struggling for organic growth, it may just delay the inevitable. Mr Tetley is adamant: "Croda is unique. It will be taken over one day."

In the meantime, there's something here for the income investor, too. So prolific at generating cash is Croda that its bosses have promised to pay out 40-50 per cent of earnings in dividends, implying a dividend yield for 2012 of around 3 per cent. No word on further buy-backs but, with £60m a year to spend on new technology, bolt-on acquisitions would seem likely if the right target crops up.