Investors have had to adjust their expectations downwards for Latchways (LTC) recently. The question is whether they have adjusted them enough. Ahead of the first-half results, the mood was one of optimism. Seen as a beneficiary of recovering construction markets in the UK and Europe, fall protection equipment provider Latchways' share price hit a 52-week high of 1,452p, which was 43 per cent above where the shares had started the year. But a disappointing set of first-half figures in November took the wind out of its sails. Latchways cautioned that full-year results would fall short of expectations due to belt-tightening among its big utility customers. The company also flagged up continued weakness in UK and European commercial construction markets and lower demand from telecom customers for its vertical safety systems.
- Profit warning not fully priced in
- Uncertainty over earnings
- High operational gearing
- Premium rating
- Eventual recovery potential
- Strong balance sheet
Then came another profit warning earlier this month. Latchways said that its traditional commercial construction industry work in the UK and Europe had been quiet over the winter months, with orders slower than expected. Compounding this shortfall, the pipeline of new business in fall protection systems for the wind energy and aircraft maintenance sectors has been hit by project delays. Latchways is also battling a headwind from stronger sterling. To make matters worse, the top-line weakness has coincided with a push to invest in new products and sales capabilities.
Because of the company's high operational gearing- a measure of how sensitive profits are to a change in sales - even a relatively small shortfall in revenues can become a big shortfall in profits. Following the profit warning, Latchways house broker N+1 Singer cut its full-year 2013/14 revenue forecast by 9 per cent. But the effect of high operational gearing led to a much larger 31 per cent downgrade to earnings per share.
As a rule of thumb, share prices usually drop by around the magnitude of the earnings downgrade on the day of a profit warning. But in this case, the shares dropped by 13 per cent on the day, which was considerably less than the cut to earnings. The upshot of this is that the price-earnings multiple has inflated. When we covered the results in November, the shares were on a forward earnings multiple of 20 times, which we already felt was rather punchy. Now that multiple stands at 23 times EPS forecasts for the current financial year. That looks stretched when compared with the support services sector on around 15 times and less-troubled peers such as SIG (SIG) and Travis Perkins (TPK) on around 21 and 19 times. Even if you strip out the net cash per share, the rating is still 22 times.
LATCHWAYS (LTC) | ||||
|---|---|---|---|---|
| ORD PRICE: | 1,115p | MARKET VALUE: | £125m | |
| TOUCH: | 1,100p-1,130p | 12-MONTH HIGH: | 1,413p | LOW: 1,020p |
| DIVIDEND YIELD: | 3.9% | PE RATIO: | 18 | |
| NET ASSET VALUE: | 299p | NET CASH: | £10m | |
| Year to 31 Mar | Turnover (£m) | Pre-tax profit (£m) | Earnings per share (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2011 | 39.6 | 9.3 | 61.3 | 29.6 |
| 2012 | 41.4 | 9.9 | 66.0 | 32.7 |
| 2013 | 42.4 | 10.9 | 74.5 | 36.0 |
| 2014* | 38.5 | 6.8 | 47.8 | 39.6 |
| 2015* | 44.0 | 9.0 | 63.2 | 43.2 |
| % change | +14 | +32 | +32 | +9 |
Normal market size: 200 Market makers: Beta: 0.23 *Peel Hunt estimates | ||||
