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FTSE 350: Electronics lose their stripes

Global economic concerns have dished up considerable volatility for the usually robust electrical engineering sector
January 28, 2016

Group them together and electrical engineers enjoyed a decent 2015, especially in relation to peers that are more exposed to oil and gas. However, strip out the bumper takeovers of Domino Printing and our former tip HellermannTyton, plus another stellar showing from Halma (HLMA), and the share price performances across this diverse set of companies were less encouraging.

Supplying products backed by legislative measures to improve health, protect people in buildings and prevent injury in the workplace helped Halma to achieve record results in the six months to October 2015. Impressively, these pristine figures were achieved in an environment of weak industrial spending, a major headwind that brought the majority of its peers to their knees. Observers may take this as a sign never to bet against the group.

While the rest of the sector is also synonymous with quality, 2015 was the year in which most lost some ground. After a fantastic season of trading, Renishaw's (RSW) downfall came as investors realised that 2016 wouldn't be quite so profitable. That's because the cycle of exceptional demand from consumer electronic manufacturers in China, mainly gearing up for big launches of smartphones, was due a lull.

But that's not to say that the developer and manufacturer of high-precision, automated metrology equipment's niche range of market-leading kit will suddenly fall out of favour. During the interval, management will continue to plough big bucks into developing the next cutting-edge products in a bid to keep wooing core clients in the Far East.

Instruments and control manufacturer Spectris (SXS) and carbon and ceramics specialist Morgan Advanced Materials (MGAM) will also hope their niche offerings can survive the Asian economic downturn. Despite their best efforts, both have suffered a major hangover from the industrial recession in the past six months.

Spectris, whose precision instrumentation and controls help customers increase product quality and performance, found North American, Russian and Latin American markets particularly troublesome. And with industrial spend dwindling, due to stagnant growth in major regions such as China and the US, the group's controls business emerged as one of the biggest victims.

A similar backdrop prompted Morgan, which makes products used in artificial hips, body armour, rocket launchers and temperature insulation, to issue a profit warning in November. Whereas a self-help strategy based on exiting low-margin divisions, cutting costs and branching into aerospace, healthcare and emissions control had been successfully boosting profits, the global economic meltdown has since put this progress under threat.

 Price (p) Market cap (£m)PE (x)DY (%)1-year change (%)Last IC view:
HALMA          812                    3,075 25.11.518.1Buy, 809p, 17 Nov 2015
MORGAN ADVANCED MATERIAL          214                       612 8.95.1-28.9Buy, 319p, 28 Aug 2015
RENISHAW       1,615                    1,176 9.62.9-30.5Buy, 2,099p, 30 Jul 2015
SPECTRIS       1,574                    1,875 12.83.0-24.7Hold, 1,953p, 02 Aug 2015
 

Favourites

Halma is always a favourite, although in an era when investors pay a premium for quality, defensive stocks, a consensus price to next 12-months earnings ratio of 24 means investors are paying big for its insulation from business cycles. If it's value you're after, with a little bit of risk thrown in, Morgan Advanced Materials could be the one. The shares got hammered by the profit warning, but maybe too much so - they now trade at a 30 per cent discount to peers. Current trading conditions may be difficult, but let's not forget that Morgan is less cyclical than before as it branches out into specialist technologies.

Outsiders

Despite a barrage of headwinds triggered mainly by global economic uncertainty, we think long-term prospects for all four of these companies are strong. But if pushed to choose one outsider, we'd currently opt for Spectris. Why? Because its shares' forward PE ratio of 15 doesn't appear to adequately reflect its difficult trading conditions.