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Shanks pricey for its prospects

Processing waste is an ultra-competitive way of making a corporate living, which makes the bounce in Shanks's share price look suspect
April 16, 2014

Shanks (SKS) has not been a great stock to own over the past few years. The shares went backwards in 2010, 2011 and 2012 as the company struggled with falling volumes of waste to process and pricing pressures. So we advised selling last April as fears mounted that the company would have to cut its dividend. The dividend was held and the share price rallied, but we are back for another go as we believe the rally has pushed the rating to levels that look unrealistic compared with Shanks's lacklustre growth prospects.

IC TIP: Sell at 99p
Tip style
Sell
Risk rating
High
Timescale
Long Term
Bull points
  • Weak volumes in Benelux countries
  • Pricing pressure in organic waste
  • Cautious recent trading update
  • Highly rated despite lacklustre prospects
Bear points
  • Cost-cutting helping
  • Decent prospects in hazardous and UK municipal waste

In a recent trading update, Shanks said market conditions remained challenging, with continued difficulties processing waste in the Benelux countries and organic waste throughout the European Union. It expects these conditions to persist throughout 2014 and the full-year result for 2013-14 (due on 15 May) should be "broadly" in line with City expectations. That seemed a little more downbeat than the previous month's update when Shanks was "confident" of delivering in line with expectations.

The Benelux solid waste business collects its volumes from three main sources - construction and demolition, industrial and commercial and municipal waste. The business has been hit by a downturn in the Netherlands construction market, which hit a 60-year low in 2012 and is yet to show recovery. Belgium solid waste volumes held up better, but severe competition sent prices down 6 per cent year on year; the business has also been hit by lower prices for recycled scrap metal.

Meanwhile, the difficulties in the European organics business, which turns garden and food waste into energy or compost, were not explained in detail. But in the past Shanks has alluded to austerity measures squeezing municipal contracts, and analysts at investment bank Credit Suisse say Shanks is likely to be facing pricing pressure caused by increased competition.

SHANKS (SKS)

ORD PRICE:99pMARKET VALUE:£394m
TOUCH:99-100p12-MONTH HIGH:121pLOW: 73p
DIVIDEND YIELD:3.5%PE RATIO:18
NET ASSET VALUE:73pNET DEBT:104%

Year to 31 MarTurnover (£m)Pre-tax profit (£m)Earnings per share (p)Dividend per share (p)
201171735.26.73.25
201275037.37.03.45
201367026.55.03.45
2014*60929.05.43.45
2015*61330.05.63.45
% change+1+3+4 nil

Normal market size: 7,500

Matched bargain trading

Beta: 0.8

*Credit Suisse forecasts (pre-tax profit and earnings, underlying figures for all years)

True, Shanks has done much self-help. It offloaded its loss-making UK solid waste business to Biffa last year - a move which it says should increase group pre-tax profit by around £3m a year. Alongside the exit from underperforming activities, Shanks is investing in areas of waste processing where it has an edge, such as handling hazardous waste and UK municipal waste contracts.

Shanks is also involved in cost-cutting in the Benelux solid-waste operation. It sold the division's head office and delivered €6m (£5m) of savings in the first half. So, while revenues in that division dropped 7 per cent, trading profit rose 7 per cent to €12.5m. Shanks says the full-year cost saving benefit should be €10m. But the rate of extra savings will tail off from then on, with €9m of annualised savings targeted by 2016.

Net debt remains relatively high, although the proceeds from the UK solid waste sale and tight control of working capital control got net debt cut £30mm from debt in the final quarter of 2013. So Shanks says its ratio of net debt to gross cash profits should be "comfortable" by the year-end. The company also renegotiated its core banking facilities in January, which means its funding needs are met for the next five years.