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Fenner gets belted

It’s still unclear whether the downgrade cycle is over for Fenner
June 9, 2014

What’s new

•Profit warning

•Weak US coal market

•Lost Australian order

IC TIP: Hold at 346p

Fenner’s (FENR) half-year results and a more positive tone from management hinted that a two-year cycle of earnings downgrades had ended. That optimism, however, has turned out to be premature, and a big profits warning from the engineer has severely knocked back the City's confidence.

Chief executive Nicholas Hobson told us in April that higher natural gas prices, dwindling stockpiles and demand from power stations during the US summer air-conditioning season would increase coal production and demand for Fenner’s conveyor belts. But apparently it hasn’t, and there seem to be “no prospects for imminent improvement” either, which means a slump in profits at ECS, the core conveyor belt division. What’s more, losing out on a contract Fenner was expected to win with an iron ore miner in Australia will wipe at least £2m off full-year forecasts.

In all, Fenner predicts underlying pre-tax profit for the year to August will be 10-15 per cent lower than current consensus expectations of £77.6m, implying new estimates of £66m-£70m. Meanwhile, business is improving in Australia - the contract loss aside - and the outlook for the smaller engineered products business AEP, which sells plastic seals, bearings and pipes to the oil and gas industry, "remains encouraging".

UBS says…

Buy. It's not time to give up yet. Our full-year pre-tax profit forecast drops to £67.3m and EPS estimates by 13 per cent to 23.2p. Estimates for 2015 and 2016 fall by 15 per cent and 12 per cent respectively, reflecting a cautious stance on any pick-up at ECS. We now assume no improvement in the US coal business, and only a limited recovery in Australia. Yet 2014 earnings will likely represent a trough. With improving trading in the Australian conveyor belt business and AEP, we think earnings can improve from here. A depressed valuation supports our buy rating and 420p target price.

Investec Securities says…

Sell. Fenner’s previous update outlined the need for additional North American coal orders in the second half to meet expectations. Given the sheer scale of this downgrade, it appears that their absence has not been the only problem. There is some M&A activity in mining equipment at the moment, but Fenner’s two big conveyor belting peers - ContiTech and Veyance (formerly Goodyear) - are merging. Fenner still looks overvalued, and we would steer well clear until the downgrade cycle, which has been going for almost two years, has ended.