Aim-traded Skelmersdale-based Flowtech Fluidpower (FLO:116.5p), the UK's leading specialist supplier of technical fluid power products, has delivered a 7 per cent rise in first-half operating profit to £6.1m on revenue up in mid single digits to £59.6m, much as analysts had predicted. Half the revenue growth was organic, with the balance driven by the March 2018 acquisition of Balu, a Leicester-based fluid power equipment distributor.
Borrowings have been reduced by £1.1m to £18.8m since the end of 2018 and that was after settling £1.6m of earn-outs on past acquisitions, a reflection of a much improved cash flow performance. Indeed, tighter working capital management has led house broker Zeus Capital to cut its year-end net debt forecasts from £19m to £17m, and has reduced them sharply to £9m at the end of 2020. That’s good news for the dividend as the board raised the half-year payout by 5 per cent to 2.13p a share, representing a third of the 6.4p a share full-year estimate of Zeus.
The major issue being that the directors have guided down full-year pre-tax profit forecasts to the range £10.8m to £11.2m, having experienced a period of reduced sales activity over the summer due to Brexit-induced nervousness in the UK and Ireland. Prior to the half-year results, Zeus had been forecasting a pre-tax profit of £12.1m, up from £10.7m in 2018.
Moreover, while Flowtech’s bias towards servicing maintenance, repair and overhaul (MRO) markets offers some defence against significant setbacks, a “return to organic growth will be suppressed until the political situation is resolved”. The directors expect little in the way of sales growth for the remainder of 2019 and believe that “current conditions are likely to persist well into 2020 before returning to long-term growth trends”. Flowtech’s main distribution business offers more than 100,000 individual product lines to more than 80,000 industrial MRO end-users in the UK and Benelux through a network of around 5,000 distributors and resellers. It also has a power motions controls (PMC) division that designs, assembles and supplies engineering components and hydraulic systems.
Analysts have taken the hint and now expect relatively flat earnings per share (EPS) of 14p for the full year and have downgraded 2020 profit forecasts by a similar amount in 2020. That still implies growth in pre-tax profits to £11.8m on flat revenue of £115m in 2020 to produce EPS of 15.4p and support a dividend per share of 6.7p, the improvement being driven by cost initiatives rather than top-line growth.
The directors are doing the best they can in challenging market conditions, but my concern is that these conditions could deteriorate further, so leading to earnings downgrades in 2020. Admittedly, with the shares priced on a price/earnings (PE) ratio of 8.5 and offer a 5.4 per cent prospective dividend yield for the 2019 financial year, investors are not expecting much in the way of profit growth next year even if analysts are. However, the economic backdrop both domestically and across Continental Europe has deteriorated, and I feel that adopting a cautious approach is best at this point of the cycle as the trading environment could easily get worse.
I last advised buying the shares, at 118.5p, at the time of the annual results in April (‘Flowtech’s focus on return on capital’, 23 Apr 2019), having first recommended buying them, at 118p ('A fluid performance', 2 Jun 2014), since when the board has paid out total dividends per share of 27.54p. Flowtech's share price had made headway since my last article, but dropped 7 per cent on results day to 116.5p, still almost 30 per cent above my break-even point of 90p on the holding. The high dividend yield and low earnings multiple should offer share price support, but the rerating I was looking for now looks unlikely. In the circumstances, take profits.
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