Isle of Man-based Strix (KETL:293.5p), a global leader in the manufacture and design of kettle safety controls and one with strong relationships with global original equipment manufacturers (OEMs), has issued a bullish annual meeting trading update.
It’s been well received, with the shares, at 294p, trading close to April’s all-time of 301.5p, up from 233p when I last suggested buying (‘Simmering up for a strong second half performance, 24 September 2021). For good measure, the board nudged up the annual dividend to 7.85p a share, taking the total payout to 24.45p a share since I first recommended buying at 100p, in my pre-IPO analysis four years ago (‘Tap into a hot IPO', 7 August 2017). The ongoing re-rating is fully warranted, and has further to run.
Five drivers of a chart break-out
Firstly, the business bounced back strongly in the second half of last year as lockdown conditions eased, so much so that 2020 pre-tax profit edged up to £30.9m on slightly lower revenue of £95.3m, reversing a 12.5 per cent first half Covid-19 impacted decline. Importantly, the directors confirm that the improved trading performance has continued into 2021 and anticipate reporting around 30 per cent revenue growth, better than analysts currently forecast.
True, last autumn’s earnings accretive complementary acquisition of Vicenza-based LAICA underpins a chunk of forecast sales growth, but analysts at Zeus Capital estimate that organic revenue is still set to grow by 12 per cent. The Italian company focuses on water purification (water jug filters, water dispensers, bottle and coffee machine filters) and the sale of small household appliances for personal health and wellness.
Strix’s management identified cost savings from optimising manufacturing facilities and utilising their research & development capabilities, so adding a further driver of profit growth. They are also generating cross-selling and up-selling opportunities across the extended client base, and boosting LAICA’s global footprint, too, so much so that LAICA has delivered 20 per cent revenue growth in 2021. New product launches in the water category are also driving sales growth including GlaSSmart (instant water filtering bottle), tap filters and the MyLAICA sports bottles.
Secondly, the group’s high-margin regulated kettle controls business continues to perform strongly and has a robust order book. Importantly, Strix has proactively passed on higher raw material input prices through increased prices, highlighting the resilience of the patent protected business. Ongoing automation efficiency gains has protected profit margins, too.
Thirdly, Strix’s HaloPure clean water solution (offers lead reduction and patented bromine technology, that kills bacteria and viruses) continues to gain wider recognition in the market. Coupled with the enhanced new product roadmap from LAICA, it is enabling Strix to offer improved quality drinking water to both the consumer and agriculture markets. In addition, HaloPure’s technologies complements Strix’s existing Aqua Optima product range, and is helping the group expand distribution of water filtration products into China, which represents a large market to support further growth in the Aqua Optima brand outside of the UK. Two further contracts have just been secured with a regional government owned livestock company in China which owns more than 40 farms in three provinces.
Fourthly, the directors are “actively seeking opportunities that will add value across the group through niche acquisitions or technologies”. They have already proved their expertise at buying wisely. For example, LAICA was purchased for an initial consideration of €19.6m (including €8m worth of shares), or 6.7 times LAICA’s 2019 cash profits. A maximum cash earn-out of €12m is subject to LAICA hitting profit targets for 2021 and 2022, thus incentivising the vendors. With net debt forecast to end 2021 at £40.3m, representing less than one times forecast cash profit of £43m, Strix’s balance sheet is strong enough to fund further earnings accretive bolt-on acquisitions.
Fifthly, analysts at joint house broker Zeus point out that Strix “alludes to achieving more than 30 per cent revenue growth this year, suggesting organic growth could be higher than our 12 per cent estimate, and that LAICA’s contribution might be stronger than the 20 per cent growth forecast.” The implication being that the risk to Zeus’ full-year pre-tax profit estimates of £34.6m, which factors in 12 per cent year-on-year growth, is skewed to the upside given that it is ‘only’ based on 28 per cent higher revenue of £122m.
Ratings discount set to narrow further
The bottom line is that although Strix’s shares trade on a 2021 price/earnings (PE) ratio of 18.6, and offer a prospective dividend yield of 3 per cent, the forward rating is still well below that of a cohort of other specialist engineering UK-listed businesses that includes Halma (HLMA), Rotork (ROR) and Genuit (GEN). Indeed, the 11 specialist engineering companies in Strix’s peer group have an average 2021 PE ratio of 25.2 and prospective dividend yield of 1.2 per cent.
A narrowing of the valuation gap looks in order especially as Strix has scarcity value, a dominant market share and makes operating profit margins of 30 per cent from its heavily patent protected products, a level of profitability that’s the envy of peers. The earnings risk is also skewed to the upside. My new target price of 330p is based on a target 2021 PE ratio of 21. Buy.
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