Zotefoams pads out profit margin

There was a lot to like in the numbers that Zotefoams (ZTF) presented to investors for 2022. Operating profit rose by 71 per cent to £13.9mn, which was 20 per cent higher than its previous peak achieved in 2018.

The foam maker attributed this to “much improved” margins – its group-wide gross margin widened by 400 basis points to 30.4 per cent and its operating margin rose to 10.9 per cent from 8 per cent.

The polyolefin foams business – the biggest part of the company, generating 55 per cent of revenue – grew by 25 per cent, which was wholly the result of higher selling prices. Overall volumes fell by 1 per cent, weighed down by weaker sales to continental Europe. The increased prices were a response to higher input costs, most notably low-density polyethylene, which peaked in May last year but still remains well above its long-run average. Other key input costs including energy and nitrogen rose by more than 50 per cent.

Its high performance products arm, which generates 43 per cent of revenue but most of its operating profit, increased sales of foams made in footwear exclusively for Nike by 25 per cent to £42.2mn, or 77 per cent of the division’s total. These foams are used in the sportswear giant's premium running shoes, with contract terms allowing Zotefoams to recoup cost inflation, albeit with a lag.

Its MuCell Extrusion arm that combines high pressure gases with polymers to reduce the volume of materials used remains lossmaking, however. Although the company remains bullish on the long-term prospects for lower carbon footprint packaging, it has yet to make this business pay and is now seeking a “strategic investor” to help share the risk, appointing an advisor in the US.

Despite the improvement in its performance, Zotefoams shares fell by 3 per cent. The company had trailed its improved performance in a mid-January trading update and with chief executive David Stirling predicting “more challenging conditions in the UK and continental Europe” (where it generates 11 per cent and 28 per cent of sales, respectively) such caution seems understandable.

Zotefoams’ shares are priced at 17.3-times house broker Singer Capital Markets’ forecast earnings of 19.5p for this year, well below their five-year average of 23.5-times. The shares look like good value on other metrics, too, but with the demand outlook far from certain we maintain our hold.

Last IC View: Hold, 449p, 10 Aug 2021