Vodafone well placed to cope

THE INVESTMENT COLUMN

Vodafone claims to have been a victim of its own success, which is always a convenient gloss on stagnant profits in a booming market. In this instance, however, the mobile phone company would seem to have a point.

The most significant features of yesterday's full-year results were the high cost of attracting new subscribers to the network, an alarming rise in bad debts and fraud, and the near doubling of start-up losses in Vodafone's overseas ventures. All can arguably be seen as a necessary short-term price to be paid for long-term growth.

Vodafone, which with a market value of more than pounds 6bn is now one of the UK's 30 largest companies, has been a phenomenal success. It still leads the UK market - just - and, despite having only 2.5 per cent more subscribers than rival Cellnet, it generates 73 per cent more turnover and 170 per cent more profit.

In the year to March, sales pushed through the pounds 1bn mark for the first time, up 36 per cent to pounds 1.15bn, and management showed its confidence with a 20 per cent increase in the payout to 3.34p. Arguably that says more than the 2 per cent rise in pre-tax profits to pounds 371m.

Vodafone is certainly operating in an immensely exciting consumer market. Last year the company saw 644,000 net new subscribers taking it up to almost 2 million. By the end of the decade, 12 million Britons are expected to be carrying mobile phones.

After years as a business luxury, mobiles have made the break to commodity product. And if Britain follows Sweden and Finland, which have longer histories of mobile phones, the market will grow exponentially from here.

Other company-specific attractions include Vodafone's good spread of overseas interests, which the company believes will pass through break- even in the year to March 1997. Having lost pounds 63m last year, that will represent a sizeable boost to group profits.

Despite the inevitable fall in prices as the industry matures and a squeezing of margins as the domestic market takes over the running from business users, Vodafone, with its strong brand name, is as well placed as any of its three rivals to cope with the changing market.

How much of that is in the price, after a three-fold increase in the shares over the past five years, is open to debate. With earnings expected to jump this year as the impact of commissions and bad debts becomes less important, the shares, up 10p to 212.5p, stand on a prospective of 20.

That is a high price to pay but it would be surprising if exposure to one of the fastest-growing industries of the next decade came much cheaper, and US shareholders are likely to keep the rating on the boil.

Disappointing times for Meyer

Meyer International, owner of the Jewson builder's merchants chain and Britain's biggest timber importer, did not have a happy recession and the recovery is not looking much brighter.

The tentative rebound in the shares after last November's 44p one-day slide following a warning about falling margins at Jewson has been stopped in its tracks. Yesterday, they lost a further 12p to 307p as Meyer followed up with a triple-barrelled warning covering Jewson, the Forest Products import business and the US operation.

Announcing his first set of results yesterday - a pounds 10m rise in pre-tax profits to pounds 51.6m for the year to March - Meyer's newly installed chairman, Harry Langman, was forced to admit that difficult trading conditions meant any increase in profits this year "is likely to come from our own initiatives".

The disappointment is all the greater because John Dobby, chief executive, has spent the past few months laboriously restoring margins at Jewson to their former level. Sales for April and May are at the same level as last year, but Mr Dobby claims Jewson is in the same boat as the rest of the sector. Dependent for around two-thirds of sales on the repair, and improvement market, the business is sensitive to the number of housing market transactions.

The new-build market is also suffering from the gloom pervading the whole industry, with the annual growth rate of housing starts moving into negative territory for the first time since early 1993. That compares with almost 30 per cent 18 months ago.

But Jewson also looks to be suffering from taking its eye off the ball last year, when it suffered from over-concentration on low-margin direct sales to the new-build sector.

New management has already closed five loss-making outlets out of the 195 total. Meyer is banking on efficiency gains to improve on last year's operating profit of pounds 23.2m, up from pounds 20.7m before.

Forest Products, which raised profits from pounds 19.6m to pounds 23.1m, may fare worse. Timber prices are down 9 per cent so far this year, after a 10 per cent rise last, and continuing to fall, hitting sales and margins. The US business is slowing with the economy there.Shareholders are unlikely to be placated with the 6.5 per cent rise in the dividend to 11.5p, after a final of 7.3p. Reported profits may just creep ahead to pounds 54.5m this year, putting the shares on a prospective p/e of around 11. Even after the 40 per cent fall since last spring, that is high enough.

De La Rue still printing money

Investors in De La Rue, who once looked upon the company as literally a licence to print money, will have to get used to much slower rates of growth in the next few years.

There were no surprises in yesterday's annual results showing profits up 13 per cent to pounds 146.6m, which is just as well given the speed with which the company was stripped of its premium rating in March after it issued a profit warning.

What the figures confirm, however, is the difficulty of projecting returns from security printing when so much work springs from one-off contracts for countries caught in inflationary spirals or states that have decided to renew all issued banknotes.

De La Rue's days of capturing lucrative business from countries that have no printing facilities are also almost over. It commands a 60 per cent share of the countries that cannot print, which account for 13 per cent of the total world market.

De La Rue now has to pitch hard to win business in more developed countries. This is not going to be easy, despite its advances in building high-security features into banknotes. Most of the industrialised world relies on state printers, meaning that De La Rue is more likely to pick up low-margin royalty income from licensing security technology than high-margin printing contracts.

That is why the company launched its pre-Christmas pounds 682m acquisition of Portals, the world's biggest banknote paper maker. Cost savings from vertical integration will help to alleviate the pain of chasing lower- margin business at the sharp end of banknote production.

Despite the harsh reality of the trading outlook, De La Rue's balance sheet remains strong. The businesses are still throwing off cash, and the on-going disposal of Portal's unwanted bits and pieces will soon erase year-end gearing of 60 per cent.

That, however, is not enough to justify the current rating of the shares, down 14p to 913p. On the basis of profit forecasts of about pounds 172m, they stand on a prospective p/e of 16 and have little support from a forward yield of 3.4 per cent.