Investors’ Chronicle: Cohort, Ocado, Brickability

BUY: Cohort (CHRT)

The Aim-listed defence technology business has seen the benefit of increased orders in the UK market, writes Michael Fahy.

Cohort is showing signs of progress. Top-line growth of 33 per cent was attributed to a “significant uplift” in orders from the Ministry of Defence (MoD), particularly for its MCL business, which provides communications and surveillance technology. 

The revenue Cohort generated from the MoD increased by 50 per cent last year, to just below £100mn. It now earns 54 per cent of revenue domestically, which it described as “a marked change” to recent years, where the proportion of revenue earned at home has generally been falling. 

This growth fed into higher adjusted net profit, which grew by 23 per cent to £19.1mn, although margins were weaker across both its communications and intelligence (C&I) and sensors and effectors (S&E) units. 

In the C&I arm, where adjusted operating margin fell by 40 basis points to 17.3 per cent, this was due to ongoing delays in the Portuguese Navy’s ship procurement programme, which meant Cohort’s EID business posted a “small” operating loss. It expects orders from this to flow more freely this year. 

In S&E, the margin fell by 110 basis points to 9.7 per cent, with its ELAC business not generating as much profit because a contract to provide sonar equipment on new submarines for the Italian Navy is still in the design phase, although again profits should improve once production kicks off. There were also signs of improvement in its previously underperforming Chess surveillance equipment business. Finance director Simon Walther said he expects the S&E margin to recover over the next three to five years to around 14-15 per cent. The C&I margin will remain in the high teens, he added.

Encouragingly, orders grew at a faster pace than revenue, and with a further £60mn of orders since its April year-end around 90 per cent of this year’s forecast sales are now covered. Broker Shore Capital expects earnings per share to weaken slightly this year, by around 1.4 per cent to 36p, as the company steps up capex to replace a leased facility in Germany with its own factory. Yet, even with a 10 per cent post-results rise, Cohort’s shares trade at 13.6 times earnings, marginally below their five-year average.

SELL: Ocado (OCDO)

The retail and technology company’s losses widened despite sales growth, writes Christopher Akers.

Ocado shares were boosted by a third on June 22 after media rumours of takeover interest hit the market, with talk of potential involvement from Amazon.

Given the subsequent denial from the technology giant, and no mention of any bid in these half-year results from Ocado’s management, the uplift seems to have been built on flimsy foundations. Shore Capital’s head of consumer research, Clive Black, said that the episode, which swayed investors “to buy into a bid story that does not exist, does not reflect well all round”.

The shares rose by 17 per cent on the back of these results, as adjusted cash profits turned positive and management kept full-year guidance steady, but they are more than £20 apiece below the highs seen during the pandemic, with no obvious catalysts for getting back to such a level.

Indeed, the results emphasise that the business remains one that has promised much but has failed to deliver. Despite growing its revenues through higher retail prices and more technology fees, higher costs — which included a £70mn increase in exceptional items — damaged Ocado’s bottom line.

In the key retail division — a joint venture with Marks and Spencer — the 5 per cent revenue uplift was driven by an 8.4 per cent increase in selling prices and a 10.6 per cent uplift in active customer numbers, as cost of living pressures led to a 6.3 per cent contraction in basket size.

An easing of food inflation could potentially tempt some customers back from the discounters, but the rate remains highly elevated. According to Kantar, UK grocery price inflation fell by 1.6 percentage points to 14.9 per cent in the month to July 9.

The technology solutions side of the business is the most interesting and is what differentiates Ocado from competitors. The company’s robots race around “customer fulfilment centres” sorting out orders. Sales in the division were up 59 per cent to £198mn, with international clients including US retailer Kroger, Japan’s AEON and South Korea’s Lotte. But only two fulfilment centres went live in the half, and delays with opening new centres with Coles in Australia don’t inspire confidence. Elsewhere, logistics revenues rose by 1.7 per cent to £335mn. 

RBC Capital Markets analysts concluded that Ocado’s midterm targets “appear ambitious” and pointed to the limited chance of material new international deals and a pricey valuation as other risk factors.

An uncertain cash flow outlook, higher net debt and weak margins keep us bearish.

HOLD: Brickability (BRCK)

The building products group’s board is sticking to guidance targets despite market softness, writes Michael Fahy.

When compared with peers, Brickability looks like an island of calm in an ocean of tumult.

As peers have warned about weakening earnings given the housing market slowdown, the building products group posted a solid set of results and remained upbeat about its prospects of hitting expectations in its current year, for which house broker Cenkos Securities is forecasting only a slight (1.8 per cent) decline in adjusted pre-tax profit to £39.6mn.

In theory, Brickability should have been more vulnerable to a downturn than brickmakers such as Forterra and Ibstock, given that it imports bricks and therefore incurs additional transportation costs. Forterra said last week that while demand for bricks had slumped by around 31 per cent in the first five months of the year, imports had fallen at a faster rate.

Yet Brickability chair John Richards argued that brick imports, which made up 20 per cent of the market last year, have some defensive qualities. Most bricks made in UK factories are wire cut but planners in many parts of the south of England insist on the use of bricks moulded from soft mud to blend with the vernacular. These make up around 90 per cent of imports.

“Unless planners suddenly have a change of heart . . . that would still give [imports] a good foundation,” Richards said.

Moreover, despite its name, Brickability has been diversifying via acquisitions since its August 2019 IPO, with the Taylor Maxwell timber and facades business bought two years ago being the biggest. Although it proved to be a slight drag on margins as timber prices fell, these deals have reduced the company’s reliance on the housing market. Brickability derived 80 per cent of its revenue from housing at the time of its float, but this has since fallen to 50 per cent, Richards said.

Higher mortgage rates have weighed on prices across the sector and Brickability’s shares now sit close to a two-year low, some 15 per cent below their listing price. Cenkos argued in a note that they “remain fundamentally undervalued”, given a forward price/earnings ratio of 5.5 and an anticipated dividend yield of 6.2 per cent. The shares also trade at a 50 per cent discount to peers, according to FactSet.

This looks like great value to those who believe in the long term prospects of the UK’s housing market, but in the short term the risk is demand will remain subdued and earnings potential under pressure.