carclo-foto-02012019

Looking to wider horizons

Carclo 22 June 2016 Update

Carclo

Looking to wider horizons

Full year results

Tech hardware & equipment

22 June 2016

Price

162.75p

Market cap

£108m

Net debt (£m) as at 31 March

24.8

Shares in issue

66.2m

Free float

100%

Code

CAR

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

7.1

24.2

10.7

Rel (local)

6.1

23.4

18.5

52-week high/low

162.8p

110.2p

Business description

Carclo is a specialist in high-precision plastic moulding principally for healthcare, optical and automotive applications. Its two main end-markets are high-volume medical consumables and low-volume, very high-value automotive lens components, typically for supercars.

Next events

AGM

1 September 2016

Analyst

Anne Margaret Crow

+44 (0)20 3077 5700

Dan Ridsdale

+44 (0)20 3077 5729

Carclo is a research client of Edison Investment Research Limited

The FY16 results showed that the core businesses of Technical Plastics and LED Technologies are continuing to grow revenues and expand margins. Management talks with enthusiasm about driving Technical Plastics into exciting new production technologies, and in LED Technologies the win of a medium volume sports car programme could lead to a significant increase in revenues and profits in the medium term. However, in our view, the relative earnings multiples still do not fully reflect the quality and potential of these businesses.

Year end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

03/15

107.5

7.1

7.9

2.8

20.6

1.7

03/16

119.0

8.8

10.1

2.9

16.1

1.8

03/17e

124.3

10.1

11.2

3.0

14.5

1.8

03/18e

134.9

11.5

12.7

3.1

12.8

1.9

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Ahead of expectations

The full year results, published 7 June, came in ahead of our expectations in terms of revenue and underlying EPS, and in line at the net debt level. Revenue was £119.0m vs Edison’s estimate of £111.3m, underlying EPS was 10.1p vs Edison’s estimate of 9.5p and year-end net debt was £24.8m vs Edison’s estimate of £24.9m. The main driver of the outperformance was the LED Technologies division. The clear message of the results and the statement was that the core businesses are growing strongly and are positioned to continue to do so.

Small products and big opportunities

Although the figures were good, it was more encouraging to see the results presentation focused on the exciting opportunities in the core markets. In Technical Plastics the discussion was about the potential within micro-moulding and prototyping, with the prospect of both organic and acquisition driven growth. In LED Technologies the win of a medium volume (approximately 30,000 units pa) sports car lighting programme, potentially generating, we believe, £4-6m in revenues a year in 2020 and beyond, is a move into an area that could dramatically change Carclo’s long-term value.

Valuation: Not trading as the growth stock it is

The earnings multiple discounts that Carclo trades at compared to Victrex and Gooch & Housego persists, and its multiples are still more in line with those of TT Electronics and Zytronic, despite Carclo’s clearer and more consistent growth story. Applying the FY17e average P/E multiple (18.9x) of the established growth story comparators to our adjusted FY17 EPS estimate yields a value of 210p, c 30% ahead of the current share price. Although we think that discounts are merited, we view the current discounts as too great. Further delivery on expectations and greater market understanding of the opportunities could well drive a re-rating.

Segmental performance

Technical Plastics

In FY16 Technical Plastics (CTP) grew revenues by 9.6% to £70.5m and this generated an improvement in operating profits of 15.7% to £5.8m, with a shift in operating margins from 8.3% to 8.8%. We expect this improvement in operating margins to continue in FY17 and FY18, driven mainly by efficiencies rather than simple operational gearing. There is typically a lag at CTP between taking on new products and then seeing gains from efficiencies in their manufacture.

The second half saw the completion of the Taicing facility in China, which is now fully operational, and management is pleased with the levels of production efficiency already being achieved. It therefore remains confident of the potential for this facility to win business with existing and new international customers for the supply of products into China.

At 76% of revenues, the healthcare market dominates CTP’s revenues and management intends to increase this exposure. Two opportunities identified are micro-moulding and prototyping. Micro-mouldings are, as the name implies, very small plastic products, typically with overall dimensions of less than a few millimetres, that are increasingly finding applications within invasive surgery. Prototyping is the specialist area of limited production run moulding, and management sees potential here with early stage healthcare products, with the expectation that approval and widespread adoption of the product could lead to winning the contract to make the items in volume.

Management stated that it intends to actively develop in these areas, suggesting that while it will probably develop micro-moulding skills in house, prototyping capabilities may have to be acquired.

LED Technologies

LED Technologies generated revenues of £40.5m and operating profits of £5.4m, growth of 18.8% and 20.7% respectively. This was driven by the strong flow through of the supercar and premium luxury vehicle project wins seen in recent years at WIPAC, although it should not be forgotten that the Optics business area (approximately £10m revenues) also showed double-digit percent revenue growth.

At the interim stage, management had alluded to the potential of the ‘mainstream’ luxury market and these results included the news that in the second half of the year WIPAC won a programme for a higher-volume car with volumes of over 30,000 vehicles a year due for launch in late 2019. WIPAC had historically shied away from such business. Management now believes that, with the technological, service and production skills that it has developed, this market could add significant value to the group. Key factors in this decision have included the extra purchasing leverage that Carclo believes it can attain via greater volumes, and the fact that in order to achieve better pricing, the major high-end brands bundle their lighting component supply programmes for high-end models in with their high-volume model supply programmes, a practice that has led to some dissatisfaction on the part of those responsible for designing and manufacturing the premium models. Management believes that there is a significant number of similar opportunities across the sports and higher-volume luxury markets.

Although the revenues for early design, development and tooling stages for the medium-volume programme will be broadly similar to a supercar lighting programme, the ongoing manufacturing revenues from the programme post vehicle launch will be significantly greater, in the range of £4-6m a year. However, the cash flow profile will lag somewhat and this will put some pressure on working capital and therefore net debt levels. WIPAC will book revenues for work done, but unlike supercars Carclo will not get paid until the start of the tooling stage, which is typically 18-24 months after the start. The major impact on both revenues and profits will only be seen in FY20. Therefore, the impact of this programme upon short-term estimates is limited other than a short-term build up in debtors. Before then, of course, there could be further medium-volume programme wins.

Aerospace

Precision Engineering, now renamed Aerospace, had a better second half (H2 £3.3m revenues vs H1 £3.1m) and closed the year with Airbus, the major end customer, continuing to increase its production levels.

Carclo Diagnostic Solutions (CDS)

In May Carclo announced the decision to end further investment in Carclo Diagnostic Solutions (CDS). Having set out and followed a clearly defined path with regard to assessing the technology’s commercial viability, the board’s conclusion was that, although the technology and prospective applications were well received, the anticipated timescales and route to market challenges were not appropriate to Carclo, particularly given returns management foresees for resources invested in the core divisions of CTP and LED.

Forecasts and financials

We have adjusted our forecasts for FY17 following these results and have introduced forecasts for FY18.

Exhibit 1: Forecast revisions

Revenues (£m)

EBIT (£m)

PBT (£m)

EPS (p)

Debt (£m)

New

Old

Change %

New

Old

Change %

New

Old

Change %

New

Old

Change %

New

Old

Change %

FY17e

124.3

120.7

3.0%

11.8

11.6

1.7%

10.1

10.4

-2.9%

11.2

11.5

-2.6%

25.5

22.3

14.3%

FY18e

134.9

N/A

N/A

13.2

N/A

N/A

11.5

N/A

N/A

12.7

N/A

N/A

25.5

N/A

N/A

Source: Edison Investment Research

We have edged up our revenues estimate mainly because of the stronger performance of LED Technologies, while the negative movement in PBT is due to the increase in finance costs associated with the increase in the IAS 19 charge on the pension deficit, which increased from £9.7m to £19.0m in FY16. In cash terms, the annual recovery payment is still £1.2m, as agreed with the trustees in October 2015.

The most significant change is in the net debt estimate. We now forecast net debt will remain broadly stable over the next few years. As noted above, a key suppressive effect on ‘normal’ cash generation is the expected increase in working capital within WIPAC, primarily associated with the higher-volume vehicle programme win.


Valuation

In our initiation note in June 2015, we examined Carclo’s valuation on a simple multiples-based approach and found that on an earnings multiples basis, Carclo was trading at broadly similar multiples to what could be described as the ‘jury’s out’ comparators (TT Electronics, Zytronic and Volex) and at discounts to more established growth stories (Laird, Gooch & Housego and Victrex).

The turmoil at Volex has meant that it is no longer a relevant comparator, but Carclo still only trades on multiples in line with or slightly ahead of Zytronic and TT despite the clearer and more consistent growth story.

Even though Carclo has demonstrated further growth in revenues and profits at its core divisions and is poised to move into new growth markets within both Technical Plastics and LED Technologies, the discounts to Gooch & Housego and Victrex remain. We believe that Laird has seen a de-rating in recent months due to its smartphone exposure and so may no longer be quite as appropriate as a consistent growth and quality story comparator.

Applying the FY17e average P/E multiple (19.2x) of the established growth story comparators, excluding Laird, to our adjusted FY17 EPS estimate yields a value of 210p, c 30% ahead of the current share price. Although we think that a certain level of discount is merited, we view the current discount as too great. Further delivery on expectations and greater market understanding of the opportunities could well drive a re-rating.

Exhibit 2: Comparator earnings multiples

Share price
(p)

Market cap
(£m)

EV
(£m)

Year end

EV/EBITDA
Y1 (x)

EV/EBITDA
Y2 (x)

P/E
Y1 (x)

P/E
Y2 (x)

Carclo

162.5

108

132

Mar-17

7.9

7.3

14.5

12.8

Growth & quality story

Laird

324

880

1,080

Dec-16

9.1

8.4

13.0

11.4

Gooch & Housego

902

217

205

Sep-16

12.0

11.4

22.3

21.1

Victrex

1,450

1,240

1,195

Sep-16

10.4

9.6

15.4

14.2

Average (ex Laird)

11.2

10.5

18.9

17.6

Jury's out

TT Electronics

144

234

290

Dec-16

5.8

5.4

14.6

12.7

Zytronic

335

52

43

Sep-16

7.1

7.1

12.9

12.5

Average

6.4

6.2

13.8

12.6

UK comparator average

8.9

8.4

15.6

14.4

Source: Thomson Datastream, Edison Investment Research. Note: Prices as at 21 June 2016.

Exhibit 3: Financial summary

Year end March

£000s

2014

2015

2016

2017e

2018e

IFRS

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

97,267

107,503

118,974

124,334

134,917

Cost of Sales

0

0

0

0

0

EBITDA

 

 

10,220

11,402

13,840

16,018

17,383

Operating Profit (before amort. and except.)

6,551

7,789

10,034

11,818

13,183

Intangible Amortisation

0

0

0

0

0

Exceptionals

(520)

(31,668)

(4,857)

0

0

Other

0

0

0

0

0

Operating Profit

6,031

(23,879)

5,177

11,818

13,183

Net Interest

(1,260)

(666)

(1,282)

(1,700)

(1,700)

Profit Before Tax (norm)

 

 

5,291

7,123

8,752

10,118

11,483

Profit Before Tax (FRS 3)

 

 

4,771

(24,545)

3,895

10,118

11,483

Tax

(1,179)

1,772

(1,708)

(2,732)

(3,100)

Profit After Tax (norm)

4,075

6,068

6,687

7,386

8,382

Profit After Tax (FRS 3)

3,592

(22,773)

2,187

7,386

8,382

Average Number of Shares Outstanding (m)

65.8

66.2

66.2

66.2

66.2

EPS - normalised (p)

 

 

6.1

7.9

10.1

11.2

12.7

EPS - normalised and fully diluted (p)

 

6.1

7.9

10.1

11.1

12.7

EPS - (IFRS) (p)

 

 

5.5

(33.2)

3.3

11.2

12.7

Dividend per share (p)

2.7

2.8

2.9

3.0

3.1

EBITDA Margin (%)

10.5

10.6

11.6

12.9

12.9

Operating Margin (before GW and except.) (%)

6.7

7.2

8.4

9.5

9.8

BALANCE SHEET

Fixed Assets

 

 

86,686

66,065

66,660

69,160

71,660

Intangible Assets

45,994

26,000

20,257

20,957

21,657

Tangible Assets

35,657

31,721

36,597

38,397

40,197

Investments

5,035

8,344

9,806

9,806

9,806

Current Assets

 

 

46,263

49,362

59,635

61,562

65,759

Stocks

13,363

13,440

15,596

16,351

17,743

Debtors

21,136

24,367

26,647

28,614

31,419

Cash

11,764

10,855

16,692

15,897

15,897

Other

0

700

700

700

700

Current Liabilities

 

 

(34,182)

(27,515)

(33,428)

(33,856)

(35,623)

Creditors

(22,307)

(21,802)

(22,732)

(23,160)

(24,927)

Short term borrowings

(11,875)

(5,713)

(10,696)

(10,696)

(10,696)

Long Term Liabilities

 

 

(24,211)

(46,559)

(60,000)

(60,000)

(60,000)

Long term borrowings

(17,569)

(29,660)

(30,746)

(30,746)

(30,746)

Other long term liabilities

(6,642)

(16,899)

(29,254)

(29,254)

(29,254)

Net Assets

 

 

74,556

41,353

32,867

36,866

41,795

CASH FLOW

Operating Cash Flow

 

 

5,627

3,549

13,933

13,524

14,754

Net Interest

(641)

(650)

(877)

(2,200)

(2,200)

Tax

(753)

(712)

(1,253)

(2,732)

(3,100)

Capex

(10,942)

(7,912)

(9,577)

(7,500)

(7,500)

Acquisitions/disposals

0

0

0

0

0

Financing

(493)

103

20

0

0

Dividends

(1,674)

(1,752)

(1,821)

(1,887)

(1,953)

Net Cash Flow

(8,876)

(7,374)

425

(795)

0

Opening net debt/(cash)

 

 

9,178

17,680

24,518

24,750

25,545

HP finance leases initiated

0

0

0

0

0

Other

374

536

(657)

0

0

Closing net debt/(cash)

 

 

17,680

24,518

24,750

25,545

25,545

Source: Carclo, Edison Investment Research

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