Carclo — Update 1 December 2016

Carclo has three divisions. Almost two-thirds of group revenues are derived from the Technical Plastics (CTP) division, which supplies fine-tolerance, injection-moulded plastic components, mainly for medical products. One-third of revenues are derived from the LED Technologies division, which designs and supplies specialist injection-moulded, LED-based lighting systems to the premium automotive industry. It also has a much smaller aerospace components division, which is highly cash generative and requires relatively low levels of investment. The group has exited from businesses (CIT and CDS) which, although potentially high growth, would require high levels of investment in the near term with no certainty of a return. It is investing instead in the CTP and LED Technologies divisions, for example acquiring PTD to enhance the capabilities CTP can offer.

Financials: Steady growth supported by investment

Group revenues grew by 11% year-on-year during H117 to £63.3m. This was the result of good growth in Technical Plastics, which was backed by capacity investment in prior years. Pre-exceptional PBT rose by 19% to £4.8m. At the interims, management stated that the company was on track to achieve expected growth for FY17. We expect the combination of expansion in capacity at CTP, growth at Wipac from the new programmes secured during FY16 and H117 and the PTD acquisition to drive continued revenue growth during FY17 (9%) and FY18 (8%).

We use a sum-of-the-parts calculation, as this ascribes a higher valuation to the proportion of profits attributable to sales of specialist products for healthcare and pharmaceutical applications. Applying a 10-15% discount to reflect Carclo’s relatively small market capitalisation gives an indicative valuation range of 148-156p/share (previously 144-152p).

Now that the group has exited from its high-risk/high-reward activities with the decision to close CDS in May 2016, Carclo is a substantially lower-risk proposition. While there is significant customer concentration in both CTP and LED Technologies, these businesses are built on long-term relationships and contracts plus a proven ability to deliver. The two largest financial issues for Carclo are the level of debt and the pension deficit. Although underlying cash generated by operations is strong, it is being consumed by investment in capacity and technology to support future growth (£3.6m gross H117) and supplementary contributions (£1.1m FY16) to reduce the pension deficit (IAS 19: £42.6m net at end H117). It is also adversely affected by the impact of currency movements on the retranslation of US$ and euro-denominated loans. Net debt increased by £2.8m during H117 to £27.6m at the period end. This is before the October placing, which had c £3.0m cash remaining after funding the initial consideration for PTD. Management notes that the group remains well within covenant requirements. The increase in the pension deficit caused by the collapse in corporate bond rates during H117 was sufficiently large to eliminate the company’s distributable reserves. This legally precludes payment of dividends, although we note that bond rates have risen significantly since September.

Carclo is a specialist manufacturing business that is built around the application of technology to plastics moulding. Management’s strategy is to develop and expand the key manufacturing assets in markets where there are significant further opportunities to drive shareholder value.

In realisation of this strategy, Carclo is focusing investment on the two divisions driving growth: Technical Plastics (CTP) and LED Technologies. CTP manufactures and assembles very high-volume items with the ultra-low fault rates required by the healthcare industry. It numbers 10 of the top 20 healthcare companies globally among its customers. LED Technologies designs, develops and manufactures LED-based lighting systems for luxury supercars from household names such as Aston Martin, Bentley and McLaren, and designs and develops optics for use in LED systems. These two divisions collectively generated 94% of H117 group revenues and 90% of operating EBIT. The aerospace components division (which is much smaller than the other two divisions) is highly cash-generative and requires relatively low levels of investment. Carclo has exited from operations which, although potentially high growth, would require high levels of near-term investment to realise a return. It announced its decision to exit from the CIT Touch and Printed Electronics businesses in March 2015 and from its embryonic Diagnostic Solutions business in May 2016.

The group employs more than 1,100 people across 10 sites. Management has been investing in lower-cost regions: China, the Czech Republic and India, partly to enhance profit margins and partly to produce healthcare consumables close to the market where they will be used.

CTP specialises in injection moulding and contract manufacturing services. Three-quarters of the division's turnover is from medical applications, with the remainder from electronics applications. Customers include Axis-Shield, Becton Dickinson, ConvaTec, NCR, Siemens and Vectura.

CTP develops and manufactures high-precision consumables for the medical, pharmaceutical, diagnostics and ophthalmic industries. These include pipette tips and cuvettes, reagent packs, point-of-care devices, inhalation devices, urostomy/ostomy disposables, devices used for drug delivery and in respiratory, surgical, gynaecological and dental care applications. The devices are required in very high volumes yet must have fault rates lower than one per 10 million or 100 million devices to eliminate the possibility of a misdiagnosis and also be contaminant free. The ability to meet these demanding requirements helps Carclo to achieve significant margins and high returns. It also means that once validation of Carclo’s processes is complete and manufacturing of a device has begun, customers are extremely unlikely to change to a different supplier.

CTP applies a wide range of coatings and treatments to the surface of plastic components to impart special properties, decoration, improved wear and increased performance. These include anti-scratch and anti-fog coatings, selective coating of functional areas only, hydrophobic and hydrophilic plasma treatments, metallisation and the application of silicone for lubrication. CTP’s customers are increasingly concentrating on their core competencies and selecting partners, which can assume greater responsibility in the manufacturing process. Consequently CTP has augmented its contract manufacturing services with inventory management, final assembly, packaging and distribution including direct ship programmes and shipping to numerous points of consumption.

CTP has seven locations in the UK, US (east and west coast), India, China and the Czech Republic. Its engineering structure and global operating systems allow it to work closely with customer design teams in their home geographic region and then transfer the equipment to the Carclo facility closest to the point of use or to a low-cost region. It also deploys a common manufacturing footprint for all its facilities. Combined with the global operating systems, this enables CTP to produce identical products in multiple geographic regions for multinational companies, producing devices close to the market where they will be used and giving customers the security of dual sourcing without the burden of dealing with multiple suppliers.

Carclo’s market position is described by management as that of a leader of a small group of mid-tier players. There are a couple of global majors, notably Gerresheimer and Nypro, which is part of the Jabil group, but they do not address the volume/precision mix that Carclo targets. Within the EU there are more local players, notably Sovrin Plastics in the UK which, in the view of Carclo’s management, lack the scale and resources to offer a global service in the way that Carclo can.

Divisional revenues rose by 25% year-on-year to £39.2m, driven by good customer demand in the UK and the US. Growth in the UK was helped by a new programme with Becton Dickinson. Growth in the US was driven by multiple new programmes made possible by investment in capacity at the site in Latrobe, Pennsylvania during FY15 and at Tucson, Arizona during FY16. The facility in Taicang,China, which was completed during H216, is performing well. Pre-exceptional EBIT grew by 37% to £3.5m.Operating margins increased from 8.0% to 8.8%, approaching management’s medium-term target of 10%, because of higher utilisation of the US and UK facilities. We note that there is typically a lag at CTP between expanding or opening facilities and seeing efficiency gains. There is a similar lag when taking on new products. The division derives most of its revenues from outside the UK and, therefore, exchange movements affect its financial results, with sales in H1 some £2m higher than at the previous year's rates. While foreign exchange contracts put in place before the EU referendum limited the benefit to profits from the drop in sterling during the period, the group expects to benefit from the retranslation of overseas profits in H2 if sterling rates remain at current levels.

Many of CTP’s North American and European medical device customers are reporting annual growth of between 4% and 7%. Growth in China is stronger, forecast by GlobalData to grow at 10.6% CAGR through to 2020. In response to customer demand, management continues to invest in additional capacity. This expansion is underpinned by existing customer awards, while creating space to secure new customers and product lines in the future. For example Carclo has begun the project to double the capacity of the facility in Bangalore to meet expected growth from its main customer. Management expect the project to be completed during the summer of 2017. The success of the strategy is demonstrated by the new facility Taicang, China. Having commenced production at the site in H216, production at the site of disposable medical device consumables for a global healthcare customer is ramping up to support demand. In addition, the facility is beginning to win business with existing and new international customers for the supply of products into China.

Noting the strong divisional growth during H117, we raise our FY17 divisional revenue estimate (which had already been adjusted to reflect the PTD acquisition) from £77.6m to £80.5m (14% year-on-year growth).We expect the improvement in operating margins to continue in FY17 and FY18, reaching management’s near-term target of 10% in H217. We expect this improvement to be driven mainly by efficiencies rather than simple operational gearing. We leave our divisional operating profit unchanged at present, but note the potential for upside if sterling rates remain broadly at current levels.

At 76% of CTP’s revenues in FY16, the healthcare market dominates divisional revenues. At the FY16 results, management stated that it intended to increase this exposure, potentially expanding the divisional offer to include micro moulding and prototyping capabilities, as this would enable CTP to offer a more integrated solution to its medical customers. Micro mouldings are, as the name implies, very small plastic products, typically with overall dimensions of less than a few millimetres. These are increasingly finding applications in invasive surgery. Prototyping in this context is the specialist area of limited production run moulding.

This objective was achieved in October through the acquisition of US-based PTD (please refer to the Financials section for details of the transaction). PTD is focused on toolmaking and production prototyping of lower-volume medical products including direct experience of manufacturing tools for micro moulding, thus ticking all the right boxes. In addition, PTD has very strong technical relationships with three of the global top 20 medical devices companies that were not previously Carclo customers. Management’s intention is that these customers will be encouraged to place orders for volume production with other parts of the Technical Plastics division. Conversely, Carclo will now be able to offer prototyping services to those customers to which it currently provides volume manufacturing services.

Wipac designs and manufactures exterior lighting products such as headlamps, rear lamps and exterior auxiliary lighting for top-of-the-range luxury supercars. The majority of these products use high-powered LEDs. Wipac currently has around 50 automotive lighting systems in production for car makers including Aston Martin, Audi, Bentley, Bugatti, Jaguar, Lamborghini, McLaren and Rolls-Royce. It also sells a variety of automotive products, primarily upgrade lighting, under the Wipac and Ultra brand names.

Premium car makers use the form and detail of their exterior lights to emphasise the character of their cars and ultimately to define their brands. Wipac’s design team works closely with the styling teams at premium car manufacturers from the earliest stages of a project. Wipac prides itself on its proven ability to create production lighting designs that mirror the original concepts. A combination of mechanical, optical, electronic and thermal design skills is required. Products need to meet ECE and SAE legislative requirements for headlight beams, while additional functionality offers improved safety and ergonomics for customers. Recent projects have included LED reversing lamps tuned to provide optimised illumination for rear parking cameras, LED Direction indicator optics with increased wide angle visibility and high-brightness LED additional emergency braking functions. Alongside these in-house capabilities, Wipac works closely with other optical and technology companies in the Carclo group.

Wipac operates from a 10,000 m2 purpose-built factory in Buckingham. The manufacturing facilities are fully integrated, with all key processes from clean room assembly to lens hard-coating, vacuum metalising and injection moulding and testing contained in the factory. This approach creates a quality-controlled and flexible production system that allows Wipac to successfully manufacture a wide range of low-volume but high-value lighting products. The lighting electronics are manufactured through a strategic partnership with a single, specialist electronics manufacturing company based in central Europe. This relationship enables it to achieve the flexibility, quality and traceability needed for production of advanced electronics in small batch sizes.

Carclo was the first company in the world to manufacture plastic lenses in the 1930s. It designs and develops injection-moulded optical components and assembled devices, which are manufactured by CTP. Products include proprietary lines of optics and reflectors for LED applications and passive infrared (PIR) lenses for motion detectors. It has also completed a number of bespoke solutions for large multinational luminaire manufacturers.

Although there are no other dedicated specialist high-end lighting suppliers to the automotive industry, Carclo sees competition from the majors in the form of Hella (HLE.XE) and AL, a subsidiary of Magneti Marelli, a privately owned Italian automotive component giant. Carclo’s management has stated that it believes it can offer a more tailored service to its high-end customers than these majors, while also being able to provide the reassurance that each customer will be provided with similar discretion, quality and service.

Divisional revenues declined by 3% year-on-year to £20.6m. This reflects the phasing of contracts for design, development and tooling. Given the extended visibility of programmes, management had anticipated a reduction in revenues, and had expected the drop to be slightly greater than it actually was. Divisional operating profit grew by 5% to £2.9m. Wipac was awarded multiple new vehicle programmes during the period including the Aston Martin DB11 grand tourer coupe, Bentley Bentayga ultra-luxury SUV, and McLaren 570S coupe. These wins, together with programmes awarded in prior years, put Wipac in a good position to deliver significant growth into the future. The LED Optics business experienced a strong first half.

Management is confident that the luxury and supercar sector will continue to provide Wipac with strong growth potential. A significant proportion of revenues is derived from the design and development phases and in general the brands with which Wipac is engaged continue to plan additional new vehicles. At this end of the market, the customer base is happy to purchase multiple vehicles if they are exciting enough rather than wait to replace an existing vehicle when needed, as is the case in the high-volume segment. Wipac is in a good position to benefit from these vehicle introductions. It secured all targeted new customer design wins during FY16, mainly UK supercar customers and German-owned luxury brands and including a new customer group. Management intends to make further investment to increase capacity to service these customers. The interim statement noted that all the current automotive programmes, including the one for a medium-volume vehicle (see below), were progressing as planned and that the Optics business had experienced strong demand for custom optics. Migration of some of the LED Optics manufacturing to the CTP site in the Czech Republic is expected to offset possible price erosion in this segment. Noting that all major programmes were on track at the interims, we leave our divisional revenue estimates unchanged, giving modest divisional revenue growth of 5.0% and 8.5% in FY17 and FY18 respectively.

Management intends to accelerate divisional growth by entering the medium-volume sports car and premium sector where volumes are in the range of 10,000 to 30,000 vehicles pa. Historically Wipac has avoided this sector. Management now believes that, with the technological, service and production skills it has developed, together with the extra purchasing leverage attributable to higher volumes, this market could add significant value to the group. During H216, Wipac won its first contract from this new sector, a programme to design and manufacture rear lamps for a new medium-volume vehicle. Commercial production of the vehicle is scheduled to commence in late calendar 2019.

Revenues from the early design, development and tooling stages for the medium-volume programme will be broadly similar to a supercar lighting programme. By contrast, manufacturing revenues from the programme post vehicle launch will be significantly greater than for a supercar, in the range of £4-10m a year, although this will not have a major impact on either revenues or profits until FY20. The programme will, however, have a significant impact on cash flow near term. Wipac will book revenues for the design phase but, unlike supercar programmes, Carclo will not get paid for this work until the start of the tooling stage, which is typically 18-24 months after the start of the programme. Therefore, the impact of this programme on our estimates is primarily a short-term build-up in debtors. From FY17 onwards, a higher proportion of revenues will be derived from manufacturing as a large number of lights that have been designed over the last two or three years move into production.

Management believes there are a significant number of other opportunities across the sports and medium-volume luxury markets because currently the major automotive brands use the same lighting components in medium-volume/luxury vehicles and high-volume/mass-market vehicles in order to achieve better pricing. Potential luxury car owners are not happy about this because they don’t want their expensive car to have the same lights as a budget model. Noting this opportunity, Wipac is targeting an average of one new medium-volume programme win each year and intends to extend the existing facility as contracts are awarded to accommodate this growth.

This segment was formerly called Precision Engineering. It is formed from two aerospace businesses: Bruntons Aero Products which is based in Musselburgh, Scotland and Jaccottet, which is based in Chartres, France. These manufacture a range of specialist components for the aerospace industry including control cables, specialist machined parts, aerofoil blading, streamline wires and tie rods. Products are sold to the aftermarket, OEMs and tier one suppliers.

Divisional revenues grew by 14% year-on-year to £3.5m and operating profits by 13% to £0.7m. This reflects the improvement in activity levels noted at the end of FY16.

The major end-customer, Airbus, is ramping up production, having set itself a target of delivering more than 650 aircraft to customers during 2016 compared with 635 in 2015. Its order backlog at end 2015 climbed to a new industry record of 6,831 aircraft. The spares market for components is steady with potentially large new spares programmes underway, giving good visibility for FY17. As demand for control cables decreases in the UK, Bruntons continues to switch towards precision machining OEM and spares components for the European civil aviation market. Noting the first half improvement, we raise our divisional FY17 revenue estimate by £0.4m to £7.0m and EBIT estimate by £0.1m to £1.4m. This gives a 10% year-on-year growth in revenues and a slight decline in operating margin to 20.0% (20.8% FY16), reflecting the shift away from the manufacture of control cables to precision machining.

The division is relatively stable and highly cash generative, so management sees little reason at present to dispose of it simply because of the lack of synergies with the rest of the group. Indeed, management continues to actively seek out new business for Precision Engineering and to invest in new equipment when required.

Carclo Diagnostic Solutions (CDS) was set up to commercialise Carclo’s innovative, disposable point-of-care platforms based on microfluidic technology. In May 2016 Carclo announced the decision to end further investment in the business, running at £1.4m in FY16 (included in unallocated costs). Having set out and followed a clearly defined path with regard to assessing the technology’s commercial viability, the board concluded that, although the technology and prospective applications were well received, the anticipated timescales and route to market challenges were not appropriate for Carclo, particularly given the returns management foresees for resources invested in the CTP and LED divisions. The decision is expected to incur a closure expense of c £0.5m (cash and non-cash items) during FY17. (A £4.9m non-cash impairment cost was incurred during FY16.) Some key resources of CDS have been integrated into CTP, giving the potential to sell or license the CDS IP where appropriate. We treat this as upside.

Management closed the CIT Touch and Printed Electronics businesses during FY16. The closure does not have any impact on FY17 performance.

Carclo has an experienced and established management team. The key executive directors are CEO Christopher Malley and CFO Robert Brooksbank.

Christopher Malley joined the group in May 1999 and was appointed to the board on 1 July 2012. He was appointed as CEO with effect from 27 March 2013. Christopher is a chartered management accountant and, before Carclo, worked in a number of roles at Jefferson Smurfit Group. In Carclo, he has held senior positions in finance, corporate development and general management.

Robert Brooksbank joined the group on 1 April 2004 as finance director. He is a qualified chartered accountant with a background in both financial and operational management in manufacturing and energy businesses.

Reliance on major customers: one CTP customer accounted for 19.3% of FY16 group revenues and one LED Technologies customer 14.5%. These relationships are long term and since customers would incur significant costs qualifying programmes with alternative suppliers, they are unlikely to switch vendor unless there is a major problem. Additional capacity within CTP has enabled it to broaden the customer base and expand the range of components manufactured for individual customers, reducing operational risk.

Exchange rates: Carclo has a significant proportion of revenues and costs denominated in non-sterling currencies – principally to the euro but also to the US dollar, renminbi, Czech koruna and Indian rupee. By matching revenues and costs, management attempts to reduce the transactional exposure so that the overall mismatch exposure on this basis is small in relation to total group revenues. With regard to balance sheet-related exposure, management hedges the overseas assets with equivalent local currency borrowing. So far in FY17, weakness in sterling is expected to result in an increase in debt as US$ and euro-denominated medium-term loans are retranslated to sterling. On the other hand, the group is expected to benefit from the retranslation of overseas profits. We are treating this potential benefit as upside to our estimates.

Pension scheme: management has gone to some lengths to reduce the potential impact, either positive or negative, of movements in the value of assets and liabilities. However, the current levels of corporate bond yields resulted in a significant increase in the IAS 19 calculation of deficit in September 2016, legally precluding the distribution of dividends. This is discussed in the financials section.

Group revenues grew by 11% year-on-year during H117 to £63.3m. This was the result of strong growth in both the core businesses: CTP and LED Technologies. Pre-exceptional EBIT rose by 19% to £5.6m with underlying operating margin rising by 62bp to 8.8%, getting closer to management’s medium-term target for CTP of 10%. Financing charges increased by £0.1m to £0.7m because of an increase in the non-cash charge (£0.4m H117 vs. £0.2m) relating to the IAS 19 pension deficit. Pre-exceptional PBT rose by 19% to £4.8m.

We revise our estimates to reflect:

The revisions give group revenue growth during FY17 of 9% and 8% during FY18. This is underpinned by the combination of expansion in capacity at CTP, especially in China, and growth at Wipac from the new programmes secured during FY16. The improvements in operating margins modelled for the two core businesses result in a 1.0pp rise in group operating margin to 9.4% in FY17, followed by a 0.8pp rise in FY18 and 0.6pp in FY19 to 10.8%. This is in line with management’s medium-term target of mid-teens operating margin.

Given the positive trading situation outlined in the interims, profit growth is expected to easily outstrip the 3% increase in the dividend payout during FY17, which management had originally planned. However, the collapse of corporate bond rates post the EU membership referendum led to an increase in the IAS 19 pension deficit at end H117 (£42.6m net). This eliminates the distributable reserves, thus preventing the company from paying the final dividend for FY16. If this situation continues, management is legally prevented from making dividend payments in future periods until reserved earnings have built up sufficiently. Our DPS estimates, which we revised in August to reflect this, show payment of only the interim dividend (0.9p) in FY16 and no dividend payments in either FY17, FY18 or FY19. Noting an improvement in bond yields since the end of September, it is possible that the dividend may be reinstated at some point during the forecast period (see below).

Net debt increased by £2.8m during H117 to £27.6m. Management had expected net debt to rise slightly as the cash generated by operations was consumed by working capital to support growth and capex, primarily for CTP’s UK and US businesses. In the event, the increase in net debt was higher because of the timing of a large tooling invoice in CTP just before the period end and the negative impact (£1.3m) of weaker sterling on the retranslation of the group’s dollar and euro-denominated borrowings. The debt position was improved following the period end by the placing in October. This raised £7.7m (net) at 120p/share. An estimated £4.7m (including working capital adjustment) of this was used to finance the initial consideration payable for PTP. Most of the remainder has been used to repay part of the group’s medium-term loan facility. Management expects that net debt will reduce by end FY17 and notes that the group has total bank facilities of £41.0m and has good headroom on its main banking covenant limits. The gearing at end H117 is artificially high at 161% because of the negative impact the pension liability has on net asset value. Interest cover was a comfortable 7.7x.

Our estimates show debt reducing slightly to £24.3m at end FY17. This reflects an increase in the value of US$ and euro-denominated loans when retranslated, the increase in inventories linked to revenue growth, the increase in debtors related to the mid-volume vehicle programme and continued investment in facilities expansion as described above. Looking further forward, the continued investment in capex (£7.5m in FY17, £10.0m in FY18 and £7.5m in FY19) is expected to drive increased profits, supporting a decrease in net debt to £18.9m at end FY19.

Management notes that the discount rate used to calculate the assets and liabilities related to the pension scheme reduced from 3.5% at the end of March 2016 to 2.3%. During H117 the deficit, as calculated under IAS 19, increased from £18.9m to £42.6m, net of deferred tax. As advised by management in September, when the discount rate had dropped to a low of 2.1% following the EU referendum vote, the scale of the deficit eliminated the available distributable reserves making dividend distribution legally impossible. The FY16 report and accounts states that each 0.25% pa decrease in the discount rate increases the scheme liabilities by £6.9m. As bond yields have already recovered to 2.87%, this represents a reduction in the liability of an estimated £17m, equivalent to a reduction in the deficit of c £10m when netted against the adverse impact of inflation assumptions on assets.

The board of directors has reiterated their commitment to a progressive dividend policy, but clearly dividend payments will only restart once the accounting and legal constraints have been removed. Management expects that the primary factor affecting this would be a recovery in corporate bond yields, which have improved materially since the announcement regarding potential suspension of the dividend in September. In addition, the deficit will be affected by the performance of the stock market and thus the investments held by the scheme as assets. On the reserve front, management is intent on growing profits that can then boost the plc reserves. Management commented at the interims that it needs bond yields to rise well above 3% to be able to pay a dividend, and also that it would want any reinstatement to be sustainable.

Historically the board has managed the increase in liabilities by closing the scheme to new entrants and by ceasing future benefit accrual in the scheme. As described below, it has agreed a programme of payments into the scheme. Management has also taken action to maximise the distributable reserves in the plc. Where possible, subsidiary profits are paid up to the parent company as dividends. Importantly, in 2015 the group carried out a capital reconstruction to transfer its share premium and capital redemption reserve balances in their entirety to distributable P&L reserve.

The level of payments was agreed with scheme trustees in March 2015 and will be reviewed at the next triennial valuation, which is scheduled for March 2018. We model payments for FY17, FY18 and FY19 at a level similar to FY16.

Given that Carclo has discontinued both its touchscreen and healthcare diagnostic test activities, we changed our sample set of comparators in October so that it is more closely aligned to the sectors served by the remaining three divisions. Examination of the comparators (Exhibit 5) shows that Carclo is trading on multiples that are substantially lower than those for healthcare companies.

We therefore run a sum-of-the-parts calculation to determine an indicative FY17e P/E multiple for Carclo, as this methodology acknowledges that half of its divisional operating profit is attributable to the sale of products to the global healthcare industry. Where available, the P/E multiple applied to each division is the mean for each sector, as shown in Exhibit 6. There are a number of companies manufacturing high-volume medical products but the key one of relevance, which we use in the sum-of-the-parts calculation, is Gerresheimer, as its products are primarily for use in the medical/pharmaceutical test facilities, rather than for patient care (Ambu, Coloplast and Straumann). As can be seen from Exhibit 5, the latter trade on much higher multiples. This sample is therefore not used in the sum-of-the-parts calculation.

Applying a blended P/E multiple of 15.2x to Carclo’s FY17 EPS adjusted as though PTD was part of the group for the full 12 months (11.4p) gives a preliminary indicative valuation of 174p. We think that Carclo’s relatively small market capitalisation merits some discount. However, the implied discount (29%) to this preliminary indicative valuation with a current share price of 123p is, in our opinion, too severe given the stability provided by long-term customer relationships combined with potential for growth in Carclo’s two main divisions. Applying a 10-15% discount gives a valuation range of 148-156p (see Exhibit 6). To cross-check, we apply the same methodology to calculate a blended sum-of-the-parts using the year 2 EV/EBITDA multiple from our sample of peers in the three segments. Our indicative value range of 148p-156p gives a range of Year 2 EV/EBITDA multiples of 6.8x-7.1x (see Exhibit 5). The lower bound (6.8x) is equivalent to the blended Year 2 EV/EBITDA multiple with a 4% discount applied. The upper bound (7.1x) is equivalent to the blended Year 2 EV/EBITDA multiple with a 3% discount. Our valuation range was previously 144-152p/share. This modest increase reflects an uplift in the average P/E multiples for automotive companies.

The share price has declined from 157p since the fall caused by the suspension of dividend payments at the end of August. Once investors have recognised that the withdrawal of dividend payments does not signal an imminent problem with underlying trading performance and profits, we see potential for share price to progress towards our indicative valuation range.