Two stocks crash 20%: Time to buy?

The FTSE 100 (UKX) made a record closing high last week, but investors have been given a stark reminder in the past two trading days that things can still go wrong. First, blue-chip aerospace engineer GKN (GKN) warned on profits Friday. Now, ugly statements from two more UK firms have triggred a rush for the exit.

Medical product supplier ConvaTec (CTEC) just revealed it has revenue problems, while small-cap building materials manufacturer Low & Bonar (LWB) told us it’s in trouble, too.

It was only four months ago that ConvaTec was worth £6.8 billion, having risen 55% to 349p in the seven months since floating in October 2016. But we got the first signs of all not being well at first-half 2017 results in August.

Shares dropped 6% as investors questioned its margin improvement programme (MIP) and the stability of its non-ostomy revenues. That prompted an in-depth review from broker UBS, leading a week later to a downgrade from ‘buy’ to ‘neutral’. Its target price was slashed 12% to 300p.

Analyst Ian Douglas-Pennant told us that, while management guidance for full-year revenue growth of more than 4% was possible, it should not be the base case. “In H1, the company delivered 1.5% growth, implying more than 6.4% required organic growth in Q2,” he explained.

Well, remaining holders were cursing their failure to heed that advice Monday morning, as ConvaTec shares slumped a further 22% to 220p, 5p below the initial IPO price.

In the third quarter, group revenue was $445.5 million (£335 million). That’s 6.8% reported growth on the same period in 2016, but just 3.3% on an organic basis.

As a result, full-year organic revenue will be between 1% and 2%. Where exactly in that range depends on the degree of success ConvaTec has in resolving its flagged issues, which will impact delivery of its MIP.

Problems include supply issues in its Advanced Wound Care business due to the movement of manufacturing lines from the US to the Dominican Republic, and a build-up of back orders in its Ostomy Care division. Almost half the 90 basis-point margin benefit ConvaTec achieved in H1 through the MIP is expected to be lost as a result.

While UBS has clearly become more bearish on the stock, Bank of America Merrill Lynch reckons the slump could be a buying opportunity. The likely scenario of a 12-13% cut in consensus estimates now looks to have been fully priced in, according to analyst Ines Duarte Silva.

Duarte Silva says ConvaTec still has “attractive end markets” and thinks margins should improve and revenue growth should accelerate as the issues are resolved. “The magnitude and duration of the supply constraints could represent a short-term overhang,” Duarte Silva explains. He thinks shares are still worth 350p.

Over at Low & Bonar, shares plummeted as much as 19% to a nine-month low at 64.5p due to “challenging” conditions in the civil engineering market.

“Demand for higher-value specification projects remains subdued, resulting in an adverse sales mix,” we’re told. This means the improvement in financial performance and reduction in inventory levels previously expected will not materialise.

It’s not the first time L&B has had problems with the civil engineering market. Shares experienced a similar fall (-19% to 66p) back in September 2014 when it reported problems in both Europe and Saudi Arabia.

Then, it said the division would make a loss of £1 million; this time, it’s not expected to make a profit for the full year. Now, L&B says it’s launching a review of the business. Elsewhere, raw material prices remain at elevated levels due to the impact of hurricanes in the US, though impact on margins has been reduced thanks to cost-saving initiatives.

With other departments performing as expected, Low says it should still “show good progress overall for the year to 30 November 2017”.

Broker Peel Hunt still reckons L&B’s a ‘buy’. It lowered its price target by 9% to £1, but that still suggests upside of around 55%.

It managed to bounce back from 2014’s travails within the year. Can it do the same again? Judging by the share price chart, expect a bumpy ride.

 

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser. 

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