The Limpopo Dispatches – “The northern lights of auld Aberdeen”

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The Limpopo Dispatches – “The northern lights of auld Aberdeen”

Detachment is everything in investing. And there is bucket loads of detachment here on the Limpopo. They once ascribed the mystique of the superiority of the Edinburgh fund mangers to the fact that that they were far from the London market with all its distractions and crowd following investors. Here on the Limpopo a man may keep a clear head.

I have been thinking about oil: not the sun tanning variety – I use the local cocoa nut oil. I learn over the bush telegraph that that the world oil price has come down substantially since last year. Unfortunately, the FT does not reach us here on the banks of the glorious Limpopo. The last one, lent to me by the local Church of Scotland missionary was dated 1947. (I assume that Mr. Attlee is no longer in power?) Not that a lower oil prices affects life here, where one gets about by dug-out canoe, swinging through the jungle on hanging vines like that noisy young Tarzan – a bit of a hooray Henry in my opinion (I have doubts about his true parentage) – or cutting through the undergrowth with a trusty blade issued – so it says on the blade – by the Colonial Office. It has the words “’The King-Emperor, George V’ – Return if found” etched into it.

It is dusk on the Limpopo and I am appropriately attired – in evening dress – for a splendid dinner prepared by my cook Umbopo. It’s not exactly Downton Abbey here, but I do not let standards slip even when dining alone in the jungle; one doesn’t wish to “go native” as they used say at the Colonial Office. Umbopo – who informs that he is really king of a lost people beyond the Mountains of the Moon and is preparing to return there with an outlandish game hunting chap called Alan Quartermain, to claim the throne – is meanwhile preparing a dish of roast beef and Yorkshire pudding which would do credit to Simpsons in the Strand. Well done my good and faithful cook! His ‘lost’ people are in for a gastronomic treat once he is rightfully returned to them. A king that can cook roast beef and Yorkshire pudding with all the trimmings, like Umbopo, has a racing start in the popularity stakes.

The night sky will soon be spangled by a thousand stars suspended like camp site hurricane lamps in the great vault. The local witch doctor may pop in later for a port and cigar; decent type – former Balliol man and alumnus of McKinsey & Co – who enjoys a glass of late bottled Cockburn’s and a Monti Cristo before bedtime. Interestingly, he finds time for distance learning, studying for a higher diploma in Alpha hedge fund management from the Hedge Fund Management College, situated conveniently above Luigi’s Golden Fleece Restaurant, Shepherds Market, Mayfair (where a half decent bottle of claret starts at a £1,000). He explains that as a fully qualified witch doctor, he is exempted from taking Part I of the Diploma arising from his skill in making short things long and long things short.

I understand that the King of Saudi Arabia, who is said to command most of the planet’s cheap to extract oil reserves, just keeps pumping the stuff, so bringing down the crude oil price, in line with an economist’s price and demand curve. Some suggest he wants to close down those jumped up American “frackers” (a sentiment heartily endorsed by some sections of White’s Club); others suggest that he may think that the age of oil – like the age of reason – is over and wants to sell his oil in the way that Harry Cohen of Tesco used sell groceries – plentifully and cheaply.

The Church of Scotland missionary, who hails from Aberdeen, has lamented at length on the impecuniousness brought about by low oil prices to his “ain folk” back home in the oil services sector of the Granite City and “The northern lights of auld Aberdeen” – as Scots exiles used to wistfully sing at closing time at “Robbie Burns” public house in King’s Cross.

“Have a wee look at some of those companies” Sutherland Smith, he advises! “Ye will find value there if I am no mistaken?” Being, as he is, methodical in everything, including religion, I shall heed his advice, starting with a glance at the John Wood Group.

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John Wood Group (WG.) at 603p

John Wood Group has recently produced its results for the year to 31st December2014. The market was clearly anticipating some pretty dreadful stuff by the look of the downtrend in the share price beforehand. The reported results for last year were surprisingly good. Revenue rose a reported near-14%; reported net income rose near 24%; and the annul dividend was raised 25%. There was an operating margin of 7.1 %, which contrasted with an operating margin of 6.3% the previous year. One was invited to conclude that if this is what falling crude prices does then the more the merrier. However, that would be dangerous thinking.

Nevertheless, there is a paradox at work in that operating oil and gas companies, John Wood’s customer and clients, need the services of John Wood Group to improve the efficiency of their own production and operations in order to boost profits and cash flow; on that side of the business, John Wood Group are doing well enough. It is also important to understand that although its name is associated with North Sea oil production and work, John Wood is now a truly global company.
The consensus estimates of prospects for John Wood Group tell a somewhat different story; however it is not a dire one. It is estimated that sales revenue will decline by between 2% and 3% in the next couple of years and, thanks to cost cutting, the decline in earnings per share will be of a similar order. That is helped by a below average equity gearing of 20%. It is astonishing how highly financially geared the equity on most company balance sheets is. These consensus estimates of prospective forecast earnings and dividends are encouraging. If proved correct, it will put comparable earnings per share at 63.8p for this year, 56.3p for next year and 54.4p for 2017. At a share price of 603p (last seen), those earnings imply forward price to earnings ratios of 9.5, 10.6 and 10.8. However, on the basis of the last annual balance sheet at 31st December 2014, net equity assets per share attributable to ordinary shares is an estimated 446p, which suggests that shareholders are paying just 157p for the estimated earnings, after subtracting equity.

The outlook for dividends is more certain insofar as the management have guided the market by saying that it expects to increase dividends from 2015 onwards at a double digit rate. Consensus estimates are for a 15% increase in dividends next year and 8% for 2017. That indicates estimated prospective annual dividend yields of 2.9% for this year, 3.4% for next year and 3.6% for the following year. Encouraging factors supporting such estimates are the low gearing figure and the improvement is cash flow last year.

As a result of a lower working capital requirement and cost cutting, operating cash flow increased by 26% to $183 million and year end balance sheet cash climbed by 26% to £183 million. That represents generous cover for an annual dividend cost of £87 million, which had been raised by 30%.

It is my opinion that these shares offer good value. However, it is hard to deny that the technicals do not look appealing. My view is to watch for a change in sentiment and look for a buying opportunity once the market finds its footing.

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Amec Foster Wheeler at 923p

Amec, now known as Amec Foster Wheeler (AMFW) following its acquisition, is a market cap. equity of £3.6 billion and estimates sales of £5.8 billion. It engages in the design, construction and processing of up stream oil, gas, LNG, organic and petro chemicals, minerals and metals. It also designs steam generating equipment for power stations. It is immediately attractive to potential investors for three reasons: its dividend, the impact of a new significant acquisition and the fact that the share price chart appears to have bottomed out and is now trending up as a momentum buy.

The annual preliminary results for the year to 31st December 2014 were economic and financial summary without much supporting information and data. The acquisition of Foster Wheeler occurred very late in 2014 so it will not have had a significant impact on the 2014 annual numbers. What we have been told is that revenue rose 2% £3,920 million and one may reasonably infer that some or all of that percentage increase arose from the year end consolidation of Foster Wheeler. On a full annual reporting basis Foster Wheeler is expected to add something like 45% to sales revenue, giving the company greater scales of economy and diversity in its market base.

The numbers given under IFRS accounting conventions were pretty stark in their regression. On that basis profit before taxation was reported 39% down; operating cash was unsurprisingly down 32%. Diluted earnings per share were reported down 44% but the annual dividend was increased by 3% to 43.3p a share.

However, the statement also provided management adjusted figures which show that operating profits fell only 6% on an adjusted basis and that similarly, adjusted trading profit declined only 6% on that basis. It also pointed out that cash flow at the trading level, although down, was only lower by 17% and not by the reported -32% at the operating level. We are told that the cash conversion rate, although lower than last year’s 99%, was still a thumping 88%. Finally, we are informed that adjusted earnings declined only 9% to 79.5p. In short, management has told us that things on an underlying basis are not as poor as the dramatic falls in the reported statutory numbers.

The increased annual dividend may be taken as a good sign. The market consensus sees last year’s declared annual dividend of 43.3p increased by a further estimated 2% this year to a forecast dividend of around 44.2p and an estimated 45.8p next year. That puts the shares on forecast prospective dividend yields, at 923p (last seen) of 4.5% for this year and 4.7% for next year.
The successful execution of the integration of the Foster Wheeler acquisition is crucial to future dividend payments, as a means of reducing costs and growing profits. The company states that it is diversifying its customer base evidently to help insulate it from shocks to profitability.

Technically speaking, the shares broke out from the previous downtrend in the share price in December and the chart bears the interpretation that support may lie somewhere at about 900p, at which level the shares would yield an estimated 5% for this year. So such support looks reasonably credible.

In conclusion to my views and observations on this share, I merely add that it needs an above average dividend yield to justify the risk of holding it at this stage. But a 5% annual dividend yield at a share price of 900p is probably attractive enough to attract buyers.

Conclusion.

It is astonishing to recall that the price of Brent crude peaked at $123 only nine months ago in July 2014. Crude oil prices have always been volatile, but as the oil price rose to new peaks, the swing when it came was bound to be much greater than those seen earlier. From 1988, the price of a barrel of Brent crude traded between $10 and $36. The values may be much smaller than we have more recently become used to, but the percentages are very high with the crude oil price rising by 260% from trough to peak. Then in April 2004, the oil price broke through the previous high and peaked at $132 in July 2008. From there it plunged $40 in December 2008 before rising, Titan-like, to $125 in March 2012, only to plunge once again to $47.76 last January. So the current price of $55 allows plenty of scope for recovery once stocks have cleared. Unless you believe that electric cars and clean energy will be with us sooner than seems likely, my instinct is that John Wood Group and Amec Foster Wheeler will see higher share prices in due course.

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