Vesuvius is great margin story

Vesuvius, the former steel arm of conglomerate Cookson, is doing more business now than it was a year ago, and a drive to restore margins at the molten metal engineer is going well. In fact, half-year results largely beat forecasts, driven by the steel division, and underlying operating profit grew 14% to £71.2 million. Unfortunately, the strong pound wiped out much of the organic growth and much the same is expected in the second half.

Ignore the currency headwind and revenue actually grew almost 5% to £730 million. Include it, and sales fell by 5.6%. If sterling stays where it is, Vesuvius admits there'll be a similar impact on full-year numbers.

In profit terms, however, another big push to improve margins is working, especially at the steel division where profit jumped by over a fifth to £47.2 million. A 6% rise in revenue here outperformed global steel production, too - the company generates three-quarters of sales in Europe and America where steel output grew by 2.3% and 0.5% respectively. Problems in Ukraine and Russia lost Vesuvius a little over £4 million of revenue, so nothing significant.

And Vesuvius outperforms because it's working smarter. It installed new flow control systems in China, Korea and the US, and demand for filters, pouring ladles, crucibles has boosted the division’s advanced refractories business, especially in Asia where Thai steel plants ramped up production during the period. Selling new, higher margin products and getting rid of less lucrative lines is sensible stuff.

That's why Vesuvius remains one of the few great margin recovery plays. And it is having terrific success here. Eighteen months ago, management set an ambitious target to improve return on sales by 300 basis points. It’s already done 174 basis points and margin of 9.8% is nearer the recent peak of around 11%. Bank of America Merrill Lynch thinks it should get there in 2016, but it could be sooner.

However, a lack of investment in the mining sector and weak Brazilian automotive industry is holding back the foundry division where small improvements in the underlying business were erased by currency movements. Reported sales fell 7% and profit by 14%.

Merrill reckons Vesuvius will make adjusted pre-tax profit of £126m this year, giving adjusted earnings per share of 32.3p. That rises to £137 million and 35.2p in 2015.

Vesuvius shares have risen 12% to 463p since May, easily outperforming the FTSE 350 Industrial Engineering sector which is actually down over 5%. They now trade on more than 14 times prospective earnings, and although that drops to 13 for next year, the near-term outlook currently overshadows an improving valuation argument.

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