Stockwatch: Time to back unexciting

Pockets of value remain in selective marketing services shares as clients increase spending, yet investors are wary whether the business cycle might turn down. Last week, I cited Porta Communications as a speculative play, but the circa £250 million St Ives is much longer established. Its shares currently trade on a forward PE of about 9 times and yielding over 4%, covered over 2.5 times by earnings if forecasts are fair. The yield looks quite generously priced, given the recent years' firm record of dividend growth, as if the stock could trend higher simply to price yield more competitively. This situation has essentially been a turnaround since 2009, and now the firm is well-positioned towards digital marketing, hence offers a mix of capital growth and income. I initially drew attention three years ago at 90p when a new chief executive's actions were starting to bear fruit, and the group should be able to capitalise further.

Stock has been consolidating since mid-2014

Like many stocks in 2012-13, St Ives got ahead of itself as turnaround/cyclical plays soared amid monetary stimulus. The five-year chart shows a strong rebound then consolidation phase which has lasted some 15 months. St Ives has drifted sideways in a 164p to 195p range, lately turning up in response to prelims for the year to 1 August.

These show underlying pre-tax profit up 10% to £33 million on revenue up 5% to £344.6 million, and both earnings per share and the dividend up 9% to 20.3p and 7.8p respectively. Mind how databases such as Company REFS (see table) may take alternative views of profit/earnings due to exceptional items, hence PE multiples vary also, while the city consensus looks for steadily rising EPS in a low 20p area. Numis, the company's broker, continues to target 260p a share with N+1 Singer on 227p.

Better-balanced for the future

The group used to mainly print books, magazines and direct mailings, which the internet undermined. But these assets have been mainly sold off and costs cut at those it kept hold of amid a move into higher-margin digital marketing – e.g. building databases, websites and search engines. Involving a dozen acquisitions with a high element of goodwill/intangibles, the income statement has therefore become cluttered with "non-underlying items" – and while analysts strip them out to derive normalised earnings, some investors may be deterred by radically different numbers. My sense is this being an unacknowledged factor behind St Ives' modest rating.

Marketing "activation", or communications, is the main contributor at 50% of revenue in the year to end July 2015, with strategic marketing services – data, digital and consulting - representing 31% and book production 19%. Books still represent a worthwhile margin, contributing about 23% of £35.4 million operating profit before non-underlying charges, marketing activation similarly at 31% and strategic marketing 46%. Clays, the book printing business, is UK market leader in black-and-white book production and has become more service-oriented e.g. giving publishers the ability to put small batches of books into shops at high speed, reducing the need to hold significant stock in warehouses. Its new self-publishing service is seeing rapid volume growth.

The new financial year has started in line with expectations albeit a tad cautiously regarding UK grocery retail in marketing activation. Strategic marketing appears to offer the better prospects for organic and acquisitive growth.

Exceptional costs impact income statement

While the table shows normalised earnings per share expected to nearly treble in the current financial year to 1 August 2016, this confuses non-underlying items. There's £8.7 million of pre-tax profit shown for the 2014/15 year and normalised earnings per share of only 7.4p, However, the company, indeed most analysts, derive 20.3p after adding back charges. Note 2 to the accounts shows how the various costs – for acquisition and restructuring, provision releases, disposal proceeds, amortisation of intangibles, pension scheme costs and any other one-off items – break down by division and note 3 by their nature. Acquisition costs make up £20.3 million out of a total of £23.7 million, i.e. they are likely to persist with further takeovers. There's also £7.8 million which relates to amortisation of intangibles and £8.8 million to contingent/deferred considerations – the latter being genuine costs to appreciate.

The accounts, therefore, show 2014/15 operating profit cut from £35.4 million to £11.7 million as a result of these charges; principally £16.9 million on the strategic marketing side, which exceed this division's £16.3 million operating profit.

Management proclaims three drivers for growth: collaboration/cross-referrals, with over 100 clients using more than one service; international growth e.g. new offices in Shanghai and Chicago; and "further carefully screened acquisitions" e.g. a retail property consultancy last August.

St Ives has financial capability to keep acquiring - its end-July balance sheet showing cash up 33% to £16.4 million, also a new revolving credit facility increased from £90 million to £115 million. Long-term debt has risen 44% to £79.2 million, hence annual finance costs rising to £2.4 million albeit covered nearly 15 times by operating profit before exceptionals. With £25.5 million net cash generated from operations, £34.5 million went on acquisitions and deferred payments and £9.5 million on dividends, explaining the rise in debt.

Tuckaway stock with risk on the upside

St Ives isn't an exciting play, but its annual results show genuine progress and prospects, given firms should now be more positive about marketing spend, and digital is contemporary. Exceptional items are a nuisance, but are likely trumped by attractions of the group's positioning for growth.

For more information see: www.st-ives.co.uk

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.