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In an unscheduled trading update, GKN announced it was expecting to take a £40m charge in the fourth quarter relating to two "external claims" - one in Aerospace and one in Driveline. Further details are unavailable at this time.
Full year profits before tax are now expected to be only slightly above last year, leading the shares to fall 8.4% in early trading on 13 October.
Detail on what actually lies behind these "external claims" is thin on the ground at the moment, but they are certainly unwelcome. £40m is equivalent to 5% of last year's operating profits, and looks set to wipe out any profit growth in 2017.
However, one-off charges like this wouldn't normally be a great concern to us, these things happen from time to time and shareholders would still benefit from underlying profit growth in the years ahead. The problem is that the charges have sprung out of nowhere, raising concerns there could be more nasties hiding under the stairs.
That margins in the aerospace business, which generates annual sales of £3.4bn, are struggling will be adding to shareholder pain this morning. Fortunately the large automotive divisions continue to perform well. Investments in electric drivechains is weighing on margins at the moment, but is vital to manage a transition to electric vehicles.
In the long term, the pressure will mount for GKN to do the splits, with Aerospace and Automotive going their separate ways. At present though the Â£1.8bn pension fund deficit binds the group together. With that in mind, GKN should be considered more leveraged than a cursory glance at the net debts of £700m would suggest.
The stock is not highly rated, partly as a result of the pension-induced de facto leverage, and partly because of the exposure to the volatile automotive market. Currently, GKN trades on 10.1 times next year's earnings, which is below the rating of many other UK industrials.
Assuming that no more "claims" appear out of the blue, a low rating could make the group attractive, especially if it's able to deliver on its medium term promises. Driveline growth remains robust, while increased defence spending should support the Aerospace division. The group has as yet been unable to convert cost savings into margin gains, but it's still early days.
As with much of GKN, the dividend is reasonable but unexceptional, offering a prospective yield of 2.85%. GKN is a solid business, but until it sorts out the pension situation, it's unlikely to be going anywhere fast.
Third Quarter Trading Update
GKN Aerospace saw sales in commercial aerospace slow slightly in the quarter, with military sales ahead of the prior year.
However margins in the division have been "disappointing", as operational challenges, pricing pressure and the end of certain programmes all weighed on performance. These headwinds will continue into the fourth quarter, although will be offset by a one-off retrospective pricing adjustment of £20 million.
By comparison, the performance of GKN Driveline has been good, with sales well ahead of 2% global automotive growth. Even including the impact of the Q4 claim, Driveline's margin is expected to be similar to last year.
Organic sales growth continued at GKN Powder Metallurgy, despite a decline in US automotive production rates, as it continued to benefit from currency translation and acquisitions in China and Turkey. Growth includes passing higher raw material prices on to customers, which also reduces reported margins slightly.
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