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GKN - Growth continues to beat the market

Nicholas Hyett | 26 July 2016 | A A A
GKN - Growth continues to beat the market

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GKN has reported a 17% increase in sales and 13% uplift in underlying operating profit as the acquisition of Fokker continued to boost performance in the second quarter. Organic sales continue to be ahead of the market, rising 2%. GKN shares rose 3.5% in early trading.

Integration of the Fokker business continues, with a 40 basis point decline in group trading margin as a result of lower margin Fokker sales. The group is on target to deliver annualised savings of £30m from 2017 through a Group wide fixed cost optimisation programme, incurring a £35m charge in H216.

The interim dividend increases to 2% to 2.95p.

Divisional highlights:

GKN Aerospace - Organic sales up 2%, with 8% growth in commercial partially offset by a 14% decline in military. Inclusion of lower margin Fokker business resulted in a lower margin of 9.9% (2015: 11.4%). New business wins worth $5bn secured.

GKN Driveline - Organic sales growth of 5%, ahead of global vehicle production. Trading margin remains broadly in line with 2015 levels with more than £400m of annualised new and replacement business secured.

GKN Powder Metallurgy - In line organic sales growth, with trading margin improving to 12.6% (2015: 11.8%). £120 million annualised new and replacement business won.

GKN Land Systems - Organic sales down 6%, reflecting challenging agricultural and construction equipment markets. Trading margin improved to 4.6% (2015: 4%).

Outlook:

The group expects the EU referendum result to have little impact on GKN over the medium term, although lower Sterling is boosting earnings for now. 2016 is expected to deliver continued growth, supported by currency translation and the addition of Fokker.

Our view:

GKN is becoming an increasingly aerospace-oriented company. The acquisition of Volvo Aerospace a few years ago, and more recently, the addition of Fokker has made Aerospace look like a substantial business in its own right.

Sooner or later, the pressure will mount for GKN to do the splits, with Aerospace and Automotive going their own separate ways. But in the meantime, there is the pension fund deficit to hold the group together. At £2bn, this is not trivial and GKN should be considered as rather more leveraged than just a cursory glance at the net debts of £918m would suggest.

The stock is not highly rated, as a result of both this de facto leverage, and also the volatility of automotive demand historically. Currently, GKN trades on less than 11x consensus EPS forecasts, which is well below the rating of many other UK industrials. But that ratio takes no account of the deficit.

Driveline continues to look robust while current economic conditions are unlikely to perk up Land Systems in the near future. The outlook for the Aerospace division seems rather muted in the near term too, with mature contracts coming to an end, particularly among military clients. However, by the end of the year Aerospace should be through these programme transitions and be well advanced on restructuring and integrating Fokker to raise its margins. The picture should look brighter.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.