Week Ahead: The UK's best tech company | Water troubles | Inflation data
Good morning and welcome to the Week Ahead, your weekly destination for discussion and analysis of the largest stocks in the UK and overseas.
Thank you very much for all your feedback on last week’s kick-off article. We’re delighted with how well this new feature has been received and we hope to be able to keep improving on it in the coming weeks.
FTSE results season is still hotting up with a number of big companies reporting their numbers over the coming days, including my personal favourite, Relx (due to announce numbers on Thursday 15 February).
It’s also quite a big week on the economics front with January’s inflation metrics set to be announced on Wednesday 14 February. This time last year inflation (as measured by the consumer price index) was almost at its pinnacle (CPI figures peaked at 9.2% in February) and have since crawled down. But December’s figures were disappointingly steady at 4.2%, pouring cold water on the hope that base rates will be slashed rapidly in the coming months.
Dunelm’s results (due to be announced on the same day as the inflation figures) might shed a bit more light on the impact the high base rate is having on consumer spending. People tend to spend less on big household items when interest rates are high and the economy is faltering.
We’ll also have GDP figures on Thursday, but as those are backwards looking, they’re less likely to have an impact on the market than the inflation data.
Coming up this week…
Do get in touch in the comments section with your thoughts and recommendations for this blog.
| Day | Big UK earnings | US company reporting | Economic announcements |
|---|---|---|---|
| Monday - 12 Feb | |||
| Tuesday - 13 Feb | TUI Q1 trading update | Coca-Cola Q4 results AirBnB Q4 results |
|
| Wednesday - 14 Feb | Dunelm interim results Severn Trent trading update |
Kraft Heinz Q4 results | Retail, consumer and producer price index data |
| Thursday - 15 Feb | Relx final results Centrica final results Ex-dividend date for many big UK income payers |
Deere & Co Q4 results |
GDP figures |
| Friday - 16 Feb | Natwest final results |
Can Relx keep flying high?
In the last five months, the share price of data and information company Relx (LON:REL) has soared 35%. That’s a pretty phenomenal outperformance compared to the market (both the FTSE 100 and All Share indices have travelled sideways in that period) and as a result Relx is back among the top ten largest companies in the UK.
Relx’s share price keeps hitting all time highs and is currently trading 18% higher than its 200 day moving average. Thus, it’s trading on a pretty meaty price to earnings valuation of 27 times.
And so, shareholders who have enjoyed the run of momentum in the last few months might want to be a little wary of this week’s financial results statement. Regardless of their quality and potential, companies trading on these kind of valuations are being punished for missed expectations.
So what are the chances of Relx disappointing on Thursday?
Consensus analyst expectations are for earnings to rise 29% year-on-year, off revenues of £9.2bn and adjusted net profits of £2.1bn (growth of 8% and 30% respectively). From a revenue perspective, that matches the pace of growth that the company has delivered so far this year - in the first half, the company reported revenues of £4.5bn, up 8% on the previous year on an underlying basis. That pace of growth continued in the third quarter with all four of the company’s operating divisions delivering strong numbers and at the time of the third quarter trading update, management were confident that the pace of growth could be maintained for the remainder of the year.
From a profit perspective, things are a little more complicated. In the first half, the company reported net profits of £874m, up 15% on the prior year, but adjusted figures of £1.1bn (up 17%). These adjusted figures (which are also used for forecasting) exclude amortisation of acquired intangibles and other acquisition-related costs (which were higher in the first half of the year compared to 2022).
It is also worth being wary of Relx’s net debt figure which stood at £6.9bn in June 2023, equivalent to 2.2 times EBITDA. As the majority the company’s debt is denominated in US dollars and euros, it benefitted from the strengthening value of sterling, but this hasn’t shielded the company from rising interest rates. The effective interest rate in the first half of 2023 was 4.2%, compared to 2.3% in the previous year, sending finance costs up 75%.
All that being said, Relx is my favourite large cap company in the UK and I am optimistic about continued strong results. Operating margins have risen steadily over the last five years (excluding a brief blip during the pandemic) and have been climbing towards 28% in the last 12 months. The company also converts more than 100% of its net profits into cash, which is used for reinvestment, share buybacks and a dividend which has been raised every year for more than a decade.
More significantly, Relx is a rare example of a British company operating in the world of big data and artificial intelligence. Although it is perhaps better known for its academic publications, legal database and events, its biggest (and fastest growing) division is known as Risk where it provides data analytics services to businesses and governments. In the last few years it has benefited from greater demand for financial crime and fraud investigations and shifting dynamics of the insurance market, trends that look set to continue.
On a personal note, I have met the management team at Relx on multiple occasions. They are excellent - honest, ambitious and always willing to address shareholder or journalist queries. A rare thing among FTSE 100 management.
Lookout for: Any earnings miss causing a disproportionate decline in the share price
Water troubles
There is never very much love lost for the UK’s water companies. Severn Trent (LON:SVT) (due to release a trading statement on Wednesday 14 February), United Utilities (LON:UU.) and Pennon (LON:PNN) face constant scrutiny for lack of investment in infrastructure, overpaying management and untenable debt levels.
It’s a funny old sector. Water companies are tightly regulated, with a series of stringent KPI measures to hit. It’s also a non-competitive sector, with each provider given exclusive ownership of a local area. Growth is therefore completely at the mercy of the regulators.
But where does growth come from? Last week the trade association Water UK announced that water bills would be hiked by 6% from April, ahead of inflation, in a move that would allow for £14.4bn of investment in the next 12 months. The announcement was met with the usual torrent of abuse about rising bills being required to support the dividend and management bonuses. It’s not an unfounded claim. Water companies pay generous and reliable dividends, which normally yield in the region of 5%. They’re well held by income and pension funds as well as international investors.
Meanwhile, the quality of water and sewage services in the UK continues to be sub-par (at best). Environmental concerns, leaks and poor provision of water are constant criticism hurled at the providers who rarely invest sufficient capital in major projects. For example, in its last financial year, Severn Trent spent £730m on total capex, but £400m of that was maintenance, leaving only £330m left over for the much needed major infrastructure investment.
But the main concern for owners of water company shares is the level of debt. Under the terms of the regulation in this monopolistic market, water companies are allowed to hold debt levels equal to 60% of their regulated capital value (RCV). The RCV is equal to the asset value when the company was first privatised, plus any additional investments minus the depreciation of the assets. This gives quite a lot of wiggle room for leverage and as debt has been so cheap in recent years, most of the water companies decided to borrow to top up their coffers rather than issue equity.
The trouble now is that interest rates have risen, leading to a further drain on capital, taking cash for investments away from the much needed infrastructure projects.
To help deal with this, water companies want a big increase in water bills. The 6% increase is a start, but not nearly enough to plug the gap required for additional capital expenditure. Continued underperformance could lead to a downgrade in their credit ratings, making it harder to issue new debt and putting pressure on the dividend (the only real reason these companies are worth holding).
Lookout for: Comments on whether a 6% increase in water bills is enough to keep Severn Trent happy for now.
US companies out of the spotlight
Last week saw restaurant group McDonald’s release its fourth quarter financial results. Covering these results in the newsletter at the weekend, I argued that McDonald’s could perhaps be described as a property group rather than a consumer facing business (read that here), but regardless, McDonald’s results can be used as an interesting bellwether of consumer sentiment in the US (and internationally).
This week we’ll get numbers from Coca-Cola Co (NYQ:KO) (Wednesday 14 February) and Kraft Heinz Co (NSQ:KHC) (Thursday 15 February) which also offer an interesting window into the health of the global consumer. These are two Warren Buffett stocks, which have had mixed fortunes in recent years, but could provide interesting opportunities with the continued recovery of the US markets.
Kraft Heinz was formed via the merger of two consumer goods giants in 2015. It has not been a good merger - sales have gone sideways (they’re expected to fall in FY2023) and profits wildly inconsistent.
Coco-Cola on the other hand remains a high quality company still capable of delivering an impressive level of growth (given its already dominant position in the market). Forecasts are for double digit earnings growth.
Disclaimer
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41 comments
Jet2 (LON:JET2) has had a decent morning after it's fractionally ahead trading update this morning, up around 5%. I'm pleased as a holder but am wondering about the potential for further growth from here when offset against the impact of unexpected events that could materially impact profits. I've seen the update from cannacord suggesting 1900p price target due to continuing double digit growth in CAGR. Does anyone have a particular strong bull or bear case on the stock they would like to share (I hold).
Ben I hold, after buying last month. Probably not the level of response you’d hoped for but what convinced me to buy (after all my usual research) was the enthusiastic reaction of my brother-in-law to a recent holiday with Jet2 (LON:JET2) and his decision to use them again where possible. He is normally tighter than the proverbial duck’s derriere, will get up at 0200 to book the cheapest new flight releases and will continually regale us with details of his latest ‘bargain’. If he can be brought on board then I’m sure growth can be enhanced by winning greater market share.
Thanks Megan, great addition to the forums. I'll be sure to drop in each week for your insight
Hi Meghan,
Brilliant idea what you have just started here as the small cap sector in the UK and in general the UK stock market seems to be going nowhere (although there are always opportunities to make money).
Yesterday’s US trading session all magnificent 7 were down and the other three that make the top 10 in market cap were down as well Eli Lilly and Co (NYQ:LLY) Berkshire Hathaway (NYQ:BRK.B) and Taiwan Semiconductor Manufacturing Co (NYQ:TSM)
My concern is that a limited downside made the VIX to jump about 10%. It is my opinion that the market clearly has formed a TOP and needs to correct and consolidate for a while.
Yesterday’s US trading session all magnificent 7 were down and the other three that make the top 10 in market cap were down as well Eli Lilly and Co (NYQ:LLY)Berkshire Hathaway (NYQ:BRK.B) and Taiwan Semiconductor Manufacturing Co(NYQ:TSM)
I also anticipate a consolidation but yesterday was actually a rotation into small caps which have risen substantially of late as part of a broadening out of the market rally. Unless you’re in the ever smaller number of observers who believes a recession is about to befall the US, this extra breadth is a bullish sign for the market, though this year’s leaders may consolidate for a while. Indeed it would be healthy if they did!
Hi BnB
Nice to speak about markets liquid enough that grow and not just about teapots!
I will never forget that phrase.
Growing markets indeed. And happy to oblige. Of course the narrative has changed again today with inflation coming in hot. The consolidation starts here! But I bet my bank's CIO will be onto his customers tomorrow with soothing words like "lumpy data" "direction of travel is down" "soft landing reiterated". He needs to keep his AUM up - can't have us going to cash. To be fair to him, he called the October '22 bottom. And in October '22 at that. So I do pay careful attention.
Nice to have these insights of common sense!
Great article Megan. On the water companies -
’Meanwhile, the quality of water and sewage services in the UK continues to be sub-par (at best).’
Correct me if I am wrong, but is it not the case that Welsh and Scottish water far outperform their English counterparts?
In a word, no.
Welsh Water admits illegally spilling sewage for years - BBC News
I just read that article, hats off to Professor Peter Hammond.
This is an excellent addition to Stockopedia’s site. Keep up the good work Megan.
Megan, not sure what the correlation between big ticket item sales and Dunelm (LON:DNLM) is. I'm not a regular visitor there but I thought they were smaller ticket, soft furnishings.
Wouldn't Howden Joinery (LON:HWDN) give us a better read across? Not due to update for a couple of weeks though - DFS Furniture (LON:DFS) TU mid Jan suggested their market was down -9%, though they of course were outperforming at -1%.
Agree with you on Relx (LON:REL) looking pricey but if the comments about AI are correct they may well continue to outperform like the Magnificent 7 have in this month's earnings reports. Only Nvidia to come and they are expected to continue to be spectacular I believe. The Tech sector looks like it is continuing to drive the market. Certainly the view from Zacks.com.
I suspect there be one or two here who made a few bob out of stagging the privatisation of water all those years ago. I was strongly against the whole privatisation of monopoly natural resources until I had the pleasure of sitting next to a chap from one of the Water Companies at a BIM (British Institute of Management) training day. His take was the industry would always be under-funded for Capex if it remained under direct Government/public sector management and control. The Public Sector Borrowing Requirements and compliance with IMF constraints (remember those?) had effectively shackled or eliminated significant capital expenditure for years.
His view was the only way to improve water quality was privatisation - and a few years later we started getting Blue Flags for our beaches. What went wrong? Perhaps the shareholders and staff just got too greedy? What's the best solution? I certainly wouldn't vote for privatisation as I believe we'd quickly be back in the same cycle. However we do need need much better control of the contractors - and they certainly don't deserve the levels of remuneration and dividend distributions that they've had. IMO.
Arm Holdings (NSQ:ARM) post earnings obviously.But up another 20% after folk buying the post earnings dip just the other day.I know the float is low but crazy move for such a high mcap and p/s!I would hardly be surpsied if Arm Holdings (NSQ:ARM) was part of the Magnificient 8 by the end of the year.A half trillion dollar company by summer...?What do you all think?
Hi Megan Great post and excellent idea.... personally my focus this week is actually the US CPI data tomorrow. In terms of the balance between value and growth I would see this as more important. Mainly due to the influence on the $..... through rate (cut ) expectations. The market would still appear to be tilted to a slightly hot number...and equity bias reflects this being pro growth and not value. We will see more tomorrow whether this can save a miserable quarter for value investing. Personally... I would argue MoM 0.2-0.4% is inline depending how you look at it. Since we have really stepped back from the rate cut bias 0.2% will be enough to be positive this month...and less than 0.2% v positive...ie $ down and yields lower. Good for equities. We will know in 24 hours anyway.
From Guardian:
The UK’s services trade has performed better than the goods trade, Goldman adds, which is “confounding expectations for a significant decline after Brexit”.
They add:
In the second chart, for goods imported from/exported to the EU, the numbers don't look good, 70-80 percent of firms have reported cost increases after Brexit, and half of those are reporting that costs are still increasing.
Firms passing those costs on to consumers, since Brexit my pocket sure does feel lighter these days...
JD Sports Fashion (LON:JD.) A good time to buy?
With the SP at similar levels to October 22 doom and gloom and not all that much higher than the covid lockdown period I can't help but feel the stock is oversold in the medium term.
I work in schools and the students 'go to' store is JD Sports. Trainers and their street cred value is not disappearing any time soon. People talk often about a shift away from physical items such as designer clothes towards experiences like holidays. This may be true for many, but the 12 to 21 age range don't have the funds or means to spend on travel, so they will stick to what matters most when you're flaunting yourself on Instagram and tiktok - clothes. The majority of students I teach spend money on very few things - clothes, trainers, food, phones and gaming (and toys for the younger ones). Going in store is a social scene for younger people and the appeal of online isn't as strong. The April wage rise will also massively benefit their average customer, many of whom will just buy more of the same with their additional funds.
I definitely think that qualitatively it looks very good for the future of JD Sports Fashion (LON:JD.) .
You mention that the younger generation treat JD as their 'go to store' but if you look around you will also notice that a growing number of pensioners also prefer to wear trainers because they are simply more comfortable than normal shoes.
If you add in the Athletic Leisure fashion and the growing number of Women and Girls playing sport then I think you can definitely say that there is a secular trend in place here. Also the recent reductions in share price suggest to me that JD certainly looks like a bargain.
Yes you are absolutely right on athletic leisure, especially for women. A trend that is growing exponentially. US competitor Lululemon Athletica (NSQ:LULU) has seen a 200% rise in the past 5 years. JD Sports Fashion (LON:JD.) is not even up 20% after the recent decline. Lululemon is a more bespoke premium product but it still reflects well on the sector.
A useful addition to the stocko resources.
Can you prefix the economic data with relevant country UK, US, etc?
Really pleased to see this weekly thread. Great to have companies like Relx (LON:REL) getting a once-over ( I don't hold, sadly)
Thanks - this report is a great addition.
Useful nugget of your experience meeting the management of RELX. The type of info that can't be captured in the data.
Thanks Meghan. A weekly macro based look at stocks is helpful. I don't think we need a carbon copy of the other report, which is an accountant style level look at stocks; accountants don't unfortunately make the best traders/investors otherwise they would all be millionaires.
Excellent post 100% correct.
Very interesting read. Thank you!
Absolutely fantastic. Thank you team Stockopedia for sharing your thoughts.
I strongly welcome your decision to be more active on larger cap . This focus that you normally have on very small companies to please the traditional punter is clearly not justified when a market is so underweight in international portfolio as the UK is and so undervalued in an international context.
Thank you. Will you be analysing the financial results of the companies you mention at the beginning of the blog? If you did it along the lines of the SCVR blog that would be very useful. Including US stocks would be a big plus.
+1 for this !
Hi Megan
thank you for starting this series. I am pleased that this forum is more to my liking as I am an investor in large and medium caps rather than small caps and Aims shares.
Discussing Relx is very timely as not only it reports on Thursday but because it was the Investor's Chronicle choice in the Media and Publishing sector when they reviewed the FTSE 350 companies last week.
Like you , IC is very positive on the prospect for the company and they think it benefits from AI, unlike Pearson where AI is a threat to its prospect.
Overall a very good initiative and a very good start for this week.
Cisco Systems (NSQ:CSCO) also reporting after the close on Wednesday 14th February.
Some others that might be of interest: Marriott International (NSQ:MAR) Coinbase Global (NSQ:COIN) and DraftKings (NSQ:DKNG) also report this week.
Severn Trent (LON:SVT) 'It’s a funny old sector. Water companies are tightly regulated, with a series of stringent KPI measures to hit. It’s also a non-competitive sector, with each provider given exclusive ownership of a local area. Growth is therefore completely at the mercy of the regulators.'
HA! given the state of the water services in the UK - especially the dumping of raw sewage I'd say they aren't regulated at all. A comment I appreciate is unlikely to be popular in an Investment Blog but surely Nationalisation is the logical next step.
'surely Nationalisation is the logical next step'
The trouble is that the government finances are overstretched at the moment, without finding the huge sums required to buy out the water companies. The reason the water companies were privatised in the first place is that the government of the time could not afford the expensive equipment required to meet the EU water quality regulations.
Whilst I agree it would cost the government vast sums of money to nationalise I cannot believe the mantra "there is no money". We seem to find money to fund wars, pay for covid and potential tax cuts (though it seems this has been put back).
How about we throw the rule book at water company execs - we did it for bankers. ? Every time they do not meet targets we nationalise.
The 2.5 trillion national debt is where it all comes from
really like this , thank you
Excellent. Thanks.
Very useful additional service. Good to have a view of the major macro events and some large caps results which could impact market sentiment. Need to shift the Kraft and Deere results due to the right to align with US company reporting header.
Thank you for excellent marker summary especially appraisal of Relex I hold
A useful read, I'll look forward to future reports.