Volex has de­liv­ered on its prom­ise and the shares have soared. Should we hold on?

This maker of cable as­sem­blies has put its house in or­der and prof­its have re­sponded. The shares don’t look over­val­ued, how­ever

The Daily Telegraph - Business - - Business - RICHARD EVANS

APOLO­GIES first. Nor­mally on the first Fri­day of each month we pub­lish our per­for­mance ta­ble. How­ever, in re­cent months the odd er­ror has crept into our ta­ble – er­rors that have been im­pos­si­ble to elim­i­nate in the brief pe­riod between the re­ceipt of the data from our provider and when the page has to be sent to our prin­ters.

Our provider has been un­able to give us cor­rect clos­ing prices for all our stocks with com­plete re­li­a­bil­ity. As a re­sult, un­til we can find an al­ter­na­tive source, we will sus­pend pub­li­ca­tion of the ta­ble. This week has also been a thin one as far as news about the In­come Port­fo­lio’s hold­ings is con­cerned, so we will up­date on our In­her­i­tance Tax Port­fo­lio in­stead.

Up­date: Volex

This maker of cable as­sem­blies has been one of our port­fo­lio’s best per­form­ers. We tipped it at 82.6p two years ago and the shares now trade at 188.5p. It’s not hard to see the rea­son: prof­its have risen very strongly and, af­ter a pe­riod in the dol­drums, the shares have now caught up.

At the time of our tip in Au­gust 2018 the fore­cast op­er­at­ing profit for 2020 was $20m (£15m) but the ac­tual fig­ure achieved by the firm was $31.6m on an “un­der­ly­ing” ba­sis. Down­ing, whose Strate­gic Mi­cro-Cap in­vest­ment trust has about 16pc of its money in Volex, said the “qual­ity” of the firm’s earn­ings was also im­prov­ing. “When we be­gan re­search­ing Volex in 2017 the ad­justed op­er­at­ing mar­gin was less than 2pc,” the fund man­ager said in a let­ter to in­vestors this week. “In the most re­cent re­sults it is over 8pc.”

It added that Volex had be­come far bet­ter at de­cid­ing where to in­vest. “His­tor­i­cally Volex had ap­peared highly cash con­sump­tive, in­vest­ing in the wrong projects with low re­turns,” the fund man­ager said. “That has changed. There will be one-off cap­i­tal ex­pen­di­ture projects re­quired to sup­port growth, but gen­er­ally Volex is con­sid­er­ably less cap­i­tal ex­pen­di­ture in­ten­sive than other com­pa­nies we have en­coun­tered of its size. Work­ing cap­i­tal is also much more tightly con­trolled.”

As we have writ­ten be­fore, such dis­ci­pline is cru­cial to de­liv­er­ing high re­turns on cap­i­tal, one of the key in­di­ca­tors of a healthy busi­ness. In Volex’s case the re­sult of its trans­for­ma­tion has been, in Down­ing’s words, “im­prov­ing, and gen­er­ally very high, re­turn on cap­i­tal em­ployed”. In the most re­cent re­sults the fig­ure was al­most 30pc, “which is high on both a rel­a­tive and an ab­so­lute” ba­sis.

An­other of Questor’s favourite signs of a strong busi­ness is good con­ver­sion of prof­its into cash and Volex scores well here too. In fact in its most re­cent full year it gen­er­ated op­er­at­ing cash flow of $51.7m, far higher than that $31.6m fig­ure for op­er­at­ing prof­its, even if some of the ex­cess was ex­cep­tional in na­ture.

Down­ing added that “man­age­ment’s con­fi­dence in the group’s abil­ity to con­tinue to gen­er­ate strong cash re­turns has been un­der­lined by the com­mit­ment to the div­i­dend”, which was 3p for the 2020 full year.

Al­though Volex has been af­fected to some de­gree by the pan­demic it said in July that rev­enues and prof­its for the three months to June had been at last year’s lev­els.

Nat Roth­schild, the ex­ec­u­tive chair­man, said: “We con­tinue to see weak­ness pri­mar­ily in the med­i­cal in­stal­la­tion sec­tor, as hos­pi­tals around the world re­main closed for non­crit­i­cal med­i­cal pro­ce­dures.

“In our elec­tric ve­hi­cle busi­ness, de­mand is ap­proach­ing pre-cri­sis lev­els as cus­tomers re­open their fac­to­ries and con­sumer pref­er­ence con­tin­ues to shift towards elec­tric ve­hi­cles. We con­tinue to see re­silient de­mand in our con­sumer elec­tron­ics and data cen­tre busi­nesses.”

He said the firm had about $30m in cash and ac­cess to a fur­ther $30m in un­drawn credit. De­spite the strong rise in the shares they trade at a mod­est 13.9 times 2020 earn­ings. Hold.

Up­date: Gama Avi­a­tion

We can­not be so up­beat about Gama, un­for­tu­nately. The avi­a­tion ser­vices busi­ness had plenty of trou­bles even be­fore coro­n­avirus came along. Now the shares stand 85pc be­low where we added them to the IHT Port­fo­lio on the strength of Down­ing’s large stake in the firm. The fund man­ager has now given up and crys­tallised its loss and we must face the music too. Sell.

Read Questor’s rules of in­vest­ment be­fore you fol­low our tips: tele­graph.co.uk/go/ questor­rules; twit­ter.com/DTquestor

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