GREAT IDEAS

Mar­ket has over­re­acted to one month’s slow­down in sales growth

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New: Fer­gu­son / LoopUp

Up­dates: Car­ni­val / CVS / Sa­van­nah Pe­tro­leum

Full year re­sults from FTSE 100 plumb­ing and heat­ing dis­trib­u­tor Fer­gu­son (FERG) caused a bit of a share price wob­ble on 2 Oc­to­ber as in­vestors wor­ried about a slow­down in growth. We think the mar­ket over­re­acted, pre­sent­ing an op­por­tu­nity to buy shares in a su­perb com­pany at a cheaper price.

While the busi­ness for­merly known as Wolse­ley isn’t very glam­orous, it is grow­ing fast and throw­ing off large amounts of cash. The afore­men­tioned slow­down only re­ferred to one month’s trad­ing and, im­por­tantly, Fer­gu­son con­tin­ues to take mar­ket share.

Its big­gest mar­ket is the US, which gen­er­ates 80% of sales and 90% of op­er­at­ing prof­its, so the strong US econ­omy has been a boon with Fer­gu­son’s sales grow­ing by 11% in the last year (10% on a like-for-like ba­sis).

As well as sell­ing plumb­ing fit­tings, Fer­gu­son pro­vides wa­ter-re­lated prod­ucts to util­ity com­pa­nies and their con­trac­tors through its Water­works unit – which ac­counts for 16% of group rev­enue.

Strong earn­ings en­able Fer­gu­son to re-in­vest in its busi­ness to grow mar­ket share. It does this by ex­pand­ing its branch net­work and through low-cost bolt-on ac­qui­si­tions.

As well as strength­en­ing its pres­ence in the US it has branched out into Canada, which is grow­ing strongly and con­tribut­ing nicely to prof­its.

Af­ter in­vest­ing in the busi­ness, Fer­gu­son aims to grow div­i­dends in line with un­der­ly­ing earn­ings and if ex­cess cash builds up it likes to pay it out to share­hold­ers promptly.

This year, as well as lift­ing the nor­mal div­i­dend by 20%, the com­pany paid out a spe­cial div­i­dend of $1bn or $4 (300p) a share in June off the back of sell­ing its Nordics busi­ness.

The weak­est part of Fer­gu­son’s busi­ness is the UK where sales were down in the last fi­nan­cial year as was the con­tri­bu­tion to earn­ings. The in­fra­struc­ture unit is per­form­ing well but sales to UK trade cus­tomers have strug­gled, so the com­pany has closed branches, re­or­gan­ised its lo­gis­tics and ex­ited the low-mar­gin whole­sale busi­ness com­pletely.

The net ef­fect has been to re­duce mar­gins fur­ther as costs are taken up­front but the ben­e­fits of a more stream­lined oper­a­tion should flow through in com­ing quar­ters.

The lat­est full-year re­sults (sales up 7%, op­er­at­ing prof­its up al­most 15%) were met with ap­a­thy by an­a­lysts but we rec­om­mend longterm in­vestors fo­cus on the strong fun­da­men­tals.

At £60.83 the shares trade on 14.6 times fore­cast earn­ings for the 2019 fi­nan­cial year which looks too cheap com­pared with 20-times for smaller US dis­trib­u­tor WW Grainger.

The long-term value cre­ation track record is su­perb with Fer­gu­son de­liv­er­ing share­hold­ers with a 312% to­tal re­turn (cap­i­tal gains plus div­i­dends rein­vested) over the past decade ver­sus 77% from the FTSE All-Share in­dex.

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