Investors’ Chronicle: Bunzl, Prudential, PureTech

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BUY: Bunzl (BNZL)

Customers battling with inflation have swapped out branded lines, an advantage for Bunzl, writes Michael Fahy.

The tougher trading environment has weighed on distributor Bunzl, with many of the end markets it supplies enduring tricky conditions.

Revenue for the half-year edged up by 0.6 per cent at constant exchange rates, or by 2.4 per cent if the contribution from a UK healthcare business that was sold last year is stripped out.

Its UK & Ireland and European arms performed better than its North American division, where weakness in the food service sector sucked momentum out of the business — underlying revenue dropped by 3.1 per cent.

Still, the company reported a 10 per cent increase in statutory operating profit, with its operating margin edging up from 7.3 per cent to 7.4 per cent. Chief executive Frank van Zanten highlighted the growth in take up of its own brand products as a factor in this. Own-brand sales have increased in recent years as food service and other businesses facing inflationary pressures have swapped out branded lines. They now make up around a quarter of Bunzl’s product mix, but it has the opportunity to increase this as it adds new businesses.

The company has spent £350mn buying 12 businesses so far this year, including two announced alongside these results. It is spending £22mn on Safety First, a distributor that has given it a foothold in Poland, and £17mn on Netherlands-based industrial consumables seller EcoTools.nl. These bring the total number of acquisitions since 2004 to 207, and it has self-funded the £4.9bn it has shelled out on these.

“Bunzl is a real cash machine,” van Zanten said.

Indeed, an unwind of inventory built up over the pandemic allowed Bunzl to increase the amount of free cash flow generated in the half year to £286mn, which helped it to reduce net debt (excluding leases) by £140mn to just over £1bn, or 1.1-times cash profit. This gives it plenty of headroom for further buys, and its current deal pipeline is “very active”, according to van Zanten.

An upgrade to full-year guidance (it now expects adjusted operating profit to be “moderately higher” than the £886mn generated last year) helped to push Bunzl’s shares up by 4 per cent. They trade at almost 16-times broker Shore Capital’s forecast earnings, marginally below their five-year average of 17-times but well ahead of peers. Still, we agree with the broker’s assertion that this is a reasonable price to pay for a company that is “a quality cash compounding play”.

HOLD: Prudential (PRU)

The Pru is enjoying a dramatic acceleration in growth especially in Asia, writes Julian Hofmann.

Prudential has clearly decided to dispense with the kid gloves. Chief executive Anil Wadhwani, who has been in post for a year, outlined an ambitious plan to double new business profit by 2027 in the company’s interim results. Prudential’s pivot to Asia has brought it into direct competition with AIA, which seems to have spurred management to take a more aggressive approach, and it plans to increase its annual compounded growth rate for new business profit to 15-20 per cent until it reaches its target.

The results themselves are perhaps not the best yardstick to measure how Prudential will achieve this, as they were helped by an immediate boost from the end of lockdown restrictions and greater travel between Hong Kong and China.

For instance, the annual premium equivalent (APE) rose by 37 per cent, mainly reflecting the benefit from the release of this artificially damped demand. This was dramatically illustrated in the segmented results, which showed that APE written in Hong Kong increased by five times to $1.02bn, with profits on those sales tripling to $670mn. In total, new business profit was up by 40 per cent to $1.49bn.

Even Prudential’s troubled Eastspring asset management arm enjoyed a better half, with profits there increasing by 11 per cent to $146mn as better conditions and higher interest rates boosted the division’s fees.

Analyst consensus has Pru’s earnings per share for this year at 72.5ȼ, which gives the venerable old institution a forward price/earnings ratio of 17. The company still retains its “Asia premium” despite worries over China’s economy. Considering that there are cheaper shares with higher income available, it remains to be seen whether management’s strategy will ultimately pay off.

BUY: PureTech (PRTC)

PureTech is probably the best-capitalised UK small-cap pharma company, writes Julian Hofmann.

By recent standards, PureTech had a quiet half as the rare diseases specialist settled down after a busy fundraising cycle earlier this year. The Royalty Pharmaceutical deal that will ultimately yield $500mn (£397mn) of royalty revenue over the next few years, plus $100mn in cash upfront, has given the company a financial runway that goes well into 2026. That gives PureTech the time it needs to advance its own slow-moving pipeline of specialist pharmaceutical candidates.

And “slow moving” sums up the situation adequately, although investors should never expect the wheels of pharmaceutical development to turn quickly. The company expects the first results for its Phase 2b dose-ranging trial for inpatients with idiopathic pulmonary fibrosis in 2024.

Management intends to follow on with a phase 3 trial that, together with the phase 2b data, can then be used to register the product for potential approval in the US. In its subsidiaries, Karuna expects to file KarXT for US FDA approval in schizophrenia in the third quarter of this year, with a launch in the second half of 2024 if approval is forthcoming. Meanwhile, Vedanta plans to initiate a phase 3 clinical trial of VE303 in patients at high risk for recurrent clostridium difficile Infection in Q4 2023.

Operating expenses were 26 per cent lower at $79.3mn, which had little impact on the company’s financial position, and cash stayed steady at $350mn.

With valuation metrics largely irrelevant when it comes to early-stage pharma companies, Peel Hunt expects cash to increase over the next couple of years as the company’s development programmes mature, with cash outflows of around $192mn peaking in 2025.