Questor: Electrocomponents could get worse before it gets better – bank a 15pc gain and sell

Questor share tip: its well regarded boss is about to return from sick leave but he faces a daunting to‑do list

James Ashton 9 February 2020 • 6:00am

Lindsley Ruth, chief executive of Electrocomponents — The news that chief executive Lindsley Ruth will return to work this week after a three-month absence meant investors gave a sigh of relief Credit: Geoff Pugh

The theory that multinational, multi-discipline corporations with billions of pounds of revenue rely on one individual for their prosperity should not bear up to scrutiny. In almost every instance, “key person” risk – for which the insurance industry charges a pretty penny – is proved to be overblown.

The unflashy Tim Cook has powered Apple to new heights without the wise counsel of its talismanic co-founder Steve Jobs. Burberry is still selling raincoats even though Christopher Bailey no longer designs them. And advertising giant WPP is showing signs of life almost two years after hard-driving chief executive Sir Martin Sorrell departed – although the performance of its shares in January is best forgotten.

But since when did share prices move because of the fundamentals? Sentiment always gets in the way. That would explain why Electrocomponents saw its stock marked up sharply last Tuesday.

The distributor of socket screws, radio parts and another 500,000 industrial and electronic products posted a so-so trading update. The big news, that chief executive Lindsley Ruth will return to work this week after a three-month leave of absence to receive medical treatment, meant investors gave a sigh of relief.

Mr Ruth, an American, has been key to Electrocomponents’ revival since he joined in 2015. He has sought to simplify and scale up the business. Most notably, bumping up operating margins from 8.8pc to 11.7pc in the past two years has had a material effect on profitability.

It is clear there is much for him to get on with when he arrives back in the office. For the October-January period, all the group’s geographic regions suffered a slowdown in revenue growth compared with the first half of the financial year, with the exception of Asia-Pacific, which accounts for just 10pc of the total.

Particularly weak was the central Europe region, dominated by Germany, which declined by 4pc against 2pc growth previously. Carmakers are enduring a torrid time.

Electrocomponents is a tale of two halves, with market share gains in the 60pc of its business that is described as industrial, while the remainder in electronics suffers in a cyclical slowdown. Analysts at JP Morgan Cazenove, the broker, think electronics revenues weakened further to drop by 10pc in the period but believe the decline could be bottoming out.

Their counterparts at Shore Capital reduced group growth forecasts for the next financial year, beginning in April, from 8pc to 3pc and cut earnings per share expectations by 6pc.

Mr Ruth’s strategy has largely been about self-help so that Electrocomponents can prosper regardless of the wider economy. The group’s eye-catching aim is to grow at twice the rate of the market by taking share from competitors.

The self-styled “Amazon of electronics” doesn’t just want to dispatch more than 50,000 parcels to design and product engineers each day: it is also trying to do more for its customers in areas such as inventory management and maintenance.

Capital expenditure more than doubled in the first half as the group invests to add to its network of distribution centres. Efforts to push own-brand goods are timely as they carry higher margins.

Investors are also watching out for consolidation. Electrocomponents operates in a £400bn market where the top 50 players account for only 30pc of the pie. Yet acquisitions have been few and far between.

Almost two years ago the company did its first deal in 18 years when it bought procurement business IESA. Last February it added machinery monitoring specialist Monition.

The shares have gained 15.5pc since Questor tipped them in October 2018 after they had slid following fears over interest rate rises in America. They had further to fall but motored steadily higher last year.

It is reassuring to see that Mr Ruth has bounced back after treatment. But trading on 16.4 times next year’s forecast earnings, Electrocomponents could well get worse before it gets better.

Questor says: sell

Ticker: ECM

Share price at close: 706.2p

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