Investors can't flog Volex (VLX) shares fast enough today, the stock slumping by 10% to 97.75p, unwinding much of the recovery since November's dismal half-year results. The thrust of the new fall is provided by a trading update that spells out stiff competition, pricing pressures and a savage profits squeeze.
Yes, it's selling more kit but clearly at knock-down prices. The London-based connectivity manufacturer's transformation plan could have been written by Sports Direct (SPD), with the latter's 'stack 'em high, sell 'em cheap' motto part of the Volex short-term play book.
The company says its turnaround strategy is working, with better sales recorded in the second half than anyone expected, including City analysts, but at the cost of operating profits.
'Historically, the second half of the financial year has always delivered lower revenues than the first half, in the year just ended this trend has been reversed,' says Volex, meaning revenues for the year to March are ahead of consensus market expectations. Investec has $394.8 million, N+1 Singer $393.1 million.
Here's the really important bit: 'Revenues are growing as a result of Volex better leveraging its global presence, operational excellence and increased focus on price competiveness,' the company explains. 'In the short term, this has led to reduced gross margins and an impact on operating profit. As previously announced, underlying operating profits in the year ended March 2014 will be materially lower than prior year, but within the range of market expectations.' Investec cuts its operating profit estimate for 2014 from $6 million to $4.2 million.
Clearly there is a fear that this trend could go on for a while. 'We understand the group’s expectation of accruing cost savings over the next year or two through supply chain management and higher factory utilisation. However, we had thought that our existing near-term margin expectations were unlikely to need to be further reduced,' says N+1 Singer's Jo Reedman. 'This now appears in doubt,' the analyst ominously concludes.
Remember, the half-year dividend has already been axed, perhaps a similar fate also awaits a second-half payout? Neither Investec or N+1 Singer expects a dividend, but investors would still likely see confirmation of a zero full-year payout as an extra blow.
But there are signs of a turn in the beleaguered company's fortunes. Volex hopes to increase cost competitiveness through procurement savings, and has its fingers crossed that this will bolster profit margins in the future, although probably not until the second half of the new financial year. Orders are also 'encouraging,' the company states, flagging 4G opportunities in China in particular, a point picked up by Investec.
'The roll-out of one million 4G base stations in China also provides a significant revenue opportunity,' says Investec, before adding that 'investment is also being made in the regional sales team to drive further customer engagement.'
But Volex needs to discover some sort of pricing power from somewhere, chipping away at the cost base will only take it so far. Perhaps it will in time, but don't hold your breath.
