daytrade diaries dec. 5/6 wk., page-13

http://www.smh.com.au/business/two-turnarounds-to-keep-an-eye-on-20091204-kaz2.html

Two turnarounds to keep an eye on
DAVID SYMONS
December 5, 2009 .

The Elders turnaround was in the spotlight again this week as the company hosted detailed investor briefings on its transformation program. A major recapitalisation has been completed recently and Malcolm Jackman, the managing director of Elders, is now focused on a raft of back office and supply chain improvements to bolster the razor-thin margins of the rural services business.

Jackman's efforts to impose modern management disciplines on Elders after years of neglect have parallels to his work at Coates Hire earlier in the decade and have captured the imagination of analysts and fund managers hungry for the value creation that would result from a successful turnaround.

But Elders is not the only long-established Australian company to be attempting ambitious transformation as markets stabilise after the financial crisis. At least two other lower-profile turnarounds have the potential to generate attractive investment returns as earnings growth is delivered in 2010.

As with Elders, both Capral and Chandler Macleod boast new management teams and strong balance sheets following major capital raisings. And both have large low-margin businesses with profits highly leveraged to margin expansion.

Capral has been in the aluminium extrusions businesses since 1936, and is the biggest player in the Australian market with sales last year of $500 million and a market share of 35 per cent. The market for aluminium extrusion products has grown strongly for most of the past decade.

However, industry leadership has not led to profitability for Capral as the company has battled cheap Chinese imports, which have grown from a low base 10 years ago to achieve market share of about 34 per cent. At the same time, Capral's efforts to consolidate manufacturing at centralised facilities did not achieve planned efficiencies and saddled the company with a high cost base.

More recently, the slowdown in construction activity that accompanied the financial crisis hit the aluminium extrusions industry hard. But against this gloomy backdrop, Capral may now be poised for strong profitability. The company recently completed a capital raising which reduced its debt burden to manageable levels, while a chief executive with turnaround credentials, Phil Jobe, was installed in April.

Costs have been reduced by $10 million, largely through productivity improvements and warehouse rationalisation. A further $8 million in savings have been identified.

Capral also enjoyed a recent victory in tackling cheap imports. In early November, Australian Customs imposed a provisional dumping duty on a wide range of aluminium extrusions imported from China. This penalty followed a five-month investigation into alleged dumping and looks set to erode Chinese market share.

These developments position Capral to profit from increased construction activity. A recent pick-up in housing approvals and strong underlying demand for housing both augur well as 45 per cent of company revenue relates to residential construction.

Analysts from Southern Cross Equities sharply upgraded their Capral forecasts following the provisional dumping decision. They see the company returning to profitability in 2010, and with the stock currently trading at less than 4.5 times forecast 2010 EBITDA, Capral is trading on less demanding multiples than any stock in its peer group.

Capral's market capitalisation is about $150 million but the stage is set for strong share price growth as the combined effect of cost savings, increased construction activity, and reduced competitiveness of Chinese imports flows to the bottom line.

Like all human resources specialists, Chandler Macleod's profitability plummeted when permanent placements hit a brick wall in October last year. However, even before the downturn Chandler Macleod's cost base was too high, and the company's EBITDA margin sank to just 1.6 per cent in 2009 on revenue of about $850 million. To put this into context, the company's best-performing competitors in the provision of flexible workforces, such as Skilled, target margins of about 5 per cent.

The good news is that Chandler Macleod looks to be bouncing back. The company appointed a new chief executive from the banking sector early last year, and a ruthless approach to cost reduction and exiting unprofitable business has followed. The company claims to have extracted $38 million in costs.

Still, Chandler Macleod last month announced that EBITDA for the current half-year would be up more than 75 per cent on the previous year, coming in at between $8 million and $10 million. Growth in profitability is due entirely to cost reductions as revenue in each business area is lower this year than last.

Chandler Macleod looks set for resurgent profitability as market conditions improve. In the longer term, the company's business mix should support margins of about 4 per cent. Unfortunately the business is unlikely to match Skilled's target level of profitability as the unskilled and semi-skilled labour hire that lies at the heart of the Chandler Macleod operation is inherently less profitable.

Annualising Chandler Macleod's forecast half-year profitability suggests that the company is trading on an EBITDA multiple of 6 to 7.5 times, which is fair for the present level of profitability in the business. However, as market conditions improve, profitability could double, with a corresponding impact on valuation.

David Symons is a company director with a background in investment banking and private equity.