Shares digital

Coal expert’s prospects continue to impress as it branches out overseas

by Dan Coatsworth

Hargreaves Services, (HSP:AIM) 605p, Stop loss 484p

Shares summary

A coal expert benefiting from vibrant energy markets. A solid performer and stands a good chance of continuing its bull run

Business:

Coal importer and producer, renewable energy developer and commodities transporter

Vital stats:

Market value: £161 million

Historic PE: 24.6

Prospective PE 2008: 12.2

Prospective PE 2009: 9.3

Sector PE: 12.2

1-month relative strength: +3.5%

1-year relative strength: +19.1%

Yield: 1.7%

Spread: 2.4%

The coal miner to liquid waste transporter is a thriving industrial services business, providing fuel and logistics to power giants including British Energy (BGY) and Drax (DRX). Investors should buy Hargreaves now as it prepares to export its business model to mainland Europe and increase coal output in the UK.

Half-year results published on Monday (15 September) showed an 86% increase in pre-tax profit to £17.9 million. This was 20% ahead of earnings forecast by house broker Brewin Dolphin. Each of its four operating divisions have good organic growth prospects. It will soon break free of fixed-price selling contracts to get full benefit of higher commodity prices, giving support to a sustained increase in earnings for the foreseeable future.

It owns the former UK Coal (UKC) Maltby colliery, which produces 1 million tonnes of coking coal a year. Around half is sold to Drax and 300,000 tonnes goes to Monckton coke works, also owned by Hargreaves. It is nearly halfway through a five-year fixed-price contract at Monckton, currently running £9 million a year below market price. It should start to access higher coke prices from January 2009 and the unwinding of the hedge agreement will have further benefit to earnings in the year to May 2010. Chief executive Gordon Banham reckons coking coal prices will continue to rise over the next four to five years at least.

Hargreaves is planning to extend the life of Maltby by another ten years. It will also increase electricity generation through recovering more methane gas from the mine. The only negative to Monckton has been a loss-making tyre-recycling operation. This could change as a recent contract with tyre manufacturer Goodyear and steel producer Corus has offered £150 per tonne for scrap metal within the tyres, provided Hargreaves can get the rubber content below 3%.

Renewable growth

The company is moving into the renewable energy market through ventures called Rocfuel and Rocpower. Its first major contract is supplying tall oil, a by-product of wood pulp manufacture, to British Energy as a replacement for heavy fuel oil. Hargreaves will also sell engines that have been adapted to run on biofuels. It promises an ‘exciting announcement’ on this area in six months time.

UK power stations consume 50 million tonnes of coal a year – 10% of which comes out as ash. Hargreaves markets around half of the country’s ash production, selling it for use in house building or road construction. It does not matter these markets are experiencing a downturn, as Hargreaves does not own the ash. It is paid a management fee whether the ash is sold or simply ends up in landfill.

Ash marketing also provides work for its bulk material transport arm, which collects and delivers the product. It has recently restructured contracts on the Imperial Tankers liquid transport business bought a year ago so it can factor in changes to the fuel price on a monthly basis, rather than quarterly.

Hargreaves is the largest independent coal importer in the UK, trading over 2 million tonnes a year. Its overseas contacts should come in handy as it prepares to replicate UK operations in Europe. It wants to develop steam coal operations, set up stock yards and transport coal.

UK growth may include a move into the rail sector, where it hopes to work with companies such as EWS, which supplies trains for moving coal.

Net debt has reduced by around £11 million to £46.2 million in the past six months. The 1.7% dividend yield is comfortably covered 4.5 times by earnings. Brewin Dolphin is looking for 32% rise in pre-tax profit for 2009 to £25 million. The shares look cheap at 8.7 times forward earnings.