Why these income growth stocks could fund your retirement

Roland Head highlights upside potential at two mid-cap stocks.

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Industrial threads specialist Coats Group (LSE: COA) rose by 7.5% on Wednesday morning, after the group upgraded its profit guidance for the year.

Coats has now risen by 133% over the last year. That’s not bad for a 250-year old business which makes threads for footwear manufacturers and other more specialist applications. It shows that you don’t need to focus on high-risk growth stocks in order to beat the market.

The group describes itself as “the world’s leading industrial thread manufacturer” and had sales of nearly $1.5bn in 2016. According to today’s statement, revenue rose by 5% at constant exchange rates during the first four months of the year. Management now expects full-year results to be “ahead of previous expectations”.

What’s changed?

If you look at Coats’ share price graph for the last year, you might wonder why the firm’s shares rose by 44% in one month during December. The answer is that Coats managed to negotiate a settlement with the Pension Regulator, regarding two of its historic final salary schemes which carry large deficits.

In return for additional funding of £329.5m by 2021, the body agreed to cease regulatory action against the two schemes. This resolution seems to have coincided with a decent upturn in Coats’ performance, with adjusted earnings up 23% to 4.91 cents per share last year.

After Wednesday’s news, I estimate that the stock trades on a forecast P/E of about 11.2. Although the forecast dividend yield of 1.6% is quite low, I think there’s scope for medium-term growth which could reward patient shareholders.

A premium approach

Restaurant and pub group Mitchells & Butlers (LSE: MAB) was one of the biggest losers on Wednesday morning, falling 7% after reporting a 10% drop in pre-tax profit.

The group — whose businesses include All Bar One and Toby Carvery — said that pre-tax profit had fallen by 9.6% to £75m during the 28 weeks to 8 April, despite a 1.6% increase in like-for-like sales. Phil Urban, chief executive, says that “wage inflation, property costs and exchange rate movements” were to blame for lower profit margins.

To combat these rising costs, it is upgrading some of its sites, placing an increased emphasis on “premiumisation”. In other words, the group is trying to encourage people to choose more expensive food and drink options.

There’s some evidence this approach is working. Average spend per food item rose by 5.9% during the first half, while the average cost per drink rose by 4.2%. The only problem is that these gains were accompanied by falling volumes of both food and drink sales.

Mitchells & Butlers needs to find a way of pushing through premiumisation without losing too many customers along the way. This could be a challenge, but it’s worth remembering that this group also has a £4.4bn property portfolio. My calculations suggest that this gives it a tangible net asset value of 360p per share.

At 257p, it is trading at a 28% discount to net asset value. Rival Punch Taverns was recently taken over. If Mitchells & Butlers’ discount continues to grow, I could see this group becoming a potential bid target too. In the meantime, the stock’s 2.8% yield looks well covered by earnings.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland Head owns shares of Coats Group. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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