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Why Are Merlin Entertainments PLC And Dialight Plc Crashing Today?

Two of today’s biggest fallers are Dialight (LSE: DIA) and Alton Towers owner Merlin Entertainments (LSE: MERL).

I’ve been taking a look at the news behind today’s falls and whether they represent a good buying opportunity for investors.

Merlin’s problem

Shares in Merlin Entertainments fell this morning after the firm admitted that June’s Alton Towers roller-coaster crash would have a serious impact on profits. Earnings before interest, tax, depreciation and amortisation (EBITDA) for the key summer period are now expected to be £40-50m, compared to £87m in 2014.

Merlin shares dropped 8% to a low of 385p when the market opened this morning and are currently trading at about 405p, 14% lower than before June’s crash.

Is this the bottom?

Merlin says it is now taking action to “rebuild momentum and re-engage with our customers”.

The group doesn’t say how badly visitor numbers have been affected, but did warn that “there may be some continued adverse impact” on profits in 2016. This suggests to me that Merlin is facing a serious struggle to attract visitors back to Alton Towers and other UK theme parks.

Merlin shares now trade on 21 times 2015 forecast earnings per share. I expect these forecasts to be downgraded after today’s profit warning. Merlin shares look expensive to me, especially as there could be more bad news on profits later this year. I personally rate the group as a sell.

Dialight

Shares in LED lighting specialist Dialight have fallen by 45% over the last year, thanks to a succession of profit warnings. Today’s interim results announcement has sent the stock down by another 5%, to 518p.

Underlying earnings per share fell by 63% to 5.4p during the first half. This suggests that consensus forecasts for earnings per share of 31p in 2015 will now be cut hard. In my view, 15p per share seems more realistic.

Why?

Dialight has been hit hard by the downturn in the oil and gas sector, but after looking at today’s interim results, I think there may be a more fundamental problem.

The group’s profit margins seem to be collapsing. Despite strong sales growth from the group’s flagship lighting division during the first half, operating profit plummeted:

 

Lighting sales

Lighting operating profit

Lighting operating margin

H1 2014

£43m

£7.1m

16.5%

H1 2015

£53.4m (+24%)

£3.5m (-51%)

6.6%

This collapse was reflected in Dialight’s group results. The firm’s underlying operating margin fell from 9.2% during the first half of 2014 to just 2.1% during the first half of the current year.

Dialight’s management says that “operational inefficiencies” in its main factory in Mexico have caused excess costs during the first half of the current year. The firm has relocated a number of staff to Mexico to solve these problems, but doesn’t explain what they are or why they are so severe.

In my view, it’s possible that the group is also suffering from a loss of pricing power. This could be due to cost-cutting in the oil and gas industry and, more widely, to increased competition as LED lighting becomes more mainstream.

We’ll have to wait until October to learn the outcome of Dialight’s strategic review, but I don’t think there is any rush to buy the firm’s shares. Even assuming that earnings start to recover over the next six months, the shares still look expensive to me.

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Roland Head has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.