Shares of industrial services group Cape (LSE: CIU) rose by 17% this morning. In this article, I’ll explain what lies behind today’s news, and ask whether Cape deserves a buy rating.
I’ll also consider the attractions of another a mining stock — one which has stacks of cash, and offers a 6% forecast dividend yield.
A sudden turnaround?
Cape issued a trading update this morning advising investors that 2016 full-year results are expected to be “materially ahead of current expectations”. In my view, that’s likely to mean that adjusted earnings per share will be 10%-20% higher than current consensus forecasts.
If I’m right, then we could be looking at earnings of 28p-30p per share for 2016. Even after today’s gains, Cape shares would still be trading on a forecast P/E of about six, with a prospective yield of 7.8%.
This cheap valuation could be a buying opportunity. But it’s also a warning that the dividend may be unsustainable.
Cape is involved in a significant amount of litigation relating to industrial disease claims and, more recently, to product liability claims. Although this all relates to historic elements of the group’s business, the costs must be met by today’s shareholders.
Cape shares fell by about 25% in November after management warned investors that the dividend might have to be cut if the firm loses a complex trial that’s due to start this month.
A second concern, in my view, is that Cape already has quite high levels of debt. The group’s June 2016 net debt of £113.7m is double the level reported in 2010, even though its profits are now much lower.
Today’s news suggests that trading conditions are improving for Cape, but doesn’t really change the financial risks facing the firm. There’s no way to know how the various legal actions will turn out, which makes the shares too speculative for me.
A 6% yield from copper?
One of today’s other movers is fast-growing Kazakhstan copper producer Central Asia Metals Ltd (LSE: CAML). According to an operations update this morning, the group’s copper production rose by 16% to a record high of 14,020 tonnes in 2016.
CAML has very low costs, and the development of its Kounrad project was fully funded by shareholders. This means that when Kounrad went into production, CAML had no debt and plenty of cash.
The firm’s shareholders are now benefitting from this far-sighted approach. The value of their stock has doubled over the last four years, while dividend payments have risen by about 55%.
CAML reported an impressive operating margin of 50% during the first half of last year. The price of copper has risen since then, and I expect cash generation and margins to improve in 2017.
The shares currently trade on a forecast P/E of 13 and offer a prospective dividend yield of 5.8%. Earnings per share are expected to rise by 13% in 2017. For investors who are happy with the risks of investing in emerging market mining stocks, I believe CAML remains a tempting buy.
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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.