Croda International PLC's (LSE:CRDA) recent deterioration in returns is not permanent, not according to analysts at UBS, which describe the key factors driving the recent trend as 'identifiable and addressable'.
The broker noted that Croda’s return on invested capital (ROIC) ex-goodwill has halved from around 24% in 2019 to 11% in 2024. The most significant drop occurred following the acquisitions of Avanti and Iberchem in 2020, which re-based the group’s returns profile. Since then, returns have come under further pressure due to a sharp rise in operating costs and increased capital expenditure, particularly in the Pharma division.
Operating expenditure rose to 27.9% of sales in 2024, up from a post-COVID average of 24.5%. UBS flagged higher wages and salaries as a key contributor to this rise, which has coincided with a 570-basis point fall in EBIT margin from 22.9% in 2022 to 17.2% in 2024.
In parallel, investment into new Pharma capacity has pushed up capital employed without yet delivering matching profit growth. The result has been a temporary squeeze on returns, according to the analysts.
UBS expects this to change. The company is currently implementing a £100 million cost savings programme, which is expected to be fully effective by the end of 2027.
If achieved, this should help reverse the margin compression seen in recent years, the Swiss bank claimed.
Analysts emphasise that cost control in Croda’s ‘core’ operations (excluding acquisitions such as Avanti, Iberchem, Parfex and Solus Biotech) will be central to delivering a recovery in returns.
“We expect these costs to come down and returns to inflect upwards in the coming years,” UBS said. “With our belief there is upside to consensus estimates … now appears a good time to revisit the Croda investment case.”
Consensus forecasts already assume a recovery in both earnings and returns, but UBS sees scope for further upgrades. The bank’s EBIT estimates for 2027 and 2028 are 7% and 8% ahead of current consensus, respectively. A reversal of recent earnings downgrades could act as a key catalyst for the shares, it added.
UBS repeated a ‘Buy’ rating for Croda.