City broker Liberum has downgraded FTSE 250-engineering firms Bodycote PLC (LON:BOY) and IMI PLC (LON:IMI) to ‘hold’ from ‘buy’ and to ‘sell’ from ‘hold’ respectively as its analysts forecast a “sharp correction” in the capital goods sector, leading to destocking and cost inflation.
In a note to clients, Liberum’s analysts said Bodycote’s “unique business model”, in which it holds no inventories, left it better placed than its peers to combat the destocking and cost inflation that was expected to hit the sector.
They added that despite its early cycle indicator (ECI) for the sector indicating a substantial drop in earnings, earnings per share (EPS) forecasts for Bodycote over the next two years were only 4% below consensus on the expectation that margins “should remain resilient” due to continued growth in its specialist technologies division.
However, Liberum was less kind to IMI, saying that an expected destocking in 2019 would compound a hit to margins caused by slower growth in its precision division, adding that margins for the firm were expected to “flatline” from 2018 to 2020.
Analysts also cut their target price for IMI to 1,020p from 1,275p as they felt its other divisions would not be able to offset downgrades in the precision arm of the business.
In its sector valuation, the broker said that its ECI had fallen from a peak above 1.2 to below 1.1, an indicator it said was “a key sector sell signal” as the value of the sector had fallen on six out of the last seven occasions that the ECI had dipped below the 1.1 level.
Liberum added that across the last seven occasions, the average decline in the sector stood at 28%.
In mid-morning trading Thursday, Bodycote shares were down 3.7% at 906p, while IMI shares were down 2.5% at 1,173p.