This undervalued Yorkshire firm is highly prized by global businesses

Telegraph

13-05-2025

Questor is The Telegraph's stock-picking column, helping you decode the markets and offering insights on where to invest.
Any company with a history of growth in its annual dividend that dates back to the late 1990s must have something to it. Throw in a share price that is down by 70pc from its peak and sits no higher than nine years ago and this column's interest is further piqued.
A turnaround programme designed to rectify a slump in profits and returns on capital is the next building block to the investment case, and then comes a set of first-quarter results to suggest that maybe, just maybe, a depressing run of profit downgrades is ending to complete the set. The company is Croda, a Yorkshire-based specialist in chemicals and ingredients, and patient investors might like to give it a second look
Following 2022's disposal of its industrial chemicals unit, Croda has three main areas of focus: consumer care, life sciences and industrial specialties. Its laboratories develop ingredients for pharmaceutical, personal care and beauty, crop care and industrial companies.
The FTSE 100 index member may often sell small quantities of its niche products, but they are of very high value to its customers, who often cannot do their own work and serve their own clients' needs without them. This strong position conveys at least some degree of pricing power to explain why Croda still makes a double-digit percentage operating margin after a difficult spell since 2022, where the headlines are grabbed by falling profits and that tumbling share price.
Contrarian investors will now want to find out why the profits and share price are in such a tailspin and to see if the situation can be rectified. Three things stand out, and are by no means irreversible.
First, profits earlier this decade were boosted by demand for lipid nanoparticles, an ingredient that helps to improve the efficacy of the Messenger RNA (mRNA) vaccines developed by the likes of Pfizer and Moderna in the fight against Covid. Not surprisingly, demand here has dropped sharply in the past couple of years.
Second, Croda has made acquisitions and boosted capacity through heavy investment and failed to make the most of the expenditure. Since its purchases of Spanish fragrances and flavours firm Iberchem and American lipids expert Avanti in the 2020s, Croda's return on capital has all but halved. Increases in costs have outstripped advances in revenues and shared manufacturing capacity has been under-utilised, leading to poor overhead recovery and profit margin erosion.
Finally, Croda's shares were simply overvalued at their peak. The perception that the company was a reliable compounder with a track record of steady profit and dividend growth, coupled with a long period of interest rates at almost zero, drove the shares to £104 and a forward price-to-earnings (PE) multiple of almost 40. An increase in interest rates, lower profits and a derating on the stock as perception changed and earnings were seen as less than dependable then combined to produce the grinding share price decline.
Chief executive Steve Foots and his team are now looking to improve overhead recovery and capacity utilisation, galvanise product innovation and drive through cost efficiencies to improve the top line, control expenses and enhance returns from the past few years' acquisitions, capital investment and research and development expenditure.
It is still very early days and risks remain. Neither the current febrile macroeconomic environment nor strength in sterling are helpful and business visibility remains low. The forward PE multiple is still 24 times, assuming that Croda can successfully hit its profit guidance for 2025, and that is still a very hefty premium to the FTSE 100, even after the long share price slide.
At least that multiple could be deceptive, since it may be based on a lowly earnings per share figure (EPS) after the woes of the past few years. Croda's peak EPS was 272p, achieved in 2022, which excludes an additional capital on the sale of the industrial chemicals business. Croda trades on just 11 times that figure.
It would be unwise to assume that Croda gets back to that level of earnings power any time soon, given that 2024's outturn was just 143p, but a resumption of positive earnings momentum, and return of investor confidence in the business model, could lead to the ideal combination of the market willingly paying higher multiples of higher profit forecasts, to the benefit of the share price.
In the meantime, net debt is relatively low, and interest cover is very good, so the balance sheet is not a source of any additional pressure. The dividend may not grow quickly for a year or two, at least, but a forward yield of 3.5pc may help investors to stay patient.