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Why Ansell Limited can deliver a profit upgrade later this year

Shares in Ansell Limited (ASX: ANN) are clawing back some of yesterday’s losses with its downbeat profit results and outlook commentary prompting shareholders to cut and run.

But the company still has a few growth levers it can pull and management may yet issue a profit upgrade before the end of the calendar year.

The stock jumped 1.4% to $24.20 during lunch time trade but that’s not even half of its 3.9% tumble on Monday after management reported a 22.1% plunge in earnings before interest and tax (EBIT) and a 1.2% drop in total revenue to $766.4 million for the six months to end December 2017.

Rising input costs are one factor weighing on earnings but the rubber products maker is also undergoing a restructuring and has sold its condoms business.

If you excluded the impact of that along with other one-off costs, EBIT would have actually risen 3.1%, although you shouldn’t get too excited.

It seems that the gains are all driven by currency movements. If you allow for that, adjusted EBIT would have dipped 2.1%.

However, management is actively on the prowl for takeover targets and an astute buy will almost definitely trigger an earnings upgrade on top of the modest one management  provided yesterday when it lifted its FY18 earnings per share (EPS) range to between $0.96 and $1.06 from $0.91 to $1.01 a share.

The company has enough in its war chest to make a sizable acquisition. Morgan Stanley estimates Ansell will have around US$67 million net cash by end of FY18.

If the market likes the acquisition, it will also trigger a re-rating in the stock (meaning investors are willing to pay a higher multiple for the stock).

But Ansell may not need mergers and acquisitions (M&A) to get a re-rating. Morgan Stanley is convinced that the market will re-rate the stock in the second half of this financial year as investors become more comfortable with Ansell’s second half earnings outlook. The broker is urging investors to buy the stock with a price target of $27.64 a share.

It isn’t only Morgan Stanley that holds this upbeat view. Morgans (not to be confused with Morgan Stanley) is also predicting a stronger second half for Ansell and has an “add” recommendation on the stock with a target price of $26.30.

“Notably, the new channel strategy looks to be accelerating, with 1H inked agreements more than double those seen in all of FY17,” said Morgans.

“And despite some margin headwinds, with a volume/mix focus in lieu of price, expect profitability to improve.”

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Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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