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Daily Telegraph: Not bad results this half but UK plc could do better: Jeroen van der Veer, chief executive of Shell, whose sums have given so much trouble recently, admitted: "It is clear we must improve our project management.": Saturday 30 July 2005


(Filed: 30/07/2005)


Although company figures are encouraging, economists know the truth, says Philip Aldrick


School's out for the City. The summer holidays have arrived and corporate Britain has been packing up its pencil case to head off on a well-earned break. A total of 21 blue chip companies published their half-term reports this week, 14 of them on Thursday, and the figures show that only one or two have been slacking.


"Things do look quite rosy at the moment," says Richard Buxton, head of UK equities at Schroders. "Aside from the companies directly facing the consumer on the high street and feeding off the housing market, the corporate sector is in good health.


"In the last few years balance sheets have been repaired, cash flows have been rising and companies are feeling more confident - as expressed in their dividend growth. And it's likely to continue as they begin to invest again."


Almost without exception, the companies that reported this week outpaced analysts' profit forecasts and lifted their payouts to shareholders. On average, the dividend rose by 9pc, a really impressive rise when inflation is under 3pc.


Those bumper profits are valuable in more ways than one, though. Through corporation tax, they account for nearly 10pc of the Government's total tax take - 33.5billion of the 385billion received last year. Profitability also ensures there is investment for future growth and future jobs.


So last week's crop of news is encouraging for all. BP grabbed the headlines with a profit for the three months to June of "369 a second" - as some wags calculated. Cadbury Schweppes and Reckitt Benckiser shrugged off tough competition for their chocolate bars and household products to produce better than expected figures.


The financial institutions plodded on steadily, with Prudential outperforming Legal & General and Lloyds TSB. Rolls-Royce showed there is still hope for British engineering. All the half-term celebrations were reflected in the stock market - the least unreliable barometer of corporate health. The FTSE 100 broke through its three-year high and the FTSE 250 soared to an all-time peak, soldiering through a couple of terrorist attacks with typically British resolve. An open and shut case of Britain in rude corporate health. Or is it?


Economists aren't quite so easily convinced. The days of boom and bust may appear to be behind us, but a muted cycle of expansion and retrenchment continues. The sceptics believe we've just passed the peak. UK companies' aggregate profit growth in the first three months of the year fell back to 4.3pc - its lowest since the second quarter of 2003, according to statistics from Deutsche Bank's UK economist George Buckley.


Certainly, the Chancellor must be unimpressed. He is almost alone in believing that the economy will grow by more than 3pc this year. The last quarter saw an annualised rate of just 1.7pc and most economists outside the Treasury reckon it will end the year a mere 2pc higher.


When that happens, businesses will have to start cutting costs to support profit growth, which could have contagious knock-on effects, according to ABN Amro chief economist Robert Lind. "As the economy slows here, there will have to be cost cutting and if companies start shedding labour it'll reinforce the consumer downturn," he says. One of the companies' apparent strengths may also prove to be an Achilles heel. Corporate Britain has snatched the mantle of prudence from the Chancellor, with national statistics showing that companies hav...e been net savers since the last quarter of 2001.


Stephen King, chief economist at HSBC, says: "For the most part, profits are being used to pay off debt, to boost pension schemes and to return funds to shareholders through dividends and buybacks."


Sensible as that sounds, corporate Britain may have failed to seize an opportunity. "Typically, buoyant profits imply high levels of optimisim, hence lots of investment." Now companies are "running cash surpluses, implying that they simply don't know what to do with their currently high profit levels".


Official figures show that corporate Britain's research and development budgets were unchanged in 2003, at 11.7billion, and that's after the massaging effect revealed by David Willetts here this week. There were also 2,000 fewer scientists and engineers in UK factories than the previous year. Investment is trending downwards, quarter by quarter.


To make matters worse, pension deficits have been worsening despite the extra 10billion contributed by UK plc between 2002 and 2004 and the recovery in the stock market.


Low interest rates and actuarial revaluations of mortality lifted the combined FTSE 100 pension deficit from 61billion in 2004 to 67billion in June. Further rises in share values will reduce the deficits, though, as Mr Buxton points out. Innovation is essential for companies to stay healthy and ahead of the competition. Both Cadbury and Reckitt plough around 1.5pc of turnover back into product development, raising their game in the first half by backing that with marketing.


Perhaps the best example, though, is Rolls-Royce, which redesigned its aero-engines several years ago to work in ships and as industrial turbogenerators as well as in aeroplanes. The innovation opened new markets and the profits have flooded in since. Those, in turn, have been reinvested in improving its original designs. So successful has Rolls proved that it has overtaken the US giant Pratt & Whitney to become the world's second largest aero-engine maker, after GE, with about 30pc of the market.


A fairer picture, then, is of an industry in good rather than rude health. Several companies themselves have even urged a little caution. British American Tobacco chairman Jan du Plessis said at Thursday's "exceptional" half-year results: "I feel obliged to remind shareholders that the comparisons with 2004 will inevitably become more demanding." Ian Meakins, chief executive of pharmacy and distribution business Alliance Unichem, cut his full-year forecast for the group's wholesale market operations. And Jeroen van der Veer, chief executive of Shell, whose sums have given so much trouble recently, admitted: "It is clear we must improve our project management."


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