What I would buy – and why
Since I’ve started this blog, I’ve received quite a few messages from readers wondering what Irish equities I would recommend to investors, and the reasons for doing so. As regular readers will know, I am bearish on the market at this time and wouldn’t be buying anything given the uncertain backdrop, but once I’m satisfied that markets have calmed down there are a few Irish shares that I have on my wishlist. As ever, people are strongly recommended to do their own research and to seek professional advice before making any investments, and to reiterate, I won’t be buying any of these in the immediate future, given that stock markets look to be heading south. With all of that out of the way, here are some of the things that I have on the shopping list for when markets calm down.
Abbey (Current Price €5.00, Market Cap €115m)
For the sake of full disclosure, I currently have a position in Abbey, but I wouldn’t be averse to picking up some more shares in this listed housebuilder. There are two main reasons why I like it – firstly, the company has a proven track record of being cautious and for years now it has had one of the strongest balance sheets of any housebuilder listed on either the FTSE or the ISEQ. Indeed, when you look at how many Irish construction companies have gone bust since the start of the recession you would have to wonder what shape Ireland would be in today had more building moguls followed the conservative example set by Abbey CEO Charles Gallagher. The second reason is that this stock looks very cheap to me – looking at its interim results I see that it had €100m in cash and no debt at the end of October. Since then the company has been engaged in a share buyback, which has seen the repurchase of 1.65m shares to date. This will have cost c. €8m, and all other things being equal this gives net cash of €92m (€4.00 a share) and therefore an enterprise value (market cap less net cash) of €23m (€1.00 a share). For that you get a group that Goodbody forecasts will generate EPS of 56.4c in the year ending April 2012 and 82.4c in the following financial year. So, stripping out the cash the company is trading on an adjusted PE of under 2x this year and just over 1x for the following year. Looking at it on a price / book basis, Abbey’s net asset value at the end of April 2010 (the last period for which we have audited results) was €160.4m, or nearly €7 a share. The group is currently trading at a discount of circa 30% to that, which is cheap in absolute terms. Why am I not rushing in to buy this now? Leaving aside my fears about the overall outlook for markets, I am bearish on the near-term prospects for the housing sector in the UK and Ireland, a point that Gallagher himself acknowledged in the H1 results when he said: “The outlook for the foreseeable future is quite bleak“. Next month’s full-year results release will provide investors with an update on how the markets Abbey operates in have evolved since then.
DCC (Current Price €19.57, Market Cap €1.6bn)
DCC is a class act. The group makes no bones about its focus on delivering good returns, and for some years now it has been churning out ROCE of c. 20% and ROE in the mid-teens. Its operations are quite diverse – it is the market leader in both the UK and Ireland in fuel distribution, while it also operates in the IT, Healthcare, Food and Environmental sectors. Like Abbey it has a very strong balance sheet. Net debt at the end of March was a mere €45m, or 0.2x its EBITDA. This gives it considerable flexibility when attractive acquisition opportunities come its way – with EBITDA of circa €280m you could easily see it spending over €500m on deals over the coming years, which given the firm’s proven track record of generating returns would see substantial upgrades to earnings estimates. At the current price of €19.57 it trades on c. 10x prospective PE, which is remarkably cheap for a company of its quality, balance sheet strength and one that has previously traded on a mid-teen prospective PE ratio.
Irish Continental Group (Current Price €15.70, Market Cap €390m)
ICG, the operator of Irish Ferries, has proven to be the best stock I’ve ever bought. After the collapse of the bid interest around it in late 2009 the share price slumped to just €10. I bought it there and have enjoyed an annual 10% dividend yield (based on my in price) and capital appreciation of nearly 60% ever since. I still like it, even up at these levels. Like the above two companies it has a very strong balance sheet, with net debt of only €4.0m at the end of April. This is less than 10% of the EBITDA it is likely to generate this year. The dividend yield at the current share price is 6.4%, which is the second highest yield of any Irish plc after Greencore. Importantly, this dividend is also well covered – the cash cost of the dividend is €25m a year, or less than half of ICG’s operating cashflows. With a well invested fleet of ships and few potential acquisition targets, so no major capex or M&A spend likely over the coming years, I wouldn’t be at all surprised if we were to see special dividends from this company in the medium term. While oil provides a near-term headwind, the recent withdrawal of some of ICG’s competition from the Irish Sea should help the company push up rates to compensate for this. Looking further ahead, when the Irish economy starts to pick up, expect to see a surge in volumes carried by the firm which, along with Stena, enjoys a virtual duopoly on the sea lanes between Ireland and the UK.
Smurfit Kappa Group (Current Price €7.80, Market Cap €1.7bn)
For the sake of full disclosure, I am a shareholder in Smurfit Kappa Group. At first glance, this looks like a bit of a anomaly within my portfolio, given how negative I am about the economic outlook. And when it comes to the European economy, there are few better ways to play it than the company that produces more cardboard boxes than any other firm across the continent. However, what attracted me to this name was not so much the potential for a pick-up in the economy, rather it was the de-leveraging story around this stock. The company has seen its net debt fall from €4,882m at the end of 2006 to €3,061m at the end of March this year. Helped by price increases, EBITDA should hit at least €1bn this year, from €904m in 2010, which will help facilitate further meaningful debt paydown over the coming years. With a market cap of €1.7bn, I see a decent pick up in the equity component of the group’s enterprise value over time, while a recovery in the markets will likely lead to a re-rating of the group. However, this is clearly one for the longer-term, given the near-term economic headwinds.