This small-cap growth stock could be undervalued by as much as 100%

This small-cap income share looks seriously undervalued.

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

It has been a rough 12 months for shareholders of Elegant Hotels (LSE: EHG). The company, which owns and operates hotels and restaurants on the island of Barbados, saw the value of its shares decline by around 40% over the summer last year. That was after management warned alongside H1 results that a reduction in customer demand due to political uncertainty in the UK and the spread of the Zika virus would hit full-year earnings.

As it turns out, revenue for the year declined from $60.1m to $57m, and the revenue per available room decreased by 6.7%. Occupancy fell by 5.5% to 62.9%. Nonetheless, despite sluggish demand, the company has continued with its expansion plan and announced today that it had completed the $11m acquisition of Treasure Beach Hotel in Barbados.

Still, it looks as if things are looking up for the firm. In a trading update issued at the end of February, Elegant informed investors that trading during the first two months of the year was in line with management expectations. While the announcement did not detail management’s expectations for the year, the key takeaway from this trading update is that at least performance has not deteriorated further.

Thanks to acquisitions, City analysts expect the company to report a high single-digit increase in revenue for the financial year ending 30 September. However, pre-tax profit is expected to decline to £9m, from last year’s reported figure of £12.2m. Last year the company’s earnings benefited from a one-off property investment gain. For the 2017 financial year, City analysts have pencilled-in earnings per share of 7.9p, down 22% year-on-year. After 2017, analysts believe Elegant’s outlook is set to improve dramatically. For the following fiscal year earnings per share could increase by as much as 18% as revenue ticks higher by 9%.

Undervalued opportunity?

It seems the market does not believe that the company can hit City targets for growth. At the time of writing, shares in Elegant are trading at a forward P/E of 10.8, which is around half of the multiple of 22 times forward earnings awarded to larger sector peer Intercontinental Hotels Group. This valuation seems unwarranted, especially considering Elegant’s growth potential and strong balance sheet. 

For the year ending 30 September 2017, the company reported loans and borrowings of approximately $46m compared to a cash balance of $6m and property worth $145m. As well as a strong balance sheet, the company is also highly cash generative, generating $17m of cash from operations during the last financial year. Of this total, $9.5m was returned to shareholders via dividends and at the time of writing shares in Elegant currently support a dividend yield of 7.1%.

The bottom line

So overall, even though the past year has been full of uncertainty for Elegant, it looks as if the company is set for steady growth. However, despite the company’s growth potential, cash generation, strong balance sheet and dividend yield, the shares still trade at a deep discount to sector peers. With this being the case, I believe Elegant looks to be a highly attractive undervalued growth stock.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

Could the JD Sports Fashion share price double in the next five years?

The JD Sports Fashion share price has nearly halved in the past five years. Our writer thinks a proven business…

Read more »

Bus waiting in front of the London Stock Exchange on a sunny day.
Investing Articles

If interest rate cuts are coming, I think these UK growth stocks could soar!

Falling interest could be great news for UK growth stocks, especially those that have been under the cosh recently. Paul…

Read more »

Investing Articles

Are these the best stocks to buy on the FTSE right now?

With the UK stock market on the way to hitting new highs, this Fool is considering which are the best…

Read more »

Petrochemical engineer working at night with digital tablet inside oil and gas refinery plant
Investing Articles

Can the Centrica dividend keep on growing?

Christopher Ruane considers some positive factors that might see continued growth in the Centrica dividend -- as well as some…

Read more »

Smiling family of four enjoying breakfast at sunrise while camping
Investing Articles

How I’d turn my £12,000 of savings into passive income of £1,275 a month

This Fool is considering a strategy that he believes can help him achieve a stable passive income stream with a…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

2 top FTSE 250 investment trusts trading at attractive discounts!

This pair of discounted FTSE 250 trusts appear to be on sale right now. Here's why I'd scoop up their…

Read more »

Smiling young man sitting in cafe and checking messages, with his laptop in front of him.
Investing Articles

3 things that could push the Lloyds share price to 60p and beyond

The Lloyds share price has broken through 50p. Next step 60p? And then what? Here are some thoughts on what…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

£1,000 in Rolls-Royce shares a year ago would be worth this much now

Rolls-Royce shares have posted one of the best stock market gains of the past 12 months. But what might the…

Read more »