Can growth continue with these stalwarts, and are the shares cheap?
Capital appreciation is surely the goal of many investors. One method of achieving that is to buy companies with steady earnings growth. If bought when the shares are cheap, two drivers could move the share price up:
- growth in earnings, and
- an upwards P/E re-rating.
Highly successful fund manager Peter Lynch classified steady growers as Stalwarts, which he typically traded for 20% to 50% share-price gains. But, whether buying for gains like that or holding for the longer term, we need to know if reliable earnings growth can continue, and whether the shares are cheap.
Seeking durable growth
Not all companies achieve stable growth as you can see by the aggregate performance of those in London's premier FTSE 100 index (UKX), where the compound annual earnings-growth rate has been just 0.7% over the last five years:
|Year to June||2007||2008||2009||2010||2011||2012|
|FTSE 100 index||6608||5626||4249||4917||5946||5571|
|Aggregate earnings per share||537||503||427||397||527||557|
Consistent, cash flow-backed growth in profits is a promising characteristic in today's markets so, for this series, I'm examining firms with annual earnings growth between 4% and 20% (you can see all of the companies I've covered so far on this page).
Over the last few weeks, I've looked at British American Tobacco (LSE: BATS), Sainsbury (J) (LSE: SBRY), Next (LSE: NXT), Tesco (LSE: TSCO) and Aberdeen Asset Management (LSE: ADN). Let's look at how each of them scored against my five earnings growth and valuation criteria (each score in the chart is out of a maximum five):
|Share||British American Tobacco||Sainsbury||Next||Tesco||Aberdeen|
|Outlook and current trading||4||4||4||3||4|
|Enterprise value/free cash flow||2||2||3||1||5|
|Total (out of 25)||17||17||18||12||24|
Aberdeen is the highest scorer by a long way. Once again, there is plenty of sector diversification available in this latest assembly of steady growing stalwarts.
Despite anti-smoking legislation, tobacco companies seem to keep growing and British American Tobacco is one of them. In a management statement delivered on 24th October, BATS's directors confirmed the continued steady progress of the company. The firm sells more than 300 cigarette brands to around 39 countries with about 27% of turnover coming from the Asia Pacific region, 27% from Eastern Europe, the Middle East and Africa, 23% from the Americas, and 23% from Western Europe. If BATS can keep converting its highly repetitive revenues to earnings, further growth seems likely.
Sainsbury has been performing well lately. On 14 November, it revealed 9.4% increase in underlying earnings per share. The firm reckons it now commands a 16.7% share of the nation's grocery market -- the highest for almost a decade -- and a feat achieved after what is now 31 consecutive quarters of like-for-like sales growth. The supermarket chains seem to be battling it out in the arena of fresh food just now and Sainsbury's plan is to source its produce from Britain, thus reducing food miles, promoting British farming and, hopefully, ending up with fresher food to sell. Let's hope it all adds to earnings growth too.
Britain is important to Tesco, as it accounts for two-thirds of global sales. That's why it's good to see the firm getting to grips with its domestic troubles by kicking-off a new investment program designed to spruce up its British offering. Abroad, the company recently announced a strategic review of its troubled US operation Fresh and Easy. Both initiatives could help restore Tesco's wilting earnings-per-share figures going forward.
Since 1982, Next has been building its brand, and it updated the market on the 31 October saying that full-year earnings are expected to come in up between 10% and 15%. The firm sells its range of clothing, flowers, gifts, sports gear, baby gear and electricals via its chain of more than 500 stores in UK and Ireland, 200 mainly franchised stores around the world, and its home shopping catalogues and websites that serve around 50 countries. There's no sign of the brand losing its popularity, which encourages me to believe that further earnings growth is on the way.
Lately, asset management firms like Aberdeen haven't been earning as much in performance fees as they used to. Nevertheless, funds keep pouring in and that enables a healthy margin on management fees. Despite persistent uncertainty in financial markets, the firm continues to power ahead. The release of its full-year results on 26th November revealed another good set of figures with revenue up 11% and underlying earnings per share up 21%. This enabled a 28% hike in the total dividend, and follows a long-rising share price and promotion to London's premier FTSE 100 index in March - 29 years after the company was established. If those performance fees kick in any time soon, earnings per share could really take off.
Further ideas for capital gains
Those five shares have been among the several steady-earnings-growing stalwarts trading on the London stock exchange and, if growth continues, each has the potential to deliver significant capital appreciation when purchased at sensible prices.
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Kevin owns shares in Tesco but not in the other companies mentioned. The Motley Fool owns shares in Tesco.