When share prices fall or trail their index, it can be a sign that a firm’s underlying business performance is problematic or flat. Going with the laggards can deliver superior investment returns over backing previous high fliers such as AstraZeneca (LSE: AZN) and Legal & General Group (LSE: LGEN) if a cheap valuation marries with business recovery.
Let’s look at Anglo American (LSE: AAL), Sports Direct International (LSE: SPD) and Royal Mail, three of the Footsie’s worst share-price performers over the last 12 months, to see if they appear attractive.
Cyclically challenged
At Anglo American, 2014 was a year of significant operational improvement set against sharp commodity price declines amid generally adverse market conditions, reckons the chief executive. It’s tough being a commodity producer when commodity prices, of which you have very little control, swing against you.
Anglo American is one of the world’s largest mining companies with interests in platinum group metals, diamonds, copper, nickel, iron ore, metallurgical and thermal coal. That’s a diversified mix but it won’t save the firm from financial underperformance, as fluctuating market prices dictate what big miners can charge for their output. Such a situation keeps Anglo American focused on cost-control and striving for efficiency gains — in a low commodity-price environment, the firm’s very solvency depends on it.
A big mining company like Anglo American can do well on production and sales but still end up struggling to earn a living due to the vagaries of fluctuating commodity prices. To make sense of an investment in the firm we must take a view on where we think commodity prices are going. At this point in the general macro-economic cycles that ripple around the world, I reckon we might just as well toss a coin to decide.
Anglo American isn’t the promising gem I thought it might be; I’m crossing it off my list of potential outperformers.
Fashionable now, but…
Forecasters continue to predict double-digit, though attenuating, percentages of earnings growth over the next couple of years for Sports Direct. Brisk expansion since the company’s establishment more than thirty years ago demonstrates sportswear’s migration to mainstream fashion. The firm supplies the ubiquitous hoody, baggy tracksuit bottom, baseball cap, branded pumps and other items of ‘me too’ apparel that we see hanging on many folk up and down the country.
The business of selling fashion clothing has a lot of cyclicality attached to it as people’s spending power waxes and wanes. There’s also a big risk that what’s fashionable now might go out of fashion. Movements like that can be swift as punters race to adorn the next craze in fashion and won’t then be seen out in old togs left stuffing their wardrobes. A swing like that could catch Sports Direct blindsided, particularly if the new fashion is unrelated to sports.
There is potential for P/E compression as we move through the current macro-cycle. Forward earnings growth projections are declining — 16%, 15% and 12% — rather than rising, which is undesirable for a growth proposition. Overall, I’m cautious on Sports Direct International.
Competitive industry
In a nine-month trading update released in January, Royal Mail said parcel and letter revenues were both flat year-on-year. For a firm operating in such a competitive market, that sounds like a good result. I’m not expecting Royal Mail’s commodity-style undifferentiated business to shoot the lights out on growth of any kind in the near- or longer-term future.
One advantage that the firm does enjoy is the breadth and coverage of its network. However, that doesn’t guarantee profits with so many others scrabbling for market share. To me, Royal Mail appears to have greater potential to surprise on the ‘down’ side rather than on the ‘up’ side. So why take the risk of an investment here with so many other faster-growing enterprises from which to choose?
Down for a reason
AstraZeneca’s share price rocketed as the firm worked to overcome its patent-cliff headaches and to bring along a new range of treatments from its development pipeline. Further impetus arrived in the form of a takeover pitch from Pfizer. Meanwhile, Legal & General Group powered out of its cyclical nadir to grow well into the up-leg of the current cycle, although forward earnings predictions seem to be easing off. Rather than picking those zooming shares to bet on continuing good performance, has this search of underperforming share prices thrown up a viable investment alternative?
