The two FTSE 100 companies I’m looking at today are both worth less than they were a year ago. That’s a poor performance, given that the FTSE 100 has rallied almost 20% over the same period.
However, I believe the companies are suffering because they operate in sectors that are unpopular at the moment. I see significant opportunity for investors in both businesses.
A 5.7% yield with growth potential
Investors often think of Centrica (LSE: CNA) as a utility firm which owns British Gas. That’s true, but the group is far more diversified than this description suggests.
It also has a North American utility business and is one of the UK’s largest power generators. Moving away from utility activities, it has a sizeable energy trading business and an oil and gas production division.
The group’s shares currently trade on a 2017 forecast P/E of 13, with a prospective yield of 5.7%. This valuation suggests to me that the market is pricing it for a fairly dull future with limited growth.
I think this cautious view could be mistaken. Chief executive Iain Conn has overseen a widespread review of the firm’s activities over the last two years. The firm has made big cost savings and net debt has fallen from £6.5bn in 2014 to £4.5bn.
Centrica’s 2016 results showed a level of profitability not seen since 2012. Return on capital employed rose from 12% to 16%, and the group’s adjusted operating profit rose by 4% to £1,515m.
Profits are expected to rise by a further 10% in 2018. In my view, two or three years of growth at this rate could be enough to add 30%-40% to the share price. In the meantime, the well-covered dividend yield of 5.7% provides an attractive reason to hold the stock.
This crash landing could be a buy
Shares of budget airline easyJet (LSE: EZJ) have lost a third of their value over the last year. This sell-off has been driven by a sharp fall in profits. easyJet’s earnings fell by 21% last year, and are expected to fall by a further 29% to 76.7p per share this year.
However, this doesn’t mean that the airline is struggling to fill its flights. In fact, growth remains strong. Despite an 8.6% increase in capacity during the first quarter, easyJet’s load factor — the percentage of seats sold — remained almost unchanged at 90%.
The real problem seems to be the weak pound. easyJet expects pre-tax profit to fall by “around £105m” this year, purely as a result of the weaker pound. That’s equivalent to a 21% fall in pre-tax profit.
Should shareholders be alarmed? I don’t think so. The impact of exchange rates on companies’ cash flow is often much lower than the impact on reported profits. Over time, exchange rate gains and losses tend to even out. For these reasons, I’m more interested in the trading prospects, which remain strong.
The latest consensus forecasts suggest that earnings per share could rise by 15% to 88p in 2017/18. Further gains might be possible if exchange rates move in the firm’s favour.
Based on the stock’s 2017 forecast P/E of 13, a return to last year’s level of profit might be enough to lift easyJet stock to 1,400p, 40% above its current price.
