Everybody loves a bargain, but that doesn’t mean you should buy a share (or anything else) just because it is cheap. The following two stocks are available at a big discount but does that make them good value for money?
BT Group
Telecoms giant BT Group (LSE: BT.A) saw its share price collapse in mid-January on its £530m Italian accounting scandal. This wasn’t the only problem. Falling public sector and private corporate customer spending are hitting revenues with free cash flow expected to fall from around £3.2bn to £2.5bn this year.
The bad news has kept coming, with BT thumped by a £42m Ofcom fine for cutting compensation payouts to rivals for delays in providing high speed via its Openreach broadband network, plus £300m in compensation. Ofcom is also pushing to make it “cheaper and easier” for BT’s competitors to connect their own fibre broadband directly to homes and offices, wiping out much of the advantage of owing Openreach.
Wrong numbers
It gets worse. BT also has to cope with a massive pension shortfall, valued at £9.5bn last October, and estimated to be as much as £11bn today. It faces a triennial pension valuation in June – last time it had to stump up £2bn. It also racked up debt through its £12.5bn purchase of mobile rival EE, and has to fund its superfast broadband and 4G rollout. There are also worries about Premier League viewing figures. No wonder the share price has slipped again, after briefly recovering in February and early March.
Despite these challenges, BT has promised to increase its dividend by 10% in both 2016/17 and 2017/18, pleasing investors but putting further strain on its coffers. Given these challenges, a forecast valuation of 10.8 times earnings isn’t as tempting as it normally would be. However, it is sweetened by a forecast yield of 5.4%, covered 1.7 times. Earnings per share (EPS) are expected to recover from last year’s 17% dip to rise 3% over each of the next two years. Long-term investors might like to take a position now, just do not expect instant rewards.
Capita Group
Shares in outsourcing giant Capita (LSE: CPI) have fallen a hefty 46% over the last year. It was the worst performer on the FTSE 100 in 2016, punished by a profit warning as the business slowed due to one-off costs and client hesitation over spending. That drove its share price to a 10-year low, but there have been signs of life lately, with a 13% rise in the last three months.
You have to be brave to buy Capita, which is burdened with net debt of £1.8bn. But the hoped-for sale of its Asset Services and Specialist Recruitment businesses should help to plug this, raising up to £700m with other disposals and possibly averting a mooted rights issue. Sales have been falling, the growth outlook is patchy, the company’s divisional structure is confusing and hard to follow, and it is exposed to Brexit misery as well.
Fired up
Turning this crate around will take time. EPS are forecast to drop another 3% in 2017, then rise 4% next year. However, a forecast valuation of 10.3 times earnings means that many of the company’s problems are in the price, while the forecast yield of 5.6% with 1.7% cover is definitely tempting. Ace fund manager Neil Woodford believes in the company’s turnaround potential, and so do I.
