Why I’d avoid Purplebricks and buy double-bagger Persimmon instead

Roland Head explains why he’s betting on tough times for Purplebricks but would still back Persimmon.

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The UK housing market continues to attract and divide investors like almost nothing else.

Today I want to look at two of the biggest names in this sector and explain why only one of them deserves a buy rating in my book.

A £232m omission?

Shares of FTSE 100 housebuilder Persimmon (LSE: PSN) edged lower this morning after the firm announced the resignations of Chairman Nicholas Wrigley and non-executive director Jonathan Davie.

These departures were triggered by criticism of the firm’s 2012 Long-Term Incentive Plan (LTIP) for top executives. This is reportedly due to pay out £232m to just three directors. Wrigley and Davie now admit that they should have included a cap on the maximum payout.

When the LTIP was designed, Help to Buy hadn’t been announced. Since then, this government subsidy has contributed about £7bn to the UK housing market, boosting prices and increasing sales.

Help to Buy is now used in around 45% of Persimmon’s sales. It seems fair to assume that the group’s profits would be much smaller without it.

I’m still a buyer

Despite my reservations about the LTIP, the reality is that Persimmon is one of the most successful UK housebuilders. And shareholders have also enjoyed very attractive returns.

The shares have doubled since the start of 2015, and the firm has returned 485p per share (£1.5bn) to shareholders since 2012. A further 440p per share (£1.35bn) is due to be returned to shareholders by 2021.

These plans look likely to be strongly underwritten by the group’s cash generation. Net cash was £1.1bn (c.350p per share) at the end of June, while forward sales stood at £2bn.

Analysts have pencilled in a yield of 5.1% for 2018. In my view Persimmon stock remains a buy.

Follow the insiders and sell?

Shares of Purplebricks Group (LSE: PURP) have fallen by 26% since peaking at more than 500p in August.

And on Friday, the company announced that insiders — including the CEO of the group’s Australian business — have cashed in more than £4m of stock options.

These staff members may simply want a Christmas bonus. But they may feel that the firm’s valuation has got a little ahead of reality. With the shares trading on a 2019 forecast P/E of 144, that’s a view I share.

3 reasons I’d sell

You can read my colleague Zach Coffell’s views on Purplebricks’ recent results here. But I have three particular concerns about this business.

The first is that the company refuses to say how many properties it lists and what percentage of these are sold. Surely that’s essential information for homeowners and investors?

A second concern is that homeowners pay a fee to Purplebricks for listing their property, not for selling it. A conventional estate agent is incentivised to sell your home, because they don’t get paid otherwise. This policy may mean that Purplebricks agents are more interested in signing up new customers than selling houses.

Some conventional estate agents have been caught napping by Purplebricks. But there’s nothing to stop them adapting and offering a more competitive, fixed-price service.

In my view, these concerns could combine to make conventional estate agents more attractive in a slowing housing market. I believe Purplebricks shares remain seriously overvalued, and would sell at current levels.

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 considered so you should consider taking independent financial advice.

Roland Head has no position in any of the 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.

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