A dip in FTSE 100 stocks’ prices can be a great opportunity to buy shares I want in my investment portfolio, at a relatively low price. But sometimes dips can also be red flags, especially when the broader markets are doing well. So I find it instructive to dive into the stock’s particular story to understand what is really happening and what my next steps should be.
Pearson drops on trading update
This is the case for the learning company Pearson (LSE: PSON). The share price has dropped a huge 13% in today’s trading so far, following the release of its trading update. The company has shown a 10% increase in underlying revenue for the nine months ending 30 September, compared to the year before. In itself, this does not sound too bad a growth rate. It is, however, a slower growth than the 17% seen for the first half of the year. This possibly explains investors’ disappointment in the results.
The upside to the FTSE 100 stock
But the fact is, that Pearson’s revenues have been declining for years now. Between 2016 and 2020, they fell by almost 25%. So I am not particularly discouraged by the latest slowing down in growth. In fact, it is a good sign that its revenue is actually growing at all. It has also reported a reduction in net debt, which I think is a positive for all companies, especially while there are still risks to the global economy.
I also like that its biggest revenue generating segments have seen strong growth. Its ‘Assessments and Qualifications’ segment, which accounts for around 35% of its total revenues, has managed to maintain healthy growth despite some softening in the latest quarter. Its growth up to September is at 24% for the nine-month period.
Positive changes for the safe stock
The company is also in the process of reinventing itself for the digital world, stepping away from its reliance on traditional education-related publishing, with the Pearson+ app. Since its launch in July, it has registered 2m users, which is encouraging. It remains to be seen whether the company will thrive with this change in track, but it does seem like a step in the positive direction.
It is also a stock for the risk averse. If there were to be a recession in the future, demand for educational products and services is likely to be affected in a limited way. So buying the Pearson stock can be a good way to diversify my portfolio. Also, it pays a dividend. Its yield is not high at 2.7%, but I don’t mind an extra bit of cash coming in either.
I think its price-to-earnings (P/E) ratio is high at close to 20 times. The average P/E for the FTSE 100 index is at around 15 times, so this is clearly significantly above that. There are a number of other stocks that have similar or lower earnings ratios but have at least in the recent past performed quite well, including miners, and non-essential retailers. To that extent, I think its attractiveness is diminished.
What I’d do
All things considered though, I will wait for its detailed set of results before taking a call on whether to buy the stock or not, never mind the dip.
Manika Premsingh has no position in any of the shares mentioned. The Motley Fool UK has recommended Pearson. 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.