With a price-to-earnings (P/E) ratio of 35 and a dividend yield of 1%, the stock isn’t an obvious bargain. But I think there could be big rewards for a patient investor here.
Halma isn’t the best-known stock in the FTSE 100. So it might be worth starting with a quick overview of the business to get an idea of what investors should be looking for.
In short, the company is a conglomerate – a collection of smaller businesses. These are organised around three main themes: safety, monitoring, and life sciences.
The stock trades at a high P/E ratio, but Halma has two strategies for growth. The first is by improving the businesses it owns and the second is by adding new ones.
There are two main risks with the business. The first is the possibility of not finding enough acquisition targets and the second is overpaying for them.
At the moment, the stock is down by around 9% from where it was a year ago. And at £20, the share price is not far from its 52-week low of £19.30.
There are a couple of reasons the share price has been falling. Both come from the company’s most recent earnings report.
First, at 62p, Halma’s earnings per share came in 4% lower than they did in 2022. Second, the company’s cash conversion ratio dropped from 90% to 78%.
At first sight, both look like significant issues. But on a closer inspection, I don’t think either is a big cause for concern.
The reason earnings came in lower than 2022 was because the previous year included a one-off gain from the sale of a business. Without this, earnings this year were up 8%.
Equally, cash conversion came in lower due to inventory issues in the first half of the year. During the second six months, this returned to 90%.
The company’s issues therefore look temporary to me. Putting these aside, there are a few reasons I think this is one of the best FTSE 100 stocks for investors to own.
First, Halma’s portfolio of businesses is focused on firms that have dominant positions in niche markets. This makes them difficult for competitors to disrupt.
Second, the company has a good track record of growth. Over the last decade, earnings per share have increased by an average of 8% per year.
Third, Halma’s balance sheet is strong, with interest payments on its debt taking up less than 2% of operating income. This makes it unlikely to run into trouble.
Fourth, the company has extremely low capital requirements. Around 80% of the cash it generates becomes free cash that is used for growth, dividends, and share buybacks.
A stock to buy
Even at 52-week lows, Halma shares don’t look obviously cheap. But I think this is an investment that can grow into its valuation and provide patient investors good returns over the long term.
Right now, it’s top of my list of FTSE 100 stocks to buy. When I’m looking to deploy cash next month, Halma is likely to be firmly in my thinking.