Sectors that are undergoing cyclical downturns can be great places to look for shares to buy. And there’s one UK stock in particular that I think is terrific value at the moment.
Essentially, it looks to me as though the market is pricing the stock as though its current problems will continue indefinitely. In my view, though, this is a mistake.
Fancy threads
Shares in Burberry (LSE:BRBY) have fallen 47% over the last 12 months. I think this puts the stock firmly in value territory.
Not long ago everything looked great. High-end consumer products were thought to be immune to cyclical downturns and the company was set to benefit from a growing middle class in China.
How things have changed. Sales in the US have declined and economic growth in China has stalled, leading the company to forecast a 31% decline in profits for 2023.
In my view, though, this is an overreaction. Things were almost certainly never as good for Burberry as they were thought to be, but I think it’s also likely they aren’t as bad as they seem now.
Value
Burberry currently has a market cap of £4.65bn. For the most recent year, management expects earnings to be at least £410m.
At today’s prices, that implies a price-to-earnings (P/E) ratio of just over 11. And that’s in a year when things have gone badly.
Over the medium term, profits are forecast to be around double that, in the region of £800m per year. If the company achieves this, then today’s prices are going to look like unbelievable value.
The firm’s long-term ambitions are more greater still. But even if it doesn’t manage to hit all its goals, it looks to me like there’s a margin of safety in the stock at the moment.
Risk
Unlike other ‘luxury’ – more on that later – companies, such as LVMH, Burberry doesn’t have a diversified collection of different brands in different industries. Its eggs are all in one basket.
I’m not saying I’d like the stock better if the company acquired a lot of weaker brands in the name of diversification. But I think there is a risk that comes with concentration, even in a strong name.
Equally, I’m not convinced Burberry is really a ‘luxury’ category, rather than a ‘premium’ one. The difference is the latter sells products based on the idea that they’re better, not just a status symbol.
This might be important – the ‘true’ luxury market is less cyclical, as demonstrated by LVMH’s continued strength. This implies Burberry’s brand might not be as resilient as one might imagine.
Greedy when others are fearful
That being said, cyclical downturns can provide investors who have a long-term focus the chance to buy shares in good companies at unusually good prices. And I think this might be one such occasion.
Burberry’s problems seem to be largely to do with the macroeconomic environment, rather than the firm itself. The company looks resilient to me, so I’m expecting it to emerge stronger on the other side.
