Established in 2007, with the goal of providing low-cost fitness to everyone without requiring a contract membership, The Gym quickly expanded across the UK. Having opened its first fitness club in 2008, the company reached 7,000 members by year-end. With an aggressive growth strategy plan, The Gym went public in 2015, raising £125m in cash that has been spent to expand the business.

According to the latest reported numbers, The Gym generated £123.9m in sales in 2018, which spreads over a respectable footprint of 158 clubs and 724,000 members. These numbers convert to an average revenue of £784,000 per club and £171.1 per member (£14.3 on a monthly basis). Such figures are impressive and give The Gym a 25% share of the low-cost fitness market currently.

Negative sentiment

Between November 2016 and September 2018, The Gym’s shares went on an impressive run, rising 116% from 159p to an all-time high of 343p. But the shares took a hit in the third quarter of 2018 and declined 46% to 186p in March 2019. The end of 2018 was a rough period for equities in general, and for small caps in particular. Moreover, investors were becoming anxious about The Gym’s weak returns. While profitable, The Gym’s return on capital employed (ROCE) has been hovering around 6, which is on the low side. At the same time profits have been too low relative to the stock’s price, pushing the price-to-earnings ratio to values around 30.

But the last reported profits showed a strong 2018, with sales growing 36% to £123.9m, and earnings up 12% to 8.4p per share. The City estimates revenues to grow £150m this year and £170m next year, and earnings per share (EPS) to grow to 11.7p this year and 14.3p next year

Good prospects for the near future

The positive sentiment deriving from the last reported profits and upgraded forecasts are already reflected in the 22% price jump over the last few weeks. Still, shares are trading at 227p, which is 51% below their record high close of 343p.

One key reason for The Gym showing poor return on capital and negative cash flows is the amount invested back on its own business through capital expenditures. For each £1 in sales, 38.2p is invested back. By this metric, The Gym is a top 15 entry in the FTSE All-Share. But such an aggressive growth strategy is allowing The Gym to become a leader in the low-cost fitness market, which should help on future profits. At the same time, money invested back in the business will decrease, freeing up funds to potentially increase dividend distributions.

I foresee a large upside potential for the shares, and believe they’re due a recovery to at least the previous high at 343p in the near term.

The post Why I think this growth stock is set for a healthy recovery appeared first on The Motley Fool UK.

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frcosta has no position in any of the shares mentioned. The Motley Fool UK has recommended The Gym Group. 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.

One little-known fact about UK equities is that they’re in bear market territory, if we take the FTSE 250 as a benchmark. The mid-cap index rose 14% since bottoming on 27 December, but the accumulated decline between 14 June and that date has been exactly 20%, which defines a bear market. While a decline like this doesn’t necessarily mean we’re heading towards recession, the increase in volatility is a warning sign. If nothing else, it’s time to look for safer equities.

Tilting portfolios towards changing conditions

One simple way to prepare for a downturn is to sell all stocks in our portfolio, but that isn’t wise, because we don’t know the exact timing and dimension of a potential deceleration. There are many ifs, as this is just a probabilistic scenario.

We can do much better, if selecting stocks that are stronger on the factors that are expected to prevail under a deceleration scenario: value, quality and low volatility. When growth decelerates and volatility increases, cheaper and financially sound stocks (with less uncertainty surrounding them) tend to outperform the market.

How can we capture those features?

We need proxies for the factors. I’ll be using earnings before interest and taxes (EBIT) yield to capture value, as I believe it’s more reliable than the P/E ratio. I’ll be using the return on capital employed (ROCE) ratio to capture quality, as it tells how well a company employs money into the business. Finally, I’ll compute the standard deviation of returns to use as proxy for low volatility.

The short list

With the proxies selected, it’s time to screen stocks and rank them, from best to worst, using one ratio at a time. The higher the EBIT yield, the higher the ROCE, and the lower the standard deviation, the better. Because I prefer stocks ranking high on the three factors at the same time, I use an average rank, computed from the three ratios. For my universe of assets I selected the FTSE 250 to exclude the 100 largest capitalisations that are supposedly more exposed to Brexit. I also excluded financials and utilities from the list.

The top spot is taken by Hays. The staffer and recruitment agency ranks in the top 30 by EBIT yield and top 10 by ROCE, while showing less volatility than average. The second spot is taken by 888 Holdings. The resort and casino company that largely provides gaming entertainment ranks very similarly to Hays, offering good protection for any downsize as its EBIT yield is the highest of the three stocks. Finally, QinetiQ Group offers the best protection against rougher market conditions, as it ranks in the top 5 by volatility.

The post 3 FTSE 250 stocks I’d hold right now appeared first on The Motley Fool UK.

More reading

• £5,000 invested in Rolls-Royce shares on 17 April is now worth…
• Up 30% in April but still at a 10-year low! Is this the best stock to buy in May?
• 3 REITs to consider as buy-to-let gets tougher in 2026!
• Lost money on Diageo shares? Consider buying this £2.19 FTSE stock to try and make it up
• How much is needed in an ISA to target a £2,764 monthly passive income?

frcosta 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.