The Motley Fool

This could be the best recovery stock ever

The UK property market has a hugely uncertain outlook, but I think it could deliver stunning returns in the long run. Last year was an incredibly challenging time for the industry, with uncertainty surrounding Brexit and changes to stamp duty causing investors and buyers to wait on the sidelines for more upbeat prospects. While such a situation may not present itself in 2017, in the long run the sector could prove to be highly profitable for investors willing to buy during a depressed period.

Poor performance

Reporting on Thursday was the UK’s largest integrated property services group, Countrywide (LSE: CWD). Its revenue increased marginally in 2016, but its profitability recorded a steep decline, as challenging trading conditions took their toll. Operating profit fell from £53.8m in 2015 to £28.9m in 2016, while pretax profit was 59% lower at £19.5m. The company cancelled its dividend for 2016 and now intends to pay out between 30% and 35% of earnings to shareholders each year. As such, it is unsurprising that its shares have slumped by 52% in the last year.

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A new strategy

In response, Countrywide has sought to strengthen its business. On Thursday, it announced a successful placing of 9.99% of share capital in order to bolster its balance sheet. This seems to be a logical move, given the uncertainty faced by the sector. In addition, it is implementing key cost initiatives to boost margins and future profitability. The company is also seeking to improve its customer offer in order to remain competitive in what is likely to become an increasingly overcrowded marketplace.

Looking ahead, Countrywide is forecast to record a fall in earnings of 4% this year. While disappointing, it is expected to recover somewhat in 2018 with growth of 16%. Assuming it meets these forecasts, its price-to-earnings (P/E) ratio could be as low as 8.3 by the end of 2018. On an absolute basis, that is clearly exceptionally low. When compared to the company’s average P/E ratio of 16.2 over the last three years it suggests there is major recovery potential on offer over the long run.

Sector potential

Of course, Countrywide isn’t the only company in the property sector with recovery potential. Premium estate agent Savills (LSE: SVS) is expected to record a rise in its bottom line of 2% in 2017 and 7% in 2018. And while its shares currently trade on a P/E ratio of 13.2, this is lower than their historic average of 13.8. As such, there is scope for an upward re-rating over the long run.

Savills could benefit from weaker sterling. It may eventually lead foreign investors to resume their purchases of prime London property. While this may not occur in the near term, for long term investors the chances of this taking place seem fairly high. After all, London remains one of the most popular cities in the world, and this status is unlikely to be significantly altered by Brexit. As such, buying Savills could be a sound move. However, Countrywide could be an even more enticing investment for the long run.

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Peter Stephens has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.