While the vast majority of investors will be cheering the recent run of good form from the UK’s main indices, value investors are undoubtedly bemoaning the lack of bargains to be found as share prices rise ever higher and valuations look increasingly stretched for many stocks.
Struggling department store Debenhams came up on one of my value screens as its shares currently trade at only 7.6 times trailing earnings while offering a 5.86% yielding dividend that is covered more than twice by earnings. Of course, the company’s shares are trading at five-year lows for good reason as profits fall due to rising costs, increased competition and secular changes in consumer behaviour.
The million-dollar question then is whether the company can turn things around and make today’s valuation a great entry point. There were some encouraging signs in results for the six months to March. UK like-for-like sales rose 0.4% year-on-year, driven by a strong 15% increase in online sales and a shift towards emphasising the company’s beauty and make-up offerings that really resonate with shoppers.
However, this relatively impressive performance wasn’t enough to stop UK EBITDA from falling 6% year-on-year due to higher staffing costs, increased capital expenditure from redesigning stores and a 30 basis point reduction in gross margin.
That said, the business still generates a decent amount of cash flow, has a healthy balance sheet with net debt just 0.9 times EBITDA and has plenty of room to improve margins by cutting excess stock levels and decreasing discounting. If the company can continue to increase sales at a respectable clip and the new CEO’s plan to revitalise stores pays off then Debenhams could be a decent income stock for bargain hunters who are more bullish on the future of large retailers than I.
Don’t mess with the regulators
Subprime lender International Personal Finance is an even riskier option but with its shares priced at just 5.8 times trailing earnings and a whopping 7.2% dividend yield, bargain hunters could be missing out if they didn’t take a closer look.
The good news is that the company is profitable and can comfortably cover large dividend payouts thanks to a decent balance sheet. The bad news is that pre-tax profits fell £23.5m in 2016 to £92.6m as tighter regulations negatively impacted operations in Poland, the company’s largest market.
Unfortunately these problems look set to continue as the Polish government is considering further caps on fees charged by subprime lenders and is also disputing the company’s tax strategy. If IPF loses its appeal it could face up to £134m in payments related to the years 2008 to 2015.
With these regulatory issues looming over the company like the Sword of Damocles, its low valuation makes complete sense. So, despite a hefty dividend yield and growth prospects in several other markets these Polish problems have me steering well clear of IPF.
But there’s no reason for value investors to despair as the Motley Fool’s top analysts have recently written about one great small-cap trading at a bargain eight times earnings. On top of this low valuation the company also offers impressive growth prospects as it has increased earnings by double-digits in each of the past four years.
To discover this stellar company for yourself, simply follow this link for your free, no obligation copy of the Fool’s report.
Ian Pierce has no position in any 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.