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Why I’ve put this FTSE 250 growth and income stock on my buy list today

Investors in Elementis (LSE: ELM) have suffered badly of late as the shares have lost 50% of their value since their March 2018 peak. But they enjoyed a little respite Tuesday when the price regained 10% on the back of first-half figures.

Profits at the speciality chemicals company are expected to dip a little this year, and interim figures back that up with adjusted operating profit down 5% to $64m (and down 21% on an organic basis). That was put down to a combination of weaker demand and de-stocking in the first quarter, and the company says adjusted operating profit in the second quarter was “significantly up on Q1” at $40m.

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Elementis says the second half will benefit from cost savings, new business and multiple new product launches, adding that the full year should be “broadly in line with expectations, with a continuing focus on cash generation.” The interim dividend was raised by 4%, “reflecting progressive dividend policy and the Board’s confidence in the medium-term growth potential.”

Low valuation

With EPS expected to start growing again in 2020, the shares on forward P/E multiples of around 10, and 5% dividend yields expected to be twice covered by earnings, on the face of it, Elementis looks like a buy.

But I’m held back right now by the firm’s debt, which ballooned after the acquisition of Mondo Materials last year. Net debt stood at 2.8x pro forma adjusted EBITDA at the halfway point, and is expected to fall below 2.4x by year-end. But that sentiment is heading in the wrong direction — at 31 December, the firm was targeting 2x by the end of the current year.

I do see recovery ahead and significant growth potential, but I’d want to see debt coming down significantly before I’d buy, especially in the current “challenging” environment.

Falling bargain?

The one I actually have my eye on is Synthomer (LSE: SYNT), despite its shares having gained 60% over the past five years.

The firm supplies aqueous polymers, and it’s been a bit of a shining growth star of late. In the decade to December 2018, the stock provided an average return per year of 28%, which is pretty staggering. As a result, the share price soared to 540p levels in August 2018.

But with the pace of earnings growth set to slow, Synthomer has suffered that all-too-common growth stock deflation, and the shares are now down more than 40% since that high.

Nothing wrong

But I don’t see anything fundamentally wrong with the company — and the modest 3% EPS rise on the cards for 2019 suggests a P/E of 10, which would drop a bit lower on 2020 forecasts. The predicted dividend represents a progressive rise of more than 75% in five years, and would provide yields of 4% this year and 4.2% next, covered 2.5x by earnings.

Again, that looks like an attractive valuation, but what about the potential killer that is debt?

In Synthomer’s case, I’m not seeing that problem. At 31 December, net debt stood at 1.2x EBITDA, which is way below the Elementis figure and well within my comfort zone. The firm said it has the liquidity to continue to invest in growth, both organically and through acquisition.

Synthomer is on my shortlist.

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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has recommended Elementis and Synthomer. 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.