I see it’s taken a whole six months for a government watchdog to confirm the obvious.
Just in case you missed it, the National Audit Office has just verified what everyone already knew about the flotation of Royal Mail in October…
…that it was priced too cheaply and “could have achieved better value for taxpayers”.
I’m not sure why it’s taken until now to come to this official conclusion.
I mean, even I – just a regular investor – declared before the float that the postal service priced at the initial 330p a share was “quite possibly the best large-cap buying opportunity of the year”.
In particular, I noted the projected 6% yield, I estimated a P/E of less than 7 and I discovered surplus freehold property with a potential value of more than £1bn sitting idly in the books…
Defending the sell-off, Business Secretary Vince Cable has reportedly claimed: “Achieving the highest price possible at any cost and whatever the risk was never the aim of the sale.”
Royal Mail’s shares have surged 64% since the float to add more than £2bn to its market cap.
Sure, we’ve all been short-changed as taxpayers…
But from a pure investment point of view…
…I say if the government is determined to hand out free cash (in the form of cheap shares), you’d be dumb not to accept it.
No doubt some people became very rich after buying on day one
While privatisations tend to be sold off on the cheap, ‘normal’ new issues are rarely clear-cut bargains.
As I’m sure you already know, the owner gets to set the price that’s best for him – and not for you – when he decides to float his business.
True, every great stock floated at some point and no doubt some people became very rich after buying Microsoft, Domino’s Pizza or GlaxoSmithKline on the day those names went public.
But right now you could argue some company bosses – and their City advisers – have taken Mr Cable’s line of thought and adapted it thus:
“Achieving the highest price possible at any cost and whatever the risk is always the aim of the sale.”
Especially if the companies involved have demonstrated dramatic online growth…
Take Boohoo.com (LSE: BOO), for example, which joined the market a few weeks ago.
This own-brand fashion retailer saw annual revenues surge from £24m to £67m between 2010/11 and 2012/13, and I reckon current sales are running at £104m. Meanwhile, operating profits have advanced from nothing to £9m in the last three years. So far, so good.
But Boohoo’s shares were floated at 50p and at the recent 53p, the market cap is almost £600m.
Sure, there is £51m in the bank following the float, but my sums suggest the trailing P/E here could be about 70.
Out of this AO World!
How about AO World (LSE: AO)?
This online white-goods retailer, which also joined the market last month, has expanded its sales from £164m to £276m between 2010/11 and 2012/13. I reckon current sales are running at £360m, while I calculate trailing operating profits are £7m.
And yet, AO’s shares were floated at 285p and at the recent 305p the market cap is about £1.3bn.
Versus operating profits of just £7m, I reckon the trailing P/E could be in excess of 200.
Then consider Just Eat (LSE: JE), the fast-food ordering service, which joined the market last week.
Between 2011 and 2013, sales here zoomed from £34m to £97m to transform operating losses into a £7m operating profit.
Sure, the money raised at Just Eat’s float now means the balance sheet sports net cash of £155m.
But even so, the share price rising from 260p to 282p means the market cap is approaching £1.6bn – which I believe gives a trailing P/E in excess of 250!
Hold on, didn’t Asos and Rightmove deliver fantastic profit growth?
It is unlikely the boffins at the National Audit Office would declare the sellers of Boohoo, AO World and Just Eat being short-changed at those valuations!
And while Royal Mail’s under-pricing was quickly rectified by its rising share price…
…I do wonder if new shareholders in Boohoo, AO World and Just Eat will enjoy handsome returns during the years to come.
I mean, dramatic profit growth can certainly happen online…
For instance, internet fashion retailer Asos recorded profits of £7m in 2008 and by 2013 was reporting profits of £54m.
And property website Rightmove had profits of £7m in 2005 and went on to deliver profits of £104m during 2013.
But whether such rapid growth can translate into immense share price returns is a different story
Sure, Asos and Rightmove have delivered handsome rewards to their long-term shareholders.
But when their profits were less than £10m, their market caps were about £400m…
…which puts into perspective the valuations of up to £1.6bn being commanded by that trio of recent flotations.
All told, I much prefer my new issues to be priced according to Mr Cable – where “achieving the highest price possible at any cost” is not the aim of the sale.
Sadly the National Audit Office may have put paid to such opportunities, at least for now.
Until next time, I wish you happy and profitable flotation investing.
Maynard does not own any shares mentioned in this email. The Motley Fool has recommended shares in Domino’s Pizza and GlaxoSmithKline.