Financial distress investigation using Piotroski factor analysis
Joseph Piotroski published a landmark academic paper in 2000 showing that nine accounting variables can be used to give an edge in investing in value shares because they allow a sifting out of those shares with high probability of trouble, and those which, while also having low share prices relative to the value criteria, do not show much indication of difficulty.
(Earlier Newsletters outlining Piotroski’s work: 5th Feb 2015, 9th Feb 2015)
If the firm is profitable and produces positive cash flow it has a capacity to generate funds internally. Furthermore, a positive earnings trend suggests an improvement in the firm’s ability to generate positive future cash flows.
4. Cash flow is greater than profit (so profits are not driven primarily by positive accruals, which may be ‘managed’). This is the case for Highcroft so another point is scored.
Leverage, liquidity, and source of funds
Measuring changes in capital structure (debt:equity ratio) and the firm’s ability to meet future debt service obligations
5. Change in leverage over one year. Has the firm’s long-term debt reduced relative to its average total assets?
In 2019 the figure is £22.2m/£88.2m = 25%. In 2020: £27.2m/£88.2m = 31%.
The gearing level has worsened so no Piotroski point. Note however that in both years the debt relative to asset ratio was low for a property company.
6. Has the firm’s current ratio (current assets divided by current liabilities) improved over the past year?
The ratio in 2019 was £2.7m/£6.5m = 0.4..........To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
Yesterday’s newsletter explained that Highcroft’s (LSE:HCFT) net current asset value is 25% above its current market price. This was one factor prompting me to buy its shares at £8.75. Today I look at another enticing feature of the company: it’s solid earnings and dividends flow to shareholders over the past decade. This history and the firm’s quality property assets encourages me to think that there is a reasonably high probability that good returns will be made by shareholders in the future.
Key numbers on earnings, dividends and net assets
.....Dividends per share over the ten years total £4.15 a large payout on a share trading at £8.75. And yet in the same period the directors have grown net rental income by an average of 12.9% per year (from £1.83m to £5.46m) and net asset value by 4.9% per year (from £7.20 to £11.04).
So, it seems that a good dividend yield (currently 6.5%) can be accompanied by a growth in regular profits from income producing properties and growth in the asset base.
The earnings per share measure excluding gains/losses in property values rose from 40.1p to 67.7p, an average percentage gain of 6%, over the decade.
If we assume that future annual dividends do not rise from the 57p received last year then investors benefit from a 6.5% regular dividend. If ………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
I’ve bought into the nice steady, safe and secure - in relative terms for an equity investor - business of Highcroft Investments (LSE:HCFT) at £8.75 for my net current asset value portfolio. It buys commercial property, mostly large warehouses, retail warehouses or offices, and rents them out to the likes of Booker, British Airways, Parcel Force and the BBC.
It pays shareholders 90% of net property (rental) income in dividends because it is a Real Estate Investment Trust (The tax benefits of REIT are explained at the end of the newsletter). For 2020 Highcroft had a net property income of £3.5m or 67.7p per share and paid out to shareholders £2.95m or 57p per share. Dividend yield is 57p/875p = 6.5%.
The market capitalisation is £45.3m (£8.75 x 5.18m shares). However, my calculation of net current asset value (including all property) is £56.78m or £10.96 per share. The gap between NCAV and price plus the substantial proven annual income and dividend flow allow me to feel comfortable that there is a good margin of safety (income and dividend history are discussed in the next newsletter).
Net current asset value, NCAV
If I was to stick strictly to Ben Graham’s definition of NCAV I would only look at those assets officially designated as “current” and then deduct one-fifth of receivables. This gives only £7.9m.
However, Highcroft regularly trades its properties so, even though they are technically non-current assets, I’m going to include them here in my intrinsic value estimation. ………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
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