Which 2009 picks will be winners in 2010?

published 24 December 2009

Rather than review the usual broker tips this week, I'd like to look back on our performance over the past 12 months and pick out the four firms I believe still have the most potential. So how have our buys done?

Assuming that: 1) equal amounts of cash were invested in each stock; 2) adjusting for the date when they were chosen; and 3) ignoring dividends, transaction costs and foreign exchange; then our "Buys" and "Gambles" saw absolute gains of 47% and 43% respectively.

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This is important because the extra size and skills should allow the enlarged group to grow more rapidly than its smaller rivals by winning a bigger share of prestigious contracts, such as the 30-year deal to widen and maintain the M25. You see, what the government wants is to hive off its vital infrastructure spending to private organisations. These firms can pay for, design and manage all the necessary work, and later charge the users (via tolls, for example) under long-term pay-as-you-go deals. This boosts job creation without adding to Britain's ballooning deficit.

Also, the acquisition will help Balfour Beatty meet its goal of becoming more geographically diverse. By 2011, turnover will be split 40%-40%-20% across Europe, North America and the rest of the world. The City expects 2009 revenues and underlying earnings per share (EPS) of £9.2bn and 34.7p respectively, while also paying a 12p dividend. That puts the shares on a p/e of just 7.2, with a 4.6% dividend yield.

So what could derail the shares? The main wild cards are those inherent in the industry, including poorly priced contracts, non-performance, fines, customer bankruptcies and/or cut-backs in public spending. On top of that, there's foreign exchange and integration risk resulting from the Parsons deal. Lastly, the £427m pension deficit (net of tax) needs to be watched, although actions have already been put in place to cut this by £115m.

In order to focus on institutional clients, HSBC last month decided to kick out hundreds of small-time gold investors who had been storing their bullion in its New York vaults. The upshot was that a fleet of armoured cars laden with gold bars have been ferrying the precious metal to other locations. This is not an isolated incident. With gold fever gripping the world, Brinks is in demand. The company is the global leader in armoured transportation, security personnel and ATM replenishment for banks, retailers and public organisations, with a 19% share of the $14.5bn market.

Brinks has a huge international footprint, with a strong presence in the fast-growing South American region. Wall Street expects 2009 revenues and underlying EPS of $3.1bn and $1.79 respectively, rising to $3.3bn and $1.99 in 2010. That puts the stock on 'bottom of the cycle' p/e multiples of 13.9 and 12.5 for this year and next. I would rate the stock on a ten-times Ebita multiple (see page 40), assuming a conservative 6% margin. After deducting the $35m of net debt, along with $104m of retirement and $245m of healthcare liabilities, that gives an intrinsic worth of around $30 a share.

Fine, but what are the potential curve balls? British investors should factor in currency fluctuations. The group is also exposed to the usual pitfalls associated with bidding and running government contracts. Current performance is also being hit by the poor macro environment, especially due to weakness in the diamond and jewellery trade and a stronger dollar. But with crime levels rising, Brinks looks like a good stock to keep under lock and key.

The International unit provides mobile, broadband and fixed-line services in the hotspots of Monaco, the Caribbean, Panama and Macau. It enjoys entrenched positions, but of late it has been hit by falls in local GDP and fewer tourists. But the recession is proving a boon to Worldwide, which offers high-speed voice, data and internet hosting services to clients such as Morrisons and Centrica. That's because, as firms seek to cut costs, they're outsourcing more of their telecom operations to specialists such as Cable& Wireless.

But there won't be any tears shed at Callaway this Christmas. In fact, it should do rather well from his fall from grace. That's because Woods endorses golf clubs made by its fiercest rival, Nike. If the awful publicity damages future sales, then Callaway should pick up the pieces. It sells leading golf equipment under the Callaway, Big Bertha, Odyssey, Ben Hogan and Top-Flite brands, and is promoted by top professionals such as Phil Mickelson and Arnold Palmer.

So what is Callaway worth? Wall Street expects 2009 revenues of $937m, rising to $980m in 2010, with a return to profit that year. I would rate the stock on a ten-times through-cycle EBITA multiple. Assuming margins of 10% by early 2012 and discounting back at 12%, that generates an intrinsic worth of around $9.50 a share. Moreover, at today's levels, the shares are trading at just above the value of the net tangible assets ($6.90 a share) and appear to assign little value for all the prestigious brands.

So where are the possible sand-traps? As well as the cyclical nature of the sports-leisure sector, Callaway Golf is exposed to currency fluctuations, changing technology, fickle consumer tastes and tough competition. However, these risks are more than factored into the price, and when the economy does pick up, buying now could prove to be a hole-in-one for the battle-hardened investor. Lastly, even if results don't improve as expected, then a takeover by a larger rival could well be on the cards.

Paul gained a degree in electrical engineering and went on to qualify as a chartered management accountant. He has extensive corporate finance and investment experience and is a member of the Securities Institute.

Over the past 16 years Paul has held top-level financial management and M&A roles for blue-chip companies such as O2, GKN and Unilever. He is now director of his own capital investment and consultancy firm, PMH Capital Limited.

Paul is an expert at analysing companies in new, fast-growing markets, and is an extremely shrewd stock-picker.