Three reliable earners to buy
Trying to second guess the markets is a mug's game. Fund manager Stuart Widdowson tips three solid stocks to grow your portfolio.
Each week, a professional investor tells MoneyWeek where he'd put his money now. This week:Stuart Widdowson, fund manager, Strategic Equity Capital plc.
Guessing where markets will be in a few weeks or months from now is a mug's game. The only certainty is that most predictions will be wrong. There's no doubt that there are plenty of "known unknowns" out there for investors.
Geopolitical tensions are rumbling on in the Middle East and Russia. In the eurozone, the spectre of deflation, combined with the failure of policymakers to do anything about it, persists. And of course, the UK has a general election in May. But we do not think equities have reached the top of the cycle yet.
Valuations look fair-to-slightly-cheap compared with history. Merger and acquisition (M&A) activity is just picking up from a very low base. So we believe that if you choose stocks carefully, the mid-to-long-term returns prospects are good.
We like reasonably priced, moderate-growth companies which have strong balance sheets, and where it's easy to see where future sales and profits are coming from (profit visibility is high). These stocks can provide attractive returns without too much risk.
If you have a good idea of where sales and profits are coming from, there is less chance of a surprise profit warning. These companies often operate on negative or neutral working capital and as a result generate far more cash than profits.
Trade and private-equity investors also like these businesses. So provided you don't pay too much, you could profit from bid activity.
EMIS (LSE: EMIS) is the UK's largest provider of electronic patient-record software to GPs, with a market share of more than 50%. It also provides software to hospitals and community and mental-health trusts. It has an unbroken 24-year track record of organic growth.
Almost 80% of sales are recurring, so earnings visibility is high. It is well placed to benefit from more use of technology in health care to improve care and cut costs. The shares are not cheap, but we believe the valuation is reasonable for its cash flow, quality and growth prospects.
Two peers, Advanced Computer Software and Allocate Software, have been bid for since September, indicating potential upside from M&A.
Servelec (LSE: SERV) is a technology group with two key activities: electronic patient-record software for hospitals and community and mental-health trusts; and hardware, software and services for industrial automation in process industries, utilities, and the oil and gas sector. About 50% of sales and profits are visible at the start of each year.
The health-care software business is exposed to the same long-term trends as EMIS. The automation business has a significant growth opportunity over the next decade in automating offshore oil and gas platforms around the UK to extend their lives and cut costs.
On a forward price-to-earnings (p/e) ratio of around 13 (excluding cash), little of this opportunity is in the price. It also trades at a big discount to a sum-of-parts valuation.
Wilmington (LSE: WIL) is a business-to-business media group: 80% of its information revenues come from digital products and services and are mostly generated by the growing compliance, insurance and pensions industries. It has lots of profit visibility due to high levels of subscription sales. Its customers tend to pay upfront, so cash flow equals or exceeds profits.
The new CEO is likely to continue a long-standing strategy of using these strong cash flows to make small acquisitions, while continuing to improve organic growth and cost efficiency. We believe the shares are trading at a considerable discount to fair value.