I’m a big fan of shopping for bargains. As Warren Buffett said, “whether we’re talking about socks or stocks, I like buying quality merchandise, when it is marked down”.
However, the key word here is quality. Sometimes things are cheap for a reason.
In this article I’m going to take a look at three shares that look cheap but could spell trouble for investors in 2020.
The market is sending a message
Shares in construction and housebuilding firm Kier Group (LSE: KIE) have fallen by nearly 80% in 2019. The stock now trade on just two times 2020 forecast earnings.
Either this is a bargain, or something is about to go badly wrong for Kier shareholders.
My money is on the latter. Although chief executive Andrew Davies has a sensible plan to turn around the business, I believe it still has far too much debt. Average month-end net debt was £422m last year. In my view, that’s far too high for a low-margin contractor with annual pre-tax profits of less than £100m.
Selling the Kier Living housebuilding business should help to cut debt, but it will also reduce profits. I think the company will be forced to ask shareholders for cash again, as it did in December 2018.
Back then, Kier raised £250m in a rights issue. Today, the group’s market cap is just £145m. This company has destroyed a lot of shareholder value. I’m not prepared to risk any of my own money on this stock.
I’m a little more optimistic about this
The Metro Bank (LSE: MTRO) share price has fallen by more than 85% in 2019. It’s been a tough year that’s seen the bank struggle to raise funds and resulted in the departure of founder Vernon Hill and CEO Craig Donaldson.
However, I’m actually more optimistic about Metro Bank than I am about Kier. I think that Metro’s underlying loan book is likely to be of reasonable quality and valuable to a buyer. The group’s branch-based business model has also won fans, especially as Metro has a good reputation for customer service.
There are only two problems I can see. The first is that bank accounts are very hard for outside investors to analyse. The second is that in my view, the UK’s banking regulatory system favours larger banks.
For these reasons, I remain unsure about Metro Bank. So for now, I’m going to stay on the sidelines.
A fashion disaster?
Another of my favourite Warren Buffett quotes is that “there’s never just one cockroach in the kitchen”. If you see one, you can be sure there are more. Upmarket fashion group Ted Baker (LSE: TED) is a good example.
The departure of founder Ray Kelvin in March was followed by poor trading results. Then in early December, we learned that the company had overstated the value of its stock by £20m-£25m. This bad news was followed eight days later by another profit warning and the departure of both the chairman and chief executive.
Ted Baker shares have fallen by more than 70% in 2019. But with rising debt, slow stock turnover and falling profits, I think things could continue to get worse.
As with Kier and Metro Bank, Ted Baker looks like a gamble to me. I will be watching from a safe distance to see how this story unfolds.
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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has recommended Ted Baker. 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.
Motley Fool UK 2019