With a strong balance sheet and plump dividend, this company feels like a welcome port in a storm
This column’s decision in January to sit on its hands and do as little as possible, in the view that it didn’t really know why share prices were rallying so hard and so fast, does not look quite so spineless, at least for now.
A stumble in the banking sector – from which this portfolio is not entirely immune anyway – is spilling over into markets more widely, as confidence ebbs in the rosy scenario that inflation will cool and the global economy will avoid a hard landing, helped by a pause in interest rate increases and then a pivot by central banks to interest rate cuts.
A focus on valuation, strong competitive positions and robust balance sheets will hopefully serve us well until the squall blows out, especially as this latest episode may well increase the chances of a recession, despite last week’s optimism from the Office for Budget Responsibility.
The danger posed by the current loss of confidence in banks is that depositors continue to withdraw their money (even if compensation and insurance schemes, and liquidity backstops and guarantees from central banks, are designed so that they should not feel the need to do so).
This limits banks’ ability to lend and, in extremes, forces them to sell assets to meet withdrawals. That hits asset prices and valuations and further limits lending capacity. In addition, chief risk officers may insist on a tightening of lending standards to reassure depositors but further hitting credit availability.
For a global economy reliant upon ever increasing amounts of debt (and cheap debt at that), neither reduced availability of loans nor a sustained increase in their cost is a welcome prospect.
A recession could well follow and a downturn in consumers’ cash flows might make it harder to meet interest payments and repay loans.
This is where H&T comes in. The £191m company is a leader in the fragmented pawnbroking market, has a strong balance sheet and comes on a lowly price-to-earnings ratio with a well-covered, plump dividend.
Last week’s full-year results revealed healthy increases in revenues, profits and the dividend. Demand for good-quality new and pre-owned watches remains strong and even the gold-buying business could add lustre to the investment case if the precious metal makes a sustained move to $2,000 an ounce or beyond, although that unit is now a much smaller contributor to the overall group.
Better still, a 50pc increase in the pledge book to £100m, as H&T helped customers to make ends meet, has laid a strong foundation for the coming year, as has investment in, and expansion of, the store estate.
Both were partly funded by last year’s £16.9m equity raising and £15m in borrowing. The jump in pledge book, and thus trade receivables, explains why cash flow was weak last year, while the acquisition of watch repair and servicing specialist Swiss Time Services also added to the firm’s cash needs.
However, the balance sheet still only carries £23m in net debt, including leases, and that represents barely 14pc of shareholders’ funds. Operating profit of £20.6m covered the £1.5m net interest bill many times over. With that enhanced pledge book as a base, analysts have pencilled in further increases for 2023 in sales, pre-tax profit and the dividend of 17pc, 65pc and 38pc respectively.
If correct, that would take the dividend to 21p a share, equivalent to a 4.7pc yield. It would also add to the 35.5p per share in distributions we will have received since our initial study in August 2020, once the final payment of 10p per share arrives on June 23.
This cash adds to the 30pc-plus capital gain registered, at least on paper, although neither we nor management can be complacent.
In the results statement, Chris Gillespie, the chief executive, flags supply chain pressures, increased utility bills and higher wages as challenges that inflate costs, and the company is having to respond with efficiency programmes.
However, these challenges may pale next to those which could face those companies that have cyclical business models and a lot of debt, so H&T still feels like a welcome port in a storm.
Equally, it is also possible that any wider market volatility may throw up opportunities to buy good-quality assets cheaply and patient investors might now like to start gently sifting through some of the market wreckage to see if there are now bargains to be had.
Questor says: hold
Share price at close: 436p
Russ Mould is investment director at AJ Bell, the stockbroker
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