In particular, Aim-traded Fairpoint (FRP:175p), a leading provider of consumer professional services including debt solutions and legal services, and Redde (REDD: 174p), a company that works predominantly with insurance companies, brokers and fleet organisations to provide a range of accident management and legal services, were both hit. It’s a sell-off worth capitalising on because investors appear to have misunderstood the financial impact on both companies.
That’s because the government’s outline proposals, which remain subject to consultation and are expected to be implemented in April 2017, seek to restrict the ability of sufferers of minor whiplash injuries to claim compensation for minor motor accidents, specifically removing the right to seek general damages for minor soft tissue whiplash. The aim is to end the cycle in which responsible motorists pay higher premiums to cover false claims made by others. The government’s proposals will cut claims by over £1bn each year and reduce the average cost of motor insurance by £40 to £50 per policy. Those genuinely injured will still be entitled to claim for ‘special damages’ including loss of earnings and medical treatments.
Importantly the Chancellor expects more injuries to be settled in the small claims court as the upper limit of these claims will be increased from £1,000 to £5,000. In my view, this is a positive development for the insurance industry as long as genuine claimants are not being disadvantaged from making genuine claims.
Assessing the financial impact
Indeed, Redde, through its legal firm NewLaw, supports the efforts of insurers to eliminate fraud and points out that “the majority of the cases handled by NewLaw are actually handled on behalf of insurers and brokers”. It’s also worth flagging up that the activities of the company to be covered by legislation of the sort proposed by the Chancellor contribute less than 2.5 per cent of Redde’s revenue, so any adverse impact from the changes is likely to be minimal to say the least. It certainly doesn’t warrant the share price falling from a recent high of 184p especially as the company revealed at the end of last month that it is trading ahead of expectations. I last recommended running profits at 178p (‘Five companies that keep on delivering’, 3 November 2015), having initiated coverage at 108p in the spring ('In the fast lane', 23 March 2015).
Moreover, at the time of the results for the 2015 financial year, analyst Andrew Watson at broking house N+1 Singer upgraded his current year pre-tax profit estimate by 7 per cent to £27m for the 12 months to end-June 2016, up from £22.7m the year before, driven by a 32 per cent rise in revenues to £328m. On this basis, expect 2016 fully diluted EPS to rise by 11 per cent to 8.8p and, reflecting a 100 per cent payout ratio of earnings, the normal dividend to be raised from 8.25p to 8.7p. This means that Redde’s shares currently offer a 5.2 per cent prospective dividend yield.
True, they are priced on 18 times earnings estimates, but the risk looks to be to the upside to me. That’s because analysts left forecasts unchanged (post the upbeat October trading statement) ahead of the key winter trading months which leaves room for upgrades down the road, assuming targets are hit over the next three months. In the circumstances, I would continue to run profits as I feel that once the dust has settled that a return to the October high of 184p, and beyond, is highly likely. In fact, sentiment has been improving in recent days as investors acknowledge that Redde is more likely to be a winner, than loser, from the new regime. Run profits.
Well placed to exploit market changes
The same is true of the Aim-traded shares in Fairpoint which have pulled back from a seven-year high of 195p to 175p. Investors seem to be missing the point that the company acquired Colemans LLP and its legal processing centre in the summer. This business provides consumer-focused legal services and specialises in volume personal injury. According to analysts Roger Leboff and Hannah Crowe at equity research firm Equity Development “Colemans now handles all of Fairpoint’s small claims court work so any increase in the upper claims limit would see a higher proportion of its business processed in this way, and enable it to capitalise upon an existing platform with both operational capacity, and a proven ability to deliver consistent results at stable profit margins”.
It hasn’t been reported, but I can reveal that one of Colemans’ senior staff members actually contributed to regulatory discussions over this issue, so Fairpoint is actually far better prepared for the forthcoming change. In fact, the company’s has already reviewed the implications of the possible new price bandings and how it can structure its own processes to maintain its competitive advantages, so much so that in a trading statement at the end of last week, the company confirmed that “it is well positioned to take advantage of these market changes”.
Furthermore, the proposed changes in the way personal injury claims can be made will have no impact on the company’s performance for the 2015 and 2016 financial years (31 December year-end), so I remain very comfortable with analysts’ estimates that Fairpoint will be able to boost EPS from 17.2p to 18.5p in 2015, and by a further 8 per cent to 20p in 2016 after factoring in a full year's contribution from recent acquisitions. On this basis, the forward PE ratio is only 8.5 for 2016. Prospective dividend yields of 3.9 per cent and 4.2 per cent, based on a raised and well-covered payout of 6.8p a share in 2015 and 7.2p a share in 2016, are attractive too.
So having last recommended running profits at 190p (‘Riding a seven-year high’, 10 November 2015), having included the shares in my 2013 Bargain Shares Portfolio at 98.25p ('Bargain shares for 2013, 7 February 2013), I feel that my raised target price range of 200p to 220p should be still achievable and am certainly not banking profits. Run profits.
Buy-to-let landlords
The other major announcement that caught my eye in the Autumn Statement concerns buy-to-let private landlords and the imposition of a 3 per cent stamp duty surcharge on purchases of second homes and residential investment properties from April 2016.
This has led to a sell-off in shares of Paragon (PAG: 384p), the UK’s largest buy-to-let lender. I recommended buying the shares at 347p (‘Riding the buy-to-let boom’, 27 October 2014) as a way of playing the buoyant UK housing market and the changes in pension legislation which came into effect in April which have enabled millions of over 55s to access their pension pots. Some of these funds have been making their way into the buy-to-let market as deposits on debt funded property purchases, but clearly the new stamp duty will act as a disincentive.
It’s also fair to say that the latest change in government policy in the buy-to-let market is a further blow to private sector landlords. In his March Budget, Mr Osborne outlined restrictions on the amount of mortgage interest that can be offset against rental income on homes let out. These changes take effect from the start of the 2017-18 tax year, albeit tax relief won’t be fully restricted to the basic rate of 20 per cent until the 2020-21 tax year.
But it’s also fair to say that after seeing Paragon’s share price de-rate sharply since hitting an October high of 450p, these twin factors are reflected in a share price rated on less than 11 times historic earnings, 1.16 times book value and offering a 2.9 per cent dividend yield. Moreover, Paragon’s full-year results for the year to 30 September 2015 revealed a company in rude health even if the government has dampened down future growth prospects somewhat. Those full-year figures didn’t disappoint with the company’s underlying pre-tax profit up by around 10 per cent, loan impairments charges halving and the new business lending doubling.
The company is expected to deliver 18 per cent growth in EPS in the current financial year. That’s not as aggressive as it first appears as the pipeline of new business was up over 70 per cent at the end of September and I can foresee a surge in lending activity ahead of the stamp duty changes in April, followed by higher levels of remortgage activity thereafter. As the largest buy-to-let lender, Paragon has scale on its side to take business away from rivals.
In the circumstances, and having last recommended buying the shares at 412p ahead of last week’s full-year results (‘Acquisitive growth drives re-ratings’, 6 August 2015), I would suggest you run profits as the outlook for Paragon is not half as bad as the share price de-rating would suggest. Run profits.
Please note that for a limited period of time, my book Stock Picking for Profit is being offered for sale at a promotional price of £11.99 plus postage, subject to availability, full details enclosed below.
MORE FROM SIMON THOMPSON...
I have published articles on the following companies since the start of last week:
■ Ensor: Buy at 99p, target 125p ('Bid watch', 23 Nov 2015)
■ Marwyn Value Investors: Buy at 216p ('Cashing in on a top performer', 23 Nov 2015)
■ Trakm8: Run profits at 262p ('On track for record earnings', 24 Nov 2015)
■ Walker Crips Group: Buy at 49p, target 60p ('Profit from a profit surge', 24 Nov 2015)
■ Renew Holdings: Buy at 362p, new target range 390p to 400p; Cambria Automobiles: Buy at 73p, new target 90p; Tristel: Run profits at 142p; Pure Wafer: Sit tight at 165p and await details of capital distribution ('Running small cap winners', 25 November 2015)
■ Cohort: Run profits at 418p; Inland Homes: Run profits at 70p ('Riding momentum stocks', 26 November 2015)
■ Record: Hold at 28.75p ('Record awaits the Fed decision', 26 November 2015)
■ First Property: Run profits at 47.5p ('Investing for bumper gains', 30 November 2015)
■ Paragon: Run profits at 384p; Redde: Run profits at 174p; Fairpoint: Run profits at 175p ('Capitalising on investor overreactions', 1 December 2015)
■ LMS Capital: Tender your pro-rata allocation ('LMS tender on the money', 1 December 2015)
■ For a limited period and strictly subject to stock availability, Simon Thompson's book Stock Picking for Profit can be purchased online at www.ypdbooks.com at a special promotional price of £11.99, plus £2.95 postage and packaging, or by telephoning YPDBooks on 01904 431 213 to place an order. It is being sold through no other source. Simon has published an article outlining the content: 'Secrets to successful stockpicking'
