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OPINION

Bargain Shares 2014

Bargain Shares 2014
February 7, 2014
Bargain Shares 2014
IC TIP: Buy

The idea behind bargain shares is very simple. It's to invest in companies where the true worth of the assets is not reflected in the share price, usually for some temporary reason, but where we can reasonably expect that it will be in due course.

It is the very essence of stock-picking, and whatever fans of passive investment might say, it works: our portfolios have beaten the FTSE All-Share index in 13 out of the 15 years in which we have run them. During that time, they've generated a compound annual return of 16.4 per cent, which means that £10,000 invested in our first bargain portfolio, and reinvested every subsequent year in the following portfolio, would now be worth almost £100,000. To put this smart performance into perspective, the same investment in a FTSE All-Share tracker fund would only be worth a quarter of that sum including the reinvestment of dividends.

Bargain Shares Portfolio: 15-year track record

YearBargain Portfolio 1-year performance (%)
199959.0
200028.1
20012.5
2002-29.0
2003146.0
200417.1
200550.0
200616.9
2007-0.9
2008-60.1
200953.4
201046.1
2011-18.4
201231.9
201336.4
Compound annual return16.4
Source: Investors Chronicle, returns on a total return basis

And last year's motley crew of bargain shares maintained this impressive track record, producing a total return of 36.4 per cent on an offer-to-bid basis, which is mainly down to the fact that my portfolio was mostly small-cap based - a segment of the market that benefited greatly from the marked improvement in investor sentiment since the summer. That performance was 26 percentage points better than the FTSE All-Share index in the same period and over 12 percentage points more than the FTSE SmallCap index achieved. Click here for a detailed review of how the 2013 Bargain Shares portfolio performed.

It was no fluke, either, as the previous year our portfolio returned 31.9 per cent. In fact, over the long run our record has stood the test of time, which has been in no small part down to the stellar performance from the unloved and undervalued small-cap shares we have consistently uncovered.

For example, my 2003 Bargain Share Portfolio rocketed by 146 per cent in its first 12 months and, if you held onto the shares, the portfolio then rose in value by a further 50 per cent in the following two years to produce a three-year return of 270 per cent. My 2004 portfolio produced a 17.1 per cent return in its first 12 months and then increased in value by a further 36 per cent in its second year to produce a 24-month return of 59.6 per cent. In recent years, both the 2009 and 2010 portfolios have soared in value, producing 12-monthly gains of 53 per cent and 46 per cent, respectively, and though the 2011 portfolio underperformed that year it has made up the lost ground since and is now showing a total return of over 26 per cent.

True, the collapse in share prices following the stock market crash in 2008 wreaked havoc with that year's portfolio, but readers who kept faith subsequently recovered all their paper losses, which highlights the solid asset backing of the companies. In fact, two of those companies from the 2008 portfolio - Indian Film Company and Raven Mount - succumbed to takeovers.

Mergers and acquisitions (M&A) activity has been a recurring feature of all my portfolios, as predators, attracted by the asset backing on offer, run their slide-rule over the numbers.

So, once again, I have run the rule over 1,750 listed companies on the Alternative Investment Market (Aim) and the main market to come up with a portfolio of companies where the asset backing should be strong enough to overcome any short-term trading difficulties and, in time, reward our loyal following of long-term value investors.

RULES OF ENGAGEMENT

The bargain portfolio is based on the writings of Benjamin Graham, who favoured looking for companies that were "out of favour because of unsatisfactory developments of a temporary nature".

How do we know whether the "unsatisfactory developments" are indeed "temporary"? Mr Graham's approach was to focus on the balance sheet, and specifically the net current assets - stocks, debtors and cash less any creditors. He believed that a bargain share is one where net current assets less all prior obligations exceeds the market value of the company by at least 50 per cent. Mr Graham's theory was that a strong balance sheet will usually see a company through any short-term difficulties; he called it his "margin for safety".

Finding companies that match these strict criteria has become more and more difficult over the years as the link between market capitalisation and asset value has become more tenuous. In practice, when we ran our search we found only a handful of the 1,750 listed UK companies hold a bargain ratio of 1 or above and this includes a large number of illiquid microcap companies with market values well below £10m that are difficult to trade. So to widen the net, the cut-off point has been lowered to 0.33.

Although our performance has been exceptional over the years, you should remember that value investing is for the patient. You may find yourself in for two to three years with some of the companies, as was the case with the 2011 portfolio, and it is very important to buy a decent number of our recommendations to diversify risk.

Finally, bear in mind that market makers could easily raise their offer quotes for smaller companies by 10 to 15 per cent on publication day. If you're in for the long haul, don't feel you have to jump in on day one; prices and spreads may drift back over subsequent weeks.

Naibu Global International (NBU)

Aim: Chinese maker and supplier of branded sportswear

Share price: 58p

Bid-offer spread: 57p-58p

Market value: £33.9m

Website: www.naibu.com

It's not often you have the chance to buy shares in a company trading below cash on its balance sheet and at a third of its book value. It’s even rarer to find a company offering a near 10 per cent dividend yield and where net earnings for just one financial year equate to almost all of its market value. However, this is the tantalising investment opportunity in the shares of Naibu Global International (NBU), a Chinese maker and supplier of branded sportswear and shoes.

Offering a branded range of 530 items through more than 3,100 stores that are operated by 25 distributors in the second, third and fourth tier cities in China, Naibu primarily targets the disposable income of young consumers. Primarily, these are aged between 12 and 35.

Naibu is proving incredibly successful at it, too, as revenues in the first half of last year rose by a fifth to £95m to drive pre-tax profits up by 16 per cent to a record £21.5m. These figures have been converted from Naibu's reporting currency of the Chinese renminbi into sterling at the current rate of £1:10.0Rmb. And the momentum was maintained into the second half as a pre-close trading statement last week revealed that revenues surged 15 per cent to an all-time high of £193m for the year as a whole. On this basis, analysts at broking house Daniel Stewart predict pre-tax profits will have risen by 9 per cent to £39.3m in 2013 which net of a 26 per cent tax charge means that EPS should be around 55.7p. In other words, the shares are trading on a PE ratio of 1.1!

And it's not as if Naibu has any financial worries to justify such a bargain basement valuation. In fact, net cash at the end of June was £40m, or 10 per cent more than the company's current market valuation. Moreover, with profits rising and cash flow generation from operating activities robust, the company paid out an interim dividend of 2p a share in December having already paid out a final of 4p a share in September. This means the payout of 6p a share is covered more than nine times by EPS of 55.7p to produce a dividend yield of over 10 per cent.

For this year, expect a further ramp up in output as Naibu is bang on track to move into a new production facility at Quangang by the end of February, which will expand production capacity from eight to 10 lines. Chairman Lin Huoyan is certainly confident his company can continue to grow this year and so is Daniel Stewart; the broker is pencilling in a further 11 per cent rise in pre-tax profits and EPS to £43m and 62p, respectively. On this basis, expect a dividend of 6.5p a share this year.

The valuation is also extreme when you use my balance sheet approach. Current assets of £129m exceed total liabilities of £20m more than six times over which means that Naibu's market value of £33.9m is covered more than three times by assets on the balance after deducting all liabilities.

On a bargain ratio of 3.22, offering a 10 per cent dividend yield, trading on a forward PE ratio of one and with net cash on its balance sheet exceeding its market capitalisation by £6m, Naibu is an automatic entry into this year's Bargain Shares Portfolio.

H&T (HAT)

Aim: Pawnbroker

Share price: 162p

Bid-offer spread: 160-162p

Market value: £59.7m

Website: www.handtpawnbrokers.co.uk

The pawnbroking industry has endured a rough ride over the past 18 months as following a period of rapid expansion the combination of greater competition and a falling gold price have hammered gold trading profits and earnings on pledge books. In fact, the number of pawnbrokers has more than trebled to well over 2,100 stores since the 2008 financial crisis.

To put this into some perspective, the gold price has fallen by almost a third from $1,800/oz in October 2012 to the current level of $1,240/oz. To compound matters some industry players have clearly paid the price of over expanding their estates at the height of the boom. Albemarle & Bond (ABM), which has 188 stores, is now close to administration having come dangerously near to breaching its £53.5m credit lines.

Still, although shareholders of that company should fear for the worst with a move into administration the most likely outcome, not all pawnbrokers have fared so badly. H&T (HAT) is trading comfortably within its £50m four-year credit facility with Lloyds TSB and has no such pressing financial concerns having renegotiated its funding lines in January last year.

In fact, in the second half last year, net debt was slashed from £28.5m to only £20.8m. This means that balance sheet gearing is modest at only 24 per cent. It’s likely to have fallen since then as stock is released back to clients who borrowed cash short-term ahead of the Christmas trading period. Importantly, this offers H&T the flexibility and the funding to make selective acquisitions to acquire profitable pawnbrokers and bolster its own £44m pledge book.

That is certainly needed to bolster earnings, which took a hit in the first half of last year. The second half proved little better as a 14 per cent fall in the pledge book, combined with a 29 per cent fall in the gold price, means analysts predict H&T's full-year pre-tax profits will slump from £17m in 2012 to only £6m in 2013. Still, this could prove the nadir of the cycle as the likely insolvency of rival Albemarle & Bond, and H&T's planned closure of loss making stores and a cost reduction programme, means that a focus on cash generation and cost control could see earnings pick up again in 2014 even if the gold price remains weak.

For instance, brokerage N+1 Singer predicts that H&T's pre-tax profits will recover to £6.5m in 2014 to produce EPS of almost 14p. On this basis, the forward PE ratio is modest at only 11. Moreover, the company's sound finances should support a payout of 4.5p, albeit down from 11.9p in 2013, to offer shareholders a 3 per cent dividend yield. And there is undoubted value in the shares as the company is being valued bang in line with the value of its current assets less all its liabilities. That means we get all its fixed assets worth £34.3m for free including property and plant worth £13.8m.

On a bargain rating of 0.89, H&T has a strong enough balance sheet to be able to trade through the tough environment while offering investors real upside once the gold prices stabilises. Buy.

CAMKIDS (CAMK)

Aim: Chinese maker and distributor of children's outdoor apparel

Share price: 85p

Bid-offer spread: 82p-85p

Market value: £64.1m

Website: www.camkids-ir.com

Shares in Camkids (CAMK), a Chinese designer, manufacturer and distributor of outdoor apparel and accessories for children, have endured a roller coaster ride since listing on the Alternative Investment Market in December 2012. Having shot up almost 60 per cent within weeks of listing at 88p, the share price has now slumped back to that entry level on concerns of short-term pricing pressure as rivals clear excess inventory levels. However, these worries look overdone and the valuation is now at bargain basement levels no matter which way I look at it.

For instance, having declared a 2.3p a share interim payout alongside the half year results in September, analysts are pencilling in a 5.4p a share dividend for 2013, rising to 5.9p this year. On this basis, the prospective dividend yield is very attractive at 6.4 per cent, rising to 7.0 per cent in 2014. The board can certainly afford to be generous with the payout as net cash on the balance sheet was £29m at the June half-year end, representing almost half the company's net asset value of £60m. Camkids also looks very lowly rated on a price-to-book value basis. That's because its equity is being valued by investors at only £63m, so the shares are priced on a modest 5 per cent premium to book value even though half of the company's net assets is cash.

Investors are also ignoring the fact that the business is highly profitable. Analysts at broking house Allenby Capital predict revenues will rise 7 per cent to about £117m this year to drive pre-tax profits and EPS modestly higher to £32.7m and 32.9p, respectively. This means the forecast dividend is covered more than five times over and, after adjusting for net cash worth 38p a share on the balance sheet, the forward PE ratio is just 1.5!

Clearly some discount needs to be factored into the valuation because Camkids is a small cap Chinese company, a segment of the market investors perceive carries more risk, but this undervaluation seems extreme especially since gross margins of about 38 per cent are high enough for the company to have the flexibility to keep distributors happy. It's worth noting too that Camkids has not been impacted by rivals discounting due to the resilience of the children's market and its focus on the less crowded outdoor sportswear. In any case, it’s not as if there isn't a growth story here to drive turnover and profits ahead.

A move to target the top three tier cities in China, and the launch of a new e-commerce sales platform following a tie-up with Taobao, the largest e-commerce website in China, means customers are now able to purchase products on the company’s site (www.camkids.com.cn), albeit internet shopping is still in its infancy in China. Camkids currently sells through a network of 1,100 stores, having added 115 stores in the first half of last year. Cashflow generation is robust and the company produced a net cash inflow from operating activities of £9.6m in the first half of 2013 alone, so even after the £6.4m raised on admission to Aim is stripped out, cash balances have still risen strongly in the past 12 months. This bumper cash generation makes the valuation even more anomalous in my view.

Trading on bargain shares rating of 0.86, Camkids' shares could double and still represent good value.

PV CRYSTALOX SOLAR (PVCS)

Main: Silicon wafers maker

Share price: 19p

Bid-offer spread: 18-19p

Market value: £30.4m

Website: www.pvcrystalox.com

It is fair to say that I took an almighty bath on solar-wafer manufacturer PV Crystalox Solar (PVCS) in my 2011 Bargain share portfolio. Anti competitive pricing by Asian rivals meant that the company’s profits disappeared entirely even though industry demand for the technology remains strong enough.

The trading environment remains challenging, of that I am in no doubt, and the company is now being run with the aim of conserving cash. The main focus has been on cost control and inventory management, including trading of excess polysilicon as opportunities arise. The strategy has clearly proved successful: inventory levels of both wafers and polysilicon were slashed by a third (to about €30m, or £25m) in the 12 months to end June 2013; and production costs have been reduced after management renegotiated pricing with the company's wafering subcontractor and polysilicon suppliers.

In fact, in a pre-close trading statement, PV Crystalox revealed that trading of excess polysilicon was in line with expectations and full year wafer shipments are anticipated to be at the upper end of the 160MW-180MW range indicated at the time of its first half results in August. As a result "wafer and polysilicon inventories at the end of 2013 are expected to be significantly lower than a year earlier". This can only be positive for the cash pile, which on a proforma basis is around £27.5m, or 17.2p a share, after adjusting for a £30m cash return to shareholders last autumn.

It's worth pointing out, too, that the adjustment of operations to align them with anticipated sustainable short-term demand "will enable positive cash-flow generation and leave the business well positioned should the market begin to recover". Disposing of the heavily loss-making plant at Bitterfeld, Germany has clearly helped. There is even a small glimmer of hope on the pricing environment which has been relatively stable since June. In fact, spot wafer prices rose modestly at the end of last year.

Priced on a 30 per cent discount to pro-forma book value, the current valuation looks anomalous to me given that PV Crystalox Solar is no longer bleeding cash and has net funds of around 17.2p a share on its balance sheet. On a bargain rating of 0.81, the shares have scope to shine brightly in the coming year if there is any easing in the pricing environment.

ARDEN PARTNERS (ARDN)

Aim: Stockbroker

Share price: 75p

Bid-offer spread: 73p-75p

Market value: £16.7m

Website: www.arden-partners.com

Institutional stockbroker Arden Partners (ARDN) reported a robust set of results a few weeks back and there is little reason to expect the momentum in the business stopping at this point given a promising pipeline of new business.

Underlying pre-tax profits rose by 40 per cent to £1.4m in the 12 months to end October 2013, which drove adjusted EPS up 50 per cent to 5.1p. In turn the board reinstated the final dividend with a payout of 1.75p a share to make a total of 3p a share for the financial year. On this basis, the dividend yield is very decent at about 4 per cent.

The company's operations include an equity division, encompassing equity sales, sales trading, market making and execution of trades for fund managers and dealers primarily in the FTSE 250 index. But the key driver has been Arden's corporate finance business which incorporates advisory and broking services to corporate clients, including: public company takeovers, mergers, acquisitions and disposals, flotations, fundraisings and restructurings. In the latest 12-month trading period, Arden was involved in 11 transactions and arranged £283m in fundraisings for corporate clients which helped drive corporate revenues up by half to £5.1m. The broker currently has 37 clients and importantly has a clear strategy in place to become the institutional and corporate broker of choice for small and mid cap companies trading on London based markets.

The plan is to achieve this goal through providing incisive research material in a number of key sectors; offering an efficient execution and trading platform to institutional clients; providing a premium corporate broking service; proactively recruiting into key areas to support and enhance the quality of the offering; growing sustainable revenue streams; and managing cost and risk exposure prudently. In turn this should enable Arden to deliver shareholder value through earnings growth and dividends.

The company certainly has the funds to develop the business in order to benefit from any further market upturn because even after buying back 2.3m shares last April, equating to 9 per cent of the issued share capital, net cash was still £3.7m, or the equivalent of 16.5p a share, at the end of October. Since then Arden made the opportunistic purchase of a further 661,000 shares of its own shares in November at 45p each. It made a lot of sense because net of the cash pile the company was being valued on only six times earnings at the time so all the buybacks have been earnings enhancing.

Moreover, the progress Arden has been making has not gone unnoticed either; serial entrepreneur Luke Johnson obviously believes there is significantly more upside to come as he picked up 2.1m shares, or 9.75 per cent of the share capital, at 64p a share last month. It looks a wise move because once you strip out net cash on the balance sheet currently equating to 15p a share, the company is being valued on a modest 12 times earnings with a realistic chance of decent growth this year to come.

Trading on a bargain rating of 0.67, offering a 4 per cent yield, and underpinned by a pipeline of new business, Mr Johnson’s lead should be followed. Buy.

TAYLOR WIMPEY (TW.)

Main: Housebuilder

Share price: 112.5p

Bid-offer spread: 112.4p-112.5p

Market value: £3.6bn

Website: www.taylorwimpey.co.uk

Over the years, the housebuilding sector has proved a rich hunting ground for my bargain shares. This is mainly because accounting rules stipulate that stocks of new homes and land are both held as current assets on the balance sheet which means that non-current assets represent a much lower proportion of total assets compared with other companies. As a result this gives the companies much higher bargain ratings. It also helps that my annual portfolios are published early in the year during a period when the sector has historically performed incredibly well as I have pointed out on numerous occasions in the past.

True, the sector has performed fantastically well over the past five years, and has been a top performer over the past 12 months. However, I still feel there is scope for the FTSE 250 homebuilders to outperform their benchmark index over the coming months, both in absolute and relative terms. Interestingly, there is a technical catalyst that could come into play in the weeks ahead to drive share prices higher as both FTSE 250 constituents Taylor Wimpey (TW.) and Barratt Developments (BDEV) are on the cusp of entry into the FTSE 100 index.

Currently, both companies have identical valuations at £3.64bn placing them as the 96th largest company listed on the London main market by market capitalisation. To gain automatic entry into the FTSE 100 at the FTSE International Committee Quarterly Review, they would need to be ranked 90 or above by market value. That slot is held by Rexam with a market value of £3.96bn. So with the benefit of the seasonal tailwind behind shares of housebuilders, and with both companies due to report results in the first quarter, it is quite feasible that Taylor Wimpey and Barratt Developments could enter the FTSE 100 at the end of March. In turn, fund managers tracking the blue chip index will have no choice but to buy their shares which should drive the prices up higher. Importantly, the fundamental case for investing holds too.

In a pre-close trading update ahead of full-year results on 28 February, Taylor Wimpey revealed that the company sold 11,696 homes last year, a 7 per cent rise over 2012, helped in part by the demand created from the government's Help to Buy mortgage lending scheme. Average selling prices on private completions are up too, increasing 7 per cent to £210,000, reflecting a shift to better sales locations and higher market prices. The net effect of this is that operating margins have been rising sharply and analyst Clyde Lewis at broking house Peel Hunt expects the company’s margin to be around 13.8 per cent last year, up 2.5 percentage points on 2012.

In turn, with revenues up from £2bn to about £2.3bn in the 12-month period, the combination of higher selling prices, more completions and better margins are forecast to drive pre-tax profits up almost 50 per cent to £275m. On this basis, expect 2013 EPS of 6.5p. And there is little reason to expect this positive news story to grind to halt at this point as guidance is for another 200 to 300 basis point improvement in margins in 2014 which fully supports Peel Hunt's pre-tax profit estimate of £390m on revenues of £2.62bn, to produce EPS of 9.4p. The respective figures for 2015 are revenues of £2.9bn, profits about £500m and EPS of 11.8p.

So, with Taylor Woodrow's shares trading at 115p, the forward PE ratio is only 10 for 2015. That's hardly excessive considering the multiple tailwinds of easy monetary policy, supportive government housing schemes, UK population growth and net migration that are driving demand at the same time that local government planning policies are holding back supply. This helps explain why the company's forward order book has risen by over a quarter year on year to £1.2bn, or the equivalent of 6,627 homes.

The story gets even better when you consider that Taylor Wimpey has a land bank of about 65,000 plots, or six years supply, and a strategic land bank of 110,000 plots, or 10 years' supply. The board have been reviewing these land holdings and now believe that a six-year land bank is excessive and one closer to five years will suffice given the huge strategic land bank. The obvious implication of reducing the land bank by about 12,000 plots, equating to £2.5bn of house sales at current selling prices, is that a huge amount of cash is going to be generated over the coming years and returned to shareholders. To put this into some perspective, Peel Hunt expects Taylor Wimpey to generate free cash of between £1.7bn to £1.8bn over the next four years, the equivalent of 58p a share or more than half the current share price. News of the scale of the capital return will be announced on Friday, 28 February.

What this also means is that Taylor Wimpey shares are underpriced on 1.65 times book value since the board are in effect committed to turning part of the land bank into cash and returning it to shareholders. Peel Hunt are expecting a cash return of 10p a share this year and a further 12p a share in 2015, implying a prospective dividend yield of 8.7 per cent and 10.4 per cent respectively.

Trading on a bargain rating of 0.46, I estimate fair value around 160p based on the current sales trends and expectation of a 58p a share cash return by 2018.

BARRATT DEVELOPMENTS (BDEV)

Main: Housebuilder

Share price: 373.2p

Bid-offer spread: 373p-373.2p

Market value: £3.6bn

Website: www.barrattdevelopments.co.uk

It's only reasonable to expect good news from Barratt Developments when the company reports its half-year results on Thursday, 27 February. Forward sales are currently around £1.26bn, or 7,000 units, and we know that completions shot up by almost 20 per cent to 6,195 units in the six months to end December 2013, buoyed by the Help to Buy scheme which accounted for 29 per cent of private completions in the period.

Average selling prices were up nearly 14 per cent to £211,000 and, combined with a 150 to 200 basis point increase in operating margins, this means pre-tax profits are bang on course to at least hit analyst estimates of £335m on turnover of £2.89bn for the 12 months to end June 2014, up from £192m and £2.6bn, respectively, the prior year. On this basis, full-year EPS rises from 14.6p to 26.6p which fully supports a 140 per cent rise in the dividend to 6p a share as analysts predict.

Furthermore, with the contribution from the booming London and south east England housing markets increasing (28 per cent of sales in the last financial year), the scope to lift current year operating margins from 12.8 per cent to 14.7 per cent the year after, as analysts expect, looks well underpinned. Forecasts that Barratt’s can generate revenues of £3.2bn in the 12 months to June 2015 do not look unrealistic to me either. If achieved this would drive pre-tax profits up a further third to £440m factoring in the benefit of higher margins. It would also deliver EPS of 35p and underpins a further 67 per cent hike in the dividend to 10p a share. A forward PE ratio of 10 and prospective yield of 2.75 per cent is hardly exacting for a lowly geared company - net debt was 5 per cent at the turn of the year - and one that has a plan in place to boost output to 16,000 units in the 2015/16 financial year, while targeting a return on capital employed of 18 per cent in the period.

If achieved this will propel Barratt's from being the laggard in the sector in terms of its post tax return on equity and should drive a higher share price rating as a result. And with a 4,800 plot land bank in place in London alone, the company already has sites in the pipeline and a plan in place to increase exposure to the capital’s rampant housing market in order to boost margins.

Priced on a bargain rating of 0.5, and on a modest 1.2 times book value, an investment in Barratt shares is built on solid foundations.

BLOOMSBURY PUBLISHING (BMY)

Main: Publishing

Share price: 167p

Bid-offer spread: 165p-167p

Market value: £123m

Website: www.bloomsbury.com

Shares in Bloomsbury Publishing (BMY) the company best known for JK Rowling's books, made it into my 2011 Bargain shares portfolio, but there's still a story to tell here. I have been having a good read of the company's pre-close trading statement ahead of the end February financial year-end and there's definitely a few chapters to unfold before Bloomsbury shares can be placed back on the stock market shelf. In fact, with a further 25 per cent potential share price upside to my 210p fair value target, I feel an investment here could prove be a best seller.

Following a bumper first-half trading performance when pre-tax profits were up a third to £2.8m in the six months to end August 2013, on revenues around 13 per cent higher at £49.2m, turnover in the first 20 weeks of the second half to mid-January have surged by 20 per cent. This has been driven mainly by a host of major best sellers including: Tom Kerridge's Proper Pub Food, And The Mountains Echoed by Khaled Hosseini, The Harry Potter Box Set by JK Rowling, The Bone Season by Samantha Shannon and River Cottage Veg Everyday! by Hugh Fearnley-Whittingstall.

This uptake in e-books is also being helped by a raft of bestsellers published by Bloomsbury. In the UK, the company’s sales from e-books increased by 15 per cent in the latest 20-week trading period and this segment is only likely to gain further traction as the cost of tablets and e-readers falls and widens the net of potential consumers. In fact, according to the latest Neilsen Bookscan, around a fifth of UK adults have bought e-books, up from only 12 per cent 18 months ago.

Bloomsbury has been growing its academic and professional publishing businesses too. These account for two fifths of the company's profits, but only 28 per cent of revenues so are higher margin. Post the half year end, Bloomsbury used two thirds of its £10m cash pile to make the smart looking bolt-on purchase of Hart Publishing, the Oxford-based legal publisher. The acquisition is expected to generate cost savings and boost earnings per share immediately, contributing £1.4m of revenue to Bloomsbury in the financial year ending 28 February 2014. Hart generated £2.6m of revenue and £500,000 of profit before tax in the year ended 31 March 2013, so it looks a sensibly priced deal.

Importantly, the acquisition is consistent with Bloomsbury's strategy to increase its proportion of academic and professional revenues to half of total sales within five years. That's a sensible approach to follow since academic and professional revenues are more predictable, and have lower related costs of sale with higher margins, and are much less reliant on retail bookshop sales. Around half of Hart's revenue is generated outside the UK, thereby diversifying Bloomsbury's revenue stream and offering upside from the global book market. It also enables the company to further develop e-book publishing and expand its Professional digital suite of services.

The fundamentals certainly supports the current valuation as based on full-year EPS forecast of 13.4p from brokerage Investec, the shares are only trading on 13 times earnings estimates. Assuming the company can grow profits by about 6 per cent to £13.9m in the 12 months to February 2015, then after factoring in a 4 per cent rise in sales to £113m, this will generate EPS of 14.4p. On this basis, the forward PE ratio is only 12.

There is a decent yield too as Bloomsbury is expected to declare a total dividend of 5.8p a share this financial year, rising to 6.1p a share the year after, implying a safe looking 3.5 per cent yield more than twice covered by net earnings. A solid ungeared balance sheet is supportive too with the company being valued on just 1.1 times book value.

On a bargain rating of 0.45, Bloomsbury's lowly rated shares could be a page turner this year.

RECORD (REC)

Aim: Specialist currency manager

Share price: 37p

Bid-offer spread: 36p-37p

Market value: £83m

Website: www.recordcm.com

The third-quarter trading statement from Windsor-based specialist currency manager Record (REC) made for very interesting reading. Assets under management equivalent (AUME) jumped from $37.7bn at the end of September to $51.1bn at the start of this year after the company reported $12bn of inflows in the three month period, including a new Passive Hedging programme mandate of between $8 to $10bn. Since then Record has won a further mandate worth $600m to add to the $12.1bn it manages for clients under its Dynamic Hedging programmes. Both its US and UK clients enjoyed positive returns on their investments under these particular strategies in the final quarter of 2013.

Moreover, both the Dynamic programmes, and Passive Hedging programmes (around $36bn of AUME), are likely to attract further demand given their recent performance records. In the final quarter of 2013, Record’s active forward rate bias product posted a 1.41 per cent ungeared return which compares favourably with a 0.39 per cent fall in the FTSE Currency FRB10 index in the same three month period; the asset manager’s emerging market product posted an ungeared return of 0.6 per cent; and its multi-strategy product returned 1.39 per cent.

In addition, the decision to amend the fee scales applying to existing Dynamic Hedging mandates, to bring them inline with the lower fees charged on new mandates, is likely to be more than compensated by all the new business won. For instance, $12bn worth of new Passive Hedging mandates won since June are generating £2.3m of annual management fees, which nearly offsets the £2.6m of lost revenue as a result of cutting the fee rate on the Dynamic Hedging mandates.

I understand Record’s management team are currently engaged in talks with prospective clients and investment consultants in North America, UK and Switzerland in order to bring in new business. The company’s base of 46 clients is made up largely of pension funds, charities, foundations, endowments, and family offices, as well as corporate clients. Ongoing discussions with new clients are primarily for Dynamic Hedging mandates worth between $10bn to $15bn and it's only reasonable to expect some of these tenders to be won. That's because the prospect of a strengthening of the US Dollar resulting from further tapering of the US Federal Reserve's quantitative easing programmes will undoubtedly boost demand from US investors looking to hedge currency risk.

In turn, this should be good news for Record’s pre-tax profits which rose 12 per cent to £3.1m in the first half to end September 2013 on a similar rise in revenues to £9.9m. Analysts at Edison Investment Research expect full-year revenues to increase to £20.1m and pre-tax profits to rise from £5.8m last year to £6.9m in the 12 months to March 2014. On this basis, the shares trade on a prospective PE ratio of 15 based on EPS of 2.4p, up from 2p a year earlier. Although that may seem a steep rating, don’t ignore the £27.7m cash on Record’s balance sheet, worth 12.5p a share. Strip this out and the prospective PE ratio is only 10. For the financial year to March 2015, Edison expects revenues to rise further to £21m, pre-tax profits to hit £7.2m and EPS to rise to 2.5p.

There is a decent dividend too as Record's board declared an interim payout of 0.75p a share covered 1.6 times by net earnings and intends to maintain the full-year dividend at 1.5p a share, implying a healthy yield of 4 per cent. A dividend of 1.6p a share is forecast by Edison in the financial year to March 2015 which implies a prospective yield of almost 4.4 per cent.

The investment case is also supported by Record's undervaluation compared with its peers. According to Edison, the company's calendar 2014 PE ratio is almost 25 per cent less than its smaller UK asset managers peer group and, after factoring in the cash pile, Record is being valued on a hefty 45 per cent discount to peers on an enterprise value (market capitalisation less net cash) to cash profits basis.

In effect, the current valuation assumes Record will win no more new business, which seems harsh given the recent spate of new mandates. It's worth pointing out that Record does not engage in any proprietary trading and all of its income comes from fees earned from clients. So underpinned by a cash-rich balance sheet, and with its earnings stream set to grow strongly, Record’s shares are well worth buying on a bargain ratio of 0.37.

1PM (OPM)

Main: Leasing and loan finance for SMEs

Share price: 57p

Bid-offer spread: 56p-57p

Market value: £17.2m

Website: www.1pm.co.uk

Bath-based 1pm (OPM) has been trading on Aim for the past 17 years, but it's only in the past couple of years that the business has been making serious progress. That's because as a niche provider of leasing finance to small and medium sized enterprises, the company has been prospering post the financial crisis as banks reined in funding to this segment of the market. By sourcing clients through a network of 70 finance brokers, 1pm has been able to grow its business while at the same time maintaining strict underwriting criteria and credit management in order to deliver profitable growth and minimise bad debts.

Results for the six months to end November 2013 clearly show that this is working. For instance, the company wrote £5m of new business in the period, up by over a quarter on the same stage a year earlier, including a record £1m in October alone. By the half-year end, the leasing portfolio had grown to £17.7m, or a third higher than in November 2012. With an average lease agreement of £8,500 over a 40-month term, the risk is being spread without over exposing 1pm to any one customer. In fact, no single customer accounts for more than 0.43 per cent of the leasing portfolio and bad debts only account for 0.64 per cent of the book, down from 0.84 per cent in 2012.

Furthermore, by fixing all borrowing and lending at fixed rates, and credit checking all businesses and guarantors to reduce default risk, it’s a very profitable niche to be operating in. In fact, 1pm generates an average yield of 18 per cent based on average borrowing rate of 6.3 per cent. The company is now expanding into small business loans targeting a loan size of £1,000 to £15,000 over a term up to 36 months. The aim is to generate a 21 per cent yield on this business.

The financial results back this up as pre-tax profits surged 85 per cent to £609,000 on revenues of £1.95m in the six months to end November 2013. Post earnings upgrades, analysts at WH Ireland predict the company will turn in profits of £1.2m on revenues of £3.8m in the full year to end May 2014, up from £754,000 and £3m, respectively, a year earlier. On this basis, EPS rises from 2.63p to 3.1p.

Interestingly, 1pm has been funding this growth by attracting investments from high net worth individuals and self invested personal pension funds (Sipps). Since May last year the company has raised £4.9m of new funding including £1.5m of new equity from fund manager Henderson Global Investors. These funds have enabled 1pm to increase its net receivables to £15m by the end of the first half to end November, up a quarter year on year, and WH Ireland predict the loan book will have risen to £18.5m by the May 2014 financial year-end. Assuming 1pm's loan book grows as forecast to £19.8m by May 2015, expect revenues to rise another 10 per cent to £4.2m which would lift pre-tax profits by a quarter to £1.52m and produce EPS of 3.95p. On this basis, the prospective PE ratio is 14, inline with larger peers Secure Trust Bank (STB), S&U (SUS) and Provident Financial (PFG).

However, given the UK economy is clearly improving, it's reasonable to assume that demand for leasing finance from SMEs will improve, too. In which case, unless the major banks have a change of tact and start increasing their funding to this segment of the market, which seems unlikely given their record in the past few years, then an improving economic backdrop should play straight into the hands of 1pm. In the circumstances, WH Ireland’s forecasts for both this year and next could prove conservative.

On a bargain rating of 0.37, and with 1pm funded for growth and in an earnings upgrade cycle, the shares have potential to deliver further gains in the next 12 months and beyond.

FORTUNE OIL (FTO)

Main: Oil & gas supply projects

Share price: 9p

Bid-offer spread: 8.95p-9p

Market value: £234m

Website: www.fortune-oil.com

Fortune Oil (FTO) is a company well worth investigating because there is obvious value here to exploit. In fact, I would be very surprised if it is still listed in a year's time unless the shares are rerated significantly.

To understand why it's necessary to unravel a series of complex transactions that has resulted in Fortune Oil owning outright 184m shares in Hong Kong listed China Gas Holdings (HK:384), or 3.69 per cent of its share capital, and a beneficial interest in 732m shares of China Gas Holdings through a joint venture China Gas Group Limited. Perhaps it's the complexity of these transactions that has made it difficult for investors to unravel the true worth of Fortune Oil. However, by the time the company reports its second interim results to 31 December by the end of February, it will become obvious for all to see that Fortune Oil is sitting on an investment worth several times its own market value.

Having seen its share price surge by half since the middle of last year, China Gas Holdings now has a market value of HK$52.5bn, or £4.1bn at current exchange rates, based on 4.98bn shares in issue and a stock price of HK10.80. This means that Fortune Oil’s direct investment in the company is worth HK1.93bn, or £150m. In other words, with Fortune Oil capitalised at only £234m this stake alone covers almost two thirds of its own market value. In addition, Fortune Oil in effect owns another 366m China Gas Holdings shares worth £300m through the aforementioned joint venture. Or put it another way if Fortune Oil was to sell all of its China Gas Holdings shares at market value, then it would realise the equivalent of 17p per Fortune share, or almost double its own share price.

And because Fortune Oil will be marking its assets to market value when the company reports its next set of results, the HK$2.50 a share rise in China Gas Holdings share price since the company’s half-year end will lead to a huge uplift in its own net asset value. In fact, I reckon it will add HK$1.38bn, or £107m to Fortune Oil's book value and means that the company’s net asset value is now at least £434m, or the equivalent to 16.7p a share.

Apart from these strategic stakes, Fortune Oil owns a natural gas business which generated operating profits of £8.9m on revenues of £49m in the first half of last year. The company is also a shareholder in a joint venture aviation fuel business, Bluesky, which reported net profits of £21.3m on £1.1bn of revenues in the same period.

Ultimately though it will be the massive fair value mark up in Fortune Oil's holding in China Gas Holdings which will catch the attention in a few months time. And it's not as if the shareholding isn't a solid investment as China Gas Holdings continues to expand its share of the domestic piped gas market and now has over 7m connected piped gas users and assets worth more than £3bn. To give you some idea of the scale of the operation, China Gas Holdings has 20,000 employees who work on a total of 170 natural gas projects, nine natural gas pipeline transmission projects, one natural gas exploration project, and 44 liquid petroleum gas distribution projects. It's a truly vast operation not to mention a profitable one too with the group’s pre-tax profits soaring over 70 per cent to £185m in the six months to end September 2013.

What is also clear is that Fortune Oil is being chronically undervalued. A bargain rating of 0.33 based on the last set of accounts woefully underestimates the true book value of the company given the hidden value in the shareholding in China Gas Holdings. Buy.

CHARLEMAGNE CAPITAL (CCAP)

Aim: Emerging markets asset manager

Share price: 16p

Bid-offer spread: 15.5-16p

Market value: £46.5m

Website: www.charlemagnecapital.com

Charlemagne Capital (CCAP) is a specialist emerging markets asset manager, entirely independent of any other group, run by a team of dedicated investment professionals who own around 40 per cent of the company's share capital.

That means that they benefit from both the highs and the lows. There have certainly been enough of the latter since the company listed its shares at 100p eight years ago. However, a pre-close trading update a few weeks ago indicated that the business has clearly turned the corner. Add to that an attractive decent dividend yield and a rock solid balance sheet, and there are enough positives to believe that investing now is going to pay off in the coming year.

In the final quarter of 2013, Charlemagne's assets under management rose 7 per cent to $2.73bn (£1.65bn) to boost second half revenues by almost 13 per cent. As a result total revenue for last year was up more than a third to $41.3m, split 60:40 between management and performance fees. Fee income was helped by the fact that six out of Charlemagne’s nine Magna funds achieved first quartile performance in their market segments over the year, which in turn attracted net flows into these funds. In particular, Global Emerging Markets and Eastern European and Frontier strategies enjoyed notable inflows. In fact, there were net fund inflows into all categories in the final quarter and over the year too, in stark contrast to the industry which saw a net fund outflow in 2013.

Last year was primarily about stock picking in emerging markets, a theme that is likely to continue in 2014 in the absence of a strong rally in risk assets. In this environment, one would expect Charlemagne’s investment strategies to continue to outperform and attract further inflows. For instance, its long-short OCCO fund, accounting for around a quarter of assets under management, continues to perform well and generated two thirds of the $23.9m performance fees earned by the company last year after adjusting for minority interests. In turn, this is good news for both earnings and dividends.

Following upgrades of around 8 per cent to net earnings post last month's trading update, brokerage N+1 Singer predict that the company's 2013 pre-tax profits and EPS will more than double to $11m and 1.4c, respectively, and pencil in a full-year dividend of 1.5c. The respective forecasts for 2014 are revenues of $42.6m, pre-tax profits of $12.1m and EPS of 2.1c, or 1.3p. On this basis, expect the dividend to be raised to 2.1c in 2014 given the board's policy of paying out all net earnings to shareholders. This means that the shares are currently trading on a forward PE ratio of 13 for 2014 and offer a very attractive prospective yield of 7.7 per cent.

It's also worth considering that net funds are around $25.4m, or £15.4m. This equates to 5.3p a share. Strip this sum out from Charlemagne’s current share price and the cash adjusted PE ratio is less than nine for 2014, a rating that seems harsh for a company that is now attracting fund inflows once again.

On a bargain rating of 0.33, the shares are a decent income buy and one where any recovery in emerging markets later this year is in the price for free.

Bargain Shares Portfolio 2014

Company nameTIDMMarketActivityOffer price (p)Market value (£m)Bargain rating
Naibu Global International NBUAimChinese maker and supplier of branded sportswear6336.92.97
H&THATAimPawnbroker15858.20.91
CamkidsCAMKAimChildren's clothing8564.10.86
PV Crystalox SolarPVCSMain Solar wafer maker1930.40.82
Arden PartnersARDNAimStockbroker7516.70.67
Barratt DevelopmentBDEVMain Housebuilder373.236750.50
Taylor WimpeyTW.Main Housebuilder112.436430.47
Bloomsbury PublishingBMYMain Publishing 167123.20.45
RecordRECAimSpecialist currency manager3781.90.37
1pmOPMAimFinance5717.20.37
Fortune OilFTOMain Oil & gas projects92340.33
Charlemagne CapitalCCAPAimEmerging market asset manager1646.50.33

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Find out how the 2013 Bargain Shares portfolio fared