I first recommended buying the shares at 146p last summer ('Legal eagles', 8 Jun 2015), updated my view when the price was closing in on my target of 190p ('Five companies that keep on delivering', 3 Nov 2015), and advised running profits at 196p at the start of this year ('Stock check', 5 Jan 2016).
The share price has risen by a further 30 per cent since that January article and with good reason after Burford posted full-year EPS of 31.5¢ (22p) yesterday, beating consensus EPS estimates of 23.7¢ by a thumping 35 per cent. Operating profit rose by more than a quarter to $102m, buoyed by an 80 per cent-plus rise in litigation investment income, which accounted for $87m of those profits. It's not just a highly profitable niche business to be in, but return on capital is eye-watering, highlighting the ability of Burford's lawyers to cherry pick the best legal cases to back, and ones that generate the best returns. In fact, the company's investment portfolio produced cash of $140m in 2015, more than double the outcome in 2014; return on invested capital on 42 concluded investments increased from 60 to 70 per cent and has never been below 50 per cent on any concluded case in the past five years; and the internal rate of return on these cases rose by four percentage points to 28 per cent.
The company's outstanding litigation investment portfolio is valued at $420m (£295m) on its balance sheet, including $100m of investment post the December 2015 year-end, and consists of 54 investments with more than 500 separate claims. There is a further $207m in undrawn commitments across 18 investments. Bearing this in mind, it's worth noting that the board takes a very conservative view on valuing these investments, which is why Burford generates such huge returns when the cases are concluded. So, although the shares are priced on 1.7 times book value, this is only a reflection of the conservative accounting policy adopted.
One school of thought suggests that litigation investments should be marked up (and thus unrealised income created) as time passes and the investment goes through the litigation process, so that by the end of the investment all of its potential gain will have already been recognised. But Burford's board only increases (or decreases) investment values solely based on objective events in the progress of the litigation, and then only moderately. As a result, when the company experiences investment successes, there is a large income to book. So, if you have confidence in the quality of Burford's investment portfolio, then it's only reasonable to expect portfolio growth to underpin a ramp-up in the company's income as investments continue to mature. There is potential for some huge one-off gains, too.
South American insolvency claims
Interestingly, the board has for the first time disclosed the extent of its interest in the outcome of two substantial claims against Argentina. One of these relates to the 2012 expropriation by Argentina of a majority interest in YPF, the New York Stock Exchange-listed energy company formerly owned by Repsol, the Spanish energy major. At the time of the expropriation, Repsol owned more than 50 per cent of YPF and the Petersen Group, another Spanish firm, owned 25 per cent of YPF. After suing, Repsol ultimately settled its claims and received a payment of approximately $5bn from Argentina and YPF. Burford has been appointed to provide financing to the liquidators of the Petersen Group, which went bankrupt after the expropriation, and who are proceeding with claims worth $3bn against both YPF and Argentina. Burford is entitled to 70 per cent (less expenses) in the YPF-related claim.
The other claim against Argentina relates to the country's expropriation of the two leading Argentine airlines, Aerolíneas Argentinas and Austral Líneas Aéreas, from their Spanish corporate owners. The Spanish companies became insolvent as a result and entered bankruptcy. In this case, Burford has been providing financing to the Spanish receivers to enable the pursuit of an international arbitration claim against Argentina. Because the expropriation is admitted by Argentina, the key issues in the arbitration are whether the tribunal will accept jurisdiction and, if so, what damages are appropriate. The tribunal has now accepted jurisdiction and is now considering damages and a number of collateral issues raised by Argentina. I understand that Burford is entitled to a third of any recoveries in this $1.6bn claim. It's worth pointing out that Argentina has paid a number of international arbitration awards in the past.
Of course, there is no way of valuing the potential outcome from these two huge legal cases, but on the basis that the state has settled similar such cases at 50¢ in the dollar, then there is potential for a significant windfall payout for Burford's shareholders, albeit both claims are risky and carry substantive litigation risk.
Flying high
Another point to note is that Burford is canvassing investors to ascertain demand for a second retail bond issue to be listed on the London Stock Exchange's Order Book for Retail Bonds (ORB) platform, having previously raised £90m on an eight-year retail bond priced at a coupon rate of 6.5 per cent in 2014. That bond is trading above par, highlighting the strong fixed-income investor demand for the company's credit. I strongly suspect that it will have no problem at all launching a similar type bond, and at a lower coupon rate.
It makes sense to do so because the company is generating a return on equity of 16 per cent, so recycling proceeds from retail bond issues into new litigation cases is proving highly value accretive for shareholders given the high rates of return the company generates on its capital. To put this into some perspective, the company has grown its net asset value by over 160 per cent since its IPO in October 2009.
Shareholders have also benefited from a very progressive dividend policy. Last year's dividend per share was hiked by 14 per cent to 8¢ (5.6p), which means that the payout has been raised by 153 per cent in the past five financial years. RBC Capital Markets top of the range predictions point to the payout being raised by 25 per cent to 10¢ (7p) this year based on EPS rising from 31.5¢ to 37¢ (26.3p), having upgraded EPS estimates by 23 per cent post yesterday's results. Analysts at the brokerage have a target price of 288p, slihtly above N+1 Singer's target of 280p.
So, with the company performing strongly, the shares trading on a modest 10 times forecast earnings, and offering a decent 2.7 per cent prospective dividend yield, I feel it's well worth running your 75 per cent paper gains. Clearly, the insiders are positive too as director David Lowe bought 40,000 shares yesterday morning to take his holding to 200,000 shares. Run profits.
Please note that I have published two columns today, 12 so far this week, and 21 since Monday last week, all of which are listed below. I am still working my way through a number of results announcements and will endeavour to update my views as soon as possible.
MORE FROM SIMON THOMPSON...
I have written articles on the following companies recently:
■ Plethora Solutions: Take profits at HK$0.079 ('On the takeover trail', 14 Mar 2016)
■ Somero Enterprises: Buy at 150p; target 185p ('A solid buy', 15 Mar 2016)
■ 32Red: Run profits at 150p ('32Red in the money, 15 Mar 2016)
■ Communisis: Sell at 44p ('Patience running short at Communisis', 15 Mar 2016)
■ Global Energy Development: Sell at 27p ('Global Energy plays waiting game', 15 Mar 2016)
■ Raven Russia: Sell at 30p ('Raven Russia battens down the hatches', 15 Mar 2016)
■ Stadium: Buy at 122p, new target price 150p ('Switch on for bumper gains', 16 Mar 2016)
■ French Connection: Buy at 42.75p ('Return to profitability looms for chic operator', 16 Mar 2016)
■ Fairpoint: Run profits at 159p ('Fairpoints to make', 17 Mar 2016)
■ Netplay TV: Buy at 10p ('Netplay's shares spin higher', 21 Mar 2016)
■ Satellite Solutions Worldwide: Buy at 5.5p, target 9p to 10p ('Blue sky tech play', 21 Mar 2016)
■ Miton: Buy at 30.5p, new target 38p ('Riding earnings upgrades', 22 Mar 2016)
■ Inland: Run profits at 86p, new target 95p ('Valuation surge boosts Inland', 22 Mar 2016)
■ Pittards: Crystallise loss at 71p ('Subdued demand hits Pittards', 22 Mar 2016)
■ French Connection: Buy at 43p ('Stakebuilding gathers pace at French Connection', 22 Mar 2016)
■ Safestyle: Run profits at 276p ('Exploiting a window of opportunity', 23 Mar 2016)
■ PV Crystalox: Speculative buy at 10p ('Lights start to glow at PV Crystalox', 23 Mar 2016)
■ Arbuthnot Banking Group: Buy at 1340p ('Banking on a banking duo',23 Mar 2016)
■ Cenkos Securities: Sell at 130p ('Cenkos profits slide', 23 Mar 2016)
■ Burford Capital: Run profits at 256p ('Legal eagle flying high', 24 Mar 2016)
■ 1pm: Buy at 62p, target 82p ('1pm's smart bolt-on buy', 24 Mar 2016)
■ Simon Thompson's book Stock Picking for Profit can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 and is being sold through no other source. It is priced at £14.99, plus £2.95 postage and packaging. Simon has published an article outlining the content: 'Secrets to successful stockpicking
