Another week brings another offer – this time Ergomed (ERGO). This came at a 28.3 per cent premium to the closing stock price and means another UK company is likely to be taken off the shelves.
Despite many proclaiming the UK stock market is cheap, there appears to be an even greater number who disagree. There has to be, because the market is just the money-weighted sum of the collective opinion of a stock, and if stocks are cheap it can only be because there is more capital on the sidelines than at risk.
What does this mean for the UK? Well, the FTSE Aim All-Share index is down more than 40 per cent from its peak. And since the market euphoria petered out, we’re now seeing two things: a scramble for capital from many companies that are seeing their fortunes turn for the worse, and reluctant investor appetite. That means initial public offerings (IPOs) are rare, whereas we had a new listing almost every week in the boom days of 2021. And it also means decent quality companies are leaving the market with few replacing them – ultimately meaning the quality of companies on the market is deteriorating.
Does this matter for traders? In the short term, no. As long as there are stocks to trade, then that’s all that is required. But in the long term, yes. Fewer companies and a lower quality of company will drive investor capital away to seek better returns (and better liquidity). Investor capital moving elsewhere will mean liquidity in remaining companies will dry up. And it’ll also mean a failure to tempt companies to the UK stock exchanges. Traders thrive on liquidity; without it spreads become wider and harder to cross, and there are fewer bigger companies to trade.
One of the success stories of London – Arm Holdings – will be listing in the US as SoftBank sells down a portion of its existing holding. It was listed in the UK until 2016 when SoftBank took it private in a $32bn buyout. The owner of Britain’s previous jewel thinks a higher valuation (above $50bn) can be achieved by listing in the US rather than the UK – and it’s hard to blame it.
US companies have always achieved higher valuations – especially when it comes to technology. UK investors are more reluctant to fund loss-making companies and high-growth companies whereas US investors are happy to take on increased risk. This increased risk has led to the S&P 500 having many of the best companies in the world, putting our FTSE 100 to shame by comparison.
Cake Box offer rejected
One UK company that has had a bid rejected recently is Cake Box (CBOX). An approach with an indicative price of 160p per share was made by River Capital. The board “unequivocally rejected the indicative approach as materially undervaluing the company”. With the share price currently at 160p, it’s clear what the board’s beliefs are.
I’ve written about Cake Box in this column before (‘Have your Cake Box and trade it’, 3 September 2020) and at that point the stock had plummeted to as low as 82p due to Covid.
At the time, I wanted to buy the breakout of 190p. However this trade escaped me, and the business rallied to an all-time high of 425p before ShareScope writer Maynard Paton found some inconsistencies in the accounts.
This knocked the shares to a low of 140p from 318p. The price then recovered, but a series of profit warnings hit the company with the share price hitting a low of 97p. Since then, the stock has recovered and avoided another profit warning, hinting at a sign of recovery.
Chart 1 shows the stock’s demise from late October 2021 to November 2022. It’s a brutal de-rating, which has now potentially opened up an opportunity. The accounting scandal has been dealt with in the form of a new chief financial officer and repeated insistences that the business has strengthened itself in this area. Therefore, if we are to believe this to be true, the market is ascribing a discount to the stock based on errors that are no longer an issue.
Moving to Chart 2, we can see that the stock is now well off the lows, and all of the moving averages have turned positive and are now pointing upwards. This gives me confidence that the long-term trend is now up, and therefore I’m looking to take a long position should the stock break out of the recent high of 178p. However, how the stock reacts before then will determine whether I enter.
The business has mentioned that inflation is starting to soften, and the costs have been passed on to the franchisees, who have in turn successfully passed on these prices to customers without a huge impact on volumes.
Obviously, if the narrative changes for the worse, I’d remove the stock from my watchlist.
How the stock performs technically is important, too. I’m not interested if the stock rallies sharply into resistance – that means there are short-term traders out there who may want short-term profits. And why would I be the one to give them their desired liquidity to cash out at my expense? No thank you – a gentle uptrend to 178p and then volatility after the stock has broken out and I am long would be ideal.
If we look at the volume part of the chart, we can see that volumes were highest on up days, which shows that demand is driving the stock price higher.
This is key because it means that the buyers are overpowering the sellers and so long as this continues, the price should move further north.
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