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Get a defensive hedge with Begbies

Whatever happens with the Brexit impasse, the insolvency practitioner looks poised to benefit from rising mandates
December 12, 2019

Aim-listed insolvency practitioner Begbies Traynor (BEG) offers significant attractions as a counter-cyclical play on the UK economy. It could prove well positioned in 2020 given many small businesses are showing signs of stress following a protracted period of political uncertainty and, even if we "get Brexit done", there is little assurance that trading challenges will dissipate quickly.

IC TIP: Buy at 88p
Tip style
Speculative
Risk rating
Medium
Timescale
Long Term
Bull points

Bolt-on acquisitions

Rising insolvencies

Earnings upgrades

Diversified services  

Bear points

Slow cash cycle

Large adjustments

Founded in 1989, the firm is split into two divisions. The business recovery and financial advisory division accounts for about 70 per cent of sales and profit. It handles the largest number of corporate insolvencies in the country, and manages transactions stemming from those company collapses. The second division is a property advisory business, which handles asset valuations, consultancy work and transactional services.

Unfortunately for the broader economy, though conveniently for an insolvency group, these services are increasingly in demand. Begbies’ latest ‘red flag’ report found that as of September, 489,000 UK businesses were in “significant distress” – an increase of 4.7 per cent in a year, and 40 per cent since the EU referendum in June 2016. The group also found that businesses in “critical financial distress” – defined as businesses with court debt judgements of more than £5,000 filed against them – had risen 8 per cent.

Signs of gloom abound. Small business confidence has been negative for “an unprecedented five straight quarters”, according to the latest survey by the Financial Stability Board. Several of the report’s findings also imply serious financial difficulty: hiring intentions are at a two-year low, and three-quarters of business owners’ investment plans are on ice.

This grim outlook is likely to persist. If Brexit faces further delays or complications, small businesses will remain in economic and regulatory limbo, commercial property assets will still be wavering, and the high street will still be on its knees. Should a Brexit deal pass through parliament, formal withdrawal from the bloc will still prove complicated, and require small businesses to navigate major changes to supply chains and trade rules, as well as volatile economic sentiment. In either scenario, Begbies should benefit.

The momentum is already there. In the past two-and-a-half years, strong trading has led analysts at Canaccord to lift their earnings forecasts six times. This week, executive chairman Ric Traynor signed off half-year results with guidance that full-year numbers should be “at least in line” with current market expectations. Adjusted earnings per share increased by 24 per cent in the six months to 31 October, despite a £7.8m equity placing in the period.

Those funds have been deployed rapidly to buy three smaller transactional and business recovery firms with combined pre-tax profits of £1.8m in their last financial year. This acquisition strategy helps to explain the heavy (and consistent) adjustments to profits, as well as the chunky “deemed remuneration” figure booked on the balance sheet.

Potential investors should be aware of other idiosyncrasies. Related party transactions include the firm’s use of office space owned by Mr Traynor and director Mark Fry, as well as a put and call option to acquire the latter’s interest in a subsidiary for £4m. And while the working capital cycle for the property arms is typically a month, it takes the insolvency division half a year to be paid, on average. Reassuringly, finance director Nick Taylor says the estimate for unbilled income – currently £23.9m, against half-year sales of £33.8m – is normally conservative, as time costs tend to double during the insolvency process.

BEGBIES TRAYNOR (BEG)   
ORD PRICE:88.0pMARKET VALUE:£112m 
TOUCH:87.5-88.5p12-MONTH HIGH:89.5pLOW:56p
FORWARD DIVIDEND YIELD:3.4%FORWARD PE RATIO:14 
NET ASSET VALUE:57.8p*NET DEBT:3% 
Year to 30 AprTurnover (£m)Pre-tax profit (£m)**Earnings per share (p)**Dividend per share (p)
201749.74.903.202.20
201852.45.603.802.40
201960.17.104.792.60
202068.79.205.672.80
202173.710.506.493.00
% change+7+14+14+7
Normal market size:5,000    
Beta:-1.09    
*Includes intangible assets of £61.4m, or 53.7p a share. **Canaccord forecasts, adjusted PTP and EPS figures