Small companies are ’embarrassingly cheap’, says leading fund manager Gervais Williams of Gartmore. He predicts that small companies will outperform their larger rivals over the next five years, ‘driven by dividend distribution.’
I’ve just seen one share that could easily illustrate Williams’ point. This share is trading at around 40p and has just announced an annual dividend of 6p for 2008. That means its shares, yield a massive 15%.
That is the type of yield that is only ever thrown up by a bear market. At first glance, it makes the shares an absolute steal. Of course, you need to look a little closer – to check the company isn’t heading rapidly south and may never be able to pay such a dividend ever again. So let’s have a look….
The company is Public Service Properties (LSE:PSPI) and it owns nursing homes.
It does not run them. This sensitive task is undertaken by other specialists, leaving Public Service Properties to build a portfolio of nursing homes, taking advantage of the security of rental income offered by this sector and its long-term growth prospects.
Not all property investments are ‘trash’
On the stock market the entire property sector has been cast into the trash can. But, let’s face it, there is property – and there is property. I would not for a second consider investing into retail property where for years landlords have been sucking the blood out of their tenants and are now set to suffer the consequences. Commercial property generally is still under pressure for the straightforward reason that too many tenants are struggling to pay the rent.
But nursing homes are a little different. Nursing home residents are not known to pack their bags and head for the exit. Once they are in they stay in, and if they cannot afford to pay the bills then the state, albeit with increasing reluctance, will pay them instead. That makes the nursing home sector one of the safest of property havens, and as I’ll explain, it offers growth as well…
In 2007 there were four hundred and twenty thousand old folk resident in the UK’s nursing homes. That figure is set to hit one million in 2056. Public Service Properties owns thirty-nine care homes in the UK, run by the country’s sixth largest operator, the European Care Group. But it has also been making a move into Germany where demographic factors are very much the same. In fact there are already two million nursing home residents in Germany, and this number is expected to hit 4.7 million by 2050.
The need for more facilities is pressing and Public Service Properties would like to grow its portfolio, although this requires that the banks resume normal service. But let us just ignore the future and concentrate on the present…
This share’s valued at a quarter of its net assets
At the end of 2008 Public Service Properties’ portfolio was independently valued. By applying a 6.3% yield basis to the UK properties and 6.6% to those in Germany, the total value of the portfolio was £270m. From that we have to deduct £150m of bank debt and a few other minor items, leaving net assets of £103m, equivalent to 155p per shares.
That is almost four times the share price! In other words, the share price is offering you the chance to buy into this package of net assets at one quarter of what an independent assessment has said it is worth.
But we need to consider a couple of other factors. The value of Public Services’ debt is fixed. The moving factor in this net asset calculation is the value of the properties. If its properties had been valued on an 8% yield basis, net asset calculation would equate to 66p per share. Assume an 8.8% yield basis and you get the current share price of 40p.
In effect, the stock market is saying that it would not invest in nursing homes unless they offered an annual rental yield of nearly 9%. That seems harsh, to put it mildly.
And then there is that yield. Public Service Properties is happy to shell out £4m a year, in order to pay its shareholders a 6p per share annual dividend. Would it be doing so if its bankers reckoned it could not afford to? Of course not! However you look at it, this looks like a mis-priced, ’embarrassingly cheap’ share and it’s one that I’ll be researching further,
This is the thing about bear markets. They create startling opportunities. Right now, I’m seeing more than I’ve seen in a long time. And when the market turns, there are going to be fireworks in the small cap sector. Fireworks that could make you rich if you own the right shares.
• This article was written by Tom Bulford for the free daily investment newsletter Penny Sleuth, and was first published on 31 March.