A few days ago, Bovis Homes hit the headlines with reports of profits and dividends doubling.
Doubling profits and dividends does sound fantastic, but of course, it depends on where they’re being doubled from. Let’s start by taking a look at Bovis’ 10-year history of adjusted earnings and dividends and see what the company has done in the past and where it is now.
This is a pretty good example of a cyclical business going through a boom and bust period. As a home builder, Bovis is focused on a big-ticket, highly discretionary purchase for its customers. People don’t often have to move house, so putting the purchase or sale of a house off is easy, and the results of this can be seen in the collapse of earnings and dividends when the housing bubble burst.
That doesn’t automatically mean that house builders are not suitable as an income and growth investment. The dividend was only suspended for one year, and adjusted profits were made throughout the worst part of the boom and bust cycle, so for the company and its shareholders, it really wasn’t the end of the world.
Buy, hold or sell?
Today the shares are valued at 502p each. Does that make them a buy, hold, or a sell?
Looking back over that last decade, the average adjusted earnings per share was 48.5p. It’s quite clear that during the boom times, earnings were above average and in the downturn, they have been below average, which is exactly what most investors would expect from a cyclical business.
At today’s price, the shares are about 10.3 times that decade-long earnings average. If that historic average is a reasonable estimate of the company’s future average earnings, then an average PE of 10.3 is okay but not particularly low.
Of course, some companies are worth a higher PE if they can keep growing because their underlying or intrinsic value will be higher in the future. So does Bovis show any obvious signs of long-term growth?
That’s a tricky question with a cyclical business. With non-cyclical businesses like Tesco, it’s a case of just looking for increases in earnings and dividends over the long-term; but with cyclical businesses, the earnings can go down because of the industry cycle while at the same time, the underlying ability of the company to make money is going up.
In the case of Bovis, the 3-year moving average of earnings and dividends is down considerably over a 10-year period (my preferred measure of long-term growth). In fact, it’s headed down at something like 24% a year. That sounds terrible, but ten years ago, we were in a boom and today we’re in a bust, so it’s likely to be a misleading figure.
If I am to avoid pointless speculation, the best I can say is that it is unclear whether Bovis is growing in the longer term or not, and so it may not deserve a premium PE.
The yield today is around 1% which is not exactly what most income and growth investors are looking for. If the dividend is doubled then investors will get 2%, which is still way below the 3.5% available from the FTSE 100. If dividends were to return to their decade-long average of 15.3p, then the yield today would be 3%, which still doesn’t even match the yield available from an investment in the much less risky market index.
Most cautious investors who are looking for income and growth don’t want to see their investment income or capital values shooting up and down. They want to see something reliable and increasing steadily. Unfortunately for Bovis, steady is not really a good description of their performance. This certainly isn’t their fault – it’s caused by the industry they’re in, but it does make the company look less attractive to many mainstream investors.
Taking a more quantitative view, the company has hit new decade highs in earnings and dividends over the last ten years about 45% of the time, a long way short of the 100% record of companies like Tesco.
Overall I would say that Bovis is what it is – a successful business in a cyclical industry, but at 502p, the shares don’t seem to offer anywhere near as much value as can be found elsewhere.
>> John does not own shares in Bovis Homes