One of the hardest things for investors to judge is whether a setback for a company is a temporary blip or the beginning of a more serious problem.
Today, I’m looking at whether the glory days could be over for premium spirits giant Diageo (LSE: DGE), high street favourite Next (LSE: NXT) and satellite operator Avanti Communications (LSE: AVN).
Attractive buying opportunity
Diageo’s share price climbed from £5 at the turn of the millennium to over £21 by summer 2013, with investors also enjoying a tremendous run of rising dividends. However, over the last couple years, while the dividend has continued to tick up, earnings growth has stalled and the share price has edged lower.
In my view, the really important bottom line with Diageo is its truly rare and valuable world-class brands, which — if well-managed — should be capable of delivering the kind of returns investors have seen in the past.
As fund manager Nick Train (a.k.a. Britain’s Warren Buffett) said: “For companies of Diageo’s calibre … prolonged business and share underperformance is untenable,” and “if the incumbents can’t get adequate returns on the brands and their cash flows, there are plenty of other management teams who would fancy a go.”
I believe the global strength of Diageo’s brands means the company has a bright future — whether it be achieved by current or new management — and I reckon today’s depressed share price represents an attractive buying opportunity.
Structurally challenged?
Next isn’t an elite global brand but is an extremely well-run company, with an experienced and high-calibre management team, resolutely focused on running the business for the benefit of shareholders.
This focus has seen the shares rise from less than £6 at the turn of the millennium to near £60 today . Buying Next’s shares on a dip — after a poor quarter due to unseasonable weather or suchlike — has proved a profitable strategy over the years.
With the shares currently well down from a record high of over £80 as recently as December, is this another great opportunity to buy on a dip? The wrong seasonal weather played a part in the drop, but analysts at Exane Paribas have been taking a close look at the important Directory business, and reckon a “potential fall from grace as a best-in-class retailer potentially transforms into a structurally challenged one”.
I would rather pay a bit more for Next’s shares when there’s greater visibility on this issue than buy now, and see a long and painful derating if a major structural problem with the company’s Directory growth engine is indeed emerging.
Less than a quid, but…
Avanti’s shares closed at £2.35 on its market bow in April 2007 and powered up to over £7 by the end of 2010. However, the gains came not on the back of rising cash flows and dividends, but on the hope that the satellite broadband services company might deliver in the future.
That future has been pushed further and further out with Avanti repeatedly missing targets. This has been a story of unerringly bullish director-speak, selectively highlighted numbers and flattering accounting, versus ongoing cash burn, shareholder dilution and rising borrowings.
Avanti has yet to demonstrate it can break even, far less deliver the kind of cash flows and dividends that have rewarded investors in Diageo and Next. As such, although Avanti’s shares are now trading at under £1, I’m not tempted.