Purplebricks (LSE:PURP) has been intimately entwined with Neil Woodford’s recent investment management career. This means that the end of that career in its recent form has significant implications for the company share price. The question is, well, what?
One way of reading it is that as the clouds clear under the new fund management then the Purplebricks price will recover. There is, after all, something of an overhang there, and there have been substantial sales. The other is that there’s something else to worry about and I’m in that second camp.
The company was backed by Woodford’s funds early on, and it was one of the major paydays when it listed then soared. So far so good, a justification of the investment style. There’s nothing wrong, after all, with the idea of invading a business as staid as estate agency. Maybe not having to pay for high street shops, combined with a flat fee upfront rather than commission system, will work? But then the cracks started to appear.
The first was concern over revenue recognition. So, if an upfront fee is paid then when does that actually become income that profits can be calculated from? It’s not when the cheque is received, for there’s still much work to be done. We also shouldn’t insist that the sale must have gone through before recognition as, after all, it’s not a ‘no sale, no pay’ fee. Worries about this produced the first setback for the Purplebricks share price.
Then there was the foreign expansion that blew up. And then this summer and autumn, we’ve seen the Woodford effect in reverse. The problem was having too much in illiquid stocks to pay off redemptions – always a possible problem in an open-ended fund. That meant having to sell down, aggressively, stakes in more liquid holdings – Purplebricks being one of those. From June to September the stake went from 29% to 17.64%. That’s a lot of selling and it would, in the absence of anything else, have dropped the share price.
Which brings forward our question – is it just that selling depressing it? And now that the funds are under new management, no longer gasping for liquidity, will there thus be a bounce?
There could be, but I doubt it. For I’m worried about those two more basic things. Firstly, the essential idea itself. Companies work better when incentives are aligned. Payment by results is the way to motivate salesmen and thus a percentage fee on a sale seems to me the right way to be running an estate agency. I think this will become more obvious during the next housing price downturn.
Secondly, that revenue recognition thing. Because of the past movements in that, what is booked as a profit and when, we don’t really know whether the model even works today.
There could be a Purplebricks share price bounce as the Woodford fund selling pressure lifts. But I’m willing to bet that there won’t be for more fundamental and underlying reasons. Steer clear.