Investing in companies with short-term problems can be a great way to pick up a bargain. These shares often suffer big sell-offs, allowing contrarian buyers to lock in big dividend yields and future capital gains.
Of course, there’s always a risk that the stock is cheap for a reason. Today I’m going to look at two of the biggest fallers in the FTSE 100 so far this year. Should you be buying or selling these stocks?
The bad news is out in the open
The share price of software group Micro Focus International (LSE: MCRO) has fallen by nearly 50% so far this year. For shareholders it’s been seriously painful. But is the business really worth so much less than it was eight months ago?
I’m not so sure. The integration of the HP Enterprise software business has been botched and is now a year behind schedule. It seems that the two businesses suffered a clash of cultures and software systems after the merger completed.
These issues have caused high levels of staff turnover, while moving the business onto the HP FAST workflow platform is now expected to cost $960m, compared to a previous forecast of $750m.
In my view, what’s important here is that these problems are out in the open and should be fixable. The group’s last set of results confirmed its previous revenue and profit guidance for the full year. So we should now be able to start looking forward with more confidence.
The numbers aren’t so bad
Micro Focus’s half-year results to 30 April didn’t seem too bad to me. My colleague Kevin Godbold covered the figures here, but in short, Micro Focus confirmed its guidance for revenue to fall by 6%-9% this year. Analysts expect a sales figure of about $3.9bn.
Net debt of $4.3bn remains high, but this should be addressed by a recent $2.5bn deal to sell the firm’s SUSE Linux business.
Analysts’ forecasts suggest that adjusted earnings will be about $1.87 per share this year, supporting a total dividend of $1.02 per share. This leaves the stock on a forecast P/E of 9 with a prospective yield of 6.1%. I believe this could be worth considering as a turnaround buy.
A tough challenge
Accounting software firm The Sage Group (LSE: SGE) slumped after it cut its sales guidance for the year in April. Sage’s share price has now fallen by 30% from January’s post-2000 high of 825p.
Sadly, I fear this decline could have further to go. Persuading the group’s small business customers to switch from desktop software to subscription-based online services is taking longer than expected. And the firm faces tough competition for new customers from online rivals.
These disappointments have led to the recent departure of chief executive Stephen Kelly. His replacement will have to prove that Sage can innovate and adapt to compete online. This could take a while.
Not cheap enough
In the meantime, the stock’s valuation still looks quite high to me. Broker forecasts for 2018 put the shares on a forecast P/E ratio of 18, with a dividend yield of 2.8%. In my view that’s not low enough to reflect the group’s flagging momentum.
I’ll start to get interested if the share price dropped below 500p. For now, I plan to stay on the sidelines.