Seven ways to avoid the next Wood­ford

How you can look past the spin to in­vest sav­ings safely

Scottish Daily Mail - - City & Finance - By Tim Steer Tim Steer is the au­thor of The Signs Were There, pub­lished by Pro­file Books.

When com­pa­nies suf­fer a cat­a­strophic drop in their share price, it is in­vestors and em­ploy­ees who lose out.

But my years as a fund man­ager have taught me that many of these dis­as­ters could have been pre­dicted by lit­tle more than a browse through the an­nual re­ports.

Get­ting the odd stock pick wrong is for­giv­able. But it is in­ex­cus­able to make a se­ries of blun­ders on an in­dus­trial scale.

neil Wood­ford, for in­stance, dis­re­garded nu­mer­ous tried and tested rules in the man­age­ment of the Wood­ford eq­uity In­come fund, which led to a once-fa­mous fund man­ager hav­ing to spend more time with his fam­ily.

Pick­ing stock mar­ket win­ners con­sis­tently is very dif­fi­cult, which is why even the best pro­fes­sional in­vestors rarely stay at the top of their game for ever. But it is pos­si­ble to avoid stock mar­ket dis­as­ters. This is prob­a­bly more im­por­tant than pick­ing win­ners.

You can do this through a sim­ple anal­y­sis of an­nual re­ports. Ap­ply the ‘Ice­berg Prin­ci­ple’: an an­nual re­port is only the tip.

It can­not tell you all you need to know, but if there is some­thing in it that makes you feel un­easy, there may well be other, even more wor­ry­ing things, ly­ing below the me­taphor­i­cal wa­ter line. Re­mem­ber, also, that cash is king.

These sim­ple rules can help you make money re­gard­less of what themes and trends are play­ing out in fi­nan­cial mar­kets.

RULE 1: The only fact is cash. Avoid com­pa­nies that don’t gen­er­ate it. It’s quite sim­ple, de­spite all the wel­ter of fig­ures and spin that com­pa­nies throw at in­vestors, ev­ery num­ber in a set of ac­counts, ex­cept cash, is a mat­ter of opin­ion.

RULE 2: Avoid com­pa­nies that have large amounts tied up in long-term con­tracts.

Who knows if they will ever get paid? The col­lapse of Car­il­lion in 2018, one of the Gov­ern­ment’s favourite con­struc­tion com­pa­nies, was a cor­po­rate dis­as­ter where a cur­sory look at the bal­ance sheet would have in­di­cated it was head­ing for a fall. Car­il­lion did not

gen­er­ate cash, and its prof­its re­lied on the ques­tion­able ba­sis that it would be paid large amounts owed on com­plex longterm con­struc­tion con­tracts.

RULE 3: Avoid tak­ing shares in floats. They are li­able to be over­priced. Take the UK’s only re­main­ing lux­ury car maker, As­ton Mar­tin Lagonda, which came to the mar­ket in 2018. The shares have free-wheeled down­hill since then.

Treat floats brought by pri­vate eq­uity own­ers with ex­treme cau­tion as they are adept at get­ting out at the top of the mar­ket and of­ten load com­pa­nies with debt.

RULE 4: Avoid money lenders that fail to pro­vide for bad debts. Any old fool can lend money. Get­ting it back is the dif­fi­cult bit. A les­son in­deed to pay­day and peerto-peer lenders. Amigo, Prov­i­dent Fi­nan­cial and Fund­ing Cir­cle – all dis­as­trous in­vest­ments.

RULE 5: Steer clear of ac­quis­i­tive com­pa­nies. Mostly, big deals do not add share­holder value. Just ask all those in­vestors who sup­ported the ac­qui­si­tion of Au­ton­omy by hewlett Packard, or Slater and Gor­don’s pur­chase of Quin­dell.

RULE 6: Look out for bro­ken trends. Look­ing at a se­ries of num­bers from one year to an­other would have been a use­ful ex­er­cise for in­vestors in AO World and Pets At home. nor­mally, bal­ance sheet items, like debtors and cred­i­tors, move roughly in tan­dem with a com­pany’s ac­tiv­ity lev­els. If that is not the case, it should ring an alarm bell.

At on­line elec­tri­cals re­tailer AO World, a spike in spend­ing on ad­ver­tis­ing with search en­gines – which was clearly shown in the com­pany’s help­ful float doc­u­ments – in­di­cated that there was a new cost par­a­digm in play and pre­vi­ous prof­its were go­ing to be dif­fi­cult to repli­cate. It has yet to re­port a profit since it floated.

As for Pets At home, its fi­nan­cial state­ments at the time of its float showed that it had al­ready ben­e­fited from the swing in sales from low-mar­gin tinned dog food to high-mar­gin dry food.

RULE 7: Avoid buy­ing com­pa­nies with large amounts of in­ven­tory.

It is al­ways dif­fi­cult to de­tect fraud from a com­pany’s an­nual re­port. Just ask Luke John­son at Patis­serie Va­lerie.

But the level of in­ven­tory in­di­cated that the Black For­est gateau may have been 80 days old, which should have rung an alarm bell. Any­one who looked would have thought that was un­be­liev­able – and they would have been right.

Newspapers in English

Newspapers from UK

© PressReader. All rights reserved.