Strong foundations for reward from the builders merchant and DIY specialist Grafton

We already have a double-digit percentage paper capital gain, a return that dividends will almost double once the final payment for 2022 is banked

Readers could be forgiven for thinking it could be a mistake to keep the faith with Grafton for three legitimate reasons: the firm is a builders’ merchant and DIY specialist, so the timing could be bad, given ongoing fears about a recession and the squeeze on consumer spending from inflation in the UK; analysts expect profits to slip in the coming year; and there is little by way of profit or dividend growth due in 2024 either, according to consensus forecasts.

However, last week’s full-year results contained no unpleasant surprises and all three concerns can be rebutted. Patience could yet be rewarded with the FTSE 250 stock, now under the guidance of new chief executive Eric Born, also for three reasons.

First, more than half of group sales now come from Ireland, the Netherlands and Finland, so Grafton’s fortunes are not tied to those of just the UK, while a net cash balance sheet means the company is well placed to weather any economic storm.

Second, the firm’s strong brands and online offerings leave it well placed to continue to gobble up market share by organic means, while it could supplement momentum here through select acquisitions, thanks to that net cash pile.

Finally, talk of a recession is hardly news. While it could be argued this column could have been more proactive and sold when the shares hit £14 to leave us with a healthy, locked-in profit after our initial study (July 2019), the subsequent pull-back prices in a lot of bad news.

The shares do not look expensive, and the 3.6pc dividend yield is well underpinned.

We already have a double-digit percentage paper capital gain, a return that dividends will almost double once the 23.75p a share final payment for 2022 is banked on May 11, and Grafton looks capable of providing more for patient holders.

‘The firm’s strong brands and online offerings leave it well placed to gobble up market share’

Update – Derwent London

This column may appear to some to be the patron saint of lost causes, given its ongoing interest in banks, financials, builders’ merchants and also real estate stocks, but expectations are low, the stocks are cheap and a targeted approach which focuses on strong balance sheets and avoids the inherent dangers in weak ones could yet reap rewards over time. FTSE 250 Real Estate Investment Trust (Reit) Derwent London is a potential case in point.

The ongoing trend of working from home, or at least hybrid working, could remain a worry for investors in commercial property landlords for some time to come, especially as last week’s full-year results revealed an 8pc drop in net asset value (NAV) per share to £36.32 after all.

But having slipped up and failed to sell when the shares briefly traded above NAV in early 2020, we can draw some comfort from how the stock now changes hands some 30pc below book value. That prices in a fair degree of bad news already and should provide some downside protection. In addition, the £1.3bn net debt pile represents just 24pc of the property portfolio’s stated value, a low figure in the Reit sector, and operating profit and interest income cover interest expenses by a factor of more than four.

That solidity provides a firm base and also financial flexibility which Derwent London is using to good effect to reshape its portfolio of prime London real estate. The company has sold just over £250m of property over the past year or so and spent the same amount on acquiring sites and investing in them or refurbishing existing assets. As the London market becomes ever more widely split, between new, environmentally aware, well-appointed facilities and older, more spartan, less efficient sites, Derwent London looks well positioned to attract new tenants, as news that 2023’s new rental activity already exceeds that of the whole of 2022 suggests.

The £2.9bn cap company’s financial position, and a new record high in annual rental income, also enabled chief executive Paul Williams and the board to sanction a modest increase in the total dividend for 2022 to 78.5p a share to provide a 3pc historic dividend yield, whose importance should not be forgotten. The Reit may have only provided a 10pc capital return since its portfolio inclusion (November 2016), but it will have distributed 593p a share in dividends, one quarter of our entry price, by the time the 54.5p final dividend is paid on June 2.

Hold.