Everyone loves a bargain and in this article we have highlighted five shares that just look far too cheap relative to their prospects

There are many ways to define cheapness and so we have created five different screens using data provider Stockopedia designed to zero-in on the best candidates.

Contrary to popular perception, cheap shares aren’t always boring mature businesses with zero growth prospects. In fact businesses in this category could represent ‘value traps’ with limited scope to shift the market’s perception and thereby enjoy an uplift in valuation.

Investors looking for some growth excitement should check out our growth at a reasonable price screen and quality, growth, value and momentum screens in particular.

Value and momentum

Classically cheap shares are often out of favour and have poor price momentum, so by combining value and momentum, this screen reduces the risk of poor future performance.

It highlights those shares where investors have already started to appreciate the value on offer.

The value and momentum criteria are based on a composite of several metrics such as PE (price to earnings) ratio, dividend yield and the volume of analyst upgrades.

Sureserve (SUR:AIM): 79p

If there is one thing investors have come to prize over the course of the last 12 months it is businesses with a high degree of earnings visibility.

Thanks to its status as a trusted supplier, and the non-discretionary nature of its compliance and energy services, Sureserve (SUR:AIM) has enjoyed a high level of regular, recurring income from its mainly public sector clients during the last year.

With regulatory drivers underpinning demand and customers extending their contracts as they emerge from lockdown, the firm now has an order book of over £370 million, meaning revenues are fully covered this year, more than 50% covered in 2022 and 25% covered in 2023, giving almost unparalleled medium-term visibility.

In the six months to the end of March, trading was well ahead of management expectations.  ‘We have more compliance tenders than ever before and we’re winning half of them’, says interim chief operating officer Peter Smith. Compliance accounts for over two thirds of Sureserve’s revenues and represents planned and responsive maintenance, installation and repair services in the areas of gas, fire and electrical, water and air hygiene, and lifts.

Whereas early in the pandemic customers were tentatively adding one-year extensions, now they are asking for three or four-year contracts, and the firm is able to charge higher rates.

So, while revenues in compliance rose 7.6% in the first half, operating earnings jumped nearly 58% and the margin on sales was 7.4% against 5% a year earlier, a period which was barely impacted by Covid.

The energy services business, which accounts for less than a third of revenues, also won new contracts including a two-year extension of its existing smart metering deal with Scottish Power, but Covid restrictions meant the business did well to keep revenue flat.

For Smith, energy services ‘washed its face’, and the work hasn’t gone away, it’s simply been deferred so the second half of the year should see an improvement in revenue and margins.

Thanks to the strength of its balance sheet and its cash flow generation, the firm is also on the look-out for growth opportunities, and it lucked out with the purchase of Derby-based gas services business Vinshire, which it picked up from administrators for just £200,000 and which has already generated half that amount in profit in the first half.

House broker Shore Capital has rushed through sales and earnings upgrades of 8% and 20% for the current year and ‘significant’ increases to forecasts for the following two years.

The analysts cite the firm’s high revenue visibility thanks to long-term contracts, increased regulations on energy safety and government commitments to insulation, new energy sources such as heat pumps, and electric vehicle  charging networks. (IC)

Growth at reasonable price

The idea behind this approach is to find companies which are growing and have better than average returns on capital, but are still reasonably priced.

This leaves scope for investors to benefit from the double whammy of growth in the underlying business and an increase in the rating of the shares.

The metrics used include three and five-year earnings growth and PE ratios.

Computacenter (CCC) £26.80

In an era of unprecedented technological change there are thousands of organisations needing help with adaption and adoption, and Computacenter (CCC) is there to help.

This is a pan-European IT enterprise operator whose 16,000-odd staff annually ship more than 25 million products to something like 4.5 million end users, providing valuable advice, support and services before and after in 30 different languages.

The company has been part of the FTSE 250 index for most of the last 10 years and has been an astonishingly reliable investment for shareholders on both capital growth and income fronts. Brokers calculate that between 2006 and 2019 Computacenter handed back something like £350 million to shareholders in regular and special dividends, albeit having taken a short dividend break during the teeth of the Covid-19 outbreak.

This means that over the last decade the shares have provided investors with an average annual total return of 17.9%. That means that for every £1,000 invested in the shares in 2011, you would now have a little more than £4,400. By contrast, £1,000 put into a FTSE 100 tracker would today be worth approximately £1,752, according to our calculations based on Morningstar data.

Computacenter operates in three parts that help clients embrace technology to stay competitive, engage better with customers, improve access to information and services, bolster efficiency or simply trim costs. On the infrastructure side it supplies customers with the desktop PCs, tablets, smartphones and other devices on skinny profit margins.

Professional services is where Computacenter experts consult and advise clients on a multitude of best-in-class software and applications, and resell what’s right for them. We’re talking about proper blue-chip venders, such as Microsoft, Apple, Oracle, Adobe, AWS, Cisco, Symantec and many more.

Managed services go further still, providing an entire outsourced IT solution, which means clients don’t need to run their own large and expensive in-house IT teams. Computacenter effectively runs the IT show remotely on the client’s behalf, with 24/7 support, advice and problem solving available and local software engineers on-call when needed.

It is a model that has worked for years thanks to steady growth, consistent profits and superb cash flows that feed into those reliable dividends. Investor returns resumed in October last year and the full year 2020 dividend of 50.7p per share was 37% up from its 2019 pre-pandemic payout.

We believe this sort of performance will continue into the medium, even longer term, and recent trading seems to back that view up, with guidance raised twice this year already. That makes the shares, on a 12-month rolling price to earnings ratio of less than 20 look very attractive. (SF)

Free cash flow cows

This screen tries to find stable, cash rich companies where the free cash flow is growing. Free cash flow measures the cash generated by a company after all expenses and investments have been deducted.

Cash cow companies tend to be larger businesses with strong market positions that throw off lots of cash that can be used to reinvest in the business or pay progressive dividends.

Stock Spirits (STCK) 272p

You should buy Stock Spirits (STCK), the central European branded spirits producer trading at an unwarranted discount to the wider European beverages sector. Robustly cash generative and with a record of progressive ordinary and special dividends, Stock Spirits offer a play on the premiumisation trend across central and Eastern Europe and Italy and might even have appealed to the father of value investing. Stockopedia’s Benjamin Graham Cash Flow Screen reveals free cash flow for the last twelve months covers 88% of Stock’s long-term debt, which implies it could pay off its debt in less than two years.

Led by Polish CEO Mirek Stachowicz, Stock Spirits is the spirits and liqueurs business behind well-established brands including Żołdkowa, Lubelska, Božkov and Stock Prestige, not to mention local leaders Stock 84 brandy, Fernet Stock bitters, Keglevich and Limoncè.

Highly resilient and blessed with brand strength and pricing power, the £549 million cap has navigated pandemic restrictions thanks to limited exposure to the on-trade and continued strong performance in the off-trade, and should cope comfortably with the introduction of additional excise via Poland’s Small Format Tax.

Despite Covid-related headwinds, results for the half to March 2021 (12 May) revealed total revenue down just 3% to €183.4 million with earnings bubbling higher in both Poland and Italy. This more than compensated for the decline in the Czech Republic, the territory most affected by on-trade restrictions and heightened local competition. Stock Spirits also achieved 10.6% growth in the Polish vodka market, outpacing market growth of 6.8% and achieving a five-year market share high of 30.7%.

A 7.6% increase in the dividend to 2.98 cents demonstrated management’s confidence, while Stock Spirits’ net debt-to-earnings ratio remains a modest 0.55 times and its €200 million financing facilities have been extended out to May 2024. This gives the company plenty of firepower for further earnings enhancing acquisitions.

Shore Capital argues Stocks’ ‘strong local market positions, capacity to deliver organic annual revenue growth of circa 5-6% per annum and robust cash generation merit a much narrower discount to peers’ and also sees ‘optionality’ in the balance sheet, ‘where successfully delivering on its M&A strategy would be positive to the valuation through accelerated earnings and further diversification of the  income stream’.

Based on Numis’ year to September 2022 forecasts - equity free cash flow of €36.3 million (£31.4 million), earnings per share of 22.3 cent (19.3p) and a 10.5 cent dividend (9.1p) – we think Stock Spirits’ qualities are underrated on a free cash flow yield of 5.7%, a prospective price-to-earnings ratio of 14.1 and a 3.3% dividend       yield. (JC)

Dividend yield and price to book

This screen might appeal to investors trying to find good income and value. It looks for shares with a forecast dividend yield above 4%, which is at least 1.5 times covered by earnings.

We have combined this attribute with price to tangible book value, looking to isolate those shares trading around the 1.5 times mark or below. Tangible book value represents the hard asset backing of a company and is the theoretical value shareholders would receive if the business was liquidated.

Redde Northgate (REDD) 382p

Van hire and legal services firm Redde Northgate (REDD) offers an attractive dividend yield of 3.9% and trades on a price to earnings ratio of 12.9 based on Numis’ 2021 forecasts.

We think this rating undervalues the potential for growth in earnings and cash flow driven by economic recovery, robust van rental demand and continued progress in its strategy of offering a broad-based mobility solutions business.

It scores well as a cheap stock based on price to tangible book value (1.6), rolling two-year yield (5.3%) and an 86 ‘stock rank’ rating from Stockopedia. The latter is a score based on value, quality and momentum factors, with 0 the worst and 100 the best.

Updated market commentary when Redde Northgate posts its full year numbers on 7 July could act as a near-term catalyst to unlock this value.

The group supplies, services, repairs and recovers light vans for a large customer base which includes large e-commerce operators all the way down to individual traders, as well as providing ancillary accident management and legal services.

Formed through an all-share merger between two separate businesses – Northgate and Redde – which completed in February 2020, the integration process appears to be going well.

On 12 May the group revealed synergies from the merger of £14.6 million against an April 2022 target of £15 million, and costs associated with achieving the synergies of just £2.5 million or 75% less than budgeted.

It has been a beneficiary of strong demand given the accelerated shift into online shopping as a result of the pandemic. With a fleet comprising upwards of 110,000 owner vehicles and more than 500,000 managed vehicles in the UK, Ireland and Spain the company has had the scale to respond quickly to the surge in demand.

In the 12 months to April 2021 the number of vehicles on hire was up 11%. The company also profited from a strong used van market which helped support higher selling prices.

Recent chip shortages affecting the automotive industry could drive demand for used vehicles yet higher in 2021.

The accident management business was affected by lower volumes of traffic amid Covid restrictions but this business is likely to see a recovery as the economy reopens.

Redde Northgate has flagged strong cash generation of late which as well as underpinning dividend payments should allow the company to build on the recent acquisition of 2,000 vehicles from a Scottish vehicle rental business for £25 million.

The company is also investing in more electric vehicles with a plan for this part of the fleet to double in size in the short term.

Quality, value, growth and momentum

This screen looks for shares which are good quality, cheap and with improving growth. The idea is to get exposure to several positive factors which are known to drive share price performance.

The qualifying companies have the highest combined exposure to these factors according to Stockopedia. In the table we have ranked companies by market cap but all of the names included are in the top 10% of UK stocks screened on these metrics.

Johnson Matthey (JMAT) £31.28

FTSE 100 chemicals firm Johnson Matthey (JMAT) is a stock that has long held promise, an innovative industrial company at the cutting edge of science that has the scale to match its ambitions.

But with hopes continually raised only for progress to take longer than investors, perhaps more so than the company itself, had anticipated, the stock has traded sideways for the last five years and sits well inside the value bucket with a 12-month forward price-to-earnings ratio of 14.5 times.

The firm currently makes most of its money from catalytic converters in cars – it’s estimated one in three cars on the road worldwide has a Johnson Matthey catalytic converter.

Two areas in particular mark the company out as a potentially very exciting growth stock, and the company has finally made sufficient progress that now is the time to buy before the catalysts that could drive a rerating of the shares are realised.

One is the customised electric vehicle battery it is developing – enhanced lithium nickel oxide, or eLNO. This is the area the market is most focused on with Johnson Matthey, as the firm reacts to what could over time be structurally declining demand for its catalytic converters as the world transitions to electric vehicles.

The company has previously told Shares it has been consistently getting ‘really good feedback’ on eLNO from its potential customers, typically the big car manufacturers but also others outside the auto industry. In its full year results to 31 March 2021, the company said it expects to sign its first automotive contract in 2023, for commercial production in 2024.

Meanwhile the firm is also developing fuel cells and is seeing rapid growth with the product, with sales up 20% in the past year. It supplies key fuel cell components for a range of automotive, non-automotive and stationary applications, and has partnerships in place with a diverse range of manufacturers.

Another area of promise for Johnson Matthey is hydrogen. The firm is developing green hydrogen, building on its fuel cell technology, as well as its expertise when it comes to platinum group metals.

In a trading update in April 2020 Johnson Matthey said it was making ‘fast progress’ and had received ‘positive feedback’ from testing with leading electrolyser manufacturers. It also announced new manufacturing capacity for products used in green hydrogen production, with the ability to scale to multi-gigawatt capacity ‘as the market continues its anticipated growth’.

Based on Johnson Matthey’s market size estimates and a 15% market share across its relevant technologies, analysts at Morningstar think sales in its hydrogen and fuel cell businesses could reach around £850 million by 2030, up from £100 million in 2021. (YF)

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