Britain's fallen stars: recovering investment opportunities in top-tier companies
In a surprising turn of events, some of Britain's most esteemed companies have experienced a dramatic fall from grace, their share prices plummeting due to a punishing economic environment. Even the larger, more diversified players were not immune to this downturn, with companies like Renishaw, a master of precision measurement, feeling the pinch of their ties to the cyclical spending of their customers in the electronics and semiconductor industries.
This wasn't an isolated incident. It was a sector-wide, thematic collapse, affecting numerous firms across various industries. The investment case for these fallen stars rests on balancing their enduring strengths against the risks of a permanently changed economic environment.
A significant portion of revenue for many of these firms is recurring, coming from essential servicing, software subscriptions, consumables, and spare parts. For instance, Halma's businesses address non-discretionary, regulation-driven needs in safety and environmental monitoring.
However, the story of Tristel, a leader in high-level hospital disinfectants, serves as a cautionary tale. Despite its clear strengths and critical, non-discretionary role in infection prevention, Tristel faced a different challenge. The firm's valuation became overly reliant on the promise of securing US regulatory approval. When the FDA process dragged on longer than expected, even loyal shareholders grew weary, and the shares stagnated, becoming divorced from the company's solid fundamentals.
Tristel finally secured FDA approval in 2024, unlocking access to the world's largest and most profitable healthcare market. This could be transformational for the company.
Several of these firms are plugged into unstoppable long-term trends, such as the drive for greater energy efficiency or the inexorable rise of factory automation. Companies like Spirax, with unparalleled expertise in steam, a critical component in countless industrial processes, and Halma, a group of businesses focused on safety, health, and environmental technologies, still command dominant positions in niche, global markets with high returns on capital employed (ROCE) and prodigious cash flow.
However, when high-quality global companies become "too cheap" and attract private buyers, investors face several risks. These include reduced liquidity, hidden fundamental problems, market distortions from private buyer activity, and short-term speculative pressures that can harm traditional investors.
Since their peaks in 2021, many of these once-admired firms have seen their share prices plummet, some by more than 50%. Investors should be selective and focus on fundamental metrics that define a truly high-quality business, such as scrutinizing the balance sheet, focusing on free cash-flow yield, looking for a proven ability to innovate and maintain pricing power, and considering a basket approach.
Many of these firms are taking action, such as Treatt's self-help measures to improve efficiency and manage costs. The valuation crunch was swift and brutal, with the share prices of some firms tumbling from their giddy late-2021 peaks. For instance, Spirax, a company prized for its relentless growth and resilience, saw its shares plummet from an all-time high of more than £172 in November 2021 to roughly £60 today, a shocking fall of more than 60%. Treatt, the flavour ingredients maker, saw its share price collapse by more than 80% from its peak of more than £13 in late 2021.
The rush for the exits began, raising the question: do these fallen stars now offer a compelling opportunity for long-term investors? Or, as the Spectris deal shows, does their undervaluation invite opportunistic private buyers to take them off the public market for good, starving investors of the opportunity?
[1] Investopedia. (2022, June 14). Private Equity and the Public Market. Investopedia. https://www.investopedia.com/terms/p/privateequity.asp
[2] Financial Times. (2022, March 29). The dangers of cheap shares. Financial Times. https://www.ft.com/content/6a9138b2-e6e2-4d35-b20b-0e0199f16c6d
- Some investors might consider investment trusts as a means to gain exposure to undervalued businesses, such as the fallen stars mentioned, as they offer a diversified portfolio of equities within a single investment vehicle.
- A newsletter focused on personal finance could discuss the potential risks associated with buying bonds issued by these struggling companies, as interest rates are expected to rise and might negatively impact their debt servicing abilities.
- While many of these companies are ceasing operations in property, those still engaged in property development could be monitored for potential opportunities, especially if they have a strong balance sheet, high free cash-flow yield, and a proven ability to innovate.
- As the economic downturn has resulted in many high-quality businesses being "too cheap" and attracting private buyers, investors should closely follow finance news to stay informed about any potential business deals happening in the market, as these could impact their portfolios.
