Is there investment opportunity in the UK?

London Metric

You probably haven’t heard of London Metric. But you’ve definitely heard of its customers.

The group is a large-scale corporate landlord. It specialises in buying and renting out retail and logistics space, generating income from the rent it collects.

One of the things we like most is its high-quality tenants. These include Amazon, Clipper logistics, Tesco, Primark and Eddie Stobart. These more resilient customers mean despite headwinds, net rental income rose 3.1% on a like-for-like basis last year – pre-pandemic this rose 23.6% to £115.9m.

Rents tend to be long-term agreements, meaning income is more reliable than for other businesses. The average lease length stands at 11.4 years. A large part of that is because the group has exposure to in-demand assets, with 41% of its occupiers coming from logistics, online retail, manufacturing and packaging customers last year.

These tend to have specialised requirements. They’re also an important area of growth too – the pandemic has accelerated the shift to online shopping – these assets are only going to become more in-demand. That’s behind the group’s plan to shrink its exposure to traditional retail, and it recently spent £35.4m on new logistics and grocery assets.

In theory, this should help continue the group’s good record of growing net asset value per share (NAV) – an important measure for Real Estate Investment Trusts (REITS) like London Metric. Remember past performance isn’t a guide to the future, though.

The group‘s also shown it’s adept at spotting undervalued assets and turning them around for profit. That’s slightly different to some other REITs, who buy or build large-scale space with plans to hold it forever.

Chart showing London Metric's total property return growth

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Source: London Metric 2021 annual report.

It’s also important to consider debt. London Metric’s loan to value (LTV) ratio stood at 32.3% at the last count, which is well within a sensible range.

London Metric has a reliable, high calibre revenue stream, with real growth opportunity as it pivots more towards urban logistics. That underpins the 3.6% prospective yield, although nothing’s guaranteed.

But the market has taken note of these strengths, with the price-to-earnings ratio of 25.7 – 21.2% ahead of the ten-year average. That’s not unreasonable in our view, but it does increase the risk of ups and downs.

Wizz Air

When planes were grounded, the scars left behind ran deep, and won’t simply fade once jet engines fire up again.

Airlines have very high fixed costs, so the damage to profits and cashflow have been fairly universal across the industry. Wizz made a loss of €482m last year. It will take a while for the group to fully recover, especially with travel patterns still so hard to predict.

We think Wizz has some real potential though.

Unlike more familiar short-haul airlines, Wizz has a near monopoly on a lot of its routes. It operates across most of Europe, with a specific focus on Eastern Europe – especially, Poland, Romania and its native Hungary. A recent foray into the Middle East also offers huge potential for growth, as low-cost options in the area are few and far between.

Wizz is able to keep ticket costs so low, partly because it flies into less desirable airports, which charge lower departure fees. When your unique selling point is being the cheapest option, travellers don’t tend to mind this. It also means competitors are less likely to try and jostle for your slot on the runway.

Charging super low prices also means there’s more scope for ancillary revenue – upselling to you and me. The group made more money from these services (think extra baggage allowance, seat booking fees and food), than it did on ticket revenue last year. At €413.3m, these were almost 27% higher in fact.

Being a low-cost carrier should help hold the group up if the economy worsens. As alternative European holiday spots gather popularity, Wizz should stand to benefit too.

Chart showing Wizz Air revenue split

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Source: Wizz Air 2021 annual report.

Wizz also leases rather than owns most of its aircraft. This gives the group more flexibility. Among other financial benefits, it means as and when new technology comes in, and/or aircraft need replacing, the fleet can be upgraded with a much lower upfront cost.

All airlines are cyclical, their fortunes go up and down with the economy. Investors will need to be prepared for a bumpy ride. That’s especially true as it’s almost impossible to predict when travel volumes will get back to normal.

That said, the group expected to fly 90%-100% of its pre-pandemic capacity over the summer, which, if true, will have made it the first major European airline to do so.

The balance sheet is carrying a bit more debt than we’d like, at €1.7bn. That isn’t setting any alarms off, but it’s important travel volumes keep climbing or that could become more of an issue.

We think Wizz is one of the best placed airlines in the sector. It has significant competitive advantages, a nimble operating model and real growth opportunities. But investors should be prepared to take a long-term view given the amount of uncertainty lingering over the industry.

WH Smith

You might be wondering why we consider WH Smith to be a hidden gem. We all know it.

But that doesn’t mean you’ve given the investment case enough consideration. A lot of people might assume WH Smith has weak prospects given falling high street footfall.

But WH Smith’s main money-maker is its travel business, not the high street. It has almost 1,200 shops in 30 countries, mostly in airports. And those travel locations are a lot more resilient. Travellers aren’t interested in scouring the best deal, they want convenience and will stomach the prices put in front of them. That’s a winning recipe for margins.

Pre-pandemic, the travel division made almost twice the amount of profit as the high street shops, at £117m. Clearly, travel has been seriously affected because of the pandemic, so the picture isn’t quite so rosy, and the division made a loss of £33m in 2020.

The pace at which traffic will return to normal levels is hard to predict, but we still think the business is well placed to thrive as terminals and train stations re-open.

We won’t sugar coat the challenges in the high street business. Revenue was falling, and profit stagnating, before the pandemic. The group openly discusses the threat from online competitors, discount shops and supermarkets. But the group is doing a number of things to try and relieve this pressure.

It’s increasingly introducing third party services to a lot of its shops – like post offices. That makes its shops more of a destination, but also increases cross-selling.

The other strategic prong is a strong focus on flexibility. The average lease length on a WH Smith high street shop is two and a half years. That’s incredibly short. If a store isn’t profitable, the lease simply isn’t renewed. A willingness to grasp the nettle and quickly close unprofitable stores is a testament to management. Around 25 stores are due to close this year.

Chart showing WH Smith operating profit

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Source: Refinitiv, accessed 10/09/21. Years 2021, 2022 and 2023 are estimates.

A close attention to costs helps underpin a prospective dividend yield of 1.6%. Remember no dividend is guaranteed though, and WH Smith could decide to prioritise spending elsewhere if recovery doesn’t go to plan.

The lack of profits at the moment means WH Smith is hard to value using our preferred metric – the price-to-earnings ratio. Looking at projected sales instead, the shares have a price-to-sales ratio of 1.5, broadly in line with the ten-year average.

We think WH Smith’s strong travel business, and flexible approach to its high street stores means it has potential, not necessarily reflected by the market. Remember though, nothing is guaranteed – that’s especially true at the moment, given the huge changes in retail.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

Liontrust UK Growth

Anthony Cross and Julian Fosh think the secret to successful investing is to find the few companies with an 'economic advantage' – a sustainable edge over the competition that will help them earn above-average profits for the long term.

The managers believe the hardest economic advantages to copy are intellectual property, like patents and trademarks, strong distribution channels and lots of repeat business.

A company needs to have at least one of these attributes if it's going to be considered for the fund. Other less powerful, but nonetheless important strengths, include franchises and licenses, good customer relationships and a great company culture.

The fund’s recently invested in business telecoms provider Gamma Communications. The managers think the company has all three of the core strengths that their Economic Advantage process looks for.

Over a number of years, the company’s developed market-leading cloud communications technology, which it distributes through an established network of partners. And most of its income is earned on recurring monthly contracts.

The fund’s done well over the long term. Since Cross and Fosh took control and started applying the Economic Advantage investment process in March 2009, it’s turned an investment of £10,000 into £45,387*. The broader UK stock market returned £32,496 over the same time period. Remember though, past performance isn’t a guide to the future.

This fund holds shares in Hargreaves Lansdown plc. It can also invest in derivatives, which adds risk.

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Past performance isn’t a guide to the future. Source: *Lipper IM, to 31/08/2021.

Fidelity Special Situations

Alex Wright invests in companies often ignored by other investors. Maybe they've missed a profit target, or the management team made some unpopular decisions. Either way, the company must be on the road to recovery. A company can recover in a variety of ways, like introducing a new product line, expanding into new areas or hiring a new management team.

As the company improves, its share price should rise as other investors begin to recognise the change. As the price rises, Wright aims to gradually take profits and move on to the next unloved opportunity. It's an investment style known as 'value' investing. Of course, not every company will recover, and some could fail altogether.

The fund performed exceptionally well over the past year, although this is a short time period. The manager’s value-focused investment style returned to favour, following several years of weaker returns. Past performance isn’t a guide to the future.

This demonstrates the value of maintaining a diversified portfolio. We believe the fund has the potential to do well over the long run, although there are no guarantees. Investors should note the fund’s flexibility to invest in derivatives adds risk.

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Past performance isn’t a guide to the future. Source: Lipper IM, to 31/08/2021.

Majedie UK Equity

The team behind the LF Majedie UK Equity fund uses a flexible approach. Each manager is free to invest according to their own strengths and investment styles, which are carefully blended.

That means the fund invests in more established businesses that have grown profits consistently over time, as well as those overlooked by other investors but are capable of recovery.

The team uses a range of tools when coming up with investment ideas, including in-house systems and technical models perfected through decades of experience.

They regularly meet with company management too, probing them to glean insights that aren't available through the report and accounts. The team also spends time thinking about how economic changes can impact their investments, and this is built into their analysis.

The managers recently participated in the Initial Public Offering (IPO) of online furnishings and homeware retailer Made.com. As we emerge from the pandemic and the outlook of the economy gets brighter, the managers think companies like Made.com will benefit from people spending more.

The company’s online business model also differentiates it from competitors. It means the business is more scalable and allows it to be more innovative. For instance, the company uses algorithms to estimate how popular certain products will be, and this helps reduce delivery times.

The fund's performed well over the long term, outperforming the broader UK stock market, although past performance isn’t a guide to the future.

Our analysis suggests the managers' ability to select companies with outstanding prospects has boosted performance, regardless of what size they are or sector they're in.

This fund holds shares in Hargreaves Lansdown plc.

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Past performance isn’t a guide to the future. Source: Lipper IM, to 31/08/2021.