One FTSE 250 stock I’d buy today, and one I’d sell

Roland Head explains why these similar-sized FTSE 250 (INDEXFTSE: MCX) stocks are likely to perform very differently.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

FTSE 250 soft drinks group A.G. Barr (LSE: BAG) is best known as the maker of Scottish favourite Irn Bru. Sales of the fizzy drink rose by 3.2% last year, helping to lift Barr’s pre-tax profit by 4.4% to £43.1m. Shareholders were rewarded with an 8% hike to the dividend, which rose to 14.4p per share.

Barr reported a strong performance across its portfolio of brands and said that 90% of its drinks will contain less than 5g of sugar per 100ml by this autumn. This should enable the firm to avoid the sugar tax on soft drinks that’s due to take effect from April 2018.

When the sugar tax was first announced, Barr’s share price fell. But the firm’s latest figures suggest to me that its profits probably won’t be affected by this new legislation.

Is Barr a buy?

Indeed, I believe this is a quality business that’s likely to be a profitable and low-risk investment.

Barr’s adjusted operating margin rose by 0.5% to 16.8% last year, highlighting the profitability of its portfolio of brands. The group generates consistently high returns — its return on capital employed has averaged 20% over the last five years, well above the market average.

Recent investment has left the company with modern production facilities with capacity to support future growth. Spending is carefully managed and costs fell by £3m last year. This helped Barr to clear its net debt of £11.7m and end the period with net cash of £9.7m.

Barr’s share price has edged higher following Tuesday’s results. The stock now trades on a P/E of 18 and offers a yield of 2.6%. This may not seem cheap, but I believe it’s worth paying up front for this company’s strong cash flow and stable long-term growth.

I’d ditch this stock

Barr’s popular brands and efficient manufacturing facilities enable the group to generate above-average profit margins. Neither of these advantages applies to online appliance retailer AO World (LSE: AO).

It has increased its sales by an average of 30% each year since 2011. That sounds impressive, but the group has reported a loss in most of these years and is expected to do so again this year.

The problem with this business is that AO’s products are totally commoditised. The same products are available elsewhere, with the same delivery times and warranties. There’s no reason to buy from AO unless it’s cheapest.

This may be good for customers, but it’s not good for shareholders. Broker forecasts suggest that AO will generate an after-tax profit of just £550,000 on revenue of £843m in 2017/18.

AO shares have already fallen by 23% this year, following the firm’s warning in January that it was “cautious about the final quarter [of the year]”. I believe investors need to question this stock’s valuation and ask whether the business can grow fast enough to reach a profitable scale.

AO’s annual sales are still less than 10% of those of its more profitable rival, Dixons Carphone. But Dixons’ market cap is 0.35 times its annual sales. For AO, that figure is 0.9.

AO’s current valuation makes no sense to me. I believe the shares are worth — at best — about a third of their current value.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland Head has no position in any shares mentioned. The Motley Fool UK has recommended AG Barr. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

1 key stock market indicator to watch this week

The US Index of Consumer Sentiment is a key leading stock market indicator. And UK investors might want to pay…

Read more »

Edinburgh Cityscape with fireworks over The Castle and Balmoral Clock Tower
Investing Articles

I’m on the hunt for cheap shares to buy this January! Here’s one I found

Christopher Ruane has been looking at the UK stock market to try and find shares to buy for his portfolio.…

Read more »

Investing Articles

4 SIPP mistakes I’m avoiding like the plague!

Christopher Ruane explains four errors he is trying hard to avoid in investing his SIPP, as he tries to maximise…

Read more »

A pastel colored growing graph with rising rocket.
Investing Articles

Up 28% in a month, I’ve been loading up on this penny share  

Our writer has been buying more of a penny share he already holds and reckons recent news could point to…

Read more »

Investing Articles

How to aim for a reliable 6% dividend yield when picking stocks

Mark Hartley outlines his strategy to identify top-quality stocks with high dividend yields and strong fundamentals for consistent income.

Read more »

Investing Articles

Investing £20,000 in this FTSE 250 stock today could net investors £1,944 in passive income this year

After falling 11% in a week, this FTSE 250 company is set to return almost 10% of the its market…

Read more »

Investing Articles

I asked ChatGPT to name the best S&P 500 growth stock and it picked this AI powerhouse

Muhammad Cheema asked ChatGPT to pick its top S&P 500 growth stock. He was disappointed with its response, which missed…

Read more »

Investing Articles

£10k in savings? Here’s how an investor could use that to target £420 of passive income a month

Harvey Jones shows how it’s possible to build a high and rising passive income from a portfolio of FTSE 100…

Read more »