Warren Buffett’s number one rule of investing is said to be “don’t lose money” and his billionaire status certainly suggests that he’s avoided big losses over the years.
Of course, there will always be times when the value of an investment falls. But if you own shares of good companies, you can hold onto your stock without worrying about losses, confident that better days will come. Today I’m going to look at two companies I believe have the financial strength and growth potential required for successful, low-risk investments.
The best company you’ve never heard of?
Engineering and technology firm Smiths Group (LSE: SMIN) operates in a mix of sectors, including medical technology, airport security and the energy industry.
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The diversity helps to protect its profits from slumps in any single sector. For example, while oil-focused engineering businesses saw their profits collapse last year, Smiths’ headline operating profit fell by just 4% as a result of the oil market slump. Profit margins in the group’s other divisions improved and net debt fell, enabling the group to fund a 2.4% dividend increase.
Its other big attraction is its financial strength. The group is highly profitable, with an operating margin of 17% and a return on capital employed (ROCE) of 16%. These figures are supported by low debt levels and strong free cash flow. This combination provides solid backing for the dividend, and allows the group to make acquisitions without taking on too much financial risk.
Smiths’ shares currently trade on a forecast P/E of 17, with a prospective yield of 2.7%. This may not seem cheap, but it’s worth noting that the group’s has risen by 60% over the last five years. That’s more than double the 28% return delivered by the FTSE 100 over the same period. I believe this is a quality business that’s unlikely to disappoint investors.
The boss owns 10%
Companies that are run by executives with significant shareholdings can often make good investments.
An example of this is construction and infrastructure group Morgan Sindall Group (LSE: MGNS). Chief executive John Morgan has a 10% stake in this £468m business and has served on the board since 1994.
Morgan Sindall’s order book rose by 29% to £3.6bn last year, while adjusted pre-tax profit rose by 32% to £45.3m. 2017 is expected to be another strong year — the group recently advised investors that this year’s results should be “slightly above our previous expectations”.
Based on this guidance, analysts’ consensus forecasts suggest Morgan Sindall will generate earnings of 91.7p per share this year, a 13% increase on 2016. The group’s dividend is expected to rise by 12% to 39p. These figures give the stock a forecast P/E of 11.5 and a prospective yield of 3.7%.
That looks an attractive valuation to me, especially as Morgan Sindall’s finances are much stronger than those of some peers. The group reported average daily net cash of £25m last year. Most of the firm’s big rivals run a negative cash balance, so this is a very respectable result that gives me confidence in Morgan’s ability to maintain its attractive dividend.
Morgan Sindall shares have risen by 416% since 1999, more than three times the 126% gain delivered by the FTSE SmallCap index over the same period. I believe shareholders should remain confident.
