Why I’d avoid this double-bagger and buy Premier Oil plc

Roland Head explains why he’s taking a fresh look at Premier Oil plc (LON:PMO).

| 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.

Today I’m going to look at two stocks which are at opposite ends of the value spectrum. One has delivered a 150% gain for investors over the last five years. The other has delivered an 85% loss over the same period.

On the face of it, the old City saying that you should run your winners and cut your losses seems appropriate. Why change something that’s obviously working well?

For long-term shareholders of my high-flying stock, life sciences firm Abcam (LSE: ABC), it probably makes sense to sit tight and continue collecting your dividends.

But for new investors, I think it’s important to look ahead and consider how much upside is on offer. Abcam published its full-year results for 2016/17 today. The group’s sales rose by 26.5% to £217.1m last year, although this increase would have been just 9.9% without favourable exchange rate movements.

Pre-tax profit rose by 14% to £51.9m, while the group’s adjusted earnings per share rose by 13.9% to 25.5p. The dividend rose in line with adjusted earnings, up by 14% to 10.18p per share.

The group reported good growth across its main activities and says it continues to gain market share globally. Cash generation remained strong and the group ended the year with net cash of £84.8m, up from £70.7m last year.

What could go wrong?

I believe this is a good company, but I do have a couple of concerns which might prevent me investing at the moment.

The first is that Abcam’s profit margins have been falling gradually for years. Operating margin fell from 27% to 25.4% last year. Back in 2011, the firm reported an operating margin of 38%. Buying into a business with falling profit margins concerns me when the stock is expensive.

And it is expensive. Based on today’s figures, the shares trade on a P/E of 42. This high valuation means that the dividend yield is just 1%. Although earnings growth is expected to be 20%+ in 2017/18, I’m not convinced that the shares are cheap enough to give me a good chance of enjoying market-beating gains.

This stock could double

I prefer to invest in stocks which are out of favour but where trading is improving. One company that may fit this description is mid-cap oil and gas independent Premier Oil (LSE: PMO).

The company has recently completed a major refinancing. Net debt remains very high, at $2.7bn. But the group’s spending commitments and costs have fallen sharply and its cash flow should soon improve as newly-completed projects start production.

The opportunity for investors is that the equity market is still rightly nervous of the risks attached to Premier’s sky-high debt levels. The group is expected to generate a profit of $128m in 2018, but the shares trade on a 2018 forecast P/E of less than 4.

I’ve stayed away from Premier for a long time. But the firm’s recent results saw cash flow from operations of $292m, up from $109m during the first half of last year. This generated free cash flow of $178m, allowing the firm to reduce net debt by around $100m.

If debt reduction continues to plan and Premier returns to profit, I believe the shares could easily double. It’s not without risk, but I think this stock could now be a worthwhile recovery buy.

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 of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

After it crashed 25%, should I buy this former stock market darling in my Stocks and Shares ISA?

Harvey Jones has a big hole in his Stocks and Shares ISA that he is keen to fill. Should he…

Read more »

happy senior couple using a laptop in their living room to look at their financial budgets
Investing Articles

How’s the dividend forecast looking for Legal & General shares in 2025 and beyond?

As a shareholder, I like to keep track of the potential dividend returns I could make from my Legal &…

Read more »

artificial intelligence investing algorithms
Investing Articles

Could buying this stock with a $7bn market cap be like investing in Nvidia in 2010?

Where might the next Nvidia-type stock be lurking in today's market? Our writer takes a look at one candidate with…

Read more »

Investing Articles

Is GSK a bargain now the share price is near 1,333p?

Biopharma company GSK looks like a decent stock to consider for the long term, so is today's lower share price…

Read more »

Snowing on Jubilee Gardens in London at dusk
Investing Articles

Could December be a great month to buy UK shares?

Christopher Ruane sees some possible reasons to look for shares to buy in December -- but he'll be using the…

Read more »

Young mixed-race couple sat on the beach looking out over the sea
Investing Articles

Sticking to FTSE shares, I’d still aim for a £1,000 monthly passive income like this!

By investing in blue-chip FTSE shares with proven business models, our writer hopes he can build sizeable passive income streams…

Read more »

Growth Shares

BT shares? I think there are much better UK stocks for the long term

Over the long term, many UK stocks have performed much better than BT. Here’s a look at two companies that…

Read more »

British Pennies on a Pound Note
Investing Articles

After a 540% rise, could this penny share keep going?

This penny share has seen mixed fortunes in recent years. Our writer looks ahead to some potentially exciting developments in…

Read more »