There are more than seven facts on Telford Homes, but “7” is my lucky number, also most people has that as their favourite.
Telford Homes was set up in 2000 and operates in non-prime areas of London. Here is a picture of one of their buildings:
The business model is to acquire the site, develop it and sell the properties off. The topics covered will give a brief insight into their finances and give a glimpse of external factors which would aid and affect Telford’s operations and return on investments.
The following topics are up for discussions:
- Telford’s business cycle;
- Geographic locations;
- The effects of home prices on Telford Homes;
- How would the share price react in different scenarios;
- Why the shares manage to recoup their 2007’s losses but showed no signs of going higher (yet);
- Finally, the future of Telford Homes.
Let’s get straight into it.
Telford Homes: A Growth Company
Telford Homes is a growing homebuilder. This growth company saw revenue compounded 16% in the last twelve years. Revenue is topsy-turvy during that period, but last year it jumped by 60%. Is this sustainable?
Analysts seem to think so, as they projected revenue to come in at £284m in 2017 (results will be at the end of the month) and £351m in 2018. Part of it is down to its development pipeline growing from £1bn in 2014 to over £1.5bn in 2016.
When a company is in their “expansion phase”, earnings get volatile. For Telford Homes, it is a little different.
While net profit is more stable and growing. Telford’s cash operating profits are the opposite and acting a bit irrational. Spot the orange bars, it looks like there is a negative correlation with net profits.
The difference between net profit and cash profit since 2004 is £175m (net profit totals £111m vs. net cash loss of £63m).
One reason is down to the increase in Telford’s inventories (more details below). That saw a 10-fold jump since 2004.
That tells me capital investment activity is in the operating section of cash flow statement. It leads me to the conclusion that Telford’s net cash profit is similar/equivalent to the free cash flow number. A look at its “investing activities” confirms this as the amounts come to a negligible £1m per annum.
With negative cash inflows and dividends obligations, Telford need to raise external financing via debt and equity (See section titled “Deciphering Telford’s valuation”). It will continue to rely on external financing until it can consistently produce positive cash profits.
Let’s turn our attention to Telford’s operations and things you need paying attention.
The Regional Homebuilder + A Trip Down Memory Lane
As a regional homebuilder in London, Telford Homes has many advantages. One of them is the rise in home prices in the Capital That advantage is ruthlessly displayed when the average London property costs £582,000 vs. the UK’s £215,000.
Things starting to cool off
But things are beginning to cool off, as London saw their first annual drop in 8 Years! A fall of 1.5% or £9,400 off the average value.
The last annual drop is during the financial crisis. Back then, property prices in the capital fell by £13,000 to £338,000 in 2009. The effect on Telford Homes was enormous, as the shares nose dive as it went from £4.30 per share to 20 pence per share in 18 months.
Some of the falls is the banks stopping lending, as liquidity dries up. That affected Telford’s business operations, which relies on debt to purchase sites for development. A smaller blame is the fall in advanced deposits. (see between 2008 and 2010)
Will Telford’s shares crash again?
Anything can happen, but realistically a similar percentage property price fall like in 2008/09 can have a similar effect. Despite, property prices in London rising from £338,000 to over £582,000, a rise of 72%, Telford will experience the same adversities like the one that befell them in 2008/09. Comparing these two periods, there are similarities that include:
A. Telford’s gross margins are around 22%-25%, similar to levels between 2004 and 2007.
B. Telford’s gross margins are around 22%-25%, similar to levels between 2004 and 2007.
C. Telford’s operating margins of 14% are slightly lower than 2007’s 16.7%.
D. Cash balance of £20m is smaller than 2007’s £17m because current assets in 2007 are £143m vs. 2016’s £291m.
E. Today’s annual debt of £39m is lower than 2009’s £112m.
If London saw home prices fall 3%, we can say the expensive areas of London were falling more, therefore dragging the region as a whole. But, if we see a universal fall of 3% in London (regardless of price variation), then Telford’s shares will come under pressure.
That Brexit vote
Remember when people voted for Brexit, it sent Telford’s shares down 20% to 30% in a few weeks without any real change to its fundamentals.
It’s all about Telford’s Inventories
Previously I talked about how changes to inventories turned Telford’s net cash profit into a free cash flow number.
According to Telford’s annual report, inventories include development properties, which is stated at net realisable value. Cost comprises costs of acquisition and development, including directly attributable fees and expenses, direct labour costs and borrowing costs.
To evaluate inventories, we need to mesh it with market capitalisation. To do this we divide Telford’s market cap against inventories. The result is an interesting ratio (look at Right-Axis, for reference). That ratio saw a high of 1.8 in 2007 and a low of 0.2 in 2009. Then the long road of recovery begins. Now, inventories and market value are dead even.
You can make a case for it being fairly valued. But, all that can change if house prices starting to fall.
Deciphering Telford’s valuation
If you are a long-term shareholder in Telford (i.e. for ten years) you would have seen your shares recovered fully. Then you wonder why it hasn’t made £10 to £12 per share, given the business is bigger and more profitable than it was in 2006/07.
That’s because the number of shares outstanding has risen from 29m to 75m in ten years meaning in “per share” terms, you (the shareholder) are getting diluted!
The value change in Telford is at a record high! Telford’s market cap of £300m is 250%, higher than their previous peak in 2007.
Since 2004, Telford Homes raised £98m from equity and the number of shares issued is 45m. So, the average share price from equity financing is (£98m/45m) = £2.17/share. FYI
Expectations for the Future of Telford Homes?
In a trading update, Telford has reported that 2017’s profit before tax would exceed market expectations (whatever that means), though I expect it to do better than (2016’s £32m). However, they did give a forecast for 2018, which they expect to exceed £40m and by 2019 it rises to £50m.
Also, they mention something worth taking note, and that is their development pipeline has an average property value of £517,000 (lower than the average London’s home of £582,000).
A cushion if the most expensive areas in London see the home price falling, and does not affect the poorer areas.
Share Price Forecast
If Telford were to achieve £50m by 2019, which is 60% higher than 2016, you should expect the shares to trade around £6.50 per share in two years!
But, if home prices start dropping universally, regardless of the price difference, then Telford’s shares come under pressure.
A 5% decline of £517,000 is equivalent of £26,000 drop in value. The following things could happen: –
Telford Homes’ operating margins will fall. It will need to borrow money to fund development, as advanced deposits begin to dry up. Joint Ventures are hard to come by. Activity will drop.
(P.S. The above are scenarios that might not come to fruition or on reality.)
Should you invest in Telford?
That’s the million-pound question. We know how Telford’s shares will react when higher or lower property prices prevails.
Right now, property prices in London are falling in the expensive regions, as taxes take effect. Still, we shouldn’t forget that property value against disposable income in London is near a record high of 15 times (Average salary is £30,000).
For me, I wouldn’t be interested in buying Telford’s shares at this level, regardless of 2017’s results.
Do you agree with my opinions on Telford Homes? Please comment below.
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The opinions expressed by the writer is for entertainment and research purposes. It does not constitute professional investment advice. Data is correct on available information at the time.
Finally, the writer does not own the company’s stock, unless stated otherwise.