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Three recovery stocks Invesco’s Brown has been buying

30 June 2020

Invesco Smaller UK Companies manager Jonathan Brown reveals three companies with a good recovery story.

By Abraham Darwyne,

Senior reporter, Trustnet

As the coronavirus lockdown begins to ease in the UK, the true damage to the economy may begin to be revealed.

However, the furlough scheme implemented earlier in the year was designed to prevent mass redundancies could be masking what will be the true level of job losses in the UK, according to Invesco’s Jonathan Brown.

“If history is a guide then unemployment could be really quite sticky,” he said.

“It leads to second-round effects of companies experiencing lower demand because of unemployment, seeking to reduce costs further, and certainly deferring capital expenditure expansion plans within their businesses.”

The manager of the £573m Invesco UK Smaller Companies Equity fund believes that there will be a hangover from the crisis and it will manifest itself in a depressed level of economic growth.

He has therefore positioned his portfolio based on this scenario, focusing on companies with self-help characteristics that can grow even in more difficult times.

Brown, who has been managing funds since 2002, said that he had a strong feeling of what worked after a market correction and had kept a number of stocks on his watchlist for a recovery story.

These were companies he believed had good margins, good cash flows, strong market positions, but hadn’t yet met his valuation criteria.

One such company he cited was Gym Group, the low-cost gym operator which listed in 2015.

“We know the business well, we saw it IPO, I visited a number of their sites, and we do think they are genuinely disruptive and one of the market leaders in the space,” Brown said.

He revealed that he did not take a position in the Invesco UK Smaller Companies Equity fund previously because he was concerned that the market was attributing too high a valuation to the stock. The manager had some concerns having seen in previous cycles health clubs experienced some overinvestment and ran a risk that at some stage the market would get saturated and mature.

When the coronavirus sell-off caused Gym Group’s share price to fall by 76 per cent, Brown believed the valuation was discounting a huge amount of negativity regarding its recovery from lockdown.

He argued that Gym Group was a high-quality name with a number of aspects to its business model that put it in a very strong position for a recovery.

Gym Group operates an electronic pod required for entry which “allows them to know exactly how many people are on site”, and “control very accurately the social distancing in their properties,” he explained.

The Invesco manager added that they also tend to operate relatively large sites “so the ability to move equipment apart to meet social distancing is going to be easier for them than others”.

Brown reckons that a number of independent gym companies will suffer and the competitive threat will be diminished, meaning Gym Group will likelyemerge from the crisis in a stronger position than they entered it”.

He said: “The early signs from looking at markets in Sweden, Switzerland and China, indicate that gym goers want to go back to the gym, memberships have held up well, and attendance has been strong.”

Another name Brown invested into during the crisis was Mitchells & Butlers, the pub, bar and restaurant company.

The stock fell by 78 per cent during the sell-off, which Brown said caused it to trade at 20 to 25 per cent below its underlying asset value.

“This is a high-quality, well invested, freehold estate of pubs and restaurants,” he said. “Clearly there are issues with lockdown and we did a lot of analysis to understand their financial position and their cash burn.”

He said that the furlough scheme, the government assistance in deferring tax payments, and the landlord assistance has been extremely helpful in managing their cost base.

Looking at the valuation on a two-to-three year view, he believes people will return to normal and the company will return to historic levels of profitability.

Grafton Group was the third name that the Invesco UK Smaller Companies Equity fund invested into during the sell-off.

Brown described the builders’ merchant as a high-quality name, which he invested into when the shares fell 64 per cent during the sell-off, after the valuation reached what he felt was “pretty attractive levels”.

The management team were formerly at BSS Industrial, which was acquired by Travis Perkins in 2010 for £553m.

Brown believes that Grafton Group is a best-in-class operator and he is betting that the government will continue their investment into construction and infrastructure as part of the economic recovery, and that Grafton Group will benefit.

Indeed, UK prime minister Boris Johnson has recently announced a new deal to accelerate £5bn worth of infrastructure projects.

Brown said Grafton Group has a strong balance sheet and that it “effectively went into the crisis effectively unlevered”.

“We believe strong businesses become even stronger after a crisis, as they more rapidly consolidate the sector and derive those scale benefits”, he explained.

He said that the crisis presented a good opportunity for some firms to take a lot of market share over the next few years.

Performance of the fund of sector vs benchmark over 5yrs

 

Source: FE Analytics

The Invesco UK Smaller Companies Equity fund has delivered a total return of 41 per cent over the last five years, compared with the IA UK Smaller Companies sector’s 31.29 per cent gain.

It has an ongoing charges figure (OCF) of 0.92 per cent.

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Data provided by FE fundinfo. Care has been taken to ensure that the information is correct, but FE fundinfo neither warrants, represents nor guarantees the contents of information, nor does it accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance does not predict future performance, it should not be the main or sole reason for making an investment decision. The value of investments and any income from them can fall as well as rise.