Why Brexit makes GoCompare a buy

There will inevitably be winners and losers from Brexit. While it may be the latter who feature most prominently in the headlines, there are plenty of opportunities to profit from the effects of Brexit.

One change brought about by the UK’s decision to leave the EU is higher inflation. Last month it moved higher than wage growth, which paints a negative outlook for consumer spending. Consumers will now have reduced spending power, which may lead to an increasingly price-conscious mentality and difficulties for a wide range of retail and other consumer stocks in future.

One sector which may benefit from a squeeze on real disposable incomes is price comparison sites. As consumers gradually witness the erosion of their spending power, they may seek to save money on a range of goods and services. Having split from Esure last year, GoCompare (LON:GOCO) offers a sound strategy which indicates high growth potential at a reasonable price.

Changing climate

Perhaps the biggest impact of Brexit so far has been weaker sterling. Since the referendum, the pound has depreciated by 13% versus the dollar and 10% versus the euro, as well as being weaker against a basket of other major currencies. While the effects of this may not yet have been felt directly by most consumers, the situation is likely to change.


In the last month, inflation has moved to a higher rate than wage growth. CPI inflation now stands at 2.3% versus 2.2% for wage growth. While there is only 10 basis points difference between the two, inflation is forecast to move higher in future months. With the outlook for the UK economy becoming increasingly uncertain ahead of a general election and what may be described as ‘challenging’ Brexit talks, real disposable incomes may fall significantly.

Bright future

The last time this situation existed was in the aftermath of the financial crisis. Back then, consumers became increasingly price conscious and the popularity of price comparison sites increased significantly.

Consumers sought to save money on a range of products, including insurance, banking products and utilities. Those industries are now experiencing their own cost pressures, which may make price comparison sites even more relevant to consumers. For example, the change in the Ogden Rate has increased car insurance premiums, regulatory costs remain high for banks, and utility companies are experiencing stiffer competition from new entrants. It could therefore be argued that consumers may experience above-inflation costs within those utility-like industries, which may lead to improved prospects for price comparison sites.

GoCompare is investing heavily in its technology and marketing operations, which has already helped improve customer interactions by 26% versus the prior year.

While the extent of the decline in real disposable incomes may not be as severe as it was during the financial crisis, Brexit is an unprecedented event for which forecasting is exceptionally challenging. Therefore, the recent trends regarding sterling, inflation and wage growth could be sustained for the medium term, which may lead to a new era of rising price-consciousness among consumers.

A growth opportunity

While competition among price comparison sites is itself relatively high, there are a small number of major players. GoCompare is one of the four major operators in the UK. It was part of insurance company Esure until November 2016, when it was demerged. Since then, it has strengthened its management team and put in place a new strategy which appears to be working well. For example, according to its 2016 results the company was able to reduce net debt/EBITDA from 2.8x to 1.7x and increase adjusted EBIT by 29.9%.

More improvements to its operational and financial performance could be ahead. GoCompare is investing heavily in its technology and marketing operations, which has already helped improve customer interactions by 26% versus the prior year. In the current year, its EPS is forecast to rise only 3% as the process of investing in future growth takes hold. However, next year its EPS is expected to move 20% higher.

Valuation and income appeal

Since GoCompare has a P/E of 16.1, it seems to offer good value for money on a relative basis. For example, another one of the dominant players in the price comparison site sector is Moneysupermarket.Com. It has a P/E of 22.5 and yet is forecast to report a rise in earnings of 8% this year and 10% next year. While GoCompare may be a business in the process of change, it could be argued that change brings more opportunities for growth in the medium term.


As well as growth potential, GoCompare could also become a strong income play. It is due to commence dividend payments this year. Although it is expected to have a dividend yield of 2% in 2017, dividend growth of 22% next year means it has a prospective yield of 2.5%. More dividend growth could follow, owing to the company’s prospective dividend payout ratio of 32% and sound long-term EPS growth prospects. With CPI inflation forecast to reach 3% or 4% by the end of 2018 depending on different forecasts, GoCompare’s rapidly-growing dividend could add to its investment appeal.

Outlook

UK consumers face a difficult period due to Brexit. Inflation has already surpassed wage growth and this means their real disposable incomes are now falling. This situation is forecast to get worse, since the rate of CPI inflation is forecast to rise and, since the UK economic outlook is uncertain, wage growth may also experience a squeeze of some sort.

The result of this could be an increasingly price-conscious consumer. As was the case following the financial crisis, price comparison websites may become increasingly popular as consumers seek to lessen the impact of price rises. In my view, this presents a growth opportunity for price comparison websites such as GoCompare in what remains a relatively concentrated marketplace.

With a sound strategy to invest for future growth and reduce leverage, GoCompare has investment appeal in my view. Its valuation is low compared to sector peer Moneysupermarket.Com, while its growth rate is relatively high. Further, the company’s income prospects look set to improve, which may increase its investment potential if CPI inflation moves higher. Therefore, while there will be losers from Brexit, GoCompare looks set to be a significant winner.