Why Persimmon could still be a buy

2 mins. to read
Why Persimmon could still be a buy

Robert Stephens, CFA, considers the prospects for the UK’s largest housebuilder following its recent trading update.

Last week’s trading update from FTSE 100 housebuilder Persimmon (LON:PSN) suggests that its increasing focus on enhancing the customer experience is paying off. The company reported a rising customer satisfaction rating in the first seven months of the new HBF (Home Builders Federation) Survey period. It is seeking to improve on its current 3-star rating, which lags many of its industry rivals.

Uncertain short-term outlook

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In the short term, though, a focus on improving customer service levels is causing lower levels of legal completions. In the first half of the current year, for instance, the company reported legal completions of 7,584 versus 8,072 in the same period of the previous year. This is negatively impacting revenue, with first-half revenue of £1.754 billion down 4.5% on last year’s level of £1.836 billion.

With Brexit causing a degree of uncertainty across the housing market, Persimmon’s near-term outlook could continue to be challenging. For example, investors may become increasingly concerned about housing affordability. The house price to earnings ratio has occupied a range between 5.5x and 6x over the last five years. In the last 30 years it has only been higher than its current level for a brief period of time prior to the financial crisis. At a time when interest rates may move higher and there is the potential for changes to the Help to Buy scheme under a new Prime Minister, investors may adopt a cautious stance towards the stock and the wider housebuilding sector.

Indeed, investor sentiment towards the housebuilder has been weak throughout 2019, with its share price falling by 1%. This is in contrast to a 12% rise for the FTSE 100 over the same time period.

Growth opportunity

However, Persimmon’s strategy could place it on a path to long-term growth. By focusing on the customer experience, it could produce more sustainable returns that reduce the prospect of customer redress in the long run.

Although the near-term prospects for the housing market may be challenging, the company continues to report robust demand for its properties. Average selling prices also continue to move higher, while a shortage of supply of new homes seems unlikely to abate over the long run. In fact, with the UK forecast to have an extra 210,000 households per year over the next 20 years, the current level of housing starts appears to be inadequate. In 2017, for example, just 184,000 new homes were built.

Investment potential

Persimmon’s P/E ratio of 7 suggests that its share price factors in the short-term risks faced by the housebuilding sector. Since the company is expected to return capital by way of a dividend of 235p per share in the 2020 financial year, it currently has a dividend yield of 12%.

Clearly, though, its income potential over the long run is highly dependent on its financial performance. But, with a net cash position of over £1 billion, it appears to have the financial strength to pay out a large proportion of future profit as a dividend.

Therefore, while there may be a volatile period ahead for the stock, it could offer long-term investment potential. It seems to have a sound strategy that may provide sustainable growth in an appealing wider housing market.

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