Stockwatch: A growth share defying the market plunge

An intriguing aspect of plunging markets is the ability to spot the precious few companies that can thrive independently. AIM-listed Burford Capital is one of them. Its chart shows a New Year spike from about 190p to 220p (currently 215p), as investors back this litigation finance stock, which is unique to the UK and now capitalised at £440 million.

The Regulatory News Service (RNS) suggests no reason for this spike in January, but the company's website cites a $45 million (£31.5 million) litigation financing deal with "a FTSE 20 company", on a range of pending litigation. Perhaps investors are also paying attention to the "multiple corporate benefits" cited, indicating wider potential in the UK after Burford has mainly been oriented towards the litigious US.

The business involves taking a view on the outcome of legal cases, providing money up-front to one party and later taking a share of any successful award. As yet it's quite foreign to UK legal culture, partly due to our "no win, no fee" services and insurance. Yet in the corporate sector, it could thrive in situations where a legal challenge is justified, but a company may not want to bear costs that could compromise capital expenditure and dividends.

Track record evolving nicely

With a two-three year investing horizon in such cases, actuarial estimates derive an annualised return on invested capital of 20-24%. Burford has achieved a net 71% return on capital from its concluded investments, although they're only about half those initiated since the company was set up in 2009. So it's still quite early-stage, but appears to be comfortably beating the risk factors as defined on page 10 of the flotation prospectus.

Since I drew attention at 132p in May 2014, revenue and profits have kept advancing: the table shows interim pre-tax profit up 56% last year and "we look to further grow the business in what is an exciting and rapidly developing market". Prelims are due 23 March and an inaugural "capital markets day" in London on 18 May could raise the company's profile.

Modest valuation

Forecasting such a business precisely is tricky, as its portfolio of financings is still rather lumpy. But the underlying progress continues to look attractive, hence my drawing attention also in January and March last year.

The AIM status, Guernsey domicile and largely US management/operations probably deter much coverage, hence the visible research being from Hardman & Co (i.e. paid-for by Burford); you can access it via our summary page.

Last October, Hardman reckoned on 2015 earnings per share of US 22 cents, rising to 23 cents and 28 cents in 2017 - implying a price/earnings multiple of about 14 reducing to 11 times based on the current share price. This would likely have been signed off by Burford, i.e. not diverting materially from budget. Moreover, prospects look to have improved, e.g. with the latest £31.5 million deal. So, despite the chart looking exposed in market context, the rating is not demanding.

The chief risk I see is an earnings-focused valuation inducing volatility at some point, since the prospective yield is not much over 3% and the end-June balance sheet showed net assets of £275 million, equivalent to 135p a share. Some £169 million, or 61.5% of net assets, constituted litigation investments - i.e. a little uncertainty as to true value. So, if the earnings trend does vary from expectations, then the stock is more exposed to sentiment change than one strongly backed by assets and a higher dividend. The board can obviously mitigate this risk with a higher sustainable payout in due course.

As a "people business", defections are also possible. However, Burford is a leader in this specialist area and its chief executive and chief investment officer own 6.5% and 6.3% of the equity respectively.

Downturn heralds opportunities

In common with any transaction-oriented business, litigation and its fees may still be affected by economic downturn. However, Burford contends it is well-placed to benefit from a likely rise in US bankruptcies in the months ahead.

Administrators anywhere may opt to get the swiftest solution in creditors' interests and to keep the businesses operating, rather than spend money on chancy litigation. But in the US its Chapter 11 proceedings are a lot more involved, hence potential for litigation funding to achieve faster and more efficient recoveries to creditors. An "influx" of such filings is anticipated with corporate downgrades and defaults. Indeed, Burford may become a useful litmus test of US corporate health like the Begbies Traynor "red flag alerts" here.

Another angle to watch is Burford's making €30 million (£23 million) available to Hausfield, a global claimants' law firm, partly to pursue Volkswagen claims in Germany.

This could also help raise the profile of litigation finance in Europe generally.

Fidelity doubles stake

There has not been any significant selling recently; the last high-profile trade was Fidelity passing the 5% level to own 9.46% at the end of last November, there being no corresponding announcement by a seller to indicate a cross-trade. This supports the concept of a long-term tuck-away as Fidelity won't be able to cut such a holding - unless at a low price - if Burford falls on hard times. It's a firm vote of confidence in the business and management.

When might such a stock retreat? Well, it isn't doing so yet in what is the worst-ever start to a calendar year. Two days prior to the 6 January "news" of $45 million litigation financing, Broker N+1 Singer raised its price target from 220p to 237p. If underlying performance proves consistently strong, then an improved rating should take it higher. It's hard to see what might realistically disturb Burford's momentum, so keep it on the 'accumulate' list.

For more information see their website.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.