House builder Crest Nicholson, which was founded 50 years ago this year and floated on The Stock Exchange in 1968, is corporate proof that the ‘circle of life’ is not just confined to natural history programmes and certain Walt Disney movies.
For much of its existence, Crest has been a decent business with some niche areas of interest in redevelopment and unusual design that work quite well in certain parts of the country, particularly the South East. It was also caught up in the rash of mergers and acquisitions that swept through house building companies six years ago.
With the benefit of hindsight, we know things were about to fall off a cliff but, at the time, 2007 was seen as a golden period for the sector. An insufficient supply of new houses meant demand looked assured and the market, fortified by snappy if less than intellectually rigorous arguments such as ‘buy land – they’re not making it any more’, felt share prices in the sector could only head in one direction.
Pretty much any house builder-related deal done in 2006 or 2007 has not turned out well – a good example being Barrett’s purchase of Wilson Bowden. This was partly because the housing market collapsed the next year and partly because the buyers generally paid far too much for their acquisitions – often justifying the price-tags by funding the payments with debt.
For its part, Crest was taken out by a consortium led by HBOS and the entrepreneur Sir Tom Hunter for a debt-funded price of £715m, which worked out as some 2.4 times the value of its net assets. It was one of the very punchiest multiples – if not the punchiest – paid for a house builder during what was in turn the punchiest period for takeovers in the industry’s history.
On the bright side, this left some very happy shareholders exiting at a good price but, when the housing market turned, Crest’s buyers were wiped out. Ownership of the company passed to its bankers and private equity investors who have been keen to turn the business round so it can be brought back to the market again.
On 21 January, the company announced its intention to float a combination of new and existing shares such that 35% of its stock will ultimately be listed on the London Stock Exchange. While the house building sector has done very well over the last six months or so, it will probably only come back to market at one times its net asset value or perhaps at a modest premium to that.
Interestingly, while the valuation multiple the market is likely to put on Crest today is significantly less than people were willing to pay in 2007, the business’s net assets today are around £350m, which is not far off what they were back then. so, even at a time when investors are supposedly beginning to feel more confident about the future, the market is set to pay less than half what it was just six years ago.
Once again, this underlines one of the core principles of value investing: that the price you pay as an investor is the key determinant of whether you will end up making money. Put simply, if you buy on a multiple of around one times book value, all else equal you are more likely to make money than if you buy in at 2.4 times book value - especially if the more expensive purchase is funded by a lot of leverage.
As a theoretical postscript, if the Hunter-HBOS consortium had bought Crest at 2.4 times its net assets five or so years earlier, it arguably might have got away with it. It would still have paid a very rich price and taken a big risk, but it would probably have been bailed out by the state of the market. It tends to be the way of the world, however, that people only pay such elevated prices when things are just about to go wrong.