LONDON -- Capital appreciation is surely the goal of many investors. One method of achieving that is to buy companies with steady earnings growth. If the shares are bought when cheap, two things could move their price up: growth in earnings, and an upward P/E rerating.
Highly successful fund manager Peter Lynch classified steady growers as "stalwarts," which he typically traded for 20% to 50% share-price gains. But whether we're buying for gains like that or holding for the longer term, we need to know whether reliable earnings growth can continue and the shares are cheap.
Seeking durable growth
Not all companies achieve stable growth, as you can see by the aggregate performance of those in London's premier FTSE 100 index, where the compound annual earnings-growth rate has been just 0.7% over the last five years:
FTSE 100 Index Value
Aggregate Earnings per Share
Consistent, cash-flow-backed growth in profits is a promising characteristic in today's markets, so for this series, I'm examining firms with annual earnings growth between 4% and 20%.
One contender is SABMiller (LSE: SAB.L) , which is a brewing company originating from South Africa. This table summarizes the company's recent financial record:
Adjusted Earnings per Share
So earnings have grown at an equivalent 10.7% compound annual growth rate, putting SABMiller in the stalwart category.
SABMiller describes itself as one of the world's leading brewers, with more than 200 beer brands and some 70,000 employees in more than 75 countries. It also has a growing business in soft drinks and claims to be one of the largest bottlers of Coca-Cola products. Brits might be familiar with the firm's popular Miller Lite and Grolsch brands.
The company enjoys strong positions in both emerging and developed markets worldwide. Happily, the company's success shows up in its steadily rising earnings. SAB derives around 23% of revenue from Latin America, 20% from South Africa, 17% from Europe, 17% from North America, 12% from Africa, and 11% from the Asia-Pacific region.
I reckon beer-drinking can be almost as addictive as tobacco smoking, so there's likely to be a steady stream of repeat business. If SAB can keep converting those revenue streams to cash flow and profits, it's unlikely to lose its stalwart credentials any time soon.
SABMiller's earnings growth and value score
I analyze five indicators to determine whether earnings growth can continue and the shares offer good value:
1. Growth: Revenue, earnings, and cash flow have all been growing together. Score: 5/5
2. Level of debt: Net gearing of 71% with borrowings at four times its annual profit. Score: 3/5
3. Outlook and current trading:Good recent trading and a positive outlook. Score: 4/5
4. Enterprise value to free cash flow: Around 29 and above earnings growth rate. Score: 2/5
5. Price to earnings: A historical earnings growth rate around 21 or more. Score: 2/5
Overall, I score SABMiller 16 out of 25, which encourages me to believe this stalwart can continue earnings growth that outpaces that of the wider FTSE 100. Considering the FTSE's P/E ratio of around 11 and the firm's growth predictions, the shares appear to value the company generously.
Growth in revenue, earnings, and cash flow has been perky, and the outlook is positive. That's encouraging, and SAB's highly repetitive cash flows look likely to facilitate continued easy management of interest payments. The shares appear to be fully pricing in such desirable characteristics, however.
Right now, forecast earnings growth is 14% for 2013, and the forward P/E ratio is around 18 with the shares at 2,738 pence. Considering that and the other factors analyzed in this article, I think that SAB can stay on my watchlist for now.
SABMiller is one of several stalwarts on the London stock exchange that are steadily growing earnings, each with the potential to deliver significant capital appreciation when purchased at sensible prices.
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