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Greggs‘ (LSE:GRG) shares have fallen 47% over the last 15 months. But while any stock can fall in the short term, the long-term chart doesn’t exactly look encouraging either.
Over the last five years, the share price has fallen 19%. So is this just a stock that’s out of favour with the market at the moment, or is the company facing more durable problems?
Long-term investing
In the short term, share price movements don’t always correspond to what’s going on with the underlying business. And Greggs is actually a good example of this.
Earlier this month, the stock fell 6% in a day (7 January). But the company didn’t suddenly become 6% worse than it was the previous day.
Short-term price movements therefore don’t always reflect changes in what the business is worth. Over the long term though, price and value tend to find their way back to one another.
That however, doesn’t make Greggs look much better. Even accounting for dividends, the total return from the stock has been negative over the last five years.
What’s the problem?
The underlying business has actually performed quite well during that time. Revenues have gone from £1.2bn in 2021 to just over £2bn and earnings per share have increased steadily.
Inflation remains the key risk and a lot of the sales growth has come from opening new outlets, which can’t go on indefinitely. But the firm hasn’t exactly been going backwards in recent years.
The reason the share price has fallen so much is valuation. Five years ago, it was trading at a price-to-earnings (P/E) ratio of around 30, which is very high for a high street operation.
It’s now at a P/E multiple of around 11, which is roughly in line with Associated British Foods, Dunelm, and JD Wetherspoon. In other words, it’s now priced like other similar businesses.
Warren Buffett
Former Berkshire Hathaway manager Todd Combs once outlined three things Warren Buffett looks for in a potential buying opportunity. And I think Greggs might meet all three.
The first is a P/E ratio below 15 – that’s a clear ‘yes’. The second is a 90% chance of making more money five years from now and the third is a 50% chance of growing at 7% a year.
In terms of the next five years, Greggs still has some scope for opening more stores. While this is starting to run out, I think there’s enough to mean it’s likely to be more profitable in 2031.
The growth condition is more challenging, but a 4% dividend means shareholders can grow their stake in the business by reinvesting. That doesn’t leave the firm needing to do much to hit 7%.
Is the tide turning?
A £5,000 investment in Greggs’ shares from five years ago is now worth £4,032. And £840 in dividends isn’t quite enough to mean investors have even managed to avoid losing money.
There’s a lesson here for investors. While the underlying business has kept moving forward, it hasn’t managed to live up to the expectations that come with a high P/E ratio.
Now though, I think the situation’s different. There are ongoing challenges, the most obvious is inflation, but the stock’s now a lot cheaper – and well worth looking at.
