A share chart that goes from the top left to the bottom right, a substantial write-down relating to an acquisition that is puncturing profits and the ongoing gloomy flow of commentary on the economy sounds like a terrible combination for a financial services company that specialises in lending, savings and securities trading. That is exactly why FTSE 250 merchant bank Close Brothers is now popping up on this column’s radar as worthy of further research, especially as an unloved stock that could just be an undervalued one.

The shares are down by 43pc from the spring 2021 peak, thanks to worries that a downturn in the economy will lead to increased bad debts (and lower profits) at the lending and financing arms; the cost of living crisis and fears that could hit savings and customer inflows at the wealth management operations; and a slowdown in trading volumes at Winterflood, thanks to the UK equity market’s relatively turgid performance and the end of the lockdown dealing boom.

To cap it all, an acquisition from 2017 has continued to haunt the company: the purchase of Novitas, a specialist provider of finance to the legal sector. Close Brothers decided to withdraw and start running down the loan book in 2021, while supporting the remaining cases. However, last week’s trading update revealed that a fresh review of outstanding cases and the Novitas loan book meant March’s first-half results could now be burdened with a further £90m in additional provisions, credit losses and loan write-downs.

Close Brothers’ shares promptly tumbled, despite management’s launch of legal action against one related insurer and assurances that the £90m would draw a line under the sorry affair. Clearly, the risk here is that more problems crawl out of the woodwork at Novitas, to the detriment of financial performance and sentiment. However, Close Brothers is more than capable of withstanding this hit. The balance sheet is sound, as evidenced by a Common Equity Tier 1 (CET1) ratio which exceeds regulatory requirements, while the bad debt ratio for the first five months of the current financial year is just 1.1pc on an annual basis, excluding Novitas.



In addition, there is not that much left to go wrong at Novitas. The net loan book had shrunk to about £60m by Christmas, after all of the provisions, impairments and write-offs. Scrubbing that lot could knock a hole in forecast pre-tax profits of £128m, for sure, but a balance sheet with net assets of £1.7bn would not be unduly damaged, should there be any further embarrassment.

And those net assets of £1.7bn catch the eye. Strip out intangible assets, adjust for the Novitas provisions and net asset value still comes out at roughly 900p per share, so Close Brothers is trading at barely one times book value. Throw in dividend yield of 7pc, covered by even depressed earnings and supported by the balance sheet, and there could be some contrarian value to be had for patient portfolio builders, especially as a downturn could drive lending volumes toward the company – at high margins – if the big banks start to pull down the shutters, as they usually do.

Questor says: Buy
Ticker: CBG
Share price at close: 962p

Update: Fuller, Smith & Turner

It seems to be a case of what can go wrong, will go wrong for pubs-to-hotels group Fuller, Smith & Turner. After the pandemic and lockdowns and input cost inflation, the £248m cap company must now wrestle with knock-on effects from the train strikes. Simon Emeny, the chief executive, thinks the bill for industrial action is £4m in lost sales so far, in the financial year to March 2023, and analysts are cutting their earnings forecasts in light of last week’s profit warning.

Thus, we continue to sit on a paper loss of around 25pc since our investment in October 2021, slightly mitigated by dividend payments, and are struggling for a positive catalyst, even as the mild winter and energy bill subsidies offer a little support to consumer confidence.

However, Fuller Smith & Turner still has a high-quality freehold estate, still has limited borrowings and still looks cheap relative to the £457m in (conservatively valued) net assets on its balance sheet, so we can wait for better times to come (as surely they shall). Hold.

Questor says: 
Ticker: 
Share price at close:

Russ Mould is investment director at AJ Bell, the stockbroker

Read the latest Questor column on telegraph.co.uk every Sunday, Tuesday, Wednesday, Thursday and Friday from 6am.

Read Questor’s rules of investment before you follow our tips