James Halstead is a family firm that is falling in price: is it worth buying?

Good companies listed on Aim tend to be expensive. This is because many shareholders hold shares to reduce their Inheritance Tax (IHT) rather than to make a profit, and are less concerned about valuation. However, one of the most popular shares in IHT portfolios now looks unusually cheap. James Halstead (Target: JHD) has performed poorly over the past couple of years due to supply chain disruptions.

Fifty years ago the company faced a similar problem, but continued to perform very well for the next five decades. Does today present a similar opportunity for patient investors, or do rumors of changes to property rights relief (BPR) for Aim-listed companies mean this apparent cheapness is justified?

James Halstead is a multi-generational family business based in Manchester. The company was founded in 1915 by James Halstead and is today run by Mark Halstead as executive chairman, the fourth generation of the family. It was originally a textile company, producing rubberized waterproof fabrics used in rainwear – a particularly important industry in a notoriously wet city like Manchester. Sometime in the 1930s, the founder’s sons began targeting the business at the nascent resin flooring industry. The company also maintained long-term interests in waterproof clothing, owning Belstaff, a British manufacturer of waxed jackets, from 1948 until it sold the brand in 2004.

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The Fall of Halstead

The shares hit a record high in early 2022 at just over 300p. They have since dropped to below 200p, with peak worst case performance of almost -50%. Having performed well during the Covid pandemic, the company began to struggle due to rising inflation and supply chain difficulties in 2022. They were caused in part by Russia’s invasion of Ukraine, which caused a spike in oil prices. These challenges were compounded by difficulties in sourcing raw materials and shipping finished products due to bottlenecks in global supply chains. At the same time, parts of the world that were considered safe for shipping, such as the Suez Canal, became less safe. This has two effects. This increases the distance (and therefore time) for goods to be delivered since the most direct route is not always available. Additionally, the cost per mile tends to be higher because the additional miles the world’s cargo fleets are forced to travel reduces global cargo delivery capacity. The overall effect is that delivery becomes more difficult as there is less availability, and when delivery capabilities are guaranteed, it comes at a higher cost.

Halstead’s story

James Halstead has a very long history of making money for investors. However, its 109-year history has not been without problems. In the early 1970s, the company was overly indebted and vulnerable to unpleasant surprises. Then, in October 1973, oil producers in the Middle East imposed an embargo on exports to countries that had supported Israel during the Yom Kippur War, including Britain. This led to a surge in oil prices, a key component of the company’s costs, potentially threatening its survival. We had to take radical measures.

Jeffrey Halstead, the founder’s grandson, was appointed CEO in 1974 and set about putting the business on a stronger footing. Dividends were cut and the balance sheet was restored to the point where it always retained a large amount of cash. Thus, today it is not only not vulnerable to shocks, but can also benefit when difficulties arise because the company has a comparative advantage over weaker competitors. The dividend has increased every year since then, and next year will be the 50th increase in a row. This puts James Halstead among an elite group of companies around the world that have managed to boost payouts for half a century.

Strong balance sheet, competent management team.

The scale of the changes undertaken by Geoffrey Halstead, who died in August aged 94, was such that the firm is today arguably one of the least risky listed businesses in the UK from a balance sheet perspective. It consistently provides a high level of return on capital. The company rarely carries any debt, and net cash on the balance sheet typically exceeds annual earnings. The company also has a management team that has proven to be astute and uses its financial strength to make smart investments at a time when its competitors are struggling. This last point is especially important because the best investments are often made during the worst times. By maintaining such a strong balance sheet, James Halstead will be better able to take advantage of these investment opportunities.

Geopolitical factors such as the oil shock and Covid can impact most businesses, and James Halstead is not unique in experiencing a difficult period. What’s remarkable is that the share price is much lower than it was, while the overall stock market is doing well. It is probably true that James Halstead suffered more than some other businesses due to its sensitivity to oil and shipping. However, the extent to which the share price declines will indicate that the firm is in trouble. It’s not.

The difficulties with raw material costs and transportation that have arisen since 2022 certainly have echoes of the oil crisis of 1973-1974. However, it is precisely because James Halstead’s balance sheet was so strengthened after this crisis to protect against future shocks that it is in a very different position today.

In a simple scenario where the balance sheet is simply sufficient, a company can overcome a period of difficulty. For James Halstead, the balance sheet is much stronger than necessary and he is able to seize opportunities that his competitors cannot. We’ve seen this before. Take the 2008 global financial crisis. During this time, when other businesses went bankrupt, James Halstead was able to acquire additional warehouse space at incredibly attractive prices. “Buy when there is blood on the streets, even if it is your own blood,” says an old adage attributed to Nathan Mayer Rothschild. The veracity of this attribution is debatable, but the ability to follow advice is certainly not.

How Taxes Help—and Hurt—Target Stocks

James Halstead’s shares have been trading at a high price for a long time, partly due to their inclusion in inheritance tax (IHT) portfolios due to their listing on Aim.

The goal was created to provide businesses with a less cumbersome route into the capital markets. This was done by reducing reporting requirements, thereby reducing the annual costs of the listed company. However, Aim’s appeal was further enhanced by the fact that shareholders were allowed to claim business property repayment (BPR) upon inheritance. BPR exists to allow descendants of business owners to pay significantly less IHT on business assets. BPR can be claimed on unlisted property, buildings, equipment and shares. It may seem confusing, but shares listed on Aim are classed as unlisted for inheritance tax purposes. This means that any shareholders in many Aim-listed companies can benefit from BPR.

As a result of this agreement, a sub-section of the investment management industry has emerged that helps wealthy clients reduce their IHT liability by investing in a portfolio of Aim-listed shares. However, these portfolios come with strings attached that exclude many businesses, significantly narrowing the scope of potential investments. Tax rules state that a qualifying share must be a trading company that carries on the majority of its business in the UK. It must not be a business that primarily deals in securities, land or buildings or derives the majority of its income from investments or ownership thereof. Once purchased, shares must be held for at least two years before they qualify.

In practical terms, for a wealth manager building an IHT portfolio for a client, the shares will also need to be high quality firms that are relatively large and liquid by Aim standards. Once these criteria are met, the selection of 609 shares listed on Aim (at the time of writing) will be reduced to under 50. This means that some firms, such as James Halstead, are very popular in these portfolios and in high demand. Consequently, the valuations at which they trade often reflect their deficit and tax advantages, as well as their business prospects.

However, there is growing speculation that the special treatment given to AIM-listed firms in relation to BPR could be withdrawn. This has been a potential risk for a long time, but now it may become more immediate. The new government wants to increase tax collections and there are reports that Chancellor Rachel Reeves is considering sweeping changes to IHT rules when she delivers her first Budget on October 30. Apart from the Halstead family and employee trust, the majority of James Halstead’s shareholder base consists of IHT portfolios. If the BPR is removed, these portfolios will begin to trade. There will not necessarily be an exodus from the shares as there will likely be a grace period. But as cheap as James Halstead appears, selling pressure from IHT’s portfolios could send the stock falling even further.

Still on track for long-term growth

If you ignore the question mark over BPR, buying James Halstead appears to be a no-brainer. This is a great business, strong, cheap and paying generous dividends. Despite the difficult period, the firm recently reported a year of profitable growth. Revenue was down just under 10%, but that was a result of customers having to cut production costs. The volumes of products sold were higher. Profit before tax rose almost 8%. Net profit actually fell slightly, but that was due to a slightly higher effective tax rate – something all businesses face in good times and bad. In addition, the ever-conservative board said it was confident of positive “results” this year, which is code for further growth in volumes and profits.

Going forward, the board remains confident in the long-term strategy that has served the business and shareholders well for nearly 50 years. The reality is that the last couple of years have been quite difficult, but this needs to be put into context. Over the long term, James Halstead has managed to achieve modest but unspectacular earnings growth while maintaining high operating margins. Over the past two years, profitability has moved closer to average (i.e. still very profitable), while growth has slowed somewhat. However, the valuation decline looks like a business that is in much worse shape. At the current share price of around 190p, James Halstead is trading at 18 times forward earnings, which is much lower than its average valuation over most of the last 25 years. As a result of the fantastic dividend record, shareholders are also earning more than 4.5% per year. For a patient investor willing to consider the potential for weakness due to any changes to the BPR rules, the stock now appears to be a good investment. For the more cautious, there is no harm in waiting until the dust settles on the tax issue.

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James Halstead is a family firm that is falling in price: is it worth buying?

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