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Another stock in the wall

Sometimes the label on the jar is misleading. Sure, Brickworks (BKW) is exposed to the building industry, and its official sector is construction materials. However at current prices the mathematics of investing in BKW is fascinating.

Alongside its bricks, block, tiles and paver manufacturing business it has a property division and a 42.72% stake in Soul Pattinson (SOL holds a similar chunk of BKW). At current share prices that stake in SOL is worth around $1.8 billion. After recent falls the market capitalisation of BKW is around $1.9 billion. If we deduct ALL of the $600 million in liabilities on BKW’s balance sheet ($509 million non-current) we get a market value of the remainder of BKW of $700 million.

The building products division alone is expected to generate $73 million in earnings this financial year – although most analysts expect this to number to fall in 2018 as the long predicted property downturn finally arrives (?!). Nevertheless, ascribing a zero value to the property division (likely a gross underestimate) we get an earnings multiple of less than 10x.

In traders’ parlance this is a stub trade. A trader could buy BKW, strip out the SOL exposure by selling 4,272 SOL for each 10,000 BKW held, leaving the trader exposed to the stub of the BKW business. In theory the trader then waits for the market pricing to reflect the relative value of BKW to SOL and trades out at a profit.

Investors can take a much simpler approach. The current value difference in the stocks points to a long trade in BKW. The managers at BKW are regularly typified as conservative. While some investors agitated against the cross-shareholdings between BKW and SOL one likely effect is that it will keep the same management team in place. The management team with a stronger track record. The same management that have increased dividends every year since 2001.

BKW is not often viewed as a dividend stock. However the recent share price drop means that the calculation on the two recent dividends shows a yield better than 5% (including franking). And the chart points to support at $12.30, a possible backstop to current levels around $13.00.

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