Timber company Woodbois (LSE: WBI) has seen a significant improvement in its business performance. In the first half, for example, the firm reported its first operating profit ever. But Woodbois shares have been losing ground. They stand 18% below where they were this time last year.
So, does that mean that they are undervalued and I ought to consider adding them to my portfolio? Here are three points I would consider when thinking about that question.
Value is not the same as price
Value and price are not the same thing. As billionaire investor Warren Buffett says, price is what you pay and value is what you get.
So, even though Woodbois shares change hands for just a few pennies each, on their own that does not make them good value. Despite the low share price, Woodbois has a market capitalisation of around £80m. I think that is substantial for a company that after well over a dozen years on the stock market has yet to prove that it has a consistently profitable business model. That in itself means I do not plan to buy the shares.
Consider probability as well as potential
On paper though, I think Woodbois has some promising growth options for its business.
To date it has focused on processing timber and selling it in forms such as veneer. On its own, that has the potential to be a lucrative business, although its track record of turning sales into profits has been weak.
But the firm is also eyeing other opportunities, such as benefiting from its timber holdings by getting involved in the market for carbon credits.
In principle, that could also be an attractive opportunity. But looking only at potential can be a misleading way to value a new business activity. I think it is also important to consider probability. For example, how likely is it that Woodbois will end up developing this business at scale? What is the probability that the market for carbon credits will stay as economically attractive as it currently is?
It may be difficult to answer such questions – and that in itself should give me pause for thought as an investor. If the range of probable outcomes for the Woodbois business a few years from now is hard for me to judge even roughly, how can I hope to value the shares accurately?
The P/E ratio of Woodbois shares
Although Woodbois has a limited track record of profitability at the operating level (before things like finance charges are included), its price-to-earnings (P/E) ratio is barely above one.
Normally the lower a company’s P/E ratio, the better value its shares look. But that is not always the case. For example, a company can have a low P/E ratio but be saddled with high debt. In the case of Woodbois, my concern about relying on the current P/E ratio as a valuation metric is that it reflects a one-off accounting treatment relating to some of the company’s forestry assets. So I do not think it helps me understand what the future P/E ratio is likely to be.
Relying on a P/E ratio in isolation without looking at other factors is always a flawed way to value a company in my opinion. That certainly applies to Woodbois shares.
The post Are Woodbois shares undervalued? 3 points to consider appeared first on The Motley Fool UK.
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C Ruane has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.