It's been an exceptionally long year for shareholders in Slater & Gordon Limited (ASX: SGH). Before getting to the crux of the issue, here's a brief timeline of events:
- June 29 2015: Shares crashed after errors were found in Slater & Gordon's books which lead to ASIC commencing a routine review of the company
- October 27 2015: Chief Financial Officer Wayne Brown announces his departure after 12 years of service
- November 20 2015: Shares crash again after a non-market sensitive announcement revealed a slower than expected start to the year, including significant cash outflows forecast for the first half of 2016. Management confirmed it would meet its earnings forecasts.
- November 30 2015: Shares rise as management again reaffirms earnings forecasts
- December 4 2015: Slater & Gordon is removed from ASX 100 as a result of share price falls
- December 17 2015: Slater & Gordon warns investors that there was a significant risk it would miss its full-year guidance
- December 23 2015: Law firm Maurice Blackburn launches a class action against Slater & Gordon
So What?
There are four key things that I believe Slater & Gordon shareholders are now focussed on.
- Fiscal risks. Although I wrote in an earlier article that SGH was unlikely to go broke, that was before the company retracted its full-year forecasts.
- Share price. Many investors have lost major chunks of money on Slater & Gordon, and a significant number are watching the company looking to snap up a bargain or profit from short selling.
- Class Action. Although long-winded, successful class actions can prove expensive for the loser of the case.
- Revenues and profits. Slater & Gordon has grown profits, earnings per share, and dividends successfully over the past five years, however, debt has ballooned 7-fold since 2012. Investors need to be sure that cash flows keep pace with expenses. Also, and this is easy to forget in the recent woes, investors bought SGH to make money.
Now What?
Reiterating my earlier article, I find it unlikely that Slater & Gordon will go broke as there was room for a significant margin of error in my calculations of the company's cash flows. However, since management has retracted their previous earnings guidance and it is uncertain how much the company will make – or if it will all be in the form of cash as previously claimed – the fiscal risks associated with Slater & Gordon should be considered quite high.
The share price risks associated with Slater & Gordon are also quite high as a result of the above uncertainty.
As to the class action, I do not believe this is an immediate threat to the company. Class action lawsuits can take several years to resolve and Slater & Gordon could be well on the road to recovery or thoroughly bankrupt by the time a verdict is reached. It is a meaningful risk, but there are more relevant near-term concerns for shareholders.
Combined with the fiscal risks, Slater & Gordon's revenues and profits are the crux of the issue. Slater & Gordon Solutions (formerly Quindell's PSD) has been in the stable less than a full year and it's already started underperforming. Regulatory changes to UK personal law could have a significant impact on revenues and profits from this segment in future reporting periods.
Foolish takeaway
While it appears that Slater & Gordon is not in danger of bankruptcy, I believe its situation is still too uncertain to make it a worthy investment for the new year. Near-term headwinds appear likely to remain in the UK, and investors must also factor in the possibility of regulatory action over the recent downgrade.
