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Over the last 10 years, Diploma (LSE:DPLM) stock has outperformed the FTSE 100 by a long way. But a 13% fall in the last month could be my opportunity to start buying the shares.
While growth has slowed recently, investing is about looking past near-term challenges at long-term prospects. And from this perspective, I think the company looks very strong.
Industrial distribution
Diploma is a collection of businesses focused on distributing industrial components and life sciences equipment. Importantly, it focuses on areas where it can add value for customers.
This happens in several ways. It can involve helping companies expand into new geographies, supplying highly complicated parts, or providing mission-critical components at speed.
Focusing on differentiated products and services helps Diploma maintain strong margins. And it has a strong competitive position that’s difficult for other companies to disrupt.
A mix of acquisitions and organic growth has caused sales to rise from £334m in 2015 to almost £1.4bn in 2024. But growth has been tepid recently, which is why the stock has been falling.
Short-term challenges
In 2024, Diploma’s sales grew by 14%, compared to 19% the year before. And most of this was from buying other businesses, with organic growth coming in at 6%, down from 8% in 2023.
The outlook for 2025 is also somewhat underwhelming. The firm is expecting organic growth to again be somewhere in the region of 6%, with another 2% from acquisitions already confirmed.
Obviously, there’s a long time left in the year and opportunities to acquire other businesses might present themselves. But there are no guarantees and this can be a risky strategy.
I think this is why Diploma shares have been falling – it’s a growth stock with a disappointing outlook for the near future. Nonetheless, I think it’s well worth a closer look.
Valuation
A few things are worth noting when it comes to Diploma’s valuation. The first is that it trades at a price-to-earnings (P/E) ratio of 41, which is high by just about any standards.
Investors, though, should note that this probably isn’t the best metric to use. The company’s earnings per share involve a number of unusual costs that might be seen as distorting.
These include £59.4m in amortisation, which are non-cash expenses, and £13.8m in acquisition and restructuring costs, which should be one-off. And this is worth paying attention to.
Adjusting for these means the fall in the Diploma shares price brings the P/E ratio closer to 25. That still reflects optimism about future growth, but it’s much more reasonable.
Should I buy?
I don’t think investors should be too concerned about Diploma’s recent reliance on inorganic growth. One reason is the firm has a natural advantage when it comes to making acquisitions.
The businesses it buys tend to be small and there’s often less competition pushing prices up. So I’m still optimistic about its future prospects.
I’m seriously considering adding it to my portfolio in April. The only question in my mind is whether any of the other opportunities I’m currently looking at might be even better.