Nifty and thrifty, what could go wrong?

Latchways, which manufactures fall protection equipment for people working at heights, is the third niftiest and sixth thriftiest company in my screens. The screens rank companies by four related factors; profitability, value, financial strength and timing.

Highly profitable financial power-houses are rarely cheap, particularly if business is booming and they are currently doing well, because investors notice and buy the shares. That's the problem presented by Latchways.

According to data from Sharelockholmes its average Return on Equity (profitability) over the last 10 years is an extraordinary 30%, especially considering leverage appears to be so low (the assets it owns are mostly funded by equity, not debt). A perfect F_Score of nine out of nine implies the business is doing very well.

The problem? Investors know it, since the shares cost more than four times book value, the value of the company according to its accountants.

Even if Latchways continues earning a 30% return on equity over the next, say, ten years, I have to pay more than four times the value of that equity (book value) to include the shares in the Thrifty 30. So I can only legitimately expect a return of about 30/4.3, or 7%.

Seven percent is below my minimum return of 10%, so unless the statistics I calculate when I paw through the annual reports say differently I can tell you now I'm unlikely to be adding Latchways at  the current price of 1065p.

But the combination of high profitability, sound finances and a niche business that makes something really useful but not particularly glitzy is very promising. It could be a hidden champion and should events conspire to knock the price down to the point at which it does offer investors a 10% return, I might be first in the queue to add it.

Once I've confirmed the figures and familiarised myself with the company, I'll be in a position to set a price target.

Correction

In the commentary on the Nifty and Thrifty screens posted earlier in the week I implied Latchways' profitability was in part fuelled by leverage. Bit embarrassing really, I read the ratio the wrong way around. Leverage is very low at Latchways, so its a small factor in profitability.