Pittards (LON:PTD) is a 'premium leather and leather products' brand, based partially in the UK and partially in Ethiopia. They seem to make a pretty broad range of products, with 'technically advanced' leathers being a common phrase in their annual report. That said, first thoughts are that it sounds like a commodity business; as the board quite reasonably puts it:
"The leather industry is a global business: wherever countries have meat and dairy industries then hides and skins are produced as by-products."
And while I'm not an expert on the industry, or any industry for that matter, I would imagine the economics of having relatively dispersed raw materials would lend itself to having a relatively dispersed market structure. Pittards is by no means a particularly big company, which might lend weight to this theory. The attraction isn't as immediately evident as it sometimes is, then; we don't have an obviously defensible market position, a leading company in a niche or similar.
The eternal temper
The attractive factor is the usual - the price. It's trading at a decent discount to the assets in the business, and it's profitable, too. Those two factors aren't always particularly easy to find together. At this point it's probably wise to note the bid/ask spread, though, since in this case it is particularly relevant to any discussion of the 'price' - iii quote the bid at 1.75p and the ask at 2.25p. This is an enormous difference. I usually use the midprice in my calculations, out of habit more than anything, but it should be noted that spreads this wide can be a significant dampener on returns.
Anyway, as always, I've stated the hypothesis - that Pittards is cheap because it is trading at less than the value of its assets as a profitable business, something which loosely shouldn't really happen if flows of capital are free and transactional costs are minimal (though we've already disputed that). More importantly to us and much more solidly, low PTBV values and low P/E figures, though imperfect, are also correlated with higher future returns. There. Easy!
The wrecking ball
It's never that easy, of course, and the first question we have to ask is immediately obvious from the graph in the top right - what happened? Pittards was shoveling money out of the window in what were, frankly, the good times - and since '05, they seem to be going from strength to strength. The answers in the annual reports were rather unsatisfying - the '05 chairman's statement, for instance, basically blames bad macroeconomic conditions. This might well be the case, but it leaves us rather uneasy as investors. Macroeonomic swings happen. That the company makes such enormous losses when they happen is worrying. I suppose we can reasonably identify '06 as the turning point - the point where they rationalised their UK operations, focused more on their Ethiopian partnership, and stepped into Asia with a sub-contractor. It's also the point revenue started to tumble, since they moved out of one processing step of the vertical supply chain. Revenue falling for a reason like that, since margins are increasing with it, is hardly a worry. It's a sign of more focus.
Here we have our first question; we can identify lots of differences between now and 2005. Is the company fundamentally different, or are circumstances simply better? The implications of that question on the value of the business can't really be overstated. Consider the graph:
Returns on capital are what we care about. We want a company which makes returns consistently above its cost of capital. This makes growth valuable to the business, and therefore us as investors. It's also easy to understand from the perspective of the price to tangible book value we were talking about before - if a company is perennially earning below its cost of capital, it may well deserve to trade at a discount to the value of those assets. In essence, those assets just aren't worth as much in the hands of the business they're with.
My gut feeling is that a corner has been turned with Pittards. There has been some sweeping changes, with that fledgling Ethiopian paternship I was talking about earlier having grown into full on ownership, giving Pittards a lower cost production area which may genuinely have some value above the book value - by the sounds of it, it took time, energy and cash to get things up to scratch.
There is one thing I remain a little unsure about, though; exchange rate implications and currency movements. 72% of the group's revenue is in US dollars, and while the group does publish a figure for the impact of currency movements, it's not a figure that's particularly useful to me - it basically just shows the impact of the reduced value of receivables and dollars held in cash. More fundamentally, I'm interested to know what operational impact it has. Just how global is the leather industry? Is it local enough so that even small currency swings mean a switch from local to international sources? I'm not sure how I'd go about finding this out. Frankly, the best solution would be to take a cycle average of returns and profits for Pittards - something which is rather hindered by the fact that I don't think it's really had much of a cycle in its current state. It is fundamentally changed.
I'm running out of space and it's an interesting company - so do your research - but my conclusion is that it's one for the shortlist. I naturally have less faith in returns figures over a shorter time period, like the 4 years here, and the bid/ask spread is prohibitive because it raises effective cost. It's very volatile, though, so if it dips I might be tempted - it's probably risky, but there's something about it I like. I sense there might be value in the way they've restructured to do business.