Small Cap Value Report (22 Sep 2015) - BOO, RGS, PTD, PTCM

22nd Sep '15 by Paul Scott

38 comments 30450 reads

Good morning!

EDIT: apologies, I'm running late today, and just lost two whole sections I'd written but not saved, arrgghh!! So have to recreate that again from scratch.

Quite a nasty day today - I see the FTSE 100 Index (FTSE:UKX) is starting with a 5 again, at the time of writing. It's always worthwhile checking what the other indices are doing, because the FTSE100 is a false comparison for many investors, due to its excessive weighting in resources stocks.

Sure enough, whilst the FTSE100 is down 2.1% today, the Small Caps Index (I use SMXX) is only down 0.5%, and the AIM All Share Index (AXX) is down 0.7%. So whilst the large indices might look bearish, the smaller companies end of the market is doing alright. In particular, look at this comparison of the three indices over the last 6 months, to see the striking under-performance of the resources-laden FTSE100 (the lower, dark blue line), compared with Small Caps and AIM:

I've no idea what these indices will do in future, but so far anyway, small caps have had little more than a modest correction after a good bull run.

I remain of the view that consumer-related shares are the best area to be in, so I'm generally trying to keep my focus away from industrial or resource-related companies.

Volkswagen

This is a huge scandal - off the scale - VW has admitted that some of its cars are fitted with a software cheat which recognises when the car is having its emissions checked, and then makes adjustments to improve its emissions temporarily.

Its shares have gone into freefall, down 19% today, at the time of writing. This got me thinking - surely VW won't be the only company to have done this? Are they uniquely devious? I find that difficult to believe. Maybe other companies have been up to the same trick?

So I'm wondering if this might be a good time to whack on a basket of shorts on car maker shares, as there could be more stuff to come out of the metalwork possibly?

Boohoo.Com (LON:BOO)

Share price: 30.5p (down 1% today)
No. shares: 1,123.1m shares
Market cap: £342.5m

(at the time of writing, I hold a long position in this share)

Shorting attack - some readers may…

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Wol

22nd Sep '15

On VW, if I was a shareholder I would be:
* horrified at the costs of sorting out this mess
* horrified at the damage to the previously high quality brands
* even more horrified that management failed to to do the risk reward analysis - the benefits of extra sales gained by cheating the emissions tests cannot compensate for the hugely largely costs of sorting out the mess. AND (pun indented) this was bound to come out sooner or later

On adjusted profits
It makes perfect sense to exclude one off abnormal costs from a measure of normal profitability. But how many companies do you see where adjusted EPS is higher than basic EPS every single year. In which case the adjustments are not one offs or abnormal. They are a normal part of the business. Refenersis's HOF might be an extreme case, but I'd be tempted to trust only basic EPS for any company whose adjusted EPS is consistently the higher of the two.

Richard Goodwin

I get the impression from today's announcement that Nature was really unprofessionally run under the previous management. I didn't like the references to "hope" though, or the fact they couldn't make money in a booming Rotterdam market.

I have a bull position in Nature.

Catstycam

Re VW, I very much doubt they are the only car manufacturer up to the trick of falsifying records. Perhaps what should additionally be looked at is why the car manufacturers can get away with publishing mpg figures which are nearly always way above reality and car retailers using those figures. I am tired of being told by car retailers that I can't expect the figures published and that they are done in controlled environments. That doesn't stop the car retailers using those figures though. They admit the figures are inaccurate, yet they use them to attract buyers!. I work in retail and if I made false statements like those I would expect to be pulled over the coals. Yet they feel it is acceptable and we let them get away with it!.

Re general market movement. Well it really makes me think that if the market didn't have anything to worry about, it would be worried. It worries about interest rates being raised, then worries about them not being raised and pulls most of the market down. Very frustrating. Overall, I still see the UK and the USA economy being strong, so maybe, if I had the funds, I should look on this as being, or close to being a buying opportunity rather than sell up and bail out as I have done previously.

imranawan

Hi Paul

Thanks for your write up about Regenersis (LON:RGS). I held earlier in the year, and sold out for break even, as I wasn't entirely happy with the interims. One of the reasons I sold out was the poor level of free cash flow. Indeed in the FY results, this continues to be an issue. For example there is also a large discrepancy between statutory cashflow from operating activities of £6.9m and Headline Operating cashflow of £11.6m. Even if you accept the Headline cashflow figure which I don't they spent £10.7m on investing activities - so free cashflow is negative/neutral at best, and this continues the trend in recent years.

In addition they also announced an acquisition (Tabernus) which occured after the year end for £7.6m which means the small net cash position will have deteriorated further. I agree as a short term trade there could be some value, but as a medium to long term investment position, its not for me. I also find that companies who manipulate their accounts so heavily are trying to hide/distort the underlying value of the business.

Best wishes,
Imran.

Sutherland

So do I for my sins. I think Paul says it all. Signs of problems have been apparent for some time and I am puzzled as to how they achieved such a strong Stock Rank. One of the problems is over reliance on a house broker. At this point I think I will hold on and hope somebody can exploit the strong balance sheet.

ACounsell

Hi Paul,

Off topic but given your frequently expressed distrust of Chinese companies on AIM what do you think about Osborne's latest overtures re reciprocal stock quotes for UK & China!!

MichaelFBS

Thanks. I am in two minds as to whether to hold or get shot of them but I said I would give them three years and I am half way through that so I think I will sit tight for now.

hayashi22

23rd Sep '15

Excellent comments on Pittards which have just picked up. It is a serial disappointer which needs new management.
The VW scandal is fascinating in a gruesome sort of way. Has anyone come across a list of possible winners/losers linked to this?. I was looking at Johnson Matthey as being maybe oversold on the back of this, but then saw a piece saying it might be the end of diesel cars in Europe. interesting times.

Rusty2

Paul, thanks for the Porta Communications (LON:PTCM) comments, I tend to agree, think this year will be key with the new acquisitions on board, I halved my holding when the sp went over 10p.

WDWombat

24th Sep '15

Asos and Boohoo - I hope I am posting this in the right place! This is from a friend of mine who is also a professional fund manager. We have talked before about the differences between Boohoo and Asos (which I believe he owns in his fund). I lifted you paragraph on Asos, branded goods and margins. Here follows his response.

We don’t claim to know Boohoo’s supply chain inside-out, but we have met them and asked about it.
They source directly with the UK-based textile factories (in particular, the Founder had close personal relationships with a cluster of small textile companies in Leicester). This gives Boohoo speed and flexibility for testing out new designs and starting short production runs….and yes it also cuts out the wholesaler margin. This is a nice business for the UK but it’s not scalable for going International. The company admitted it is now trying to establish supplier relationships in countries like China which will reduce its speed-to-market. In effect, they are trying to move towards the ASOS global supply chain model, but we think they will struggle because ASOS has 7x the revenue scale of Boohoo.

We would also correct some inaccuracies in Paul Scott’s piece.
1) 50% of ASOS clothes are actually ‘own-branded’ and they earn a 60% Gross Margin on these clothes (same as Boohoo’s own brand).
ASOS also sell branded clothes at a Gross Margin around 40%, and this is all incremental profit. Selling branded clothes brings further advantages: popular brands attract more traffic to the ASOS website (reducing the average cost of marketing) and results in scale economies (reducing the average cost of warehousing and delivery per item of clothing shipped).
2) The structural costs of a pure e-tailer are significantly lower than a bricks & mortar retailer operating hundreds of stores. As ASOS’s scale builds over time and it cuts down on growth investments, EBIT margins should tick up from 4% towards a long-term level of 10-15%. For comparison, H&M’s margin fluctuates between 15-20% despite their higher cost structure.
One final thing. When comparing the ASOS ‘own brand’ vs Boohoo, please note they are not direct competitors. Boohoo aims more for teenagers at the younger end of the spectrum, whereas ASOS really targets 16-30 year olds. There is room for them to co-exist.

Adastra

25th Sep '15

Hi Paul, Regarding the d&a which was £1.4m in the first half, this consists mostly of amortisation on acquired intangibles (client lists and brands) which would increase after doing the three acquisitions last year. The conservative policy Porta have taken regarding acquired intangibles should be welcomed by shareholders because the quicker acquired intangibles are written off, the more the impact is reduced of a potential impairment event.The d&a is obviously a non-cash item, like share based payments for example, and really should be added back to PBT to determine the true underlying financial performance. Adding back £1.4m of d&a to the £1.1m loss and flowing through the £0.5m ebitda exceptionals results in an adjusted pbt of around £0.8m.
Costs may have increased but most of the cost increase came from the acquisitions that were consolidated for a full six months for the first time. Other cost increases came from businesses that are also growing the top line as well as the bottom line. And of course the jump in d&a as a result of the acquisitions also added to the cost increase.
I expect Porta to continue to drive up EBITDA whilst driving down costs as indicated in the interims. H2 should see another significant improvement as legacy costs fall away and D&A reduces. The picture for F/Y 2016 looks rosy given the increasing fee income and streamlined operations around those businesses showing best growth.

dodge1664

28th Sep '15

I was interested in BOO until I discovered the large number of poor customer reviews of the company on the internet. The reviews generally centre on poor quality and poor customer service. That and the MD's penchant for flashy sports cars is enough to put me off!

But do poor reviews affect the share performance, I was similarly put off by very poor reviews of Howden Joinery (LON:HWDN) but the shares have done well. Actually on Trustpilot Boohoo.Com (LON:BOO) does quite well from 115633 reviews it scores 7.7, Howdens scores only 3.5

I've always had the suspicion that many of the review on Trustpilot are fakes - see
http://www.theguardian.com/money/2013/jan/26/fake-reviews-plague-consumer-websites

Its always possible that BOO may make a lot of money in spite of these shortcomings, but I would expect a "value" end online retailer with poor customer service to run into trouble sooner or later. They need repeat custom and recommendations - quite the opposite seems likely to me.

The comparison with Howden is interesting, but imperfect. People buy a fitted kitchen a lot less often than they buy a shirt.

I take your point about fake reviews however if there are over 100,000 I think its less likely than if there are less than 100. Yes they are different types of business I agree. And Howdens is more for trade than the public.

I do hold Boohoo.Com (LON:BOO) I'm not sure about long term but will see the figures tomorrow and see what happens, so far they have done quite well. I know Paul is quite keen on them and he has worked in that sector.

cig

Fake reviews of that kind are cheap: for a full time reviewer it takes a few minutes of their time, and they're on low third world wages, so well below a dollar per review I would guess. So if someone decides to do it, they can as well buy enough to drown their real customers' bad reviews. Buying tens of thousands will easily fit within the marketing budget of a company that size. But has Boohoo really resorted to what is effectively fraud? It would be a bit surprising to me, but who knows.

1st Oct '15

I suspect that what happens at Trust pilot is that they are terrified of being sued, so bad reviews tend to get removed. Also, companies only encourage satisfied customers to submit a review. This alone might be enough to skew the ratings significantly.

Don't understand that there are plenty of bad reviews. I have put reviews on that site, never had them removed. Some company sites do not add bad reviews. Just looked at company and its scores 1.7 with 63% getting 1 star.

peterthegreat

24th Oct '15

Yes Howdens is an awful company for consumers so it is not suprising they get lousy reviews. I should know as I had to take them to court to get my money back for a fridge that failed early in its life. However their business model is remarkably good (though unethical) as they effectively supply consumers without the consumers having their normal legal rights if a product goes wrong. This is because it is the builder who actually buys from them and installs your kitchen so the builder has the contract with Howdens, so when your fridge or other kitchen product goes wrong you have to contact your builder to take them to court (builders will not do that). The rule is to make sure any item purchased from Howdens is made with your own debit card so you have a contract with Howdens. Despite what they say about being trade only, this is possible as I have done it at one of their branches. However I would not dissuade anyone from buying the shares as the company appears to be conservatively run and its ability to suppy consumer products via builders is a really good ruse for circumventing the Sale of Goods Act, which I am sure helps explain why the profit margins are so good as it can effectively forget about normal standards of aftercare for customers.

Small Cap Value Report (22 Sep 2015) - BOO, RGS, PTD, PTCM

Volkswagen

Boohoo.Com (LON:BOO)

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Paul Scott

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