Small Cap Value Report (4 Mar 2016) - MONI, G4M, HAT, SGI

Good morning!

Just a small request. Quite often people ask me to look at particular companies that are reporting on the day, in the comments section below. Obviously I can't report on everything, so have to pick & choose which companies look the most interesting each day. So it really helps if, when asking me to look at a company in the comments below, people can explain why they think the company is worth looking at. Not only does that pique my interest, and make it more likely that I will actually look at it, but also it makes the comments section generally more useful, in that other readers can then take a look at the share too, and we can have a more informed discussion on it.

Also, it's handy if people can put the ticker or name of the company they are referring to, in all comments, as sometimes it can be difficult to ascertain which company someone is actually commenting on, where I have covered several in a report.

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Monitise (LON:MONI)

Share price: 3.13p (up 44% today)
No. shares: 2,213.0m
Market cap: £69.3m

Background - this is a special situation, which I outlined here on 12 Feb 2016. It's a fallen star, which is now slashing costs in a desperate bid to stay afloat before the cash runs out. Whether there is any ongoing value in the business, who knows?

Possible disposal - today's announcement is interesting in that it highlights possible hidden value in the group, with the announcement having been triggered by a spike up in the share price.

Talks are at an early stage to possibly sell a non-core subsidiary, called MarkCo Media. I can't find anything at Companies House relating to this company. However, MarkCo's website gives details of the acquisition of the company by Monitise for £24.5m in confetti (Monitise shares) when they were 56p. Ooops, so a really bum deal for MarkCo's former owners. There is also an earn-out, which could lead to the issue of more Monitise shares.

It seems to have been close to EBITDA breakeven back in 2014 when the acquisition happened, so loss-making in proper accounting terms. However, who knows how things have progressed since? It seems to be a voucher, and ticketing type of company.

My opinion - this deal looks to me as if it might be the former owners of MarkCo wanting to buy it back, so that it's no longer tethered to a sinking ship, but that's guesswork on my part. As such the purchase price probably wouldn't be very much, a couple of million quid perhaps? But that depends on how it has traded since becoming part of the Monitise group.

Does this announcement justify a 44% jump in the price of the whole group? I don't know, as no indication is given as to what the sale price might be, if it proceeds. Although my hunch is that the sale price probably wouldn't be very much - voucher companies were a bit of a fad a few years ago, but many have since fallen by the wayside (although I note that Groupon shares have recently shot up).

All in all, I'm keeping half an eye on Monitise, and I think it's possible that a bid for the whole group might occur from customers who don't want it to go under? Although for me personally, it only gets interesting as a complete punt at around 1p per share or below. With so much uncertainty over whether it can survive, and deliver a viable business model at all, then a £69m mkt cap is far too high I think.

When one punts on special situations, it's important to base decisions purely on facts, and not let emotions, especially optimism, come into it. So you really want the potential upside thrown in for free, with the downside risk protected by net cash and/or other tangible assets. I don't see MONI as being in that category at a £69m mkt cap, it's still too high, as it's not clear what (if any) value there is in the group. It would be good to go through the Annual Report, to find out what other subsidiaries the group owns, and then check them out online. There could be some other non-core assets within the group that might be sold off?

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Gear4music Holdings (LON:G4M)

Share price: 141.4p (up 7.5% today)
No. shares: 20.2m
Market cap: £28.6m

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

Trading update - this looks a positive update today, key points;

Very strong rise in LFL sales, at 46%, for the 12 months to 29 Feb 2016, which looks to have come in ahead of broker forecast of 36% growth

This has resulted in revenues and profits for the financial year being at the higher end of the Board's expectations.

Looks interesting. Looking back to the interim results, here are a few comments;

It's selling generic product (musical instruments & equipment), so the gross margins are very low - only 26.5% for the half year to 31 Aug 2015. So this is a box-shifting business basically, through a website. Compare this with the gross margin for online fashion, which are 40-60% - much more interesting.

Lots of competition. I asked a family member, who is a professional musician, to check out the company's website, which he had not heard of before (despite them claiming to be the UK's largest of its type), and he said it looked good, well-designed, with a wide product range. Trouble is, people buy on price, so will shop around for the cheapest deals. That means permanently low margins.

High inventories - a wide product range means you have to hold a lot of stock, tying up capital, but also incurring holding costs due to warehousing, staff, insurance, etc. Not great when gross margins are low. This company has almost 30,000 product lines, so there's lots of risk there, and not enough profit margin to absorb write-downs for slow-moving stock.

Marketing costs - this is the big killer for online retailing. It's easy to set up an online retailer, but you then have to drive customers to it, by spending big bucks on marketing. The last interims show that G4M spent 9.4% of sales on marketing. That's over a third of its gross margin of 26.5%. Having said that, it's marketing which drives the growth, and if you get big enough, you can then out-spend smaller competitors, and hoover up market share. So it looks as if G4M might be on that path, given its strong LFL sales growth.

Profitability - it was still (slightly) loss-making at the interim stage. So nothing to get excited about here, and it makes the company difficult to value.

IPO proceeds of £10m seem to have been used to pay down debt, and buy more inventories, so there isn't much cash on the balance sheet.

IPO risk - we've all seen numerous examples of smaller caps that have gone disastrously wrong within 18 months of IPO. So I am inherently distrustful of IPOs. They're either a time-bomb in terms of something going wrong (e.g. DX Group, Entu), or they're over-priced! Therefore I am extremely cautious of anything which was an IPO within say the last 2 years.

My opinion - I always like to explore the downside case first, before getting excited about the upside, as that helps keep me grounded, and avoids over-paying for things.

Overall, I feel that the market cap of £28.6m is over-valuing the business for where it is now. However, despite this, we hold a few shares in a family portfolio (which I always disclose at the top of each section under a generic disclosure of "I hold a long position....". I might change that to "My family..." actually, to make it clearer, but it's splitting hairs really).

The reason we have a few shares in this company is for the long-term potential. If strong growth continues, albeit at low gross margins (so limited operational gearing), then the company could get preferred deals with manufacturers, to raise its margins, get volume rebates, etc.

We're all creatures of habit too. So if we consistently get good value, and service, from a particular website, then after a while a lot of us stop shopping around, and just go to our preferred website, especially when time is short, or when ordering consumables (such as reeds for wind instruments).

I'd like to meet management actually, and maybe visit their H.O., it would be interesting to find out more about the people & logistics behind it.

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As there's nothing else of interest today, I'll look back at a couple of companies that readers have expressed an interest in.

H & T (LON:HAT)

Share price: 195p
No. shares: 36.9m
Market cap: £72.0m

Results y/e 31 Dec 2015 - for background, I last reported on this pawnbrokers here on 18 Aug 2015 at the interim stage.

Results are pretty good. Actual EPS of 14.9p looks to be slightly below broker consensus of 15.0p, but pretty much in line. The PER is therefore reasonable, at 13.1.

Balance sheet - this remains very strong indeed, so this share really is copper-bottomed. You've got strong tangible asset backing, as well as a reasonable earnings multiple, which is unusual to get both together. That should make this a fairly low-risk investment. So good risk:reward, which is what we investors should be looking for.

The downside of this is that it's not generating a particularly good return from a large net asset base.

Dividends - a generous 67% hike in the final divi to 4.5p, gives a total of 8p for the year, so a healthy yield of 4.1%.

Regulatory risk - this is the biggest potential downside that investors need to think very carefully about. There is a section in the narrative about this.

Outlook -

The demand for small sum, short term cash loans remains strong and by increasing the range of assets it accepts, by expanding Personal Loans and Other Services both in-store and online we are ideally positioned to capitalise on this changing marketplace.

Our continued investment in stores, people and systems has provided a strong platform to support growth.  Current trading is in line with management's expectations for 2016.

I would also like to add my great thanks to those of the Chairman, in recognising all our people whose skills, commitment and enthusiasm continue to drive our success, and who give us confidence in the future.

Valuation - brokers have pencilled in further earnings increases this year and next.

There's no doubt the valuation metrics do look good, providing of course there is no adverse regulatory shock;

My opinion - there's no denying, these figures look really good - it's a nice value share - a reasonable rating, and terrific asset-backing too.

I still haven't managed to bring myself to buy any, over ethical concerns. A friend has basically told me to stop being so silly, as it's better that people use a regulated, above board short term lender like this, in emergencies, than going to a loan shark.

Also, what's the difference between this, and any other lender? They charge more, but that's to reflect higher risk, and the overall results are not profiteering - the overall level of profit is perfectly reasonable.

So I'm warming to it, and can very much see the appeal. Although you could wake up one morning 30% poorer on this share, if a regulatory bombshell is dropped by this, or a future Government, or the FCA. Therefore you could argue that it probably should be on a modest rating to reflect this risk.

The Stockopedia computers love it too - the StockRank is an almost perfect 99.

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STOP PRESS!

Stanley Gibbons (LON:SGI)

There's a holding announcement out today at 3pm re the current fundraising;

Further to the announcement made on 23 February 2016, the Group confirms that it is continuing the process to raise new equity finance.

The level of interest generated further to that announcement and from existing shareholders has been encouraging and the Group expects to be in a position to make a further announcement in the near future.

As previously announced, the Board intends that the fundraising will be executed in a manner that recognises the pre-emption rights of existing shareholders insofar as is possible.

I've been involved in emergency fundraisings before, and basically the big Institutional players can just name their price. So if they want to play hardball, then the discount can be pretty much whatever they want it to be.

Delays are never good news, so I suspect the discount on this fundraising might be greater than people think. 20-25p is my guess, but that is a total guess, I have not got any info, or heard any rumours even.

If pre-emption rights are respected, then it's not a problem - existing holders can just buy more in the discounted offering. But the words "insofar as is possible" above concern me.

In my view it's best for small shareholders to wait on the sidelines in this type of fundraising, just to be on the safe side. Anyway, let's see what happens. I think SGI is badly broken, and wouldn't go near it myself, a real can of worms I suspect.

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Good, I'm done for the day, and the week.

I hope you have enjoyed this week's reports, and found them useful.

Regards, Paul.

(usual disclaimers apply)