Small Cap Value Report (4 Nov 2015) - TRCS, JDW, FEVR

Good morning!

Just a quick report today, as I have to dash into London for a lunch, and then speak at the ShareSoc Masterclass being kindly hosted by IG Index - apparently it's like Fort Knox getting into there, so if you're also attending, don't forget to bring photo ID.

Tracsis (LON:TRCS)

Share price: 417p (down 5.7% today)
No. shares: 26.7m
Market cap: £111.3m

Results y/e 31 Jul 2015 - results look good, on an initial review. Two broker notes have landed in my inbox, both of which say that the performance is ahead of expectations.

EDIT: My interview with CEO & CFO held on 5 Nov 2015 (audio) - is here.

Fully diluted adjusted EPS was up 18% to 18.32p. Looking at the adjustments, as usual, the only one I have an issue with is share-based payments of £623k this year, and £315k. I see this as employee/Director remuneration, so it should be fully expensed when looking at profits and EPS, in my view.

Real profits for me are: adjusted EBITDA of £6,529k, less £724k depreciation, less £623k share-based charges, arriving at £5,182k. Take off a notional 20% tax, and that gives £4,146k earnings, resulting in a rather warm PER of 26.8 times.

Net cash - however, bear in mind that, as usual Tracsis has been decently cash generative - so there's no doubt that its profits are indeed real - and it now has £13.3m cash, or £12.9m net cash if you take off some relatively small hire purchase debt. That's clearly material to the valuation - even the lower figure is 11.6% of the market cap, or 48.3p per share. Enterprise value is therefore about 369p per share.

If you accept the company's definition of adjusted EPS (which is fairly standard, in fairness), then its reported 18.32p EPS equates to a cash-neutral PER of 20.1. That looks about the right price to me, providing the company continues growing.

Overseas expansion - perhaps one of the reasons the share price has come off a little today, might be because there's no firm news on USA sales. There were a number of pilots underway, but there doesn't yet seem to have been a big breakthrough. Overseas sales overall though have grown, so some progress is being made.

Remote condition monitoring - this is the most profitable part of the group, I believe. Sales fell sharply here, from £5.8m in 2014 to £3.0m in 2015. So it looks to me as if other parts of the group must have performed very well, to take up the slack from reduced sales here.

Dividends - are very modest, but rising - up 25% to 1p for the full year, a yield of just 0.24%.

Acquisitions - Tracsis management have a proven track record of making sensible acquisitions. Two more small acquisitions, totalling about £2.6m were made post year-end.

Outlook - there isn't really an outlook statement, but instead the Directorspeak talks more about strategy.

My opinion - I like this company and its management. For now, the valuation looks a little on the warm side, in my view, because forecast growth is fairly modest now. To justify the current rating, or increase it, I think the company needs to be more bold on the acquisitions front - it has the cash, and could reasonably take on some cheap debt too, as long as it's not excessive, to really increase the scale of the group.

The wild card is however overseas sales. If the remote monitoring products, which have done so well in the UK, take off overseas, then earnings growth could accelerate again. For now though, it looks priced about right, or maybe a tad too high, in my personal opinion. The shares have more than doubled in the last two year though, so shareholders will no doubt be very happy.

CEO Interview - please note that I will be interviewing the CEO & FD tomorrow lunchtime. Therefore, if you wish to submit a question (I will ask as many as feasible), the please leave a comment below, or message me through Stockopedia). The deadline is midnight tonight, as I need time tomorrow morning to collate the questions.

Last year's interview (with transcript now too) is here. It's always interesting to compare what Directors said a year ago, and compare it with what actually happened.

J D Wetherspoon (LON:JDW)

This is a large cap pubs group. The reason I mention it is because there is wider read-across from their comments today that wage increases have reduced their operating margin from 7.7% to 6.2%.

The operating margin in the 13 weeks to 25 October 2015 was 6.2%, compared with 7.7% in the same 13 weeks last year. The lower margin was due to increases in the starting rates for hourly paid staff in October 2014 and August 2015, which totalled approximately 13%.

JDW shares are down 4.5% at the time of writing, and the sector is suffering, as I note that shares in Enterprise Inns (LON:ETI) are down 3.6%, which is particularly annoying as I bought some yesterday!

Other sectors which are bound to be affected by higher wages, are retailers (especially supermarkets, which don't have the margin to absorb increases), and any other businesses that use lots of low paid staff. On the other hand, higher wages should feed through to increased demand in the economy - although offset by reduced so-called Tax Credits.

Something to think about again, anyway. I think the winners will be companies that pick up the extra sales to offset these cost increases, but it will put further pressure on weaker players.

Fevertree Drinks (LON:FEVR)

Despite a tremendously high rating, this carbonated mixer drinks company seems to be taking another leg up, with the shares up 11.7% today to 484p on the back of a trading update which looks very strong;

The Board is pleased to announce that Fever-Tree has continued to perform strongly in the second half.  Both UK and international sales have been encouraging, driven by distribution gains which have come through earlier than anticipated in our existing markets.  

Given the strong sales in the period to date, the Board anticipates that the results for the full year will be materially ahead of Board expectations. 

Material usually means at least 10%. So with 9.27p EPS forecast for this year, that implies EPS of over 10p. With the shares at 484p, the rating is clearly astonishingly high, at a PER well into the 40s probably.

Still, if profits are set to continue rising strongly, then maybe it's worth it?

Well done to bulls for running the price up so aggressively. It's not for me.

Right, got to dash. Looking forward to seeing some of you at ShareSoc tonight.

Regards, Paul.

(of the companies mentioned today, Paul has a long position in ETI, and no short positions.

A fund management company with which Paul is associated may hold positions in companies mentioned.

NB. These reports are purely personal opinions, and never advice or recommendations)