Small Cap Value Report (13 Apr 2016) - SPD, KOOV, PFD, WGB

Good morning!

Another day, another clarification statement from Sports Direct. This latest one seeks to justify the property acquisition announced yesterday. This excerpt strikes me as very odd:

...The deal vindicates the Group's faith in Michael Murray, who has successfully played a pivotal role executing the property strategy. This is one of the hottest freehold sites in London, superbly located in the mid-section of Oxford Street to the east of Oxford Circus...

Mr Murray is of course the boyfriend of Mike Ashley's daughter, and is on a controversial deal whereby he receives 25% of the uplift in value on properties he sources. He has little prior experience in commercial property, according to an article in the Telegraph. So this deal is quite obviously a mechanism to enrich an individual, and has little to no commercial rationale. That would be fine if Mad Mike owned 100% of the company, then he could do as he wishes. However, as a listed company, it's just the latest abuse of his controlling shareholding.

Furthermore, I fail to see what value Mr Murray has added. Any fool can go to property agents, wave a chequebook, saying they've got £108m to spend, and hey presto a prime site is found for you.

It's not clear what part of the Guardian article is supposedly inaccurate. Hardly anyone in the private sector finance world reads the Guardian, so in putting out an RNS rebutting this article, Mad Mike has actually just drawn attention to it. Yet another own goal from almost certainly the large company with the worst corporate governance imaginable.

That said, I still think Sports Direct is quite a good business, hence why I personally hold a long position in it.

Premier Foods (LON:PFD)

It's not a stock that I follow, but a reader mentioned it recently.

The bid approach has fallen through - see this announcement today. The potential bidder conducted due diligence, but felt that it was not able to make an offer, saying:

McCormick has, after careful consideration, concluded that it would not be able to propose a price that would be recommended by the Board of Premier Foods while also delivering appropriate returns for McCormick shareholders. 

That's clearly bad news for the shares, and they're down 25% today to 42.5p. It looks as if PFD management tried to get too clever on price, over-playing their hand - see their announcement of 30 Mar 2016.

The trouble with PFD is that it's already loaded down with debt, and huge pension schemes. So that makes it a very unattractive bid target.

Koovs (LON:KOOV)

Share price: 31.2p (up 15.6% today)
No. shares: 44.9m (before fundraising)
Market cap: £14.0m (before fundraising)

Capital fundraising update - it's not a done deal yet, but it sounds as if this Indian online fashion retailer is close to raising up to £30m in additional funding, at a surprisingly good price of 25p. Well done to them, if the deal completes.

Obviously this will dilute existing holders considerably, with the share count going up from 44.9m to 164.9m - existing holders will only own just over a quarter of the company post-fundraising.

Also bear in mind that the company is heavily loss-making, so the intention is to burn up pretty much all of the new money, in trading losses from heavy marketing spend, and other overheads.

Some of the money is also apparently being used to normalise the capital structure - i.e. buy out the large minority interest in the main trading subsidiary. This is very good - nobody likes unusual capital structures.

Once this deal completes, then the company will be safer to invest in, for a couple of years anyway. If it maintains very high growth rates, then investors might start to get excited about it becoming the next Asos - remember that its key shareholder & Director is ex-Asos.

Although it very much remains to be seen whether a viable business can be created from this heavily loss-making jam tomorrow company.

Walker Greenbank (LON:WGB)

Share price: 202.5p (up 1.0% today)
No. shares: 60.2m
Market cap: £121.9m

Results y/e 31 Jan 2016 - this is the luxury wallpaper & furnishings group, which was affected by flooding last year. So the results are interesting to see how it has coped with the disruption, and financial impact.

As I've mentioned in previous reports, providing a company promptly confirms that it is fully insured, including business interruption cover, then everything should be fine. Some investors tend to sell on a knee-jerk reaction to a floor, or a fire. However, this is often a mistake, and it can be a buying opportunity. £PUR was a good example of that, where its factory burned down. The insurance proceeds ended up being a multiple of the market cap, and were paid out to shareholders.

WGB seems to have coped well with the flood, and note 13 to today's accounts confirms that insurance proceeds were received after the year end (it's sitting within debtors at the balance sheet date):

Following the flooding at Standfast, the Group experienced a period of disrupted production and a loss of stock, machinery and profits. After the reporting period the Group has been reimbursed £8,000,000 as an interim payment of which £4,683,000 has been recognised and included within other receivables as at 31 January 2016 to cover the costs of stock and machinery loss and other incremental costs, along with business interruption losses. Further business interruption reimbursements are expected to cover future loss of profits up to a period of two years following the flood.

That sounds pretty comprehensive to me.

The accounting treatment looks sensible to me - the losses of £3.3m (for machinery, stock, and costs) have been offset against £4.7m in insurance proceeds, leaving a net boost to profit of £1.4m, which is their estimate of the loss of profits from business interruption. Therefore the overall profit figure has been smoothed out, to approximate to what it would have been if there hadn't been a flood.

As £8m has been received since the year end from the insurance company, then that means there's another £3.3m to be credited to the 2016/17 profits, for business interruption. Plus the potential for further payouts.

Production looks set to be getting back to normal:

Whilst sales continue to be impacted by last year's flood at Standfast & Barracks the consequential loss of profits will be mitigated by our insurance policy. We remain on track to have reinstated the majority of production at the factory by the end of April 2016.

Also note that machines damaged in the flooding are being replaced with newer, digital machines, with higher output capacity. So an overall gain to the business.

Although a reader pointed out that WGB is now likely to suffer from increased insurance premiums. So the insurance has done what it's there for after the flood in 2015. However, I wonder what will happen next time there is a flood? The company could become uninsurable, or need to relocate to new premises perhaps? I wonder if they can raise the machines up onto platforms, so that they would not be damaged by any future flooding?

Outlook - sounds reasonably upbeat, in the circumstances:

In the first 9 weeks of the current year, Brand sales are up 0.9% in reportable currency, down 0.7% in constant currency, reflecting the impact of the flood and strong comparators last year, particularly in UK contract sales. Brand sales in the UK are down 3.8% in the first 9 weeks whereas overseas Brand sales are up 8.7% in reportable currency, up 4.1% in constant currency.

Our new product launches and contract pipeline mean we are confident of the trading outlook in the year ahead. We are particularly encouraged by the launch of the fourth collection from the Anthology brand, which for the first time includes an extensive range of contract-quality woven fabrics, by the launch of the Woodland Walk collection from Sanderson and by a strong trading start from our wallpaper factory in Loughborough.

Adjusted EPS - has risen from 11.2p last year, to 12.13p this time.

At 202.5p the shares are rated on a PER of 16.7 - which in the context of generally quite high ratings at the moment, doesn't seem outrageous. Probably about right, I'd say.

Balance sheet - overall this looks fine to me. It's skewed by unusually high debtors, which includes insurance proceeds that were paid after the year end, so no issues with that.

Note the pension deficit, which has fallen sharply in accounting terms, to a deficit of £4.3m, but it is consuming a fair bit of cash in overpayments to get the deficit under control. A nuisance, rather than a deal-breaker, I would say.

Dividends - there's good growth here, up about 25% to a total of 2.89p divis for the year.  Good growth, but from a low base, so the divi yield is 1.4% - very modest. There's plenty of scope for that to rise though, especially buoyed up by generous insurance receipts.

My opinion - I like this company, but feel the price is probably about right for the time being.

The share price has traded sideways for over 2 years. Brokers look to have been conservative, due to the flood, so there is scope for the shares to go up - I reckon they could rise to about 250p in the next year, once the rest of the insurance money has gone through the P&L.

For me, 25% upside probably isn't exciting enough to make me want to rush out and buy the shares. It's the type of share that would be on my shopping list if it sells off next time we have a market correction.

work-in-progress - I will be updating this article throughout the afternoon