Small Cap Value Report (Thu 21 Dec 2017) - Bitcoin, Ground rents, SOS, STY, TFW, BOTB

Good morning, it's Paul here.

It's another quiet day today, with the market winding down for Christmas. There are still some interesting things going on though.

Bitcoin mania

My view on this remains unchanged - that blockchain technology sounds fascinating, and could have multiple, game-changing uses. However, that doesn't mean that Bitcoin, and other crypto-currencies, are actually worth anything. Just because there is a limited quantity of something worthless, doesn't mean that it becomes worth anything. In the long run, once this bubble has burst, I see Bitcoin being worth zero, and is likely to be banned by Governments wanting to stamp out something that is mainly of use to criminals. People say that it can't be banned. Of course it can - Governments just pass laws making it illegal to hold, or transact in crypto-currencies. That seems the likely end game to me, eventually.

Here's an amazing statistic (source: CNBC) - the total market cap of the 1,300 (and rising) crypto-currencies has risen 30-fold in 2017 to $600bn. So this is now one of the largest financial manias that the world has ever seen. Bear in mind that these things have zero intrinsic value. What could possibly go wrong?!

I see that there are manias in individual stocks which claim to be doing something to do with crypto-currencies. Again, another classic sign of a bubble. The same thing happened in the late 1990s - numerous share issues occurred in junk companies jumping on the internet & tech bandwagon. They typically resulted in 90%+ losses for the punters who believed the hype.

Here is a list of UK listed companies which seem to be jumping on the blockchain bandwagon - not exactly high quality companies! I see several opportunistic spivs in that list, which confirms my existing thoughts on cryto-currency mania.

In terms of how blockchain mania is going in the USA - as you would expect - our excitable cousins across the pond are going crazy over it. This short article mentions Crypto Co, which listed, and rose 2700% in its first month, valuing it at $11bn. The SEC recently suspended its shares. Another similar company, Longfin, rose a similar percentage, leading to its CEO/Chairman publicly stating that the rise was not justified.

So, it's all an absolutely classic financial bubble, which is inevitably going to end in disaster - probably fairly soon (in 2018, I imagine), given that we seem to be near peak mass insanity. My gut feel is that this crypto-currency mania feels like the tech bubble in mid to late 1999. That bubble burst in Mar 2000.

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Ground rents

I don't have any particular comments on this, but just want to flag up the issue, which might affect people who invest in property or property companies.

Communities Secretary, Sajid Javid, has proposed a ban on leaseholds on new-build houses, and cutting ground rents to zero for new-build houses & apartments.

It's hit the share price of McCarthy & Stone (LON:MCS) - the retirement housing company - and it issued a response here. It will be interesting to see if these proposals survive the intense lobbying that is surely likely to happen next!

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Sosandar (LON:SOS)

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

Change of accounting year end - a couple of readers discussed this in the comments below, so thought I would add my views, as it's a company I'm taking a close interest in.

Change of accounting year ends always warrant closer inspection. I did it once, in 1996, when an FD, because we were having such a bad year that the figures would have looked awful. So I came up with the idea of extending the year end from 30 Sep to 31 Jan. That way, the resulting 16-month accounting period included two periods of peak Xmas trading, which turned a loss into a profit. Perfectly legitimate, but done for a reason. Nobody seemed to notice, which surprised me. It helped the company survive for another 9 years, and kept over 1,000 people in work, so I have no regrets about doing that. I mention this to illustrate why year end changes should always be scrutinised.

In the case of Sosandar, there is not a problem. The current 31 Dec year end is the historic date for the cash shell which has the listing (called Oregon Gold, then Oregon). Recently, Thread 35 Ltd, trading as Sosandar, was reversed into Oregon. Thread 35 has a 31 Mar year end date - see companies house.

Therefore, it is an obvious and sensible thing to align the shell holding company's year end date with that of its operating subsidiary. The only slight surprise is that this had not already been done, as part of the reverse takeover - perhaps an oversight?

Anyway, it's not an issue, and is a perfectly legitimate change.

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Styles and Wood (LON:STY)

Recommended cash offer - well done to shareholders here - Xmas has come early for you - may your table be groaning with a large turkey (or nut roast for the vegans) and all the trimmings!

The price is 465p in cash, which is a 24% premium to last night's close.

The company has already got 61.02% irrevocables, so it looks a done deal.

The company says it's a fair & reasonable offer, given more challenging macro conditions and a highly competitive market.

I agree - this is a fair offer. It's not just about price, we have to consider liquidity too. I sold my STY shares recently (grrrrr!) through boredom, but also over worries about liquidity. It took me several days just to dispose of a fairly small position - the market was so thin in this share, as is true of many small caps. Therefore, when a liquidity event such as a takeover bid occurs, then larger shareholders are often keen to exit. Price is less important than the fact that the liquidity window has been opened, often for the first time in years for larger holders. If a bid is rejected, then that liquidity window slams shut, and leaves larger holders trapped in the share, possibly for years to come. Hence why it makes sense for larger shareholders to accept this takeover offer.

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FW Thorpe (LON:TFW)

Acquisition - this is only a small acquisition relative to the company's market cap. However, I'm flagging up this deal because it highlights the benefits of holding shares in cash-rich companies. Sooner or later, a surplus cash pile can turn into either a special dividend, buybacks, or an acquisition - all of which create value for shareholders.

So I tend to see surplus cash on the balance sheet as being a hidden asset, sometimes even thrown in for free. Many investors fixate on PER, but forget to adjust it up or down, depending on whether the company has net cash, or net debt (respectively). This can create opportunities for us.

Overall, I like TFW a lot, but the valuation really does look stretched now. It's a good company, but it's not an exciting growth company, yet is priced as if it were. If I'm asked to pay a PER of well over 20, then I'd want to see strong, open-ended, international, organic growth potential, which is difficult to see here.

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Best Of The Best (LON:BOTB)

(at the time of writing, I hold a long position here)

A reader asks me to comment on the announcement last week of tax changes which have impacted earnings. The honest answer is that I'm not really sure. It looks as if the company could be in line for a substantial VAT refund, which could trigger another special dividend. On the downside though, the move to gaming duty instead of VAT is likely to impact earnings somewhat. Although the company may be able to find a way around that, so it may not!

To a certain extent, I see this as a bit of a distraction. The underlying business is trading well. So a profit warning that is due to tax or regulatory change is not as bad as a profit warning that's due to deteriorating trading.

I see considerable value in this company, based on its long track record & reputation. However, I'm somewhat frustrated by management being arguably far too cautious in maximising the potential, instead running the business for fairly modest cashflow. To my mind, this company has the potential to be 10 or 20 times its current size (maybe more, who knows?), but that would necessarily entail shareholders having to endure several years of breakeven, or even losses, as cashflow is reinvested into more aggressive marketing.

I shall be writing to the CEO to suggest that any windfall from a possible VAT refund could be used to fund a more aggressive growth strategy. To my mind, it doesn't make sense to value this company on a PER basis.

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That's it for today. As this will be my last SCVR before Christmas, I would like to wish all readers a very happy & peaceful break with your loved ones, wherever you are, and whatever you're doing.  It's been an absolute pleasure (most of the time!) to write these reports with Graham, and to interact with so many interesting & smart people in the comments section. Thanks to everyone who has contributed, with many excellent comments, which greatly add value to our collective understanding of small caps. Sorry I'm not 100% reliable, in terms of timing, or attendance, but hopefully the good days make up for the occasional off day!

Best wishes, Paul.