Albemarle & Bond (ABM): Blow-up Time

5th Oct '13 by ExpectingValue

3 comments 6252 reads

Everything exciting always comes at once with stocks, and so it's been with Albemarle & Bond Holdings (LON:ABM) , the pawnbroking company I've looked at in the past - mostly in comparison to a portfolio constituent, H&T Group. I took great pains in my previous post on them to point out the level of similarility between ABM and HAT at an operating level, but it's a ex-operating consideration which has seen ABM's share price completely collapse this week. In that post, I'd said that I thought the market was being too optimistic on ABM's potential results, and that the shares would come down to a level in line with H&T; but my pessimism didn't stretch quite this far!

As ever, it's debt. As I say, the two companies are very similar at an operating level, but at a financing level ABM were more aggressive with their debt usage. I say more aggressive - they had about £15m more in gross debt. Net debt was even higher, but net debt can be a misleading figure if the cash on balance sheet is needed to fund everyday busines operations and keep the wheels turning.

The news

On the 30th of September, then, Albemarle & Bond made two regulatory statements. The first, rather innocuously, was the appointment of a new CEO - they've been looking for a while. The second was the bad news; 'weakness' in the group's core markets, and while profitability is expected to be in line with expectations this year, next year looks ropey. In short - the earnings based covenants on their debt are likely to be breached next year, which effectively hands the playing cards over to the debtholders.

Something of a ray of light came at the end of the RNS, where ABM said that they were in discussions with EZCorp - their largest shareholder, a large American alternative credit company, with regard to their underwriting an equity raising at 50p. Predictably, the share price bombed down to far closer to that 50p level on the news.

More bad news on the 2nd of October, though, and one that surprised me - EZCorp aren't interested in underwriting the equity. This is a real hammer-blow for the business, since it has all sorts of connotations for their viability going forward. Again, the share price collapsed -…

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Paul Scott

5th Oct '13

Hi EV,

That's a superb article, with some excellent insights on the dangers of gearing.

I particularly like this bit from your article, which is absolutely spot-on:

"..it does show what financial covenants do - they represent a line which, when crossed, everything goes downhill from very rapidly. It also does a nice job of showing how deceptive one-point balance sheet figures can be. Companies are obliged to provide us with two balance sheets - one in their interims, and one in their annual report. This tells us nothing about the cash requirements and debt levels between those two dates, though, and gives management room for merrily shifting things around."

I find that the P&L interest charge is always worth checking, to see if it is consistent with stated debt on the Balance Sheet dates - i.e. I tend to apply an interest rate of say 4% to year-end debt, and the P&L charge for interest should be roughly near that. If it's tons more, then that is a good indicator that the company might be heavily window-dressing its year-end accounts.

Doing that calculation prevented me losing my shirt on shares in Game Group a while back - I thought the company was cash rich, hence safe. However, the £5m interest charge on the P&L indicated that it was on average about £100m overdrawn, apart from a seasonal peak in cash inflows just before the year-end!

Anyway, thanks for an excellent article.

Cheers, Paul.

ExpectingValue

7th Oct '13

Thanks Paul,

The point re: stated debt and interest rate charges is a very good one.. I had someone suggest something similar to me last year. I'll make a more concerted effort to remember it this time when I'm curious about a company's presentation of their business - the problem as I'm doing more and more investing is that I have more good suggestions/principles than memory!

Game is quite an entertaining one - I guess they picked their year-end just after Christmas or something, when everything was looking rosy?

Let me also drop this link here:

http://www.valuevista.co.uk/albemarle-bond-post-mortem/

Value Vista has written up a rather incisive view into where the fault lies with ABM's downward spiral.

Lewis

8th Oct '13

Hi Lewis,

Yes, that's exactly right - as with quite a lot of retailers, Game Group had a 31 Jan year-end - timed so that cash balances were maximised. When I used to be a retail FD, after a particularly bad year (ending 30 Sep), I changed the year end to 31 Jan. This not only dramatically improved the Bal Sheet (as it was now timed at one of the few points in the year that the business was briefly cash positive!), but it also meant that the changeover year was 16 months, and included TWO Christmas trading periods (busiest period of the year). I reckon that stopped us going bust, as if we'd reported the original 12 month figures, our creditors would have certainly lost confidence in us.

Actually, that's another good point re Game. It wasn't actually their Bank that pulled the plug, if my memory serves me correctly. The Bank agreed to renew the overdraft, but it was the key suppliers who got cold feet, and stopped supplying Game. Shortly after, it went bust. That took me back to my retail days, when I knew that keeping the confidence of suppliers was absolutely critical, as they all talk to each other, so if they collectively panic over your solvency, and stop delivering product, then you're sunk. It helps if the product is bespoke, which in fashion it is, but with Game of course it was generic product that could easily be sold to someone else, so the suppliers decided to protect their own position first, and turned off supply to Game, meaning that it was dead in the water.

So a good reminder that actually ALL creditors (not the just Banks) are critically important. Trade credit insurers are hidden, but vital too. At one point in time, the company I was FD for had about £2m exposure to the Bank, and when we got into difficulties my main worry was that the Bank would get cold feet & pull out. So I nurtured that relationship very, very carefully, and was successful in keeping them on side. Then it dawned on me that the largest trade credit insurer (called Euler Trade Indemnity at the time) had far greater exposure - of several times that of the Bank, yet had no contact with me at all. They had a tendency to switch insurance cover on & off, with disastrous effects - most suppliers would not deliver any stock, if insurance cover was unavailable. And it sent them into a panic & started rumours we were going bust.

So I made an effort to engage with ETI, and would got to see them regularly to buy them lunch, and generally be charming to them, tell them how important they are to us, do a results presentation for them, etc. And it worked a treat, we kept them onside despite considerable difficulties.

One situation where the withdrawal of the trade credit insurer was terminal was, I think, JJB Sports, but my memory is a bit fuzzy on that. Certainly it has happened a lot for smaller retailers anyway, where the withdrawal of the trade credit insurer tips a retailer over into insolvency, as supply dries up.

So it's always worth checking trade creditor days in the accounts, to see whether a company is stretching its supplier payments. Although most UK businesses contract to pay on 30 days, in reality 60 days is the norm, and you can normally stretch that up to 90 days if you are having cashflow problems. But anything beyond 90 days would indicate a business with serious cashflow problems, and indeed anything over 60 days is likely to be a problem.

Cheers, Paul.

Albemarle & Bond (ABM): Blow-up time

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ExpectingValue

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