Small Cap Value Report (10 Jul 2015) - FCCN, RENE, ZTF, KBT

Good morning!

Thank you for all the responses to our first ever SCVR reader survey yesterday - it was an interesting exercise, so I'll do more of these in future. So {drum roll} here are the results (based on the first 100 responses):

Question 1 : Has the market crash in China affected your confidence in UK shares?

So it looks as if SCVR readers have largely ignored the market gyrations in China's stock market. I think this makes sense - it has very little read across to the UK market, except for the resources sector, as one reader commented.

As alluded to in the fantastic picture above, which the Economist put out on Twitter today, and one reader here commented, "China is not a true market, on the way up & down".

Several readers here commented that they see the Chinese stock market as a domestic market, so regard its gyrations as being self-contained.

Note also since the Chinese Govt banned major shareholders from selling, there has been a spectacular rally in the last two days. This is very much the Chinese way - if a free market gives the wrong result, then rig the market until it does what you want it to do!

Question 2 : Is the Eurozone crisis re Greece affecting your confidence in UK shares?

So clearly the Eurozone's problems are seen as much more of a risk to UK shares than problems in China. A significant level of concern is recorded by our readers here.

This poll is almost immediately out of date, as it looks as if overnight the Greek Govt has capitulated, and now seems ready to accept bail out reform terms from the Eurozone.

Reader comments seemed unconcerned about the impact on UK shares of Greece falling out of the Euro, but more worried about contagion (Spain, Italy, etc), and derivatives.

Several readers commented that it has dragged on so long, it's baked into prices already. Some readers also felt the UK was insulated from Eurozone problems to a large extent.

Question 3 : What is your view of the 2015 Budget - in terms of its overall impact on the country?

Clearly our readers have given an overwhelmingly positive (80%) reaction to the Budget, which is interesting as it was a strange mixture of traditional right-wing, smaller state policies, but also interventionist stuff like the proposal to dramatically raise Minimum Wage for the over 25's by 2020.

Unfortunately I omitted to include a comments field for this question, so the voting numbers will have to speak for themselves.

Thanks again for taking part, I will use Google Forms next time, as that doesn't limit the responses to 100 before charging me a fee. The responses on Google Forms were very consistent with the above, so I haven't included them.

French Connection (LON:FCCN)

(I hold shares in this company)

Finance Director leaves - this doesn't look like a sacking, as the FD is moving on to a similar role at estate agents LSL Property Services (LON:LSL) . This looks to me like a move driven by career progression, as LSL is much bigger & more profitable than FCCN. Although the dominant shareholder/founder at FCCN is notorious for being "difficult", my sources in the rag trade tell me. This is the second FD he has lost in the last couple of years.

Cantors say, intriguingly this morning, that they believe this departure is the precursor to another reorganisation at FCCN.

My opinion - this is one of my slow burn shares. I think there is considerable value in the business, as the wholesale/international & licensing operations are highly profitable. This is negated by a heavily loss-making retailing operation. However, the retail leases only have, on average, about 4 years left to run, so the business should naturally become much more profitable as those problem leases expire.

Having looked up the rental on their flagship Oxford Street store, I reckon that store alone must be haemorraging cash, and could be responsible for a lot of the retail division's losses on its own. Yet it is opposite Selfridges, so there is the possibility FCCN could exit that lease at a profit eventually, who knows? Also note that it is very close to the new Bond Street crossrail station, which is likely to greatly shift the flow of footfall favourably towards FCCN's shop unit there.

I have no idea on the timescales here, but in my view there could be a decent payday for shareholders at some point in the next few years, and of course it will be an instant payday - there won't be any time to react to newsflow and buy the shares - so a case of having to be in it, to win it, I think.

There are obviously no guarantees the bull case will play out. It could just wither on the vine, and shareholders end up with very little, we don't know yet. The balance sheet is very strong still, and the founder will want to maximise his pension fund (i.e. his shares in the company), and life's work, so I'm quietly confident on the long term outlook for this share.

ReNeuron (LON:RENE)

Placing - this is not a value share by any stretch of the imagination, so I wouldn't normally comment on it. However, a large, £68.4m Placing has been announced, and it's noteworthy because Neil Woodford's firm (which already holds 26.2% of the company) is taking 650.75m shares at 5p in the Placing, so £32.5m, or nearly half of the total Placing.

This will take Woodford over the 30% threshold where you have to bid for the company, so they are seeking a whitewash to block the need for a compulsory takeover - shareholders need to agree this, and the Takeover Panel already have agreed it. I'm sure shareholders will be delighted that Woodford is giving the company such a big vote of confidence, so there's not likely to be any problem getting that vote through.

This fundraising is a good example of how things should be done for loss-making blue sky companies. Rather than raising money in dribs & drabs, and running the huge risk of the market not being receptive to another fundraising (Synety (LON:SNTY) and Tungsten (LON:TUNG) have demonstrated this point very well in the last year), instead RENE has gone for it, and raised multi-year financing in one go. This is absolutely the right strategy - don't embark on a blue sky strategy unless you have it funded to breakeven & a substantial safety margin built in too.

I wish we could get this point across to City advisers & brokers, so that they ensure all new market entrants are properly funded from day 1. There are far too many companies floated with inadequate funding, and no reserves for the inevitable delays & cost over-runs, and this needs to be addressed.

Of course, raising more money will also mean advisers generating more fees, so everyone really should all be singing from the same hymn sheet here!

Zotefoams (LON:ZTF)

Trading update - there's too much detail, but not a clear enough overview from this update. The company says sales for H1 (Jan-Jun 2015) will be up 8%, and that order books are "strong".

There are various comments about exchange rates and raw materials prices, but without having a detailed spreadsheet model of the business, it's not possible to understand how this fits together.

The conclusion should give a comment about how trading has been compared with market expectations, but it doesn't, we just get this rather woolly comment:

My opinion - I like this business, but it looks pricey on existing broker forecasts, so you would need to be very confident about future growth to justify paying up over 24 times for this year's forecast earnings.

Of course, if you believe that the company is likely to smash forecasts, then it might be cheap. The tone of today's statement doesn't sound as if they're above forecast though, so it's not for me at this price.

K3 Business Technology (LON:KBT)

Update - the company says "broadly in line" for y/e 30 Jun 2015, so slightly below. This is due to under-performance at their Dutch operation, and the weaker Euro having a negative impact.

Net debt has reduced to £12.1m.

I'll comment more when the results are published in mid-Sep 2015.

Right, I have to dash - another investor lunch to drive to!

Have a smashing weekend, and see you back here as usual on Monday morning.

Regards, Paul.

(of the companies mentioned today, Paul has a long position in FCCN and SNTY, and no short positions. A fund management company with which Paul is associated may also hold positions in companies mentioned.

NB. These reports are just Paul's personal opinions, and never financial advice or recommendations. It's up to you to DYOR, and we very much encourage that).