Small Cap Value Report (12 June 2020) - IQE, AIR, WAND, GAW
Good morning!
The FTSE is back around 6000 after a rough session yesterday (down 250 points, or 4%) and more weakness this morning. This comes after the Federal Reserve indicated that the US economy would shrink by 6.5% this year, before returning to growth in 2021.
According to the ONS today, the UK economy contracted by a massive 20% in April, so that the overall economic contraction from lockdown is now c. 25%. It is hard to find comparisons in history for such a sharp and deep fall.
The VIX, the Fear Index which I keep a close eye on, continued its rebound and climbed by 50% to 40 yesterday. Fear remains elevated (for good reasons, I guess).
But there are strange discrepancies. Some of what I'd consider the most speculative stocks remain ebullient - Tesla ($TSLA) at $970 (market cap $180 billion), for example, but there are plenty of others, where confidence is high.
You have a bankrupt company like Hertz ($HTZ) whose market cap reached $700 million a few days ago (now lower). Hertz has even applied to issue $1 billion in new equity, which it could use to settle some of its debts. Many of the recent buyers of Hertz stock may be about to learn their first painful lesson in the stock market.
So it's a weird market - you have a terrible recession (depression?) on both sides of the Atlantic, you have lots of extremely scared investors hedging their market risk and buying up portfolio insurance, but you also have nosebleed valuations for some of the most speculative tech stocks and even for bankrupt companies. I suppose nobody ever said that any of this would make sense.
Some companies I've noticed today:
- IQE (LON:IQE)
- Air Partner (LON:AIR)
- WANdisco (LON:WAND)
- Games Workshop (LON:GAW)
Finished at 2pm.
IQE
- Share price: 48.69p (+23%)
- No. of shares: 796.5 million
- Market cap: £375 million
This manufacturer of semiconductor wafers fell all the way to 20p during the March crash. Wow! I've had an eye on it since 180p, a few years ago.
I'm obviously not the company's biggest fan - see February for my most recent comments, where I noted its arguably excessive/inappropriate remuneration policies.
The share price is up today despite IQE insisting that it can't give guidance for the full year. But there are encouraging snippets of positivity in the update:
- no disruption caused by the pandemic.
- Q1 revenue "slightly ahead of internal expectations" (this had already been disclosed).
- Q2 strong so far (this is new).
- H1 revenues to be up 27% to £85 million.
- H1 to be cash generative with "low single digit adjusted operating profit".
For some time now, I've been arguing that IQE is a capital-intensive manufacturer, possibly with some customer concentration risk, which is unlikely to deserve a rich valuation.
Bulls have argued that its lack of free cash flow has been due to investments in capacity which will eventually pay off at some point in the future. Perhaps that future is finally approaching? Perhaps it is here?
IQE says capex has now reduced:
IQE expects to be cash generative in H1 2020 due to current trading performance, a reduction in capital expenditure following the completion of the infrastructure phase of the Group’s expansion in Massachusetts USA, Hsinchu Taiwan, and the Newport Mega Foundry in South Wales, coupled with cost control measures and working capital management
Net debt was £16 million at year-end and IQE says that this figure has now reduced.
Outlook
The overall smartphone market will be smaller this year than last year, due to the international recession, and IQE expects some "inventory adjustment" in H2 (sounds painful).
Against that, the company expects growth opportunities in 3D Sensing, 5G and in products for the US military.
My view
Today's rally is a sigh of relief from the market, that the awful 2019 for IQE isn't being followed up by an awful 2020 (despite the macro conditions).
People don't tend to change their mind on this one, and I am probably going to be slow to change mine. For a company with equity of £270 million (tangible equity £150 million) at the last count, I think it needs a certain level of profitability to justify itself.
The track record isn't stellar, but perhaps "low single digit adjusted operating profit" in H1 could be the start of a turnaround?
I will acknowledge that most of the air has already been taken out of the valuation. It's not at the egregious multiple to book value that it was at several years ago. And perhaps some level of optimism is justified, now that the big capex programmes have finished.
But given the patchy track record, the excessive LTIP schemes, and the uncertain demand from its smartphone customers (made more uncertain by economic depression), I'm stuck in a cautious mode when it comes to this one.
Air Partner
- Share price: 76.74p (+1%)
- No. of shares: 53.5 million (pre-Placing)
- Market cap: £41 million (pre-Placing)
Proposed Placing of Ordinary Shares
Retail Offer via PrimaryBid.com
Result of Placing of Ordinary Shares
Well done to Air Partner for including retail investors in this process via PrimaryBid.
And well done to it for fixing its balance sheet, without any hint of distress and without massively diluting its existing shareholders (many of whom will have taken part in the placing, I presume).
Last month, I wrote that AIR's balance sheet "could be stronger", but I expected various self-help measures to improve it. I didn't expect it to go down the placing route, but here we are.
Last week, in a further update which now looks like the signal that the company wanted to raise, it said:
there are undoubtedly challenging times still ahead and we continue to monitor the situation extremely closely, while prudently managing costs tightly across the Group to preserve cash and maintain our working capital.
While H1 (Feb-July) was going extremely well, the company was still using £11.5 million of its £14.5 million in debt facilities as of the end of May. And visibility after June was limited - the company does well when there is strong demand for private chartered flights, but the surge of Covid-19 evacuations and repatriations is ending. AIR will need its other services to take up the slack in July.
Replacing a big chunk of debt (caused by an acquisition last year) with equity will keep the wolf from management's door, and allow them to act more aggressively:
the Directors believe it is prudent to strengthen the Company's balance sheet, enabling the repayment of the debt taken on at the time of the acquisition of Redline Worldwide Limited in December 2019 and enabling the Company to capitalise on new opportunities arising from COVID-19 that will help drive organic growth...
My view
It's not a sector that I personally would choose to invest in, but on balance I continue to lean in a positive direction when it comes to this share - the risks might be sufficiently priced in.
An expected underlying PBT of £7.5 million in (H1) the first four months of the financial year, shows what can happen in the busy times. Hopefully, performance will continue to be reasonable in the possibly more quiet times ahead.
WANdisco
- Share price: 666p (-10%)
- No. of shares: 48.2 million (pre-Placing)
- Market cap: £321 million (pre-Placing)
Proposed Placing of New Ordinary Shares
Paul dropped coverage of this data company back in 2018, describing it as "jam tomorrow, loss-making, and hugely expensive". What has changed?
Last night, it reported a revenue decline and increased losses for FY December 2019. Surely a bit late to be announcing these results, in June?
What it calls its "cash overheads" were almost double the revenue figure.
- revenue $16.2 million
- adjusted EBITDA loss $11.7 million
- operating loss $28.3 million
Operational and strategic highlights - like Paul, I can't claim to be able to value this company. It claims that its cloud data services enable machine learning and artificial intelligence - two themes which tend to make it very easy to raise money in this market.
For what it's worth, here are some things WANdisco achieved in 2019:
- product is "deeply embedded within Microsoft's Azure Cloud".
- new services launched providing cloud migration and analytics.
- Partnered with Amazon Web Services.
- $5 million in Chinese contracts.
- Raised $34 million last year.
Fundraise - $25 million has been raised (gross) at 650p, after the cash balance fell to $12 million by the end of May.
Cash was $23 million at the end of December, so the burn was more than $2 million per month.
My view
The deal gives WANdisco the headroom to continue burning cash at this rate for another year.
Hopefully this doesn't turn out to be another jam-tomorrow AIM stock which ultimately leads to nothing for its shareholders. The forecast on the StockReport shows another big loss penciled in for 2020.
Games Workshop
- Share price: 7845p (+10%)
- No. of shares: 32.7 million
- Market cap: £2.6 billion
Please note that I have a long position in GAW.
This games manufacturer (and brand owner, retailer, etc.) is clearly far too big for this report.
But seeing as I own shares in it, and I think several of you do, too, let's check out the update.
The main points are that the factory is working "in a limited capacity", the warehouses are operational, over three hundred stores are open, and trade/online sales orders are being processed.
There are still over 200 stores which need to re-open, as local restrictions are lifted.
Financial impact of lockdown was huge in the company's Q4 (March to May). At one point, it had almost completely ceased trading.
The good news is that "our recovery since re-opening has been better than expected".
GAW is famous for under-promising and over-delivering. So let's not read too much into this snippet, shall we?
On April 28th, GAW said the PBT result for the year would be "no less than £70 million".
It today says the result will be "no less than £85 million" on sales of £270 million.
For context, sales last year were £257 million, and PBT was £81 million.
To get increased sales and profits in FY May 2020, despite shutting down almost completely at one point, is a remarkable result, in my view.
The result has been helped by the pure profit of royalties, which increased from £11.4 million to £16 million.
There is no guidance:
In relation to the future performance of the Group, the board feels that it is too early to know what the continuing impact of COVID-19 is likely to be.
My view
I bought a few of these last year, thinking that they were probably overpriced, but worried that I'd miss my chance if the company continued to perform outrageously well.
They have now become possibly even more overpriced. So I guess I was right?
It's a fantastic company - an IP owner, with a unique franchise, and has generated amazing profit growth from incremental sales and royalty income. Quality metrics are outstanding.
I can't defend the valuation, so I'm not going to try. But I am happier owning a few shares in it, rather than not being involved at all. If it ever becomes "cheap" some day, I hope that I'll have the conviction to back up the truck!
That will do it for this report. Have a great weekend everyone. And Happy Birthday to Paul!
Cheers
Graham
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54 comments
As a consumer I have fallen back in love with Marks and Spencer (LON:MKS) again. Just when Boots and some of the old names were looking tired they seem, to my eyes, to have had a new lease of life in these times.
That's not to say that a brand like Marks and Spencer (LON:MKS) makes the perfect investment, but I think like one of those relationships where a bit of distance or the prospect of never seeing one another again refires desire, they seem attractive again.
I suspect boredom with indoor life and having spare money that hasn't been spent on pubs, nights out, holidays, cinemas etc will be rattling in people's pockets, and the High Street stores will represent some new entertainment appeal. Judging by today's crowds in my home town, and the outdoor markets restarting, the good weather etc will provide at least a strong short-term boost at the least
Hi Graham,
With respect to Games Workshop (LON:GAW) and its valuation, I take a lot of comfort from the incredibly high ROIC, coupled with the potential earnings growth for the company - I assume your valuation concern is from a purely p/e point of view rather than anything operational about this company.
I do understand this p/e concern, however the combination of the ROCE and earnings (largely driven by the ROIC) make me quite comfortable at this level and indeed higher. This can be quite hard to get your head around, but I found the following Credit Suisse research paper What does a price earnings multiple mean really helpful in this regard and would really recommend people give this a read.
A glance at the table on page 10, gives a real feel how high(er) ROIC (above the cost of capital) can really turbocharge what a fair or justifiable level of p/e can be.
Understanding this has helped me purchase a number of high quality companies, which have gone on to consistently increase their value, but which when purchasing always seemed to have uncomfortably high p/e's.
All IMO
Kind regards
Chris
Hi Chris - it's absolutely true that a company with high returns can justify a very high multiple. The maths behind that is 100% sound.
My issue is that I can't really predict GAW's future returns with the conviction needed to justify where it's currently valued. But the company is sufficiently unique that I'm to stay involved. Hopefully that is somewhat clear.
Please do not say 'Well done' for using Primary Bid for retail investors. As an existing shareholder in Avacta, I tried to subscribe for its recent placing. Apparently, as all my system is Microsoft based, it is not possible to use Primary Bid as it is Android driven, whatever that means. I consulted my IT adviser and was informed that it would not be possible for me to download the App.
I gave up on my efforts to subscribe and also lost the will to live. It is a complete racket and as a holder of individual shares, I regard the process as a cheat on current shareholders.
Shame on you for supporting it and shame on managements for agreeing to use the system - it is a disgrace!
Please do not say 'Well done' for using Primary Bid for retail investors. As an existing shareholder in Avacta, I tried to subscribe for its recent placing. Apparently, as all my system is Microsoft based, it is not possible to use Primary Bid as it is Android driven, whatever that means. I consulted my IT adviser and was informed that it would not be possible for me to download the App.
Why didn't you just use a web browser? I found it really simple to sign up and it took less than 10 minutes to complete registration and request an allocation in the Air Partner (LON:AIR) placing. It really couldn't have been more straightforward.
BTW I don't have a smartphone so wouldn't even know where to start with an app!
All the best, Si
Hi Kendal, I'm sorry to hear you had a bad experience with PB. I don't have any association with them, except that I like the principle of letting smaller investors take part in fundraisings.
Best,
Graham
I think you are over reacting Kendal. I don't understand what you mean by 'as my system is Microsoft based.' You don't seem to have a very good grasp of technology and are blaming the company for your own lack of technical knowledge.
It sounds like the PrimaryBid app may only be available to Android users on mobile. Maybe you should google what that means . I run Microsoft windows 10 on my desktop. Three days ago I signed up to PrimaryBid on its website on my desktop, one of the simplest procedures I have ever encountered in the financial online world. A day later I participated in the Segro offer and today the shares arrived in my account. This is one of the best things that has happened to the retail investor in the UK after years of being shortchanged by the institutions as wealth has been transferred from the retail investor to institutions. PrimaryBid was set up 3 years ago and this is its time. I applaud it.
Message from Lord L in this week's Weekend FT "Finally I welcome the partnership between Primary Bid and LSE, which enables private investors to participate in company fund raisings usually only available to institutions.......'
£abf did anyone see the queues in Ireland today to get into Penny's? Absolutely unbelievable. Who in their right mind would queue so long I don't know but one thing this underlines is the strength of primark business model and resistance to online disruption. We've had almost 3 months where swathes of people have had little more to do than shop from home with furlough cash and they still can't get enough of Primarni.
Note: I bought back the position I sold in March today.
Hi Graham
Very amused by your comments re Games Workshop (LON:GAW) where you are long whilst clearly having to suspend judgement on the valuation.
Perhaps a better mind set would be to extend FAANG to FAANGG and work on the basis that Games Workshop (LON:GAW) absolutely dominates its competitive space and is a lifestyle choice for many. Then the P/E looks pretty modest.
P.S. Slightly tongue in cheek.
Thanks for another good article Graham. A minor correction but you said Air Partner expects £7.5m PBT for H1. Actually that's just for the first four months so should be even higher than that already high figure especially as June is expected to be good as well: 'the Company announced a trading update detailing its trading performance for the first four months of the financial year up to 31 May 2020, for which period the unaudited management accounts show an expected underlying profit before tax of £7.5m.
Thanks paraic, I'll correct the article.
Would recommend listening to the Patrick O'Shaughnessy podcast with Jeremy Grantham of GMO for a sane, rational and measured take on the current crisis and the economy going forward. Thanks to @reb40 (of Twitter fame) in case she reads here!
His view on growth is in complete opposition to that given by Mohamed El-erian (who I have huge respect for) on CNBC this morning.
https://open.spotify.com/episode/0TlZGVtHryb03YAlD8FBpP?si=bW3AO02sSNyBr4PEBYFaNw&context=spotify%3Ashow%3A22fi0RqfoBACCuQDv97wFO
https://podcasts.apple.com/gb/podcast/jeremy-grantham-uncertain-crisis-invest-like-best-ep/id1154105909?i=1000477283884
I was looking forward to your views on Photo-me International (LON:PHTM) (which I hold) in Wednesday’s report but missed off due to timings. Any chance you can revisit?
Comments have gone quiet on this one, so for what its worth I finally got rid of my last holding of these, My original reason behind buying their shares was there was a lot of positive news flow getting various governments from around Europe on board with their biometeric photo technology. Which if the rules are changed and this then becomes a requirement then their photo booths look useful again. Until then, they are a majority of their revenues which are in structural decline. I also didn't like the fact they had taken on more debt.
On the positive side, previous to this crisis their laundry business and their latest acquisition seemed to be going quite well. Maybe these can grow to split the revenue more evenly in future?
I reckon it’s a value trap. Never seen anyone go anywhere near their outdoor laundry machines, I think covid-19 will choke off demand for most of their products for quite some time (kids rides, passport photos, coin op outdoor laundry, vending machines}
Another extraordinary week for Primary Bid placings. Air was on offer this morning at almost no discount and quickly closed in minutes. Ftse 250 stock Biff last night and Ftse 100 stock Segro (LON:SGRO) on Tuesday. High flyer Ocdo followed on Wednesday. Segro was at a decent discount and despite market weakness this week, the shares never approached the placing price. The shares are already in my account and are having a strong day.
There seems to be a real appetite for placings and billions of pounds are being raised every week. It seems the institutions think the UK market is cheap and retail investors want to get involved too. The discount helps of course!
Regarding Games Workshop Games Workshop (LON:GAW) I saw that a couple of weeks ago they announced that they are releasing a new edition of one of their core lines, Warhammer 40,000. From previous experience of the hobby this will mean that a large number of players (I think its the most popular game they do) will be having to buy a new rulebook (approx £35 each) as well as assorted updated models, and rulebooks for each faction.
Do people on this site take such fundametals into account and if so how? For example if 1 million people play the game, they will require the new rulebook to stay up-to-date, therefore the result is approx £35m in extra sales?
I think its quite likely we are now to see this type of daily job losses, more like the 1990 recession time. This has to be the very tip of the iceberg?
Hi Graham, when you say investors buying portfolio insurance, what products do you mean, ie put/call ratio etc?
Zara is to close 1,200 fashion shops worldwide. Lufthansa is cutting 22,000 jobs, again worldwide. Centrica is cutting 5,000, Johnson Matthey is axing 2,500 and Bombardier has said 600 jobs in Northern Ireland are at risk. Restaurant Group’s Frankie & Benny proposals would put 3,000 out of work and Heathrow has intimated that 2,500 jobs may be cut. Nissan is cutting 250 and The Times has said it will be ‘saying goodbye to some valued and talented colleagues’.
• BA, EasyJet and Ryanair are cutting jobs. Accountancy firm Grant Thornton is reported to be considering laying off staff. Airbus has warned that more jobs are at risk in the UK than in France and Germany.
• McDonald Hotels Group alongside English Lakes Hotels and Apex Hotels have all begun to consult with staff, the formal step that needs to be taken when large companies wish to sack staff. There are 1,800 jobs at risk at McDonald.
in the modern world the re-hiring process will be easy and just as quick for some of the firms you mention , inventory management is also allot more advanced these days ... personally I see a V shape and beyond , buy the dips, yesterday close was a good opportunity to buy great names! .. there should be a few more opportunities ahead
Hi John, I'm referring to the widespread use of hedging by shorting the FTSE and buying puts. VIX reflects how expensive options are, i.e. how much people are willing to pay to buy puts (and calls). High VIX means it's expensive to buy this type of insurance. G
Thankyou Graham for the answer on put options. I bought Dec puts on the ftse & s&p in April via IG but i am yet to work out if i paid a good, bad or terrible price, the latter I suspect. I continued buying as the market rallied & stopped a few weeks ago. You suggested ig puts before so thanks for those ideas.
In addition there is another 10,000 going at BP - 2,000 in the UK, 9,000 at Rolls Royce (mostly in the UK), 12,000 at BA (as you mention). These are just the tip of the iceberg to be followed by massive job losses across the hospitality, travel, retail, property and many other sectors once the furlough scheme starts to wind down. Before long the daily Coronavirus update will morph into the daily job losses update for those of us who remember the the early 1990s recession when unemployment peaked at 10.7% in 1993. The economy & society in general is in serious trouble and protests, under whatever banner, will be commonplace I fear
Re portfolio hedging the prices of traded put options for a range of strike prices and expiry dates (Aug, Sept, Oct, Nov) has rocketed in the last couple of days almost doubling in many cases. As Graham says this was down to the sharp rise in volatility which saw insurance through a put option get very expensive. It probably also indicates there is a lot of demand for protection given the 'professionals' expectation of another major fall in the markets. Consequently, if my understanding of the literature is correct, and you buy portfolio protection through put options it may not work as expected if you purchase when volatility is high and then falls significantly. Also it could be very difficult, and costly, if you get your timing wrong with regard to expiry date selection and have to keep buying further put options once they expire worthless.. As JM Keynes said 'The market can stay irrational longer than you can stay solvent'!
Graham, has anything crossed your desk re Bioventix (LON:BVXP) dip this morning -5.8% or any blogger views?
profit taking off recent lows I reckon now the stock is in line with trend, southbank research were calling a sell recommendation to its readers
Graham could you have a look at zytronic. ~Revenue down. Your thoughts?
Where is the news about Zytronic (LON:ZYT) ? I can't see any RNS so has something appeared elsewhere in the media? (You haven't confused 12th May with 12th June per chance?)
sorry Graham.confused the 12th may with 12th june
No problem! G
Hi, are you referring to the interims released on May 12? I can't really justify going back to cover that, sorry! G
Looking forward to your thoughts on Air Partner (LON:AIR), Graham.
As a holder with mixed feelings about Air Partner (LON:AIR) I would welcome the entry of institutional (and retail!)) investors who are proactive and strong enough to help push to finish the clean-up after past problems, e.g. by carefully considering improvements to remuneration practices, perhaps also leadership and culture - where I still have questionmarks / doubts. Castlefield's experience was not a happy one, financially at least. BTW, I am very disappointed that the CEO did not participate in the placing.
There is already significant and recently bought institutional interest- Schroder IM owns 13.68%-HLAM own 11.75% and Fidelity owns 4% to name just three. There are others
As a holder with mixed feelings about Air Partner (LON:AIR) I would welcome the entry of institutional (and retail!)) investors
I decided to take part in the placing in a very small way as an excuse to sign up to Primary Bid as this seems to be a growing trend for placings. I was particularly impressed they were chosen for the recent Compass (LON:CPG) placing and so thought it worth seeing how it all worked.
I have to say I'm pretty impressed but I do hope they find some way of integrating more tightly with brokers in future so that you can use available funds in trading accounts rather than a debit card, and also gain access to placings using cash within ISA and SIPP wrappers.
Anyway, I only applied for 2,000 shares and got my full allocation.
All the best, Si
I had a look at adding to my holding in Air Partner (LON:AIR) this morning but did not in the end. The Primary Bid website says that I could take part using cash in my xo ISA but I could find no link on the xo website. Has anyone else had experience of how this route works?
I have received a reply from x-o on the question I also asked here and this is the answer:
"All offers from Primary Bid must be placed and paid for directly with them. When Primary Bid receive the shares they will pass them to the trading account indicated within their clients Primary Bid account.
Unfortunately we are not able to take part in the offers in the way Primary Bid have advised on their website and you did not miss a link. We are working with Primary Bid for the information to be updated".
I'm assuming that today's update from Games Workshop (LON:GAW) is good news with PBT for FY20 to be no less than £85m whereas only as far back as April 28th they ventured no less than £70 million. So on the face of it, this is a big positive surprise. Where I'm scratching my head a little however is that their half year report back in January for the six months to 1 December 2019, they posted PBT of £58.6m so the 3 months of COVID-19 impact on the FY20 figures looks pretty severe. In addition they're offering no guidance "BOARD FEELS THAT IT IS TOO EARLY TO KNOW WHAT CONTINUING IMPACT OF COVID-19 IS LIKELY TO BE." This feels a little disingenuous to me since they now have several months of impacted trading to help them understand the likely impact under various scenarios of COVID-19. It seems safe to say that trading fell off a cliff after March and I wonder if the forecast at the end of April was deliberately overly pessimistic to give today's statement a little shine when the underlying picture is quite severe. Would love to hear other's interpretations.
I wrote this at the time of the half year report:
Not sure I'm reading this correctly but last year PBT at the full year was about double that at the interims. Assuming that's the normal situation you'd have expected around £117m in the full year and as they were tracking normally up until the final quarter they'd have been at around £88m at the end of Q3.
At this years interims PBT was £58.6m and their current estimate for the full year is at least £70m - let's be generous and say £75m. So they've "lost"about £42m in pre-tax profits in three months and, by the look of things, will have actually made a loss of around £10m to £15m in the quarter. That's operational gearing kicking into reverse.
It's a great company and I assume there are a number of one off effects involved in this but at this price things need to normalise fast. Of course, they're not alone in this - there are an awful lot of businesses out there priced to see a rapid bounceback.
Games Workshop (LON:GAW) has a history of underpromising and overdelivering, so I'm not surprised that they've beaten the estimate - and I wouldn't be surprised if they beat today's estimate too. As it stands it looks like they're at breakeven for the quarter with shops reopening - so it's not a bad situation, but the current price looks like a testimony to investor optimism rather than any kind of realistic assessment of the immediate prospects.
Obviously that's not helped by the company not being able to provide forecasts - but that alone ought to put a dent in the price. Even for a company as good as Games Workshop I'd say the current price includes a lot of future good news. I mean, the average customer must surely have internet access - if they were desperate to buy their stuff the fact that outlets were closed wouldn't have stopped them. Would it?
timarr
Speaking as both a customer and holder of Games Workshop (LON:GAW) I can confirm that they shuttered their main factory for about 6-8 weeks and stock across Europe rapidly dried up. That said, there was only really a fortnight or so with no product available online from GW or third-party retailers.
Also, I believe that the majority of the cardboard pieces used in their games is made in China and shipped to the UK. Supply issues could possibly hamper any re-stock efforts.
Superb assessment of Games Workshop (LON:GAW) as always, timarr. I really value your comments on companies and usually find myself in complete agreement
Hi Tim,
FWIW the GAW factory has been shut for most of the last 3 months (?until start June) and their online operation was not doing any dispatching between lockdown and 01May when they started to bring it back on line. So most actual delivery of GAW products since lockdown will have been undertaken by independents, many of whom apparently became very short of stock
FWIW the GAW factory has been shut for most of the last 3 months
Hi shanklin100
It's worth quite a lot, actually :)
Obviously if sales were constrained by supply as opposed to demand then the bounce back would be bigger - you'd presumably have pent-up demand. And, checking back, as you say, it looks like like all online sales were shut for about a month after which they supplied out of existing stock and their factory has partially reopened somewhere between today's update and the one on the 28th April.
Without better guidance it's really hard to know what to make of this - but I would note that their position that they intend to repay government subsidies is both a) a positive sign and b) a morally correct position. It's a very fine company, with a superb culture that starts at the top.
But, still, given the uncertainty it really does look expensive.
timarr
Thanks timarr. Your analysis seems to confirm my own concerns. I'm optimistic that in 5-10 years, all of this will be immaterial as they storm ahead but for the near term impact of this crisis, I wonder if we might see a correction when the true picture emerges.
Hi timarr,
Games Workshop (LON:GAW)
I think your original analysis paints an slightly inaccurate picture in that it doesn't reflect the lumpiness of royalty revenue. If you remove this for H1 you get £58.6m - £10.7m =£47.9m PBT ex RR.
Then to match H1, H2 would require £47.9m (exRR) PBT + H2 royalty (which turned out to be £5.3m) so £53.2m making £111.8m for the FY.
So they've lost perhaps £27m in profitability due to a 6 week complete factory, warehouse and GAW online lockdown with longer closures for their own retail stores. Some independents maintained their online presence whilst they had stocks and were then restocked during May.
They are though pushing ahead with a new 9th edition 40k launch (with another big reveal on Saturday) in H121 which is traditionally the most buoyant release in the cycle so it will be interesting to monitor it's sales process.
Re: Games Workshop (LON:GAW)
I think your original analysis paints an slightly inaccurate picture in that it doesn't reflect the lumpiness of royalty revenue.
Fair point - although the royalty revenues are a two way street. If they aren't predictable then you need to discount the valuation to reflect that.
However, if we remove royalties from the calculation we're looking at a 24% drop in underlying earnings against the original forecast due to the shutdown, which includes (I think) the government support that they're looking to repay. So it's probably a bit worse than that.
On the other hand, between the trading update at the end of April and this week's they've brought forward £15m in revenue. Assuming that wasn't purely expectation management then that presumably is the surge in pent-up demand as delivery reopened - so about £3 million a week, which is seriously impressive. What's unknown is where the missing £27m has gone - is it permanently lost or is it simply delayed?
Going forward there are - presumably - going to be production bottlenecks for a while until social distancing is relaxed and perhaps some restrictions in store (although the local one never seems to have more than a couple of people in it). If they repay government loans then that will also be a drag on earnings. Against that we have the new release, which will drive demand. And, of course, the royalty revenue is (so far) increasing steadily: it's obviously an area the management are handling well.
Regardless, if you'd picked these up at around £35 at the bottom in March you'd have made a good call. It's a great company with a fantastic management team which is always likely to surprise to the upside. I just think the price looks rich at this level given the fairly obvious headwinds. But I could say that about any number of companies. If you were going to pick one that will do well regardless then Games Workshop is probably it.
timarr
Games Workshop (LON:GAW)
Royalty Revenues are on upward trajectory and will continue to rise as the 40 years of accumulated IP is finally exploited but will become more lumpy primarily due to IFRS15 forcing GAW to book minimum income guarantees on signing of contracts. Not quite sure why you consider that this increasing stream of almost pure profit should be discounted because of variations over HY periods. It's risen from virtually zero to £16m over the last few years and shows no signs of abating. Recent AoS deals with FDEV along with TV/Film developments and Marvel tie-ins highlight the ambition.
I think the £27m estimated loss of profitability should be considered lost rather than delayed. Production/distribution was curtailed, UK stores should open shortly but the building, painting & gaming that takes place instore won't start straight away due to social distancing. I'm not sure what will happen to new releases scheduled during the lockdown - some will be delayed and re-introduced later in the year depending on the ongoing game narrative but some may be lost (eg any 40k now superseded by 9th ed release) . It should be noted that during the lockdown Warhammer Community website usage has risen sharply so no sign of hobbyists drifting away.
I can't argue that the current rating isn't rich - I bought in Dec 16 when it was rated on a P/E in the low teens based on forecasts that were clearly going to be smashed but the company has evolved substantially since then with a clear IP runway and a geographical expansion plan. When you compare it's cash generation and conservative accounting to something like FDEV it appears an absolute bargain :-)
Not quite sure why you consider that this increasing stream of almost pure profit should be discounted because of variations over HY periods.
Hi Cockerhoop
RE: Games Workshop (LON:GAW)
I was merely making the point that if you wanted to look at underlying earnings ex-royalty revenues because otherwise I wasn't taking into account the lumpiness of said royalty revenues then you also have to reflect the fact that the aforementioned lumpiness means that those revenues need to be discounted a bit because, presumably, their growth is less reliable. But haven't looked into them - I was just reflecting your comment.
As for the other points perhaps the best thing I can say is that I'm kicking myself for selling out in the early £30's and for not buying back in during the March lows. My only small consolation is that the sale was forced for personal reasons and, frankly, back in March there were so many opportunities it was hard to pick one in particular.
Games Workshop (LON:GAW) is, I think, a prime example of how company culture can be a moat. They have plenty of others, but they always did and never managed to make much of it. Sometimes you need a catalyst and Kevin Rountree has done a fantastic job. And you're absolutely right - compared to a lot of other highly rated companies it's not overvalued.
On the other hand that does rather mean redefining the term "overvalued", but in a liquidity driven market where future earnings growth is highly prized perhaps that's something we all need to come to terms with. Generally I'm preferring to discount anything consumer facing, especially in-store, and discretionary out of (ahem) an abundance of caution.
timarr
Timarr,
You certainly shouldn't be kicking yourself for not buying back at the March lows. I was negatively surprised by the announcement of the complete factory & warehouse closure as had been expecting them to maintain Games Workshop (LON:GAW) online sales - and bizarrely the price rose quite sharply on the announcement as Norges Bank looked to take a stake. As you suggest there were plenty of battered stocks out there to choose from.
I'd agree KR has been a catalyst, I think previously under Tom Kirby's influence they were very suspicious of losing control of the IP whilst now you can buy the tshirt, canvas print, play the computer game and soon be watching the TV series, reading the Marvel produced comic and trying to get out of the Warhammer themed Escape Room.
I wonder if Pauly succumbed to temptaion and shorted the again Dow yesterday. He'll have a very nice birthday present if so..
Just published Robin Griffiths' Macro Commentary for investors. Robin was the guest on piworld's Thursday webinar, yesterday. Video here. Or, Podcast here.
Robin outlines a very bleak economic period until the end of 2023, drawing comparisons to 1929, suggesting the recent market euphoria is just a bear market bounce, the bottom is yet to be reached. A new economic growth cycle begins from the end 2023, led by China then India. Robin give his view of asset classes and geographies, for investors over the period, and much more detail of the moving parts.
A great listen.
Topical with the current market moves. Although Robin has been saying the same thing for quite a long time!
More about Robin on the Video link.
Fascinating and sober podcast. Robin's advice is clear: we will enter a depression, best to stay in cash and gold until 2023. His reasons: previous business cycles have been disrupted and not allowed to' play out ' because of QE. The current crisis has exacerbated this already precarious position. He points out that weaker and smaller economies are already in depression. The 40 million unemployed Americans suggests that consumer demand will fall. Robin sees a period of deflation and then around 2023 inflation. He makes the point that although there is lots of money sloshing around via the FED the system is still stalling. The federal stimulus will devalue the dollar. His approach is similar to Warren Buffett, sitting on the sidelines with cash. He thinks gold could reach $7000 an ounce. He certainly makes a convincing case.
I think I heard this chap many years ago, saying in a strident way, that the 2009-2018 bull market was a bear market rally.
As SuperForecasters says - write down what these strident people say, and then measure them on their results! I bet the results will be shite!
My morning smallcap tweet:
1Spatial (LON:SPA) Gulf Marine Services (LON:GMS) Hipgnosis Songs Fund (LON:SONG) Works co uk (LON:WRKS) U and I (LON:UAI) Velocys (LON:VLS) £May RM (LON:RM.) £IDS IQE (LON:IQE) Air Partner (LON:AIR) Nexus Infrastructure (LON:NEXS)
1Spatial (SPA) $2.6m US contract. $1.5m of services over first two years and $1.1m of software licences over five years.
Gulf Marine Services (GMS) blocks Seafox attempt to call GM to appoint 2 directors.
Hipgnosis Songs Fund (SONG) considering fundraise and/or borrowing to buy music catalogues.
TheWorks.co.uk (WRKS) will reopen 465 shops next week. Lending talks continue, maintains that co has appropriate liquidity in place.
U+I (UAI) gov't has called in its £500m Embankment scheme, a JV with London Fire Commissioner. Scheme has planning permission. Parties to consider their position.
Velocys (VLS) £0.5m further grant for Altalto waste-to-fuels project.
GAW warehouses are now operational and factory is working in a limited capacity. Most shops open. Recovery since re-opening has been better than expected. Guides FY(May) rev £270m and pretax no less than £85m.
RM (RM.) H1(May) trading: remained profitable. "Remains confident that the resilience of the business and the actions taken to conserve cash, alongside our credit facilities, provide RM with a platform to successfully manage through the current uncertainty."
Immunodiagnostic Systems (IDS) new automated COVID-19 IgG assay gets CE mark, expected to be available for sale by end of June.
IQE (IQE) guides H1(June) rev at least £85m up over 27% and will be cash generative following cost cuts. Q1 rev slightly ahead of internal expectations, Q2 to date has been strong. Production has not been affected by covid. "Liquidity remains strong and headroom on IQE’s credit facilities has increased." Smartphone handset market is expected to decline this year, may be de-stocking H2. No FY guidance.
Air Partner (AIR) £7.5m placing & PrimaryBid offer at 75p, a 1.45% disc.
Nexus Infrastructure (NEXS) £10m placing at 140p, a 15% disc, to capitalise on opportunities. H1 in line.
It's Paul's birthday and the markets cannot handle the pace. TBH Paul is a legendary Viking and the markets never stood a chance. It will be interesting to see how bad their hangover is next week. No doubt Paul will be fine after a decent cooked breakfast. Hopefully the markets will feel the same after a short and very sharp shakeout.