Small Cap Value Report (19 Nov) - RNO, SPGH, MBH, PEG

Tuesday, Nov 19 2013 by

Good morning! Shares in Manchester-based industrial chains business Renold (LON:RNO) have doubled in the last six months to about 41p, driven by a turnaround in performance from cost-cutting. I last reported on this company here on 22 Oct 2013, when they issued a very positive trading update, indicating that full year results (to 31 Mar 2014) would be "substantially ahead of current market expectations". So their interim results to 30 Sep 2013 announced this morning should show a good improvement on last year's H1, which they do.

Turnover is down 1.1% to £95.6m for the six months, but adjusted operating profit is up 42% to £5.1m. That equates to adjusted EPS of 1.1p. The outlook statement indicates that H2 is expected to deliver a similar result to H1, so that means 2.2p for the full year is looking likely. So at 41p that puts these shares on a PER of 18.6, hardly a bargain.

It's even less of a bargain when you consider that this £90m market cap company also has net debt of £22.0m, a whacking great pension deficit of £65.3m, and doesn't pay a dividend. Net tangible asset value is only £0.8m, and this can only be seen as a stretched Balance Sheet, weighed down as it is with high net debt and a large pension deficit.

Opinions are divided on how to treat pension deficits. They are likely to continue shrinking as corporate bond yields rise (which reduces the present value of scheme liabilities), but in this case a rate of 4.5% is being used, which probably doesn't leave huge scope for further improvement? It is not clear from today's results what the overpayment arrangements are with the pension fund Trustees, so I would need to investigate that from their last Annual Report before investing here.

The buoyant share price seems to be driven by expectations of further improvement in trading from additional costs being stripped out, and I suppose perhaps an expectation that recovering economies might generate more demand for industrial chains? It must be an internationally competitive sector though, so this just doesn't strike me as an exciting investment, especially where trading improvement is only being driven by stripping out costs. Not to mention the enormous debt & pension overhangs. It's difficult to see them being able to pay meaningful dividends any time soon.

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Renold plc is engaged in delivering engineered and power transmission products and solutions across the world. The Company's Chain segment manufactures and sells power transmission and conveyor chain and includes sales of torque transmission product through Chain National Sales Companies (NSCs). It has manufacturing sites in the United States, Germany, India, China, Malaysia and Australia. It also offers leaf chain used in the forklift trucks. Its Torque Transmission segment manufactures and sells torque transmission products, such as gearboxes and couplings. It is a manufacturer and developer of coupling and gearbox solutions, from fluid couplings to rubber-in-compression and rubber-in-shear couplings, and a range of worm gears, helical and bevel helical worm drives. It also manufactures gear spindles. The applications of conveyor chain include theme park rides, water treatment plants, cement mills, agricultural machinery, mining and sugar production. more »

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Michelmersh Brick Holdings Plc is a United Kingdom-based company, which is engaged in the manufacture of clay bricks, tiles and pavers. The principal activity of the Company is the management and administration of its subsidiary companies. The Company's segments are Building materials and Landfill. The Company's Building materials segment is engaged in the manufacture of bricks, tiles and building products being principally facing bricks and clay paviors at Blockleys, which is based in Telford, Shropshire; Charnwood, which is based in Shepshed, Leicestershire; Freshfield Lane, which is based in Danehill, West Sussex, and Michelmersh, which is based in Romsey, Hampshire. The Company's Landfill segment is engaged in landfill operations, through New Acres Limited, which is based in Telford, Shropshire. The Company's brands include Blockleys, Charnwood, Freshfield Lane, Michelmersh and Hathern Terra Cotta. Its Blockleys brand manufactures a range of standard special shaped bricks. more »

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  Is LON:RNO fundamentally strong or weak? Find out More »

21 Comments on this Article show/hide all

bsharman 19th Nov '13 2 of 21

Hi Paul, I totally agree that small/mid caps generally do look overvalued at the moment. It seems to me that all commentators are saying exactly the same thing, which therefore makes me think that the market may continue going up in the short term!! I'm concerned slightly with my portfolio because I hold quite a few oil E&P companies and miners and they have only gone sideways (or down) during this bull market. I currently have 20% of my portfolio in cash and will not lower this % until after a correction - which I expect when tapering begins in the new year. What would be your thoughts on resource stocks (I know that this is not your specialty but would be interested in hearing your thoughts) - having underperformed dramatically during the past two years - would you expect these to improve as the world economy improves and grows and as demand for resources increases?

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Tamarix 19th Nov '13 3 of 21

Hi Paul
I agree entirely about the iniquity of the Michelmersh placings. Surprisingly the share price has only dropped 0.5% so far. But a million shares have been sold, so some people out there are taking their profits.

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SingSing 19th Nov '13 4 of 21

Trying to time the market can never work, or at most works through pure luck.

Surely, the key is to look at the valuation and on, at least a 2 years or more outlook, question whether the share has upside (and why) - either capital or dividend yield.

If none, then sell, otherwise it's momentum investing, sorry, I mean, momentum gambling.

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AlanJenkins2 19th Nov '13 5 of 21

Nice article,Paul.I suppose that realistically,placings have to be done at reasonably attractive prices - prices at which there is a high probability of a decent return.Otherwise it might be difficult to drum up money quickly for a company that has suddenly decided that it needs it.

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Paul Scott 19th Nov '13 6 of 21

In reply to post #79247

Hi Sing Sing,

I wouldn't be so quick to make such a sweeping statement that the market can never be timed.
It can. Certainly in individual shares. For example, I watch about 100 mainly small cap shares, pretty much every day, and from time to time it just jumps out of the screen that there is unusual volume & movement on the Level 2, which make it very clear that the price is moving sharply one way or another. If you're quick, you can make money from that sort of situation, and plenty of people do.

I know lots of very good investors who invest mainly for the long term, but also successfully trade around their portfolio, i.e. top-slicing on big moves up, and buying back on dips, etc.

So it can be done, but it's a different skill set to a long term investor skill set, although there is considerable overlap. I find that when a stock I hold rises a lot, then I tend to top-slice because the value is not so compelling, and I often time my sells at a short term peak, and often time my buys at a short term low. Not always by any means, but that does happen a lot of the time. You get a feel for stocks that you watch closely, and it is certainly possible to trade around the edges of your portfolio quite successfully.

Regards, Paul.

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kevanp 19th Nov '13 7 of 21

In reply to post #79249

Hi Paul
Sorry. Level 2?

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danielbird193 19th Nov '13 8 of 21

Hi Paul

You've talked a lot about 'topslicing' recently given the recent run for many small cap shares. Just wondered if you still believe this is good practice for 'small' investors, given the relatively high transaction costs involved in doing so.

For example, my portfolio is in about 15 individual shares / investment trusts. I hold between £1k and £2k of each (closer to £2k for most at the moment, given the recent bull market). If I want topslice by, say, 25% then I'm looking at selling AMUNDI SP 500 ETF (LON:500) worth of stock. Hargreaves-Lansdown charges me £11.95 (nearly 2.5%) for this trade, which seems pretty high to me.

Just interested in any views you might have about how much 'trading' the average small investor should indulge in, given that transaction costs can soon mount up this way. Is it still worth taking that hit to ensure that some profit is realised before the market reaches its peak?

Thanks in advance


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wisley 19th Nov '13 9 of 21

Hi Paul - your comments on the euphoria which seems to pervade the market ring true! I hesitate to ask you to add to the research which you currently share with us, but I wondered whether you were going to comment on the recent statement from Volex (VLX). I suspect that there products are increasingly commoditised, leaving them less and less scope to boost margins and profits.

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kevanp 19th Nov '13 10 of 21

In reply to post #79242


FWIW, I reckon Total Produce (LON:TOT) looks very good value, despite its steady rise since the middle of last year. If it hits the forecast €0.088 EPS for the current year (ending 31 Dec) it will be on a PER of just 9.6 (at the current 72p). A cursory look at the finances on Stockopedia suggests it is quite healthy, though it has net gearing of 40%. It has a Stocko value rank of 95.1, and 73.4 for quality.

Fyffes (LON:FFY) looks slightly lower value, but better quality I would suggest. It has seen a similar rise over the last 16 months, and has almost exactly the same price, forecast EPS, and therefore forward PER. Its 12m forecast dividend yield is slightly higher (2.58% v 2.36%). Fyffes' gearing is the big difference, since it has negative net debt. A study of their respective balance sheets might show why there is this difference. FFY has a Stocko value rank of 87.4, but 85.7 for quality.

I must admit I'm tempted by both of these stocks. Paul, do you have any views?

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Gostevie 19th Nov '13 11 of 21

Hi Paul,

(Note: This is not a dig at SingSing's post, just a general observation.)

When people say things like "You can't do this" or "You can't do that" I think it is sometimes just a euphemism for "I can't do it, therefore I refuse to believe that anybody else can".

I mean, I can't play the violin or speak Spanish but I know that some people can. Hey, some people can do both. Maybe even at the same time! :-)

I personally know people who have made money through timing the market, and also people who have made money by trading using TA alone without having the slightest bit of interest in what the companies they trade in even actually do. It's very difficult and I can do neither but fair play to those people who can.


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SingSing 19th Nov '13 12 of 21

thanks Paul - agree, but as you say, that's a different skill set.

The point I was making inelegantly, was about not trying to time the market for the average investor, rather than the trader.

I was reminded in the above, of a good article by Lord Lee in the telegraph over the weekend -

Biggest mistake I have made again and again is selling winners but holding onto losers. Painful memories !

For the baord - current shares I like are LRM, TOT, FFY, CRE, PTY, ETO, NRR, VNET, CSFG (speculative perhaps) and PCTN

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Camtab 19th Nov '13 13 of 21

Hi Paul,
Sorry to go off piste so to speak. Debenhams which I know you have recently bought. You are positive and this seems to arise from the ridiculous rating on ASOS, fair enough. However when I look at the balance sheet it doesn't seem to meet your normal stringency. Net debt is nearly 3 times net profit. Operating profit has fallen for the last 3 years even though revenues have crept upwards. Operating margin has continually fallen. Sure they have been building their internet capabilities. To boot their goodwill/intangibles are approx 40% of total assets? Just interested in your thoughts if I may?

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pyemckay 19th Nov '13 14 of 21

how important is level 2 paul? I am mostly a ltbh investor but I do a small bit of trading with shares.
I am thinking of learning level 2 trading. from what i have gleaned it can help with timing of buying and selling shares looking at the order book.
appreciate your thoughts on level 2 access.


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Paul Scott 19th Nov '13 15 of 21

In reply to post #79252

Hi Daniel,

In the circumstances which you outline, i.e. holding around £2k in individual stocks, then personally I wouldn't bother with top-slicing, due to the issue you mention of transaction costs being prohibitively high. Although you can get round that issue of minimum commission charges by using a spread betting account, where there is no minimum dealing cost (although SBs do carry other costs, which eat away at any saving).

Although if a stock you held £2k in suddenly went up 50%, then the shares would now be worth £3k, and I could see some logic for selling half, as the commission on that would be 0.8%, which is OK.

This type of consideration is really just where each investor has to work out for themself what is most cost effective for their own portfolio. You can always shop around for the best deal on commission too.

Regards, Paul.

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Paul Scott 19th Nov '13 16 of 21

In reply to post #79253

Hi Wisley,

I commented on Volex (LON:VLX) in the comments section to yesterday's report.

In a nutshell, I thought the interim results were poor, the outlook uncertain, and most importantly I now consider the net debt to be too high to consider the shares low risk. Therefore I had to ditch them, as on reflection they no longer met my investing criteria. The passing of the dividend also pulled away a key support to my investing case.

Disappointing, but there we go. Their turnaround may happen, and the shares may go higher, but for my purposes the risk is now too high, and the outlook too uncertain. I'm not bearish on the stock in particular now, it's just now too high risk for me personally. Everyone obviously has to make up their own mind on if/when to sell, so I'm not in any way giving any recommendation either way here, this is just my personal opinion only.

Regards, Paul.

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purpleski 19th Nov '13 17 of 21

Thanks Paul for another excellent article and my continuing education! As a new and time poor investor I do not have as much time as I would wish to dedicate to research and am struggling to see which stocks I should top slice/sell.

Do you have an opinion on using SUK2 to protect the downside? I am too in experienced to get into spreadbets or options.

@kevanp Naked trader book gives a good description of what level 2 is all about but I have not yet subscribed to a service that offers it as I still don't completely understand the advantage it gives, though I am sure it does!


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cig 19th Nov '13 18 of 21

In reply to post #79263

Not a good idea, daily leveraged ETFs don't behave in an intuitive way and are actually more complicated than options or spreadbets. The simplest (and cheapest) way to actively manage market downside is to increase/decrease your cash allocation. Sitting tight is even better for most people.

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kevanp 19th Nov '13 19 of 21

In reply to post #79263


Thanks for the response to my Level 2 query. I'd yet to come across the term. Now I know more. Here's a very clearly explained article from MoneyAM:


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NS23 19th Nov '13 20 of 21

In reply to post #79267

Great article... thanks for the link, Kevan.


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Leven 19th Nov '13 21 of 21

We need reform to the system. We already have the technology to enable us all to communicate electronically, so it's ridiculous that we still use such archaic processes. When a company needs to raise money, the shares should be immediately suspended for (say) seven days, and an online book built, open to all existing shareholders. All resolutions needed should be done instantly, online again, with the minimum of paperwork required.
HERE HERE - really most placings should happen by auction, just like a prolonged version of the opening / closing auctions. All investors would then be able to participate on a level playing field and companies, in most instances, would probably be better off as they wouldn't have to sell shares at such discounts to ensure success

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About Paul Scott

Paul Scott

I trained as an accountant with a Top 5 firm, but that was so boring that I spent too much time in the 1990s being a disco bunny, and busting moves on the dancefloor, and chilling out with mates back at either my house or theirs, and having a lot of fun!Then spent 8 years as FD for a ladieswear retail chain called "Pilot", leaving on great terms in 2002 - having been a key player in growing the business 10 fold. If the truth be told, I partied pretty hard at the weekends too, so bank reconciliations on Monday mornings were more luck than judgement!! But they were always correct.I got bored with that and decided to become a professional small caps investor in 2002. I made millions, but got too cocky, and lost the lot in 2008, due to excessive gearing. A miserable, wilderness period occurred from 2008-2012.Since then, the sun has begun to shine again! I am now utterly briliant again, and immerse myself in small caps, and am a walking encyclopedia on the subject. I love writing a daily report for on most weekday mornings, constantly researching daily results & trading updates for small caps. Cheese! more »


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