Small Cap Value Report (21 Jul 2016) - HWDN, EMR, WIN, TMMG, TSTL, MYSL, AO.

Good morning!

Some interesting macro stats/comments this morning from the Bank of England, in its monthly Agents' Summary of Business Conditions. Key points;

• Unemployment rate fell to 4.9% in 3m to May, lowest level since 2005, and employment also at record levels (although obviously this is pre-Brexit).
• Average earnings growth is going up, boosted by Living Wage, and is currently +2.3%. Although note that there will be an offsetting impact from reduced Tax Credits.

Post-Brexit comments;

• Uncertainty- most companies say won't affect capex plans, but a third expect "some negative effects" in next 12m. 
• Little evidence of any impact on consumer spending, although "some reports of consumers becoming more hesitant around purchases of higher-value items".
• Optimism amongst exporters, benefiting from devaluation of sterling.
• Few reports of companies seeking to pull out of the UK.
• A few reports of foreign investment in UK being postponed.
• Prices likely to rise, as impact of more expensive imports is passed on, especially in catering. Retailers feel unable to pass on price rises, and are seeking to protect market share (hence margins likely to come under pressure).
• Demand for credit easing, but banks "appetite to lend had been maintained following the referendum decision".

Overall then, this confirms my view that nothing dramatic is happening as a result of Brexit. Although it sounds as if the economy is likely to slow down in the next 12 months. The jury is out on whether that turns into a recession or not, nobody knows at this stage.

Howden Joinery (LON:HWDN)

So far, this £2.6bn market cap (at 421p/share) joinery seems to be shrugging off the Brexit result, it says today;

·       Howden Joinery UK depot revenue increased by 5.2% in the first four week period of the second half of the year (to 9 July), which included the EU referendum;

·       Referendum result has created uncertainty about outlook for remainder of year, but no evidence of any impact on demand so far;

·       Continuing with plans but remain watchful and ready to respond;

·       Weaker exchange rate would affect cost of goods sold.

That sounds pretty bullish to me. It suggests that housebuilding & refurbishment is continuing as normal. Although I suppose there could be a time lag for any downturn, because a half-done property project is not going to be abandoned before completion.

Empresaria (LON:EMR)

Share price: 90p (up 6.5% today)
No. shares: 49.0m
Market cap: £44.1m

Half year update - I recorded an interview with the CEO & FD of this international staffing group last week - here is the link. Today's update is reassuring;

Empresaria has continued to perform well, highlighting the benefits of a multi-branded group that is diversified and balanced by geography and sector, and can confirm that it remains on course to meet market expectations for the full year.  

This issue of geographic spread is a recurring theme at the moment. It's very much the internationally diversified groups which are coping the best with recent violent forex movements.This is an important point for us to keep in mind in future.

Brexit/forex comments sound fine;

In the UK there was a slowdown during May and June, as business confidence dropped in the run up to the EU referendum, although the impact of this was mitigated by stronger trading across the rest of the group.

Following the referendum, it has stabilised and sales pipelines are holding up well.

Being a globally diversified business, we are well positioned to manage the effects of a slowdown in any particular sector or geography.

 Whilst we are monitoring the short-term outlook for the UK, we see strong growth opportunities across the group and will benefit from the effect of current exchange rates as our overseas earnings are translated into Sterling.

Valuation - the PER is very attractive, but bear in mind that this will have risen to about 7.2, due to the share price rise today (since the StockReport figures are calculated once per day, overnight).

It has excellent StockRank of 98.

However, remember that the balance sheet is fairly weak, with a fair bit of debt. Whilst not a particular problem, this should be factored into how we value the shares.

Also note that highly indebted companies generally don't tend to pay good divis. This is reflected in the Altman Z-score, which is on the borderline between "safe" and "caution" (see graphic below).

My opinion - I like it (but don't currently hold). Management seem sensible, and are doing a good job executing well on their buy & build strategy.

The business model has proven very robust in recent turmoil, which surely augurs well.

Wincanton (LON:WIN)

Share price: 180.7p (up 2.1% today)
No. shares: 123.7m
Market cap: £223.5m

AGM statement (trading update) - trading in line;

The Board confirms that Wincanton continues to trade in line with expectations.  In the period since the year end [PS: 31 Mar 2016], we have secured further significant contract renewals, including the renewal of a distribution contract with Sainsbury's for up to 5 years.

Brexit/outlook comments sound OK to me. This is a fairly defensive business, and I particularly like the comment below about "open book" pricing of contracts - i.e. an agreed mark-up, regardless of movements in price of fuel, etc;

The impact of Britain's decision to leave the EU will be closely monitored by the Board as the political and economic consequences become clearer in the coming months.

As a strong UK and Ireland focused business, we deliver and support the everyday needs of those living in the UK and Ireland from the distribution of food, clothes and furniture to building materials, milk and fuel.

Wincanton has a diversified customer base which spans large sectors of the UK economy, the majority of our contracts are open book and we are not directly exposed to foreign currency movements in our business.

We are a large multicultural and multinational employer and we will continue to value the development and retention of all our colleagues from all nationalities.  Wincanton is a resilient and innovative company with over a 90 year history and we are confident that we will successfully navigate through any changes arising from the referendum result. 

Although bear in mind that volumes of imported physical goods might fall a bit, if exchange rates remain at current levels - because the unit selling price will be higher, forcing consumers to reduce their purchasing volume of things like clothes, electrical goods, etc. So there could be an indirect impact on Wincanton from weaker sterling.

Dividends - I'm staggered that the company is even considering paying divis, given its awful balance sheet;

As set out in our Full Year results, we are proposing the reintroduction of dividend payments with a final dividend for the year of 5.5p payable to shareholders on 5 August 2016 proposed at today's AGM. We anticipate this to be the start of a progressive dividend policy with annual growth broadly matched to the future growth in underlying earnings of the business.   

Balance sheet - is still really weak, although has improved somewhat since a disposal.

Net assets when last reported, were minus £184.3m! That included £90m in goodwill, so take that off and you get to minus £274.3m in net tangible assets! That's just horrendous.

There's a yawning deficit on working capital, plus some debt, and a £105.6m pension deficit. The pension deficit is likely to be getting worse too, with bond yields being so low.

My opinion - it seems to be trading well, and to bve a fundamentally quite good business. However, the balance sheet is just horrific. I couldn't ever invest in something which is in such a precarious financial position.

I'm rapidly running out of time, as I have to jump on a train fairly soon, from Hove to London, for a meeting. So let's change into quick-fire mode!

Mission Marketing (LON:TMMG) - H1 trading update.

• Double-digit growth in turnover & profit
• Net debt reduced to £9.4m
• Outlook comments sounds reassuring, but non-specific
• H2 weighting for profits expected, as before (this makes me a little nervous)

My view - I'm not touching any ad/marketing/PR shares at the moment - this is discretionary B2B spending, which is one of the first things to be cut in a downturn. So share price likely to remain depressed. Remember that there's a lag between confidence falling, and results falling. Will the co still be confident in 6m time, after current client budgets have been used up?

Tristel (LON:TSTL) - a positive update. Share price has risen 7.6% today, to 121p;

For the year ended 30 June 2016 Tristel will record turnover in excess of £17 million (2015: £15.3 million) and pre-tax profit (before share-based payments and unrealised currency gains) of at least £3.1 million (2015: £2.6 million). Both turnover and pre-tax profit are ahead of market expectations.

• H2 - overseas revenues reached a new record of 41% (full year 39%). So should benefit from forex movements I imagine.
• Cash rose to £5.7m at 30 Jun 2016
• Another special divi, but only 3p (as before, in Aug 2015)
• FDA application remains on track

My view - I quite like it, although management blotted their record with a dodgy share option scheme, which left a bad taste. Fundamentally though, looks a good company. Probably priced about right for now, but FDA approval could be future catalyst for another leg up.

MySale (LON:MYSL) (I hold a long position in this share) - trading update for y/e 30 Jun 2016, above expectations.

• Underlying EBITDA £2.82m (vs. £2.65m expected)
• Underlying cash (whatever that is!) of £24.3m (almost a quarter of the mkt cap). Normal cash of £19.2m, still good.
• Revenue up 7% to £142m

Particularly strong UK performance (from a low base though);

The refocus on the Group's core business instigated in early 2015 has delivered particularly strong results in the United Kingdom where revenue grew by 140% over the course of FY2015-16, accelerating to over 200% in the second half.

The United Kingdom trades predominantly under the premium Cocosa brand, which has resonated strongly with consumers, and has been acquiring and converting customers at the fastest and most cost effective rate of all the Group's territories.

There is an enormous opportunity to grow the business in the United Kingdom and the Group plans to increase investment in customer acquisition and grow the customer base.

Bear in mind that Sir Philip Green owns about a quarter of this company, and you can see why it should do well in the UK, longer term.

Brexit - not a problem, as core business is in Asia (mainly Aus/NZ, from memory);

The Group's diversified international operations should be well insulated from any uncertainty associated with the United Kingdom's prospective exit from the EU and in the immediate term the Group will experience a slight benefit from a weaker GBP Sterling exchange rate.

Additionally the Group's core customer offer of compelling, discounted value in branded products should be highly relevant for consumers in tightening economic conditions.

My opinion - I really like it. The share has not attracted a very toppy price to sales rating like ASOS (LON:ASC) or Boohoo.Com (LON:BOO) yet - because it messed up a couple of years ago, flopped as an IPO, and is not delivering stellar growth. However, the very rapid % growth in the UK looks exciting, and is being masked by the more mature Asian business.

N+1 Singer has been appointed joint broker today, so presumably they want to get the share price up - which is fine by me. It doesn't need to raise cash, so no concerns there.

Management are experienced, and I think this share has the hallmarks of a future big winner, IF they can step up the growth, and continue improving margins. I think this share is a vastly more sensible proposition than tiny, heavily loss-making Koovs (LON:KOOV) for example.

AO World (LON:AO.) - if you want to see a bonkers valuation for a low margin internet-based box shifter, then this fits the bill. c.£600m market cap, at 144p per share. Why? It hardly makes a profit at all!

• Today's update focuses on good sales growth (25% in UK), but anybody can generate sales if you sell things at a negligible margin.
• Positive noises on gross margins, and marketing spend.
• I suppose the bull case is that AO is perhaps trying to "do an Amazon" - i.e. hoover up (geddit?!) market share for little to no margin, and thereby become the dominant player. That then leaves scope to raise margins in future, when the competition has been eroded.

My view - I'll pick my moment to short this one again, along with Ocado (LON:OCDO). Both have lousy business models in my view, and are massively overpriced.

All done for today. See you tomorrow!

Regards, Paul.

(usual disclaimers apply - these are my opinions, not advice or recommendations. Pls always DYOR)