Small Cap Value Report (23 Jan 2014) - CRX, BRY, NARS, LPA, PTCM

Thursday, Jan 23 2014 by

Good morning!

Cyprotex (LON:CRX)

This is a new one to me, Cyprotex (LON:CRX) is a ££29.2m (at 12.25p) market cap medical (and other sectors) screening services company, which reports today on trading for the year ended 31 Dec 2013.

It says that trading for 2013 was slightly ahead of market expectations, with turnover up 17% to £9.8m. Pre-exceptional profit is expected to be between £750-850k, up strongly from £326k in 2012, which it puts down to high operational gearing (i.e. high margins on sales & mostly fixed costs).

Adjusted EBITDA is reported to also be slightly ahead of expectations, at £1.5-1.6m. Personally I'm not a fan of EBITDA, unless a business is mature and needs to do very little capex in the future. Otherwise, relying on EBITDA really just means that you're ignoring a whole set of costs, which will inevitably lead to people over-valuing a company. Although it can be a quick proxy for cash generation in certain circumstances.

The market cap of £29.2m looks rather high to me, given profit is under £1m, so that factors in quite a bit of growth. Looking at the Stockopedia StockReport, I see that the average number of shares has increased every year since 2007, at an average compound growth rate of about 9% p.a. So shareholders are seeing gradual dilution there, despite the company being generally profitable throughout that period.

So that probably means the company has been making aquisitions, therefore I would want to check how much growth had been organic, and how much has come from acquisitions. In my view many investors are over-paying for acquisitive companies, thinking that growth has been organic, whereas often it hasn't.

That reminds me of a terrible investing mistake that I made in 2006 or 2007 due to this - I piled into a company called TMN, thinking that they looked cheap for a growth company. It was only when I'd acquired a stake of about £250k that I realised the growth had been through bolt-on acquisitions. The shares almost collapsed in the credit crunch, and I lost nearly all my investment. So another very important lesson, as always, learned the hard way - to properly do the research before committing significant funds, and to cover every angle.

Another important point, flagged in today's statement from Cyprotex, is that they entered into a financing arrangement…

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Brady plc is a United Kingdom-based provider of trading and risk management software to the global commodity and energy markets. The Company combines integrated and complete solutions supporting the commodity trading operation, from capture of financial and physical trading, through risk management, handling of physical operations, to back office financials and treasury settlement for energy, refined, unrefined and scrap metals, soft commodities and agriculture. The Company's business units are Commodities and Energy. Its clients include various financial institutions, trading companies, miners, refiners and producers, scrap processors, tier one banks, various London Metal Exchange (LME) Category 1, 2 clearing members, and other European energy generators, traders and consumers. It offers commodities solutions, energy solutions, credit risk, cloud services, and client services and support. more »

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19 Comments on this Article show/hide all

MrM 23rd Jan '14 1 of 19

Warren Buffett's been very critical of EBITDA:

"References to EBITDA make us shudder — does management think the tooth fairy pays for capital expenditures? We're very suspicious of accounting methodology that is vague or unclear, since too often that means management wishes to hide something." [2000]

"Trumpeting EBITDA (earnings before interest, taxes, depreciation and amortization) is a particularly pernicious practice. Doing so implies that depreciation is not truly an expense, given that it is a "non-cash" charge. That's nonsense. In truth, depreciation is a particularly unattractive expense because the cash outlay it represents is paid up front, before the asset acquired has delivered any benefits to the business. Imagine, if you will, that at the beginning of this year a company paid all of its employees for the next ten years of their service (in the way they would lay out cash for a fixed asset to be useful for ten years). In the following nine years, compensation would be a "non-cash" expense – a reduction of a prepaid compensation asset established this year. Would anyone care to argue that the recording of the expense in years two through ten would be simply a bookkeeping formality?" [2002]

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kevanp 23rd Jan '14 2 of 19

Hi Paul
I think you inadvertently stumbled on the one flaw in the system of using a £ sign in front of a company's ticker moniker, when you gave the value of LPA (LON:LPA) as 10m pounds! 10M is obviously the ticker for Memorial Production Partners.

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lightningtiger 23rd Jan '14 3 of 19

Hi Paul, regarding your comment with bolt on acquisitions with TMN being a disaster, I saw a small company called COMS on Bloomberg that is acquiring lots of companies in the IT sector. It appealed as a growth company with potential, so I decided to buy some.
Revenue estimates for 2013 / 14 /15 are 1.62 / 11 / 39.8. Profits : - 1.23 / -0.3 / +1.4 Hopefully this small company should succeed. Be glad of your thoughts on it Paul.
Cheers from Lightningtiger

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cig 23rd Jan '14 4 of 19

"Technically pension fund trustees could push a company under if it wasn't paying in the required funding, but in normal circumstances they won't, as killing the goose that lays the golden eggs is not usually a clever thing to do."

They could though legitimately take over the equity in exchange of a reduced formal pension liability, which is actually a clever thing to do as it doesn't as such damage the business -- indeed it makes the balance sheet more predictable by replacing an open end liability with equity --  while giving the pension fund more of the upside in a recovery. It seems to happen on occasion in the US, though it seems rare in the UK so far (anyone heard of a case?). Of course it's not so good for incumbent shareholders to be wiped out.

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oldnotbold 23rd Jan '14 5 of 19

Hi Paul, the situation at Cyprotex is truly shocking. It is a highly acquisitive little company that seems to have been 'con'vinced by a private equity firm into a redeemable loan note at a rate of 5%, where the redemption price is the higher of 6p or the share price. At 12p (the price at the start of today), their additional repayment liability (not a book accounting exercise, but a real payment required in 2018) would be an additional £7mn on the original £7mn of debt. Given that the company made a pretax profit this year of about £0.8mn this loan note will swallow all the profits for the next few years. This note was issued without shareholder approval. I haven't seen something so egregious since the Korean small caps got whacked with accumulators they didn't understand in 2007. Cyprotex is now in the crazy position of benefitting from a lower share price. In American parlance, 'go figure'.

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bicboy100 23rd Jan '14 6 of 19

Paul re LPA and pension statement I think they are trying to say the following.

It received income of £113,000 + the £100,000 contribution by the company, which comes to £213,000 added..
However there was an actuarial loss of £205,000, which makes the net gain of £8,000.
Hence why 2012 shows a surplus of £952,000, against 2013 showing £960,000 ie £8,000 increase.

They then explain the £205,000 actuarial loss as being made up of.
1. Loss £395,000 due to a change in the way they were calculating future returns. Clearly they have reduced percentage return's expected in future years. So that's probably a good thing.
2. £44,000 loss due to experience loss on liabilities (whatever that is)
3. A gain of £234,000, due to investment returns higher than predicted.

Which comes to the £205,000 mentioned earlier.

Hope that helps.

I agree its a tricky one to value currently, as I've been trying this morning. I hold quite a few and decided that after deducting the one off property sale it's at about 5.3ish eps so at 75p on open thats 14ish PER. Given the outlook statement and record sales in December and good January, I think there is more upside potential, than downside here, so have decided to stay in and see what happens at next reporting point.

Cheers Lee

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kevanp 23rd Jan '14 7 of 19

re Porta Communications (LON:PTCM): bloody hell! That counts as some special situation!

Piotroski 0, Altman Z2 -2.51, Magic Formula E-

Not one for orphans, nor indeed widows. I shall watch with interest from the sidelines.


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cig 23rd Jan '14 8 of 19

In reply to post #80856

"£44,000 loss due to experience loss on liabilities (whatever that is)"

Existing pensioners not passing away as diligently as expected, I would think.

Also is it a closed scheme? Maybe it's one of the few remaining live schemes, which could explain a contribution while in actuarial surplus.

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bsharman 23rd Jan '14 9 of 19

I wonder at what price Mike Ashley has set to buy more of Debenhams with his option?! Isn't this an easy way for him to trade.... For example - he has an option to buy at say 68p - the price falls to 68p, Mike Ashley buys £10million - the RNS comes out and as per last time the share price rises to reflect the increased buying on the back of Mr Ashley, say the price rises to 85p again - and then he sells.... makes a big profit (again). Am I being to simplistic?

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Paul Scott 23rd Jan '14 10 of 19

In reply to post #80857

Hi Kevanp,

None of that matters!
Porta has only been trading for about a year, and is a fast growth mixture of small acquisitions and start-up PR/marketing companies, with very experienced management. So this historic figures & ratios don't really tell you anything. It's all about current & future trading, which look strong, based on today's update.

Cheers, Paul.

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kevanp 23rd Jan '14 11 of 19

In reply to post #80866

Point taken Paul. For all their irrelevance I was I just rather amused by the Stocko signals on this one. They show, btw, data going back to 2006. Was that a different business under the same name?

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Damian Cannon 23rd Jan '14 12 of 19

Porta's something else isn't it? I had a browse through the RNS archive back to 2006 and this is a company with more name changes, NOMAD swaps, business reorganisations and share placings than you can shake a stick at. It's quite fascinating in a funny way.

I mean the first company floated on AIM and burnt out (totally) within a year, then the shell got rescued and ended up buying a foreign company. This seemed to work for a year or two until it didn't at which point it got dumped and everything changed again. Then they tried to buy some more companies, got sued, issued some more shares, resolved the litigation, bought more companies and so on.

I get the point that this past history isn't strictly relevant to the future of Porta but wow. This company, in its various guises, has been a right disaster for shareholders. I just hope that it works out for you Paul and wish you the best of luck on this one. Could be a wild ride!

Blog: Ambling Randomly
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intuitive6191 23rd Jan '14 13 of 19

The announcement that caught my eye was this one in July 2011 when there was a change of management. The CV of the finance director made interesting reading.

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Paul Scott 23rd Jan '14 14 of 19

In reply to post #80870

Hi RandomAmbler,

If new management is brought into a cash shell, refinances it & embarks on completely new activities, then the previous history of the limited company is irrelevant, providing there are no lingering liabilities.

So in my view the correct way to view Porta is simply as a start-up that used an existing Listed cash shell. It happens quite a lot, as there is a ready-made Listing & shareholder base, and often some tax losses that can be used if the new activity is sufficiently similar to the old one.

You seem to be tarnishing Porta with whatever that shell company used to do under previous management, but I would say that's a mistake, as it has no bearing at all on the current situation - which is a fast growing & profitable group.

Broker consensus is for a loss of £0.86m in 2013, and a profit of £3.44m in 2014, which is consistent with today's trading statement stating that the run rate of EBITDA is currently £4m p.a.

So it looks as if they are already trading at the required level of profitability to hit forecast for 2014, yet it's a rapidly growing group - so there's surely a chance they could have moved on further by the end of 2014.

Consensus EPS forecast is 1.8p, so at 17p that puts them on a forecast PER of 9.4 - looks GARP to me. This sector is all about management with experience & contacts, and that's the attraction of Porta. It was flagged up to me last year by someone in the sector, but I wasn't prepared to buy the shares on a wing & a prayer. However it went on the watch list. And today there was firm evidence & figures to support the valuation, so I took the plunge. DYOR as usual!

Regards, Paul.

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Damian Cannon 24th Jan '14 15 of 19

Hi Paul,

Thanks very much for your reply. I totally get your point that the past history of the company isn't directly relevant to its current incarnation. However I couldn't help but be reminded about how often these type of jam tomorrow stories don't play out to the benefit of anyone but the directors.

Which isn't to say that Porta won't make it and on the basis of the trading statement there's every indication that David Wright will achieve the transformation that he was brought in to do. So I can see why you're taking a punt but too many burnt fingers in the past make me too risk averse to consider joining the party!

Cheers, Damian

Blog: Ambling Randomly
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cig 24th Jan '14 16 of 19

In reply to post #80876

Porta Communications (LON:PTCM) was a bit tempting but then I keep coming up with possible negatives:

- The first 3m of net earnings are earmarked for the chairman via his 2016 note (which if paid will enhance the equity's position, but in the meantime shareholders won't see them).

- The circular about the latest placing has an almost apologetic tone about using it to fund a posh office, probably too posh if they feel like apologising about it.

- The thing about "start ups" I'm not sure that in this industry there's much of a difference between acquiring people in an existing structure whose entire value is their people and a stapler, or acquiring the same people and putting them in a new structure with a new stapler, so it could be spin.

- The CEO gives the impression to be in late midlife stage where you have enough money not to care about getting more but are having fun doing empire building, whose profitability might be secondary to the prestige aspects (good for him though).

- The CEO options are based on an EBITDA hurdle which is pretty easy as he can just spend what it takes to get it as long as he finds new takers for placings or debt, regardless of economic viability.

- I've read in Paul Scott's report at Stockopedia that momentum/speculative companies may experience fierce corrections during even moderate market turmoil, and it may be one of those he had in mind (in which case waiting for a dip might be worth it).

That said it may as well be the next WPP (LON:WPP).

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intuitive6191 24th Jan '14 17 of 19

In addition to Cigs points I would also note that the free float looks a bit close to 50%. It's not clear to me if the directors and owners of the business (or people connected with them) are in control of more than 50% of the shares.

Also multiple aquisitions with different year ends etc make it a little more difficult for the private investor to fully understand where the business is at any one time.

Taking all these points into consideration any private investor would be totally reliant on the integrity of the management.

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Paul Scott 24th Jan '14 18 of 19


I think you're over-complicating things. Porta Communications (LON:PTCM) is very simple - backing a highly experienced management team to use their experience & contacts to rapidly build a successful marketing group, and that seems to be very much what they are doing, judging by the most recent trading update.

I think it's remarkable that they have created something that is already making £4m of annualised EBITDA in just two years, and they've not spent much money to get there - there's only £6.3m Goodwill on the Balance Sheet for example. If they had entirely bought in that level of EBITDA (as opposed to buying in some, and creating the rest from start-ups), then the outlay would probably have been £25-50m.

As regards the small Placing for the plush offices, actually two thirds of it was for a security deposit payable to the landlord, which you would expect if any start-up business wanted a posh London office, so I don't see that as a negative. To be credible in this space, you need a posh London office, it's as simple as that, so we shouldn't baulk at that. Without it, they won't get the big, profitable client accounts.

This share required a big leap of faith until the most recent trading update. Now, it is clear they are delivering on profitability, so that's why I was prepared to dive in. People businesses are all about backing the right people, who have skin in the game. As shareholders I see us as just along for the ride, but it's moving at quite a pace already, in terms of what they have achieved in the first two years. This is not the type of share to be overly cautious about in my view, as once the value is obvious, the share price will probably be a lot higher.

Regards, Paul.

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Ramridge 24th Jan '14 19 of 19

In reply to post #80853

Good thought, except that company pension funds cannot invest more than 5% of the value of their fund in buying a (quoted or unquoted) company's shares.

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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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