Small Cap Value Report (30 May 2014) - CFYN, WSG, HSP, APC

Good morning! A quick whizz through the morning's small cap trading statements & results, as usual. I'll have to finish by 10am this morning, as am off to another investor lunch in London.

 

 

Caffyns (LON:CFYN)

Results from this micro cap car dealership caught my eye first thing. The most striking headline number is that underlying EPS shot up from 37.3p last year to 75.5p for the year ended 31 Mar 2014, a 102% increase! So at 570p to buy at the open that put it on a PER of only 7.5, although I note that the shares are already up 40p to 610p to buy at the time of writing (08:12).

As usual with car dealerships, the profit margin is small, since large turnover is generated by new and used car sales. However car sales are very buoyant at the moment, and it's the follow on servicing work that is the lucrative part.

The total dividends for the year have been hiked 50% to 18p, which is very positive. That's a 3.0% yield based on the 610p per share buying price right now - not bad, considering it's rising strongly.

The main things I don't like are the net debt, of £11.9m, and a pension deficit shown at £11.4m at 31 Mar 2014. The deficit recovery payments are not onerous though, at £358k in the current year, rising 3.4% thereafter, so that looks OK - an irritant rather than a deal breaker.

On the positive side the company operates mainly from freeholds. Can I just say that it may be fashionable to regard freeholds as somehow "inefficient", and I often hear people say, "they're not a property company, so why do they own freeholds?". I could not disagree more! Personally I love freeholds, the more the merrier - mainly because they hugely de-risk investments. Banks will lend against them, even when the business is trading at a loss, so companies with freeholds tend to survive recessions, whereas their more efficient competitors go bust.

Also, why give away some of your profit to a property company? If you lease your property, then every five years the freeholder hikes the rent up (sometimes massively). That's a big drag on profitability over the very long term. So a company that operates from freeholds gets a bigger & bigger competitive advantage over time, as the cost of occupancy relative to turnover goes down rather than up, over the long term.

So often I will offset freeholds against net debt, since instead of paying rents you are paying interest on a mortgage. You also get the long term capital appreciation in the freeholds, again why give that away to a third party? I would much rather that companies I invest in capture that capital gain, on top of all the other benefits of owning freeholds.

Finally, freeholds often provide hidden upside in investments. So you suddenly find that someone bids for the company, based on doing a sale & leaseback of the freeholds, to help finance the deal. Many investors ignore freeholds, so if you invest in companies which have them, you're often getting that extra hidden value for virtually nothing. Why would that ever be a bad thing?!

Therefore, I don't care what anyone says, to me companies that own freeholds make better investments. It also tends to be a good indicator of prudent management, who are less likely to blow up the company.

Note that the freehold property had a net book value of £28.7m at 31 Mar 2013, and in today's statement the company says that;

 

A valuation of the Company's freehold premises was carried out at 31 March 2014 by chartered surveyors CBRE Limited on the basis of existing use value. The excess of the valuation over net book value of freehold properties...was £6.0m. In accordance with the Group's accounting policies (which reflect those utilised throughout the industry), this surplus has not been incorporated into the Company's accounts

 

So that takes the valuation of the freeholds up to almost £35m! Bear in mind that the market cap here is just under £17m at the current buy price of 610p. Net tangible assets were £17.6m, so add on the freehold property surplus of £6m, and you're at £23.6m, therefore the shares are trading at a 28% discount to net tangible assets.

Overall that looks a very attractive proposition to me - a decent discount to net tangible assets, mainly freeholds, and a decently profitable business growing strongly, on a sub-10 PER, plus a rapidly growing 3% dividend yield as well.

Downside risks include a slowdown in the car market when interest rates rise, and higher borrowing costs. The Director salaries look slightly warm to me, given the small level of profitability - the Board cost £885k in 2012/13, which means they took getting on for half the pre-remuneration profit of about £2.1m.

As usual this is not a recommendation, but merely a suggestion for further research. It ticks a lot of the boxes I like anyway, so is worth a deeper look. I'll do more thorough research on it over the weekend, this was only a quick review today.

 

 

 

 

Westminster (LON:WSG)

This is the first time I've reviewed this company's accounts here. Figures for the year ended 31 Dec 2013 are released today - are they serious? Five months after the year end?!! Late reporting is always bad, in my experience.

The P&L is poor, with turnover down a little to £7.4m, and a thumping loss of £1.9m. A breakdown is given for that, working back to £0.8m EBITDA loss before exceptionals, still not good at all.

The Balance Sheet would be alright for a profitable company, but given that this is loss-making, it's weak - with net cash of only about £50k. So who is going to fund any further losses? A small amount of cash (£300k) has been raised post year-end, from a strategic investor. Plus they are using an equity drawdown facility from Darwin, which personally I don't like.

The market cap of £28.6m at 57.2p per shares seems very much out of kilter with the historic figures, which would struggle to justify a valuation of more than a couple of million quid. Therefore people must have high expectations for the future.

The narrative is mainly about future expectations, and refers to a remarkable figure of £11bn as the lifetime value of their prospective customers. Personally I'd want to see the figures showing that it is a viable business before paying up for future growth. There's no sign of that from the historic figures, so it's a bargepole job for me I'm afraid.

 

 

 

 

 

Hargreaves Services (LON:HSP)

Hargreaves is mainly a coal distributor, but also distributes other bulk materials, and operates a few open cast coal mines in the UK (which amazingly, are profitable).

It looks like a mild profits warning. It's rather confusingly worded, as there is no overall group outlook, just by individual division. Three divisions are trading in line with management expectations, but the coal/coke production division is expected to fall short on profit by £3-5m for the year.

That doesn't sound disastrous to me, in the context of £46.4m forecast profit for this year, so perhaps a 10% shortfall? So it's still cheap on a PER basis, very cheap actually. If we reduce forecast EPS from 138.2p to say 125p, then at 791p the shares are on a PER of just 6.3. However, it is almost certainly moribund in terms of coal use inevitably declining.

Therefore it's likely to remain cheap, unless there is a complete change in Govt policy on coal, which is possible - e.g. Germany is building new, cleaner coal-fired power power stations. Dependence on Russian gas is a big issue at the moment across Europe. So I don't know, it might be interesting, but the shares never seem to go anywhere, so I sold mine a little while ago, as I felt the money could be better deployed elsewhere.

This is the problem with investing generally - there's an opportunity cost to leaving money sitting there in something that is dormant. Even if you know it's cheap, if nobody is interested in buying, then it can stay cheap for a long time, meanwhile you miss out on big rises elsewhere. Tricky.

Mind you if you just looked at the track record, and ignored what sector it is in, then this share would be a no brainer! See these Stockopedia historical graphs;

 

 

 

 

Apc Technology (LON:APC)

Interim results for the six months to 28 Feb 2014 have been issued by this small distributor of electronics. It's looked very expensive to me in the past, but has delivered strong interim figures this morning.  Revenue is up 32% to £12.1m, and PBT is up strongly to £761k. It also has net cash of £1.4m.

Looking at the divisional breakdown, the uplift in profit all seems to have come from a subdiary called Minimise. It might be worth looking into, to see if the profit growth can be extended.

 

 

 

Right, I have to dash, off to London. Have a lovely weekend & see you back here on Monday morning. No Bank Holiday thank goodness, I'm sick of them!!

Regards, Paul.

(of the companies mentioned today Paul has a long position in CFYN, and no short positions)