Small Cap Value Report (4 Aug 2016) - PMP, BRAM, ZMNO, JPR

Good morning!

I'm writing this on Sat 6 Aug 2016, to clear my conscience for having missed a day's reporting on Thu 4 Aug. So sorry it's late.

Portmeirion (LON:PMP)

Share price: 905p
No. shares: 11.0m
Market cap: £99.6m

(at the time of writing, I hold a long position in this share)

Interim results, 6m to 30 Jun 2016 - I last reported here on 7 Jul 2016, when surprisingly PMP issued a profit warning - saying that sales were sluggish in S.Korea (its 3rd largest market), and also slowing in the UK. However, management emphasised their belief that the slowdown was only temporary.

In the past, interim figures from PMP have been of relatively little importance, since the overwhelming bulk of its profits tend to be generated in H2 (80% in 2015, and 84% in 2014). This is because some of its top selling lines (e.g. Spode "Christmas Tree") sell heavily in the run up to Christmas. The top selling ranges have annuity characteristics, in that peak sales are highly predictable, as customers add to their collections each year.

Key interim figures;

• Revenue up 2% to £28.5m
• Profit before tax down 22% to £1.4m
• EPS down 24% to 9.87p
• Interim dividend up 15% to 7.0p

Note that Wax Lyrical was acquired on 4 May 2016, so contributed 2 months figures to the group P&L - adding £1.5m in turnover. So stripping that out, to arrive at organic turnover, it was down 3.1%.

Wax Lyrical seems to have been a good, sensibly priced acquisition;

We are delighted with this acquisition and have already made good progress in achieving the integration benefits which we anticipated.

It made £2.1m profit in 2015, so it sounds as if that figure is likely to be higher in 2016. So with an H2 weighting also, this should give confidence in the full year forecasts. It seems that Wax Lyrical will be masking the weaker performance in the core business.

In terms of its markets, the USA is PMP's biggest market, and is performing very well - H1 sales up 10.3% in dollars, and that's up 17.2% when translated into sterling. This is taking up some of the slack from weak S.Korean & Indian markets, and a recent downturn in the UK (2nd largest) market;

...we did start to see a negative effect on wholesale demand from the UK Referendum on the EU towards the end of the half year.

I suppose that's to be expected - given the current economic uncertainty, some customers will probably be erring on the side of caution when ordering for Christmas.

Net debt was £9.7m at 30 Jun 2016 - since the cash pile was used to buy Wax Lyrical, and seasonal stock being high. Management hint that stock is maybe too high?

Our stock balances now stand at an all time high of £20.0 million because of the seasonal working capital needs of the business and as a result of the stock arising from the acquisition of Wax Lyrical. Nevertheless, given our cautious views for the remainder of 2016, it is clear that this is an area for management focus.

Forecasts - the company confirms it should meet revised full year expectations;

...we remain confident that the revised expectations of our full year profits will be met.

To quantify that, broker consensus is currently 56.5p EPS. That puts the 2016 PER at 16.0, which looks about right to me.

Dividends - the narrative emphasises the importance put on divis by management. The forecast divi yield of 3.5% is not bad, and has an excellent progression - rising every year by 10-14%. With another (rather ridiculous, in my view) drop in base rates this week, equities with good, growing divi yields are looking increasingly attractive.

Balance sheet - despite taking on new debt to part-fund the acquisition of Wax Lyrical, the balance sheet remains strong.

The current ratio of 2.48 is excellent.

Note there is a small pension deficit of £2.3m on the balance sheet.

Outlook - management feel that the factors making 2016 disappointing are temporary & fixable;

It was extremely disappointing for us to have made the trading statement on 7 July 2016 which led to the reduction in the full year expectations. The significant fall off in demand for our products in India took some time to crystallise this year, last year we sold nearly £6 million into India and we had reason to believe that similar volumes would be sold this year.

We expect the Korean market to remain difficult for us for the remainder of the year and, in addition, the uncertainty which the EU referendum vote has caused in our second largest market has not yet hit our own retail sales but the orders from our wholesale customers, and their expectations for the remainder of the year, made it appropriate for us to take a prudent forward view.

However, we strongly believe that this is a short term set back and the opportunities in our core markets, together with new target markets and online give us confidence in our medium and longer term growth prospects.

We are also delighted by the early performance and prospects of Wax Lyrical following its acquisition. The combination of our brands, heritage, quality standards, people, production facilities, logistics and designs is without equal in our markets.

My opinion - I have liked this company for years now, and despite its recent slip-up, the overall picture looks alright. I'd like to understand better why sales to India & S.Korea have fallen. As regards the UK, I'm happy to look through any short term disruption from Brexit - and note that the company has said that its direct sales (online) have not been affected by Brexit. That's important, as it provides evidence that caution from wholesalers may only be temporary, if they too continue to experience good end customer demand.

If you take a bullish view on this company - i.e. that current problems are indeed only temporary, as management suggest, then it could be a reasonably good buying opportunity. Also, I want to be in this share, as I see it as quite likely to be bid for.

Recent forex movements should overall be positive for PMP, as the USA is its biggest market. That's partly offset by higher import costs for product made in the Far East.

If you take a bearish view on the company, then you might be suspicious of why certain markets are declining for them. Is there a deeper underlying problem?

Overall, I'd say I'm mildly positive, taking a longer term view. Management are good, and prudent, so I reckon they've probably got all the bad news out in one go, and hopefully might exceed current, reduced forecasts. Time will tell, as always, we're trying to predict the future, so it's really educated guesswork, not an exact science.

Brammer (LON:BRAM)

Share price: 99.75p
No. shares: 129.4m
Market cap: £129.1m

Interim results, 6m to 30 Jun 2016 - this is an interesting special situation. I explained what had gone wrong here on 29 Jun 2016, and concluded that it was very tempting to buy some after the profit warning, at 69p per share. In the end I chickened out, because the company looked to be perilously close to breaching its key banking covenant. Braver souls than me have done well, as it's risen nearly 45% in the last 6 weeks since the profit warning.

Adjusted profit before tax has come out exactly as anticipated, at £5m for H1.

The interim dividend has been passed - as expected. This is sensible, as the group is financially stressed.

Banking covenant - is disclosed as being 2.8x EBITDA, just within the limit of 3.0x. Clearly something needs to be done about this, as it's getting dangerous.

Net debt has actually gone up - to £107.7m. Although there's been an unfortunate £13.5m adverse foreign currency move, translating debt into sterling.

Action is being taken to reduce net debt - including reducing inventories, pressing customers to pay more quickly, and negotiating longer payment terms with suppliers. That's all good, and necessary, but it's also reinforcing the fact that this is a financially stressed situation - hence high risk.

Turnaround, and detailed business review actions are underway. That usually means closures, redundancies, and exceptional costs.

Outlook - it doesn't sound as if any general improvement in markets is expected. So self-help measures to rebuild profitability is the only game in town;

"Given the current macro-economic uncertainty, we are not expecting any improvements in market conditions in the UK and Europe beyond a return to levels seen in the first four months of the year.

The Group will continue to progress its existing operational priorities to improve the UK business, improve underlying gross margins, increase cash generation through stock reduction and reduce net debt. The Group should see increasing benefits from these operational improvements in the second half.

Against this background, the Board initiated a detailed business review and this will be taken forward by Meinie Oldersma, the new Chief Executive of the Group, to identify the actions needed to improve the operational and financial performance of the business as well as its ongoing capital requirements. The conclusions of this review will be announced in the fourth quarter."

That last bit, about "ongoing capital requirements" suggests to me that there will probably be a fundraising in the pipeline. I mentioned that possibility in my last report on this company - it clearly needs to strengthen the balance sheet with some fresh equity, to get the bank position back under proper control.

My opinion - there's been a nice bounce here in the last 6 weeks, and given the considerable uncertainty & risk, I think the price has gone high enough for now.

It might possibly be worth revisiting once they've done a Placing to sort out the group's finances.

What worries me is that it's now trading only marginally above breakeven. It sounds like a can of worms, which will probably take a while to sort out, and cost quite a lot.

So, for me, there's too much risk, and not a clear enough route to upside from here, so I'll take this one off my possible purchases list. The previous strategy of growth by acquisition, funded by debt, seems to have come unstuck.

A few quickies now, before I sign off;

Zamano (LON:ZMNO) - a strange update - which says that sales are up, but profit is down, if that's what this means?;

"overall Group contribution margins were lower as a result of increased advertising spend and the changing profile of the UK business"

A strategic review has been undertaken;

Its principal findings were that zamano needs to gradually reposition the business into higher value-added, growth-orientated activities, and that this can be most effectively achieved by implementing a focused bolt-on acquisition program in the mobile advertising, social and billing areas. The strategic review identified a small number of potential acquisitions in these three sectors which zamano is currently evaluating.

That sounds to me like the existing business isn't much good then?

A technology entrepreneur called Edmond Murphy has joined the Board as a NED.

My opinion - I've looked at this company before, and the figures look superficially attractive. However, I can't shake off the feeling that something isn't quite right here. The CEO left in May 2016. The figures almost look too good to be true, with a reported profit of E2.5m in 2015, and net cash of E6.2m at end 2015. Yet a market cap of only £10.2m (at 10.25p per share).

It seems the market doesn't believe that the profit is sustainable, otherwise it would be on a higher rating. Also, with so much profit & cash, why no dividends? It looks to me like the sort of small telecoms company that finds a briefly profitable area of activities, which then evaporates. The strategic review findings seem to confirm that view is probably on the right lines.

I note there was an abortive bid approach last year, which came to nothing.

Overall then, I'm wary of this one & will steer clear.

Johnston Press (LON:JPR) - interim results for this local newspaper group show some alarming trends in profit & cashflow. As I've been saying for years, the equity here is probably worth nothing.

That said, there is an interesting potential angle on this, which I'm going to do some more work on. With the shares now only 10.5p, the market cap is down to just £11.1m. The interesting thing is that the bonds are dropping value, so buying them back at market price is a good way for JPR to shrink its debt mountain.

It seems to have somehow drastically reduced its pension deficit too.

So whilst it looks moribund, there might be a special situation angle on this, where someone might buy it for peanuts, do a deal with the bondholders (for them to take a deeper haircut), and restructure its operations in some way to create value from some of the newspapers, possibly?

I'm tempted to have a little dabble at this level, as the equity is really just option value now, for control. It might be possible to keep some local papers alive, if they're given away free. After all, that model seems to have worked for London's Evening Standard. People will still read newspapers, if the content is interesting, and if they're given away free. The higher circulation then attracts more ad revenue.

That said, I think most local papers are probably too far gone. The property & jobs advertising is moving online, and classified ads seem to be drying up now. EBITDA might still look quite good for JPR, but give it another 2-3 years with the current declining trends on ads & circulation, and it's probably going to be largely finished.

Still, an £11.1m market cap, for what is still a substantial business, generating some cash (although that reduced a lot in H1 2016), does have a glimmer of interest as a special situation perhaps? It looks to me the type of share that could suddenly do a big, speculative spike up, before then continuing to drift back downwards. I'm tempted to have a little punt on that at 10.5p per share. Dangerous though, hence why only for a smallish amount of money.

With the shares now this low, the chances of doing an equity fundraising are virtually nil. More likely is a debt for equity swap, which would be hugely dilutive for existing shareholders of course. It will be fascinating to see how this one pans out.

All done, so I'm up-to-date now.

I hope you enjoy the rest of the weekend - lovely weather isn't it?!

Regards, Paul.

(usual disclaimers apply)