Small Cap Value Report (Fri 11 Nov 2022) - WRKS, VINO, NXR

11th Nov '22 by Paul Scott

46 comments 7540 reads

Good morning from Paul!

There are some amazing rallies going on at the moment, in many sectors. The trigger seems to be reduced expectations for inflation, and hence interest rates. As discussed in my recent interview with UP Global Sourcing Holdings (LON:UPGS) factory gate prices in China are easing, as orders from the West have dried up. Also there's been a plunge in shipping container costs, which is a positive tailwind for margins. Plus the dollar has partially weakened, which again is good for us, as it reduces inflationary pressures over time.

All of that looks encouraging. However, my worry is that we're possibly only at the start of an earnings recession. So if we buy shares now, we could get clobbered with profit warnings. Powerful rallies are normal in bear markets, so this could be another bear market rally. Personally I like to buy the dips, not buy the rallies, so am trying to avoid becoming over-excited by surging share prices right now. Will they hold, and continue rising, or fall back again? Maybe it would be a good idea to trim some positions, to give some firepower for if/when markets roll over again?

Agenda

Works co uk (LON:WRKS) - H1 trading update looks in line. Although it's not clear what actual profit will be (it only mentions EBITDA). Broker consensus is for only slightly above breakeven this year. Shares look very cheap, but it's not a very good business, so it should be cheap.

Today I'll be mostly focused on doing 2 CEO interviews, being -

Virgin Wines UK (LON:VINO) at 11:00 - this is now published (audio) here, and on my podcast channel. I'll type up the transcript (just for Stockopedia subscribers) over the weekend. I thought this went well, and it looks an interesting company, on a reasonable valuation. As always, please DYOR, it's not a recommendation, just my personal opinion.

Norcros (LON:NXR) at 16:00 - this audio interview is also now published here. Transcript to follow over the weekend, hopefully.

Explanatory notes -

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Bouden54

11th Nov '22

Yes good spot on Foresight group (LON:FSG) an alternative asset manager who are very much in the sweet spot (sustainable assets and infrastructure with good recurring revenues) - rarely gets mentioned here or anywhere else, but looks really interesting and sold off quite a bit, despite consistently strong updates and AUM growth.

mojomogoz

I agree I'm comparing espresso cups to teapots to a degree. Insolvency is nearly 55% of K3 Capital (LON:K3C) revenue (£37.5m of £70.7m) on c.18% (ebitda) margin...add in some shared central costs and its close to the 16.5% Frp Advisory (LON:FRP) applying some handwaving.

Giving the K3C bit of the biz you implicitly rate (insolvency) a (historic) price to sales rating like FRP gets £163m market cap for K3C before tax and corporate finance -> that means that only £42m of market cap to the £33.2m of revenue from corporate finance (£21.6m) and R&D tax advisory (£11.6m). These businesses operate at c.40% and 50% ebitda margin (corporate finance reported as 50% this past year...partly good year and partly that central costs now borne by group not corporate finance alone...so approx 40-45% margin year prior to acquiring/developing tax and insolvency). Note ebitda margin is relatively clean and good measure for K3C except for earn out cost of acquisitions (I'm 'normalising' that out).

K3C's insolvency has been growing generally >20% organically over several years (pre and post acquisition by K3C) and investment in growth has deflated margins which should come in at 20% and over. Corporate finance deserves some cyclicality thinking but so far their SME focus and process (v systematic and sales driven focused on small end of SME and doing large volumes cost effectively) has avoided simple cyclicality. Tax is much less cyclical and securing a client leads to a repeat revenue profile over c.5yrs. Given 50% margin in tax on a revenue they have shown they can grow at a decent clip (could be >20%) plugging it into their systematic sales engine what value is appropriate on that £11.6m revenue? Is £100m too much? I think not and on the low side...but we are in more sceptical times I acknowledged.

That leaves corporate finance...its been growing organically at a high clip for years and hitting margins up to 50% in good years and c.40% is a reasonable and 'conservative' assumed base case. At £21.6m revenue and even assuming a cyclical slow down its got a few turns of value for market cap.

And the above is before we give them a lot of credit for growth potential. IMO high.

Hee hee...I'm not trolling or harassing you...

Foresight group (LON:FSG) interesting and much superior to say Molten Ventures (LON:GROW) that's been mentioned in here (wouldn't touch Molten at deep discount...who knows where writedowns and dying funded businesses go for them!). However, I believe Mercia Asset Management (LON:MERC) is a much higher quality play but more complex to unpick

https://www.stockopedia.com/co...

carmensfella

Just a reminder that we are hosting Mello London next week in Chiswick and all are welcome. Ed Croft and Graham Neary are doing presentations and there will be 35 companies also presenting and lots of very good speakers. https://melloevents.com/mello-...

yiannos1

Hi Graham Neary,

Further to your report on the 8th of Nov about Argo Blockchain plc I just wanted to add that the 2026 bonds (8.75%) are trading at around $1.5 (having been issued at $25).

The company has clearly gone bust and its shares trading still at 8p is a joke. The shares value should be a big zero.

Thanks

Lucky dip

I agree. we are in recession but it will be confirmed in early 2023. The market for some shares have already discounted that for good measures. The housebuilders are a good example. The house prices are due, quite rightly, for a 25% drop over the next two years. good news for a large number of young buyers. The housebuilders shares however, may not drop further.

Predicting the big economic picture is very self satisfying and clever but it is so annoying when the market does not react as you expect. That's why there are lots of poor economists around!

Snowbum

The SP500, my preferred indicator of risk sentiment, is in a well defined descending channel on the weekly TF. Until it breaks out of that to the upside, it’s a bear market rally.

eddiefin

Wise words Paul

"Personally I like to buy the dips, not buy the rallies, so am trying to avoid becoming over-excited by surging share prices right now."

The NASDAQ100 up 7%+ yesterday. Crazy! The type of price change you expect from Bitcoin. Total over reaction by markets. Best wait.

davidjhill

Of course you've heard the term "climbing the wall of worry". Tops of bull markets are often seen when share prices go up despite bad news and Troughs of bear markets are often found when share prices go down despite relatively good news. The latter has been occurring recently - you only need to read comments on here to get the sense of that.

My guess is we will now enter the wall of worry phase. Ignore the frothy initial jump yesterday but I suspect that despite seemingly still relatively poor news flow the market will start to unwind some of the losses in advance of better news in 6 months time. That doesn't mean a straight line, nothing ever is, but somehow the bottom feels like it is in. That can all change with another black swan event of course.

55555

Why do you say that about Molton ...???? Or are you just stirring ?

Not stirring...of course I can be wrong. Molten are in 'club' deals for fashionable tech that's either looking to Nasdaq or has listed. The cos they invest in are much larger valuations and realistically their exits are to IPO (Foresight and to greater degree Mercia can exit to industrial buyers). Valuations of what Mercia hold much more modest than Molten too (can't say for Foresight). Molten don't generate significant revenues from 3rd party funds business relative to the scale of direct investments they have...so to support their companies through further rounds (and so avoid dilution etc) they will probably need to tap markets for a raise as they have in the past (unless they get nice cash exits...tough environment...and as exit is to IPO they can be locked into holding).

Its a risk return argument. I'm not saying that Molten will be terrible just that it has more downside risks and IMO it weighs to the downside

Paul Scott

Good spot, thanks yiannos1 :-)

Graham Neary

Thanks for the update yiannos. G

Mark B

If the window of opportunity to buy great companies at low valuations is closing, this makes my job harder. It makes my current net worth better, great if I want to sell, but shit if I want to build my investments. Obviously, I want to buy. I have never wanted to sell. I want to own more, not less. I want to own more of the Companies I think I understand. Please stop buying. Please sell. Of course if you are not buying the market, I will have a proper conversation when we exchange our holdings for fair price. I have 3 companies that are fairly priced and 8 that I believe are cheap. I have no intention of selling the companies that are fairly priced because they, in my opinion, are great businesses that have a very long future. The others are priced in my favor. I would happily encourage traders to sell them down.

just to clarify, the businesses that I consider cheap are, in my opinion, have a very long term future.

Thank you, I appreciate your well considered response / points.

so. You think money is crypto. The big problem is , people are greedy. They take risk and money is backed by governments. Crypto is backed by people. People are selfish. Government is for the majority. Individuals are selfish and that's why this goes to zero. No one, steps in when there is a bank run. The government always steps in to save the currency of the currency. I have tulips for sale,

absolutely beautiful how people are so convinced that value exists just because other people buy it. And then no one buys any more because it doesn't create goods or services. The emporer has no clothes.

how about buying companies that produce goods and services are actually used and useful. Trying to game this system means you think you have an advantage and or you compromise your ethics. You don't have to. Just buy good companies and hold them like you own them, because you do. Listen to your managers, they work for you. This platform is dominated by traders, sadly many say they are owners of the business they trade

the market is not where I make money. The companies I own make me money. I go to the market when I want to buy or sell, which is seldom.

Small Cap Value Report (Fri 11 Nov 2022) - WRKS, VINO, NXR

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Paul Scott

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