Small Cap Value Report (Fri 13 Nov 2020) - self help books, CGS, GFRD, FRP, RBG, BYOT

This part written by Paul

Good morning, I suppose I'd better write something about shares! (the self help books stuff below was written last night)

Agenda - these news items have caught my eye;

Galliford Try Holdings (LON:GFRD) - AGM statement (big share price rise today, so must be interesting, hence it is top of the list)

Frp Advisory (LON:FRP) - Half year trading update

Revolution Bars (LON:RBG) - CVA approved

Byotrol (LON:BYOT) - AGM Statement

After that, I'm going to write up my recent buys, for discussion purposes, and my current thinking about the market in general.

Timing - I'll be working all afternoon, so let's estimate 6pm.

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We're conscious that some reader comments seem to indicate that people are getting confused about which sections of the SCVR are written by me (Paul), and which by Jack. I thought we'd made it clear, but seemingly not clear enough!

Therefore, let's try to simplify things by separating the SCVRs into 2 parts, clearly marked as being written by Paul or Jack. We'll both write within our individual parts of the report. Hopefully this might clear the fog a bit! We're just trying out different ideas, and we'll run with whatever works best for readers :-)

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Self help book recommendations

Jack and I both discussed the idea of posting about which particular shares we've personally been buying this week. So here are mine (Edit: sorry, I rambled off the point). Usual disclaimers, these are NOT RECOMMENDATIONS. The whole ethos of Stockopedia, and me personally, is to encourage discussions, education (in both directions - I learn a lot from you, and want to never stop learning), and to take responsibility for our own portfolios.

On that subject, recently I got a hideously nasty email from a former friend, that I invested a lot of time & energy into, blaming me for his terrible stock market losses back in c.2012-14. I foolishly agreed to manage a trivial amount of money from him, agreed to when we were down the pub, and it was nothing but trouble. I got nothing out of it (I didn't want anything out of it, I just wanted to help him), and after things went badly, he pulled out his money for a c.20% loss, and then disappeared without trace, for years.

As it happened, I still had the spreadsheet within GoogleDocs of our holdings, and out of curiosity, I checked it out recently. We had 40% of his portfolio in BooHoo! When it was c.25p. So I emailed him along the lines of, how are you mate, hope you're well, as things panned out, if you'd stuck with me, you would have made a fortune! Never mind, such is life, etc. Let's meet up for a beer if you're free?

Some time later, I received a poisonous, obviously drunken email from him, describing me as a liar & a cheat. I couldn't believe it! It was all nonsense. He chose to cash out at the worst possible time, not me. He accused me of lying to him about using daily spread bets instead of quarterly spread bets. What nonsense! I have, and still do, use daily spread bets, for about 15 years, as they're easier to keep track of, for a marginally higher cost.

Then I related it to my favourite book - the timeless classic, which I re-read every year, to remind me that people are not rational;

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I want to feel angry about the injustices, and lies that my former friend has wrongly accused me of.

Then I realised, he's just angry with himself, and wants someone else to blame for his failings. Instead of manning up, and taking responsibility for his own mistakes. When I told him that, he accused me of "lacking empathy". Give me strength!

Another amazing book by Dale Carnegie helped me come to this conclusion, and made these lockdown times easier. If you are finding times tough at the moment, or you constantly worry, then please read this following book now - it could make your life better, I've given it to 2 loved ones, and they both thanked me profusely, finding it very helpful;

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To make it a hat-trick, this book literally saved my lungs, so if you smoke, just read it! It works.

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Anyway, we'll come back to investments tomorrow! The above are all books which I found incredibly helpful. I hope you do too.

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Galliford Try Holdings (LON:GFRD)

Share price: 100p (up 22%, at 12:15)
No. shares: 111.1m
Market cap: £111.1m

AGM Statement

This is a UK construction group. The market clearly likes today’s update, as the share price has risen 22%, part of a big rebound in recent days, along with lots of other cyclical companies, triggered by the positive Pfizer vaccine news on Monday.

The chart seems to be saying that the market isn’t sure how to value this company;

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Today’s update reads well, but I lost some of my enthusiasm when I read the most recent accounts, and saw that the balance sheet is not particularly strong, despite having a ton of cash on it.

Anyway, this is what it says today;

Operations are almost normal, not affected by second lockdown

Cash-rich, more than the market cap;

The Group is performing well, in line with the Board's expectations, with an excellent first half year average month end cash position towards the upper end of previous guidance of £125m-£145m.

However, to see the full picture, you need to look at the whole balance sheet. As at 30 June 2020, NAV was £120.5m, but that included £81.0m intangibles, so deducting those we get to only £39.5m NTAV - adequate, but not particularly strong, given the large revenues.

Looking at working capital;

Current assets £467.8m (including £197.2m cash)

Current liabilities £482.2m (including £458.8m trade payables)

As you can see, that means a deficit of £14.4m on working capital.

How come it’s sitting on such a large cash pile then? It’s timing differences - i.e. GFRD receives cash from customers, before it pays its suppliers. To my mind, that isn’t really surplus cash. It’s a nice business model, but essentially all the cash is spoken for. Or to put it another way, if the business were to wind down, and cease trading, then there would be no cash left, once all the suppliers had been paid.

That’s one way of looking at it. A more bullish view is to say that, if GFRD can keep the plates spinning, and collects in money faster than it pays it out, and that can continue indefinitely, then the company has a big pile of cash that it can use to make acquisitions, pay divis, etc. Although that carries more risk, because things might change - e.g. if customers demand more time to pay, or suppliers push for faster payments (which could be driven by prompt payment regulations).

Return to profitability is on the cards (it lost £59.7m before tax & exceptionals, in the FY 06/2020) -

The Board expects the Group to return to profitability in the first half of this financial year and a resumption of dividend with the interim results.

Good news for shareholders, about resuming divis.

Outlook comments are upbeat -

Our strategy and sector focus mean that the Group is positioned to emerge strongly from the pandemic, supporting the Government's planned investment in infrastructure and economic recovery…

We are encouraged by the pipeline of new opportunities across our key sectors…

The Group's strategy is focused on robust risk management, sustainable growth, careful cash management and margin progression. The Group is well capitalised with no debt, no pension liability, a portfolio of PPP assets, and a strong order book and is making good progress on its strategic priorities and the financial targets set out in September 2020, including expected reinstatement of dividend.

It lists some recent contract wins, of considerable size.

My opinion - this is a good update, no doubt about that. I wouldn't be surprised to see this share going higher still.

Personally, I don’t want to invest in infrastructure builders, as so many of them run into trouble and go bust, when large, complex, low margin projects go wrong.

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Frp Advisory (LON:FRP)

Share price: 109p (up 5% at 13:33)
No. shares: 239.6m
Market cap: £261.2m

It’s worth revisiting my notes here in Aug 2020, where I looked in detail at the structure of this insolvency practitioner business. The most important point is that 25% of the profits are paid out to partners in a profit sharing scheme. So we need to make sure we take that into account when looking at valuation. Do forecasts include the profit share charge? They need to, as it’s a material to the valuation.

There’s a lot of restructuring going on at the moment, especially CVAs in the retail, leisure & hospitality sectors. I often see FRP’s name crop up as advisor to companies doing CVAs. So I expect there’s plenty of business at the moment, and for 2021 likely as well.

Half Year Trading Update

FRP Advisory Group plc, a leading UK professional services firm specialising in advisory services, today announces a trading update for the half year ended 31 October 2020.

The Group delivered another strong performance during the first half, continuing to grow and win larger and more complex mandates. This includes a recent high-profile appointment in the Group's Restructuring division on the administration of Edinburgh Woollen Mill.

This growth was achieved despite the significant reduction in the number of formal insolvency appointments within the marketplace compared with the prior year, as a result of the support measures made available by the UK Government in response to the COVID-19 pandemic.

As a result, the Group expects to report revenues for the half year to 31 October 2020 of £35.9m, up 14% on the prior year (H1 2019: £31.4m), and underlying adjusted EBITDA* of £9.7m, up 7% on the prior year (H1 2019: £9.1m), in line with the Board's expectations.

I would want to check whether this EBITDA figure has accounted for the 25% partner profit share, it’s not clear from today’s announcement. I’ve sent an email to the analyst at Cenkos. If I get a reply, then I’ll add an edit here.

Liquidity sounds fine;

The Group's balance sheet remains strong with an unaudited cash balance as at 31 October 2020 of £15.2m and an undrawn revolving credit facility of £5m.

Headcount is rising, and 3 acquisitions have been made.

My opinion - neutral. I can see the upside case, in that business should be buoyant for some time, due to companies restructuring, and some eventually failing altogether in 2021 and beyond.

However, I’m not very happy with the structure whereby partners have 5 layers of remuneration, and hence there’s a conflict of interest with regard to outside shareholders. Although the partners do still own 50% of the equity, so you could view that as interests being aligned maybe, at least partially?

On balance, I think this share is probably more likely to go up, than down, in the current environment. So it might be worth considering.

As we've got up-to-date confirmation that it's trading in line, then we can rely on the numbers below, which look reasonable to me - the stock is probably OK value at this level;

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** Breaking News! **

Revolution Bars (LON:RBG)

Share price: 17.0p (up 3%, at 15:22)
No. shares: 125.0m
Market cap: £21.3m

CVA successfully approved

Good news for long-suffering shareholders at this bars group.

The necessary percentages of creditor votes were achieved to pass the CVA process today. It’s subject to possible legal challenge for 28 days.

6 sites are being offloaded: Sunderland, America Square London, Birmingham, Solihull, Bath, and Clapham High Street.

Another 7 sites are moving on to turnover rents for 2 years: Clapham Junction, Putney, Richmond, Bristol, Reading, Cheltenham and Stafford.

There’s a useful benefit from doing this CVA;

The Group estimates that its cash flows (before one-off costs of implementing the CVA of approximately £1.1m) will improve over the two-year period of the CVA by approximately £4.0m.

Liquidity - this is very helpful information;

Net bank debt is currently £13.5m compared to current committed bank debt facilities of £37.2m, which reduces to £29.3m at the end of March 2021 and to £28.1m at the end of June 2021. Under the terms of the CVA, £1.3m of rent and service charge arrears will be paid on 20 November 2020. The Group's cash burn rate, if all the Group's bars are subjected to an enforced closure and assuming the continuation of the current CJRS and other government reliefs, is estimated at approximately £0.4m per week.

This enables us to estimate how things might look when the furlough scheme finishes at end March 2021. That seems to me also a seemingly realistic time when restrictions might be lifted, and the bars might be able to trade normally, as hopefully the vulnerable will have been vaccinated, so they young & healthy can get on with their lives normally. We hope.

That would entail another 20 weeks of cash burn at £0.4m per week, hence £8.0m additional debt, plus the £1.3m rent arrears mentioned above, so £9.3m extra debt, added to the existing £13.5m net debt, reaching £22.8m - which is well within the reduced facilities noted above, as at 31 March 2021.

This is most encouraging. It means that RBG should be able to get to 31 Mar 2021 in a reasonable position, with manageable debt. Once it re-opens, assuming no restrictions, then it should have a trading bonanza, with annual EBITDA being £15-20m in my opinion. That would allow it to repay debt quite quickly, and resume site refurbishments, which were delivering strong paybacks before covid.

The CFO is retiring at the Dec 2020 AGM, in a planned handover to a new CFO who joined in July 2020. Hence this doesn’t appear to be a cause for alarm.

My opinion - I welcome the additional information provided today, re debt/cash burn. This significantly lowers risk, and the shares still look too cheap to me, even after they’ve already doubled from the recent low.

There’s clearly much more reason for optimism now. Once the sites are trading normally again, then I think this share would be worth 40-50p. It won’t get back to old levels, due to the substantial dilution from the 20p equity fundraise.

I’ve lost a packet on this one, but more recently it was the right decision to sit tight, because my sums indicated it would get through this crisis still solvent. Today’s news reinforces that.

Having been stopped from partying for so long, I think the customer base is likely to go bonkers when things get back to normal. Not just in bars, but also restaurants, holidays, etc. Hence why I am bullish on the economy for next year. The doom has been very much overdone, in my view. I think many people will want to live for today, spend freely, run up debt, etc., after this shared horrible experience of covid restricting our lives in so many ways in 2020.

I’m hoping to speak with the CEO at some point, to ask a few questions about the CVA, and what happens next, so if that happens I’ll do an update next week.

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This part written by Jack

Castings (LON:CGS)

Share price: 333p (+0.6%)

Shares in issue: 43,632,068

Market cap: £145.3m

Castings (LON:CGS) is a UK iron casting and machining group with a solid track record of investing in the new technologies and manufacturing processes and a reassuringly prudent approach to its balance sheet. It makes a point of not taking on any debt.

As an equity investor, I see that debt has its role in the grand scheme of things but we are very much business owners and this prudent approach does catch my eye. It implies a sense of stewardship sadly lacking in certain other listed companies.

Stockopedia sees it too, with a Quality Rank of 90. For all that Quality, though, the valuation appears quite modest.

This is likely due to a lack of meaningful profitable growth over the past few years - see the negative CAGRs (compound annual growth rates) in the Financial Summary. So you can buy quality at a reasonable price, but growth is the concern.

Director buying has been strong, the community has also been picking up shares, and the Major Owners tab looks very respectable - so, an interesting backdrop against which we can set today’s update.

Half year report

Sales for the six months ended 30 September 2020 were down 43% to £41.7m and Castings has swung to a loss before tax of £0.63m (2019 - profit of £7.34m).

Clearly normal operations have been impacted by the pandemic. By the end of September, monthly demand levels had recovered to approximately 85% of pre-COVID levels.

The group splits its operations in two: Foundry and Machining.

Foundry output was down 43% at 14,350 tonnes and external sales revenue fell by 42% to £40.5m (97% of revenue for the period).

The profit from the foundry segment was £0.8m, down 89% ‘However, assuming demand remains buoyant, productivity gains are due to be realised during the second half of the financial year and into 2021/22’.

Machining generated external revenue of £1.2m (3% of revenue), down 60% with a reported loss of £2.1m compared to a profit of £0.1m in the previous period.

These are not pretty results but are hopefully as bad as it gets - and Castings has used this time to strengthen its operations and financial health, with:

• £0.8m of capital investment focusing on automation and productivity improvements in Machining,
• £1.6m spent on a production line upgrade and the introduction of a new in-house treatment plant in Foundry, and
• The disposal of its Fradley site for a gross £1.95m, resulting in a profit of £0.66m.

Flicking over to the Balance Sheet (which looks spotless), we see net PPE of around £70m after depreciation. That’s nearly half the current market cap. I wonder if the group has any more undervalued assets hiding in that line?

Castings is also confident enough to declare an interim dividend of 3.57p, which is a 2.6% improvement on last year’s interim payment to shareholders.

Conclusion

COVID has hit business hard but there are clear signs of longer term quality at a reasonable price here.

The outlook section shows hints of activity returning to pre-COVID levels, with the usual caveats of ‘ongoing uncertainty’. Additional supply chain disruption is a possibility and Brexit remains a risk, with over 70% of group revenues coming from the European Union.

The group has been successful in obtaining a number of new projects with its European truck customers for 2021/22 and 2022/23. In addition to replacement work, these projects include additional platform volumes and also more value-add product solutions.

In the meantime Castings has strengthened its operations and continues to pay a dividend.

The group maintains a strong balance sheet with cash levels of £35.2m; an increase of £1.8m during the period after the dividend payment of £5.0m.

There’s a lot that is good here, but Castings has underperformed the market as an investment for a long time:

Revenue and profit have been falling over the years so my big question is: where does the growth come from?

That said, Castings does provide a positive outlook with scope for margin expansion.

I like the company. The valuation is modest, so there could be something here for the patient, quality-focused investor - but I’d want to know more about how management expects to meaningfully grow earnings over the long term before investing.