Small Cap Value Report (Fri 13 Apr 2018) - Part 2 - GMD, TRAK, MTC, SOLI

13th Apr '18 by Paul Scott

18 comments 10733 reads

Good morning, it's Paul here!

Graham is writing today's main report (Part 1).

This report (Part 2) is a bonus report from me, to catch up on some of the company reports which I missed earlier this week, due to generally getting bogged down, not sleeping very well, and feeling permanently tired (which makes writing difficult).

GAME Digital (LON:GMD)

Share price: 39.0p
No. shares: 172.9m
Market cap: 67.4m

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

Changes in major shareholdings

All was revealed yesterday afternoon, with a series of "Holding in company" RNSs. I was correct that Elliott Advisors (Duodi) has sold completely, its 36.5% stake in GMD. However, my theory that Sports Direct might have bought the overhang, and launch a bid, was wrong (wishful thinking perhaps!). Our reader "Gromley" was correct - that the overhang has been placed with various institutions.

There are now some excellent new names on the GMD major shareholder list, in particular I very much like that Gervais Williams' outfit, Miton, has taken a hefty 13.1% of the company at 35p. Canaccord has taken 11.8% for discretionary clients (possibly something to do with Hargreave Hale, I wonder?), and J O Hambro has taken 5.1%. The balance I suppose would probably have been distributed to under 3% holders, hence not requiring disclosure.

All in all, whilst falling short of my hopes for a takeover bid, this is a very pleasing outcome. A huge overhang of GMD shares, which was clearly depressing the share price, has been eliminated in one fell swoop. We also have some respected institutions coming on board at 35p.

I reckon this endorses the bull case - the new strategy of developing "BELONG" format stores, both standalone, and within Sports Direct shops. That the deal was done at 35p, with the share price rising as the deal would have been underway, seems encouraging to me, looking at the recent chart (see below).

I imagine there would probably have been presentations to institutions, who clearly like what they heard. It's always good when placings (for new money, or secondary placings of existing holdings) are done into a rising share price, at no discount.

This deal should improve liquidity in GMD shares, and could trigger follow-on buying from institutions perhaps, if they like the company's future…

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Cowlid

13th Apr '18

Hi Paul

Thanks as usual for all your efforts for the little people! Whilst the reply from the Chairman is private, were you satisfied with his response?

Dave

mammyoko

Bravo re Trakm8 Holdings (LON:TRAK) , Paul. It will be interesting to see if persistent highlighting of poor RNS will have an impact. I hope that people who read your blog steer well clear of companies that opt for opaque communication. It's almost impossible for us to tell whether it is a blatant attempt at manipulation or incompetence. However, there are so many good companies out there that have nothing to hide that it's simply not worth investing in companies who are either unable or choose not to communicate basic information clearly. Companies that have something to hide will continue to attempt to do so because there are too many investors out there that want to believe a good story even when they half suspect that that's all it is. That seems to include a fair proportion of the so-called professional investment community. Sadly, crime pays in the investment world!

Camtab

Hi Paul,
With regard to GMD, can you explain the Accounts Payable entry in Cashflow and BAlance Sheet? Seems to me going back over 5 years they wrote this down hard and subsequently it has been rising gradually to around £47m now. This certainly limits my interest in the business (noting it went in to Administration into 2012. Just interested in your perspective if you are willing to give it.
Best wishes

gus 1065

Hi Paul.

Thanks for the commentary on Trakm8 Holdings (LON:TRAK) . I recall your run in with TW a couple of years ago on this one. I think there’s a good business trying to break the shackles here but they just can’t seem to live up to the early promise when the share was an AIM darling. Personally I don’t see any malice in the Trakm8 Holdings (LON:TRAK) release, just a disconnect between what they’re trying to communicate and the message that actually comes across.

On the topic of voicing concerns about Investor Reporting clarity (or otherwise), there are a few awards/wooden spoons up for grabs in the upcoming Mello awards. Hope it’s OK to post here a link to their voting form (which also includes various nominations for small cap commentators etc., for which you and Graham have been deservedly nominated).

Gus.

https://docs.google.com/forms/d/e/1FAIpQLScz-SxqIEhhcH76g46EIVa6z7qsq_vdeSXoD7uyq6YkIg6vrQ/viewform

Howard Marx

Camtab

The turnover (COGS) / accounts payable ratio at GAME Digital (LON:GMD) is normalising from very high levels during the prior bankruptcy that you refer to.

This is a sign of supplier confidence, not supplier concern.

The last full year ratio for GAME Digital (LON:GMD) was 12.2x.

By comparison for Tesco (LON:TSCO) the ratio was 6x.

So GAME Digital (LON:GMD) arguably has scope to see it's accounts payable to rise further in future years.

john652

Maybe we can have a sticky 'wall of shame' for all companies that provide purposely poor updates, be it unclear, badly worded or leaving out key information.

For me it's a big red flag if someone running the company either doesn't care, or so arrogant they believe they are going to fool the readers, you really have to ask how trustworthy they are in running the company.

The alternative is of course they really do struggle with plain English and are actually quite stupid

Snoo

I think the Belong concept has some potential, although I'm sceptical just how it can be implemented within Sports Direct.

The two businesses seem to operate opposite trading hours. The premium customers, ie those who take gaming really seriously; are not going to be playing in the daytime. As we can see, some of the Belong venues open quite late, and for some I would be sure demand goes past midnight.

A lack of food/toilet facilities in the stores might hamper longer sessions. The kind of size needed seems to be to bigger than what the average Game store has.

I guess I would be hoping that this could evolve into something not too dissimilar to the manga cafes they have in Japan, whether it'd be profitable enough here is another thing.

bsharman

More great analysis and commentary Paul - thanks. I agree that the change in GAME Digital (LON:GMD) ownership is positive and I was very pleased to see Miton buying 13%. The gaming / esports market is large and growing very strongly. This is also a sweet spot because the high street is currently trying to adapt and change and become more of a destination with events, experiences and leisure being very much part of that strategy. Perhaps the larger shopping centre owners such as Intu Properties (LON:INTU) will offer incentives for experienced based businesses to attract footfall which will benefit other traditional venues. I'm looking forward to having a go at an 'escape game' (www.escape-london.co.uk) in the near future and i understand that (https://investors.escapehunt.com) Escape Hunt is listed.
Have a good weekend all,
Ben
@BenSharman (twitter)

MiserableJacktPotato

Thanks for taking the time to revisit these companies.
I don't hold but I love seeing you lay everything out and explaining how you come to conclusions.

Have you thought about doing seminars? You could do an "scvr live", and get one of the attendees to do the typing to save aggravating your rsi :)

threeputt

I don't hold Trakm8 Holdings (LON:TRAK) at this point but my immediate reading of the phrase in question:
'Profit warning but with the strength of recent order intake the outlook for next year is good'

xcity

I think I read the Trakm8 Holdings (LON:TRAK) statment the same as other people, but wasn't sure it was actually a profit warning. Expectations not being met, yes; but had they ever been clear enough for a definite profit figure to have been expected? Also wasn't convinced that the 'warning' was mild; I thought 'at least mild, maybe moderate'.
The danger of being vague is that people will look for the worst it might be.

bestace

New BELONG format works well, and has a payback period of 16 months - so this share should really be seen as a roll-out of a new, successful, experiential leisure format. The stock market hasn't cottoned on to this yet, and is (in my view) mis-pricing GMD as a legacy retailer.

Completely agree with this apart from the 16 months figure (it's now more like 2-2.5 years). As long as the legacy retail business can continue to wash its face and/or fade into managed decline, the focus should be on the BELONG concept and whether it can be rolled out in a meaningful and profitable way. I don't think the markets have fully grasped that yet.

So to my mind any focus on console sales, the cyclicality of games and console release dates, downloads vs physical sales vs Steam, retail margins, the dying high street etc. is mostly irrelevant noise.

Clearly the experience from the first 19 sites has taught them a lot about what works about the concept, so it's worth looking at the unit economics as they present it now compared to how they presented it when the BELONG concept was first launched.

This is from the interims presentation 12 months ago:

And this is from the interims released two weeks ago (I've cropped it to fit on the page):

So from capex per site of between £50k - £100k and a 6 - 18 month payback, we have now evolved to larger sites where capex is £350k per site with a 2 - 2.5 year payback. On the face of it more capex and a longer payback period sounds like a worse proposition, but over the longer term the unit economics appear to stack up more favourably if they can finance the up front capex.

The initial model from last year implied a contribution per site of somewhere between £67k and £100k whereas the latest iteration implies contribution per site of £150k - £175k to GAME Digital (LON:GMD) even after Sports Direct have taken their cut. The operating margin has increased from a 12% target to 23%, and again that's after SPD have taken their cut.

Looked at in these terms and focusing specifically on the increased, up front capex requirement goes some way towards understanding the rationale for the Sports Direct collaboration. Under the initial model for BELONG they would have required around £4m to fit out 50 sites which I think could have been comfortably financed from internal cash flows and from their existing facilities. Under the latest model they are now talking a fitout cost of £35m to open 100 new sites.

So in broad terms that’s nearly an order of magnitude more of up front costs, but in return they will be generating annual contribution of c.£20m which is around 4-5x what the initial operating model implied.

Could Game have financed the £35m upfront cost themselves? Yes, possibly.

They could have done a discounted placing, but with their share price languishing at less than NTAV, would a massively dilutive placing really be beneficial to shareholders?

They could have used their existing debt facilities or taken on more debt, but that may have left them over-geared in an uncertain economic environment for retailers, and there are questions about how much of their existing facilities are required for the legacy business.

Or they could have gone for a self-funding roll out approach, but that would have taken a lot longer to execute and with the legacy retail business winding down and with such a short average lease length perhaps they felt they don't have sufficient breathing space to take the slow and gradual approach.

So having initially thought the Sports Direct deal was terrible for GAME Digital (LON:GMD) shareholders, I'm now beginning to think there is an arguable case for it. On balance though I still think £3.2m was a crap price for GMD.

14th Apr '18

Hi bestace.

Interesting analysis of the GAME Digital (LON:GMD) situation. I had a similar (if less well grounded on hard numbers) thought process at the time of the original Sports Direct tie up. While I agree the £3.2m price seems low ball, in the context of the wider transaction I saw this as a necessary hook to get SPD in.

In my view, it’s almost like a “merger” with both sides contributing assets/know how/ cash to the Belong JV. E-gaming is (potentially) about to take off big time across the UK and probably further afield as well and we’re in a land grab stage where the first mover has the chance to build a brand/competitive moat and capture a large part of the market before other parties stake out the same ground. Could GAME Digital (LON:GMD) have done it on its own? Possibly, but with a large and reluctant shareholder in Elliot that didn’t want to help bank roll the expansion and it’s history of past failures making a substantial fundraising less than certain, the SPD deal gives them the chance to get to critical mass quickly even if it means giving SPD a share of an albeit bigger value cake.

Overall, I think it’s still a pretty risky investment proposition for GAME Digital (LON:GMD) shareholders but with the potential for a high upside and a better chance of success with SPD’s resources (and if needs be Mike Ashley’s personal wealth) on board. With the Elliot overhang now out of the way replaced by a decent group of institutional investors with material stakes (who presumably had pretty good access to information in doing their due diligence) rather than a single SPD majority bloc holding running the show, I think GAME Digital (LON:GMD) is now in a pretty good position to take this venture forward. All they have to do is make it work ....

Gus.

johnsmith68

Thanks Paul and everyone else for contributing so much great analysis on GAME Digital (LON:GMD). I agree with Gus that this is a risky investment since everything hinges on management's ability to execute a highly complex transformation alongside a daunting number of lease negotiations but if they can pull it off, the upside could be enormous. It's early days and there are as yet only a handful of reviews for a handful of the new Belong stores but so far all of the reviews I checked on TripAdvisor are overwhelmingly positive which is comforting at this stage - I shall keep an eye on these as early indication of how customers are reacting to the new format. I hold and am optimistic especially with Miton backing it too now.

Richard Goodwin

15th Apr '18

@IGotPoesjacket Paul is doing so at Mello 2018

thos

re Trakm8 Holdings (LON:TRAK) technical breech of the Companies Act. The real issue here is that they both failed to file interim accounts and then paid a dividend when there were insufficient distributable reserves. As a minimum this is sufficient sloppiness to keep well away from owning shares in this company (or being a trade creditor).

sharw

I am still trying to understand the GAME Digital (LON:GMD) model. From the presentation slide you helpfully inserted it would appear that for every £1 spent on playing the punters are expected to pay £2.50 on food, beverages and hardware etc. Looking at Cineworld (LON:CINE) it is the other way round - for every £2.50 spent at the box office £1 is spent on retail (and it is more difficult to eat popcorn while playing a game than watching a film). Perhaps these figures include income from an attached Game store?

AnonymousUser226237

For anyone interested in the progress on the business side on Trakm8 Holdings (LON:TRAK), you can find my new article here:

https://www.stockopedia.com/content/trakm8-shaping-up-to-become-a-global-telematics-player-353508/

Small Cap Value Report (Fri 13 Apr 2018) - Part 2 - GMD, TRAK, MTC, SOLI

GAME Digital (LON:GMD)

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Paul Scott

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