Small Cap Value Report (Fri 18 Mar 2022) - TED, ECEL, PMP, EMR

Good morning, it's Paul & Jack here with Friday's SCVR.

Agenda - 

Paul's Section:

Ted Baker (LON:TED) - possible takeover bid is announced by a USA-based private equity firm, Sycamore Partners. I suspect it might need a generous premium to persuade the 4 large shareholders to agree to any bid.

Portmeirion (LON:PMP) - 2021 results were out yesterday, and look very good - a decent turnaround is underway, with profits almost back up to pre-pandemic levels. Not the most exciting share, but it looks good value if 2022 forecasts are achieved. Key point is energy costs are hedged. I like it.

Empresaria (LON:EMR) - (I hold) - I review 2021 results, which look good in terms of profit, but not so good in cash generation or balance sheet strength. Overall, it looks OK, but I can't get excited about it.

Jack's section:

Eurocell (LON:ECEL) - Continuing positive trading momentum. It’s perhaps not a premium multiple kind of company, but Eurocell is taking market share and investing for further growth, plus the valuation is currently quite undemanding, so it’s a more attractive investment proposition now than it was even a few months ago.

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Explanatory notes -

A quick reminder that we don’t recommend any stocks. We aim to review trading updates & results of the day and offer our opinions on them as possible candidates for further research if they interest you. Our opinions will sometimes turn out to be right, and sometimes wrong, because it's anybody's guess what direction market sentiment will take & nobody can predict the future with certainty. We are analysing the company fundamentals, not trying to predict market sentiment.

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Paul’s Section:

Ted Baker (LON:TED)

99p (up 9% y’day) - market cap £182m

Response to press speculation

Important to note that this 07:00 announcement has been issued by Sycamore Prtns Mgmt (advised by Numis), and not from Ted Baker. No doubt a response from TED will be published shortly, so I’ll update this section when it comes through. Sycamore's website says it is a New York-based private equity firm, specialising in retail & consumer investments, with c.$10bn funds under management. So clearly a credible potential buyer.

Sycamore says -

Sycamore Partners Management L.P. ("Sycamore" or the "Company") notes the recent press speculation regarding Ted Baker plc ("Ted Baker"). The Company confirms that it is in the early stages of considering making a possible cash offer for Ted Baker. There can be no certainty that an offer will ultimately be made nor as to the terms on which any offer may be made.

Looking at TED’s shareholder base, there are 4 large holders, who’ll make the decision on whether any bid is accepted or not-

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My opinion - both Jack and I see little evidence in the published results (so far) that a turnaround is happening. Although the last trading update made more bullish noises about the outlook for FY 1/2023, so who knows?

It’s a waste of time looking at the long-term chart, because the number of shares in issue has gone up so much - it was 55m from 2016 to 2020, but has shot up to 185m shares currently in issue. That obviously limits the upside on the share price, because there are so many more shares in issue.

It will certainly be an interesting one to watch from the sidelines. Given the shareholder base, I’d guess that a successful takeover bid seems unlikely, unless it's priced at a big premium.

EDIT: As expected, TED has issued a response, which says -

• Notes the announcement from Sycamore
• "Has not received any approach from Sycamore"
• TED is making good progress
• "Emerging from covid as a stronger & more financially sustainable business"
• Confident in prospects as an independent business
• "would evaluate any offer for the Company against the strong shareholder value creation that it believes can be delivered as a standalone company."
• Shareholders urged to take no action.

My opinion - it doesn't reject the idea of a bid approach. The way I read this, it's saying TED would consider an offer, but the price would have to be generous.

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Portmeirion (LON:PMP)

620p - market cap £87m

Preliminary Results

Portmeirion is a group of branded pottery & kitchenware products. It’s had some challenges in recent years, but now has a convincing turnaround strategy underway, in particular a focus on growing online sales.

I last looked at Portmeirion here on 12 Jan 2022, on publication of a positive trading update for FY 12/2021.

Revenues: guidance “at least £104m” - actual £106m, a new peak, and well above 2019 pre-pandemic of £92.8m (although acquisitions might have helped this)

Online sales - a stand out feature, growing fast, and now represents 50% of sales in 2 biggest markets (UK & USA)

“Headline” (excluding exceptional items) profit before tax of £7.2m is now only slightly below pre-pandemic level of £7.4m, so a strong recovery year (up from £1.4m in 2020)

Headline basic EPS 38.85p - note the share count rose from about 11m to 14m, due to a fundraising in the pandemic, which means EPS is still well below pre-pandemic level - giving a PER of 16.0

Dividends have resumed, with 13p proposed - a 2.1% yield, but this is likely to increase, so a good start

Balance sheet - very solid. In particularly I like the strong working capital position, with a current ratio of 2.85 (for this sector, I see anything above 1.5 as being healthy)

The pension scheme deficit has moved into a small accounting surplus, although the cashflow statement shows deficit contributions of £1.35m were made in 2021, so it remains a drain on cashflow (2022 payments are set at £0.9m)

Cashflow statement - looks fine, it’s a genuinely cash generative business. Note increased capex, from £2.6m last year, to £4.5m in 2021, to modernise production facilities.

Energy costs - my main worry with Portmeirion, given that it operates kilns, etc, to make pottery, is higher energy costs. This statement reassures -

Extended our long term energy hedging programme to Q1 2024, insulating the Group against the current volatility in energy prices.

Outlook - mentions the well known issues of inflation, consumer confidence, supply chains, covid, and Ukraine.

Overall though, it sounds like the company is on top of these issues -

...However, we believe our investments in our brands, digital and online presence and increasingly diversified sales channels and geography will enable us to more than offset the afore-mentioned challenges and continue to grow in 2022 and over the coming years.   

Our operational investments in 2021 will enable growth in production output and productivity in 2022 which, together with our proven supply chain, should provide a solid foundation for future progress, including further opportunities to improve margin.

We have a strong balance sheet, positive cash flow and a clear and focused strategy which we believe will enable us to grow profitably over the short and medium term.

My opinion - so far, so good. The turnaround is real, and it sounds as if the company is coping well with all the current macro issues.

These are semi-luxury products, bought mainly by fairly affluent customers. So I imagine PMP should be resilient even in a tougher macro environment, as regards customer demand. Customers like to collect, and add to their pottery collections, plus of course replace the occasional breakage. So I think demand should remain robust.

Broker consensus is for profits to rise over 40% in 2022, which if achieved (56.7p EPS) would bring the PER down to just 11. I think that could power a c.30-40% rise in share price over the next year, assuming nothing goes wrong.

There’s a good chance of a takeover bid I reckon, from overseas. Heritage British brands have a lot of appeal in some overseas markets.

Overall then, a thumbs up from me. I don’t currently hold, but would look to buy on any significant dips, if spare funds were available.

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Empresaria (LON:EMR) (I hold)

81.5p - market cap £41m

This is a group of staffing companies, in various countries.

I reviewed its 2021 year end trading update, which was positive, here on 28 Jan 2022.

As you can see below, the financial highlights are impressive. The adj EPS result of 8.6p is slightly above Singers forecast of 8.5p

Valuation is a PER of 9.5, which seems attractive to me.

Dividend of 1.2p is OK, nothing to write home about.

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Investor presentation - recording should be available on InvestorMeetCompany’s website, recorded yesterday.

Outlook - this sounds upbeat. I think the staffing sector seems a good sector to look at, given low unemployment, and skills shortages.

In 2021 the Group moved back into growth mode, while investing in our operations. This investment will continue into 2022 with plans to grow our sales and recruitment teams in markets and sectors where we see strong opportunities for growth. The benefits from these investments will become apparent as we move through 2022 and we look forward to the year ahead with optimism…

We look forward to the year ahead with optimism as our markets continue to rebound and client and candidate confidence increases. Our ambition is to create long-term sustainable profit growth for the Group and deliver adjusted operating profit of £20m in the medium term and we believe we are well positioned to achieve this.

Balance sheet - not the best, with NTAV only £2.4m

Cashflow statement - not very good. Increased receivables has swallowed £8.2m, only partially offset by £3.5m increase in trade payables. This is typical of the sector though - when in expansion mode, working capital absorbs cash. The reverse happens in a recession - it generates cash, as working capital unwinds.

My opinion - several investors have told me this is a rubbish share, but it’s performing quite well. My main reservation is the lack of cash generation, and the weakish balance sheet. I’d prefer to see cash retained, to strengthen the finances, than paying divis.

It’s only a small, low conviction position in my portfolio, and I’m not minded to buy any more, nor to sell. So overall, I don’t have a strong opinion either way, but it’s cheap enough, so am happy to continue holding a small position. Note how resilient EMR has been in the recent small caps carnage sell-off.

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Jack’s section

Eurocell (LON:ECEL)

Share price: 220.9p (+1.33%)

Shares in issue: 111,971,415

Market price: £247.4m

Preliminary results for the year to 31 December 2021

This is a vertically integrated UK manufacturer, distributor and recycler of innovative window, door and roofline PVC building products. I’m comparing the results below to FY19 comps, which were the last year of undisrupted operations.

• Revenue +23% to £343.1m, with gross margin up 110bps to 50.5%,
• Profit before tax +19% at £27m, and up from a loss of £1.5m a year ago,
• Basic earnings per share -2% to 18.9p (but up from a loss per share of 2p in FY20),
• Net debt is up year-on-year from £58.3m to £69.7m (but just £11m pre-IFRS 16),
• Dividend of 9.6p reinstated.

It’s worth noting that Eurocell has invested through the lockdowns: capital investment of £15.2m in FY19, £13.7m in FY20, and £16.7m in FY21. Over the past year, c.£7m has been spent on expanding manufacturing capacity, c.£2m to increase logistics capability and c.£2m for new branches (12 opened in the period, four of which are a new larger format).

And this investment seems to be bearing fruit, with ‘continued successful deployment of commercial strategies’ and strong underlying demand in end markets, with revenue up 23% vs 2019

In terms of revenue:

• Profiles up 22%: good contribution from trade and new build fabricators, as well as a very strong performance from Vista doors,
• Building Plastics up 24%: excellent performance across full range of manufactured products and traded goods,
• c.8% from selling price increases and a surcharge implemented to recover raw material price inflation.

I think over the next couple of years, understanding which companies can handle inflation better than others will become a more important characteristic, so it’s encouraging to see that Eurocell has so far recovered higher raw material costs with the surcharge.

On supply chains:

We expect supply chain constraints to ease over the coming months, and the actions we took last year have ensured we have the resources necessary to operate efficiently and support our growth aspirations for revenue and margins.

3 to 5 year objectives are:

• Revenue - outperform our markets
• Recycling - 33% of raw material consumption from recycled material
• Operating profit margin - targeting improvement of 150bps

That doesn’t sound madly exciting, but I suppose you want to underpromise and overdeliver. And the key driver in the above is likely revenue growth. Outperforming market growth of 5% is different to outperforming market growth of 1%. Eurocell says sales volume growth in the first two months of 2022 are up 6% year-on-year, so perhaps that can serve as a guide going forward? Even then, lockdowns and Covid complicate the picture, so it’s hard to say.

Conclusion

At the current valuation, I don’t think stretch targets are required for share price appreciation though, given the growth initiatives and trading momentum.

Eurocell strikes me as a good operator in the space. It is taking market share, investing for further growth, and has managed a tricky period of social disruption and raw material inflation well. This part of the market doesn’t tend to attract premium multiples, so that could put some kind of ceiling on the price, but the shares do look to offer some value at the current levels.