Small Cap Value Report (Fri 18 Oct 2019) - EHG, ESL, EZH, Brexit

18th Oct '19 by Paul Scott

34 comments 7801 reads

Good morning, it's Paul here.

Estimated time of completion is 3pm. Update at 13:30 - today's article is now finished.

As usual on Fridays, it's very quiet for company news. So once I've covered the few interesting small caps announcements, I'll write a section on the potential Brexit deal. I read through both the Protocol for Northern Ireland, and the revised Political Declaration last night. Also I've dug out my notes on the original withdrawal agreement, so have a few comments to make.

Aside from its effect on companies, the economy, and the stock market, this stuff also interests me on a personal level. In the 1980s I did a degree at Keele University in International Relations (a hybrid course covering politics, history, economics, international law, international confllict & cooperation, etc.). Therefore, these days, in my time out from the markets, I can usually be found with my nose in a book on one of these topics. It's very important to switch off from the markets sometimes. Especially when your portfolio is going through a bad patch (as mine has been for about the last 18 months, unfortunately).

Can I just ask that in the comments, people try to avoid the whole political side of Brexit, which is (a) incredibly boring, (b) pointless, as nobody is likely to change their mind anyway, and (c) inflammatory. Instead, let's stick tightly to the economic & stock market issues surrounding Brexit.

We have 2 takeover bids announced today, encouragingly in the small caps space. This reinforces my view that there's currently a lot of value out there, selectively, in UK small caps. Takeover bids confirm that. I think we could see a lot more, particularly if Brexit uncertainty is removed.

The stock market feels like a giant game of snakes & ladders. We're seeing lots of profit warnings, and the associated 30%+ instant plunges in price. Yet at the same time, plenty of premium-priced takeover bids are happening. It's a reminder that there's actually quite a lot of luck involved, in this game - due to future events often being unforeseeable.

Elegant Hotels (LON:EHG)

Share price: 109p (up 56% today, at 10:25)
No. shares: 88.8m
Market cap: £96.8m

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Elegant Hotels Group plc, the owner and operator of seven upscale freehold hotels and…

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GTrader

18th Oct '19

Do you mind listing your buys for others?

Dodge50

I take on board what Bloomberg are forecasting. My view is that the forecasts from both sides of the argument have been shown to be wrong so pay attention to them at your peril.

What I think is likely to be true is that any conclusion to the uncertainty will deliver an improvement in sterling and therefore some short term negative effect on the FTSE 100 as we have been seeing over the last week or so.

RDHOWARTH

Elegant Hotels (LON:EHG) looks a little cheap to me but the company has been accident prone. The NAV in £ has been flattered by the $ reporting but earnings have been depressed by the £. The EBITDA x on forecast EBITDA looks reasonable enough but Mariot will pick up a lot more. So whilst they are paying 10x EBITDA this doesn't reflect the unique nature of the assets, nor the fact that most of the indirect costs fall away for the acquirer. 12x would fairer .. and between 11 and 12 would yield a price of 130 - nearer true NAV. Even at that price - Mariot make 15% ungearded - pretty good on a real estate deal.

FREng

Device Authority's filings at Company's House should be read by anyone interested in investing in £Tern . It doesn't file its P&L but the accumulated P&L losses on the balance sheet tell a fairly clear story, as do the post balance sheet events and the lenders' charge over the IP. It's outside my risk tolerance.

tony axon

Can I suggest ,certainly with regard to larger cos. you consider putting in sensible tight stoplosses ., If tomorrow passes amicably ,all should remain stable monday . If tomorrows events cause huge upset,and a great bout of anguish upsets the market monday you will be able to rebuy,with the cash generated, your favourites,probably at a lower price, when things settle.. Just an idea i have decided on with my larger cos.especially as the insurers have had a good upward run . tony

I don't understand how the proposed Northern Ireland arrangements will stop cheap imports into the UK being transferred tariff free into the EU.

What's to stop me setting up two NI companies (A and B), importing goods from the UK to A, claiming any tariff rebate, selling them to B at zero margin, and then selling them from B into the Irish Republic?

dmjram

Nothing by the looks of it.
And the paramilitary groups have lots of experience with smuggling and the like. Now they will also have a huge profit opportunity to fund their nefarious ends.

Michael C

@FREng - I think article 5 is intended to guard against the scheme you are thinking about.

spantic

Paul………….Many thanks for your Brexit commentary, most helpful

dscollard

if one holds anything with the wisdom of crowds then the bookies are giving evens on the deal being passed: it's a coin flick 1:1 odds https://www.oddschecker.com/politics/brexit

GBP /EUR rallied 5% in as many days ... that might be partly due to a lot of big shorts unwinding as the risk profile has adjusted. It is still below 2019 highs so not suggesting huge optimism , probably more positioning

I also have the 64 page document on my tablet as weekend reading : I lost the will after 10 pages last night and watched Brian Cox instead: spacetime and relativity are easier to digest .

What also appears to be different from the thrice-defeated May deal (other than the NI backstop) is the regulatory framework and level playing field components (from reading analysis so not yet my interpretation). These have been removed from the withdrawal agreement and added to the political declaration so are no longer legally binding. That may be very significant and imply/enable a less restrictive framework with RoW and is certainly more US friendly: by extension, these may act as trade barriers to "frictionless" trade with the EU irrespective of tariffs. That probably needs a sectoral analysis to form opinions on how the actual trade deals look post the transition. It is always useful to remind ourselves that tomorrow's vote is on a framework and likely pathway for withdrawal. There are years, nay decades ,of argy bargy to come.

Volatility and uncertainty bring opportunity , anyone who invests, trades or speculates should be welcoming those opportunities.

ken mitchell

Re Brexit and our investments.

1. SMALL CAPS..

As Paul wrote the other day when (as is happening here at present) investors decide to throw in the towel is often a classic buy signal. No better place than Stockopedia and the brilliant Small Company coverage from Paul and Graham to help find the best ones to check out.

2. BIG (OFTEN FTSE100) COMPANIES PAYING BIG DIVIDENDS.

This isn't really the place for much on these but it's perhaps worth pointing out again that when No Deal Brexit looked a near certainty after Johnson became PM, many of these shares fell to multi decade bargain levels and with some astonishing dividend yields while investors wait for however long it takes for the shares themselves to recover. I've posted on these a couple of times (once coincidentally near those lows) even though this is not really the right place to do so.

As No Deal has become less likely so those shares have recovered strongly. Examples at end of this post.

So IF no deal becomes likely again then very high chance of a much better buying opportunity than now and with those 12 month and/or multi year low pries likely to be approached again... or even a bit lower than they fell a couple of months ago. So perhaps another opportunity for any who have missed the boat so far and agree with that investment case.

Also worth bearing in mind that our own views on Brexit count for nothing., What matters is what the market thinks. AND the market has already shown us clearly by these shares bouncing so fast as soon as a deal looked more likely what the market thinks! And worth a reminder that markets have coped with far worse than no deal in the past, including World Wars.

Also as an aside.....remember how forecasts of housing crash if U.K. voted No in 2016 caused housebuilders shares to fall 50% and proved a great buy opportunity as pointed out here by Paul Scott at the time. They shot up 50% in no time and then continued gaining. No deal could well provide similar investment opportunities.

INSURERS AVIVA and LEGAL AND GENERAL.

Both on low PEs and big dividends. 8% at the lows and both have progressive dividend policy.

AVIVA fell to 350p and now 412p

LGEN fell to 222p and now 275p

HAMMERSON. Fell to astonishing 205p with dividend, if held, then 12%. Has shot up 50% to 312p nd one 5% dividend paid out on top.

ITV. Fell to 105p and now bounced 30% to 137p. Bid candidate?

BT. Fell to 165p and now up 30% to 206p. Jury out on BT until next update. Loads of hurdles including huge pension deficit, but some signs the worst over and new CE and 5G potential. Dividend cut possible and market might see it as plus if raising £500 milions to invest in 5G.

But if next update bad current gains will go... but if got in around 160p then possibly not much if any lower than that.

NEW RIVER RETAIL.

Felll to astonishing 146p thanks partly to big Woodford stake. At that price quarterly dividend alone was 3.5% and 14% annual dividend. Divi not quite covered and small cut possible but still 8% or so at current price.

NRR has shot up to 220p.

SAGA. 32P to 49p so another up quick 50% but like with BT the jury is out at least until next update.

Finally I've just bought Microfocus following article in The Times yesterday saying strong bid candidate.
Share has fallen from £22 earlier this year and is now just under £11., Dividend is 8% and they seem confident of being able to maintain it until business picks up again.

I hold several more of this type of share. Could there soon be similar or better opportunity with some bombed out small cap shares?

ANY outcome other than no deal seems likely to be good news for these bombed out shares with gains on top of those we've had already very likely. But the first easiest gains have been had.

So 8 examples above which I hold. Lucky to buy some near the bottom (e.g HMSO) but others bought higher and then added a few near the bottom. The recent gains from the lows show the potential upside in due course if there is no deal outcome and these shares fall heavily again.

MichaelFBS

Thanks for the useful summary on the agreement. Very helpful.

Bruce5 agree entirely and against the crowd have voted you up.

But Paul is right we are not going change minds and stayed clear in my comment.

Paul Scott

Bon Marche has gone into Administration, saying that it's business model doesn't work;

https://www.bbc.co.uk/news/business-50094937

smatthews1

19th Oct '19

Paul really enjoy reading about your comments on the liquidity of shares and the finer details that makes up the market with the order books.

Albertos

Bonmarche Holdings (LON:BON)

Staggering how fast the demise was. Bonmarche was delisted in August 2019. The SR page still exists and if you look at the print for 1st September 2018 you'll find it was a Super Stock with a ranking of 97, EPS was forecast to rise 15% in 2019 and 16% in 2020, and it had net cash of close to £5m.

The news at that time was good - TU in July had LfL rising by 1.5% - then came the September profit warning.........................

Phil

HollandSmith

How will the market react to Saturdays parliament vote?
For the first time in a while, I truly can not process if its positive, neutral or negative. :) :-| :(

Hi Edward,

Good post! I agree that the rapid demise of Bon Marche was really shocking.

It seemed financially strong enough to weather the storm, but things unravelled so fast that its apparently strong balance sheet soon crashed down.

Looking back at the SCVR commentaries, both Graham and I were unnerved by the downturn in trading in Sept - Oct last year, with Graham commenting that the trading update sounded complacent, and me correctly predicting another profit warning (which came on 13 Dec 2018). So hopefully SCVR readers acted, and were able to exit around 80p between Sept & Nov 2018.

I've been toying with the idea of dabbling in Ted Baker (LON:TED) , Superdry (LON:SDRY) , and one or two other decent brands. However, the speed of the unravel at BON is a lesson that it's probably best to avoid this sector altogether. Both Graham and I did spot that Next (LON:NXT) was the best sector pick - due to its online business being so strong, and it having a well-established plan to exit from potentially all its High Street site.

So far I've been wrong about Marks and Spencer (LON:MKS) - I thought its still prodigious cashflows would support a share price recovery. The trouble seems to be that it's such a supertanker, that the turnaround is likely to takes years. Plus the value of its freehold properties must be plummeting, but debt remains the same. I'm upbeat about its food offering going online though. In human terms, it's sad to see so many town centres being hollowed out once the MKS store closes. In Bournemouth, homeless people have pitched tents & live under the canopy of the closed MKS store. That in turn, and other factors, makes the town centre just not a very nice place to visit. Hence people are shopping more online, or in out of town retail parks.

I think the solution for town centres is to re-purpose them, by asking what are they for? Shopping is still important, but I think we need far more interesting, independent retailers in town centres, rather than them all looking the same. Also, I think councils need to get more people living & working in town centres. So convert closed department stores, etc. into residential space. Maybe co-living spaces, which I think are a great idea - i.e. where prefabricated partitions are installed to provide individual studio flats, then communal lounges, and kitchen/diners allow everyone there to interact and form a community - a bit like a student hall of residence. I think a lot of younger people, and middle-aged divorcees would welcome that type of thing. It's popular in London already. This would then get more people into town centres, benefiting the shops, cafes, bars, etc, and reviving the town centre.

Fascinating times.

Regards, Paul.

jwebster

20th Oct '19

Some examples, in brief:

Air Partner (LON:AIR) with a PER 10.6 dividend yield 6.4% net business cash around 4m. Generates income from Uk and abroad. UK market soft but promising signs of growth in the USA. Insider buying back in May – July. High level of institutional shareholding.

Concurrent Technologies (LON:CNC) interesting high end electronics (circuit boards) firm with PER 11.2 yield 3.3% and net cash position. Generates income from abroad. The Chair owns 7%.

Vitec (LON:VTC) high end camera equipment. Some insider buying recently at 1123p – 1118p level.

Robert Walters (LON:RWA) I like RWA although the market doesn’t. I have worked with RWA and found them good. It’s run by the founder and they have a wide international foot print expanding in Asia.

Solid State (LON:SOLI) has tech products and a history of growth. Low levels of debt. Insider ownership: Gary Marsh CEO 3.3% Judith Comben (ex Dir) 10.14% Mr & Mrs William Marsh (ex Dir) 7.63%.

Synthomer (LON:SYNT) last August non-exec bought 184,400 shares @ 294p Not a small cap but undemanding PER 9.88 yield 4% debt 2x earnings

Of course, they could be cheap for a reason. The market price is the collective wisdom of all buyers and sellers at this point in time. Do your own research, the above are not recommendations.

In summary, I’ve used about 10% of my capital to buy 18 mostly small cap UK listed companies with a view to hold as long term investments, given I think Brexit malaise has made them cheap. The twists and turns of the future are beyond prediction, and I will quickly exit any that disappoint, but hold otherwise.

Ron Ottie

24th Oct '19

It's an excellent idea.

Small Cap Value Report (Fri 18 Oct 2019) - EHG, ESL, EZH, Brexit

Elegant Hotels (LON:EHG)

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Paul Scott

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