Small Cap Value Report (Fri 5 Apr 2019) - TET, MOTR, CREO, TCN, LWB | Paul Scott

5th Apr '19 by Paul Scott

32 comments 10688 reads

Good morning, it's Paul here.

My plan today is to set aside some time to catch up on a few things that I missed earlier in the week. In addition to reporting on today's news too, of course.

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A couple of small acquisitions are announced;

Begbies Traynor (LON:BEG) is acquiring a profitable, small firm of chartered surveyors. The deal looks sensibly structured, with a 3-year earn-out on stretch targets. I like BEG's strategy of developing its property services division. This generates some growth, which is lacking in its core insolvency division.

Scientific Digital Imaging (LON:SDI) is acquiring a small but profitable, complementary business here. Again, not material.

Treatt (LON:TET)

Share price: 392.5p (up 1%, pre-market open)
No. shares: 58.8m
Market cap: £230.8m

Trading update

Treatt, the manufacturer and supplier of innovative ingredient solutions for the flavour, fragrance, beverage and consumer product industries today publishes a trading update for the half year ended 31 March 2019 (the "Period").

Nothing madly exciting here, it's an in line update (right at the end, in the outlook section);

... the Board, therefore, continues to believe that profit before tax and exceptional items will be in line with its expectations for the financial year ending 30 September 2019.

Other points sound reassuring overall;

H1 revenues up 7%
Encouraging opportunity pipeline
New $14m US facility, completed in Mar 2019, will be fully operational by June 2019
UK relocation, costing £35m, due to start summer 2019, occupancy due to begin in summer 2020
Forex hit of £0.6m - doesn't really matter, as it's swings & roundabouts

My opinion - there could be a good opportunity here. It's not cheap, on about 20 times forecast earnings, but that doesn't include upside from the major new production…

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MrContrarian

5th Apr '19

My morning smallcap tweet: Squaring the funding circle.

Scientific Digital Imaging (LON:SDI), Matomy Media (LON:MTMY), ProPhotonix (LON:PPIX), Bilby (LON:BILB), £K3C, Motorpoint (LON:MOTR), Funding Circle SME Income Fund (LON:FCIF), Funding Circle Holdings (LON:FCH)

Scientific Digital Imaging (SDI) £1.6m acquisition of business with rev ] £1.9m and PBIT £0.31m. Adds ~14% to rev and is earnings enhancing.
Matomy Media Group (MTMY) is offered $36m for its 90% holding in Team Internet AG subject to due dil. Cash would be used to reduce convertible debt.
Prophotonix (PPIX) FY slightly ahead of guidance with rev down 8%, net loss -$1.3m (-$2m). Rev down mainly due to a customer's delayed new product launch. Outlook: Bookings in the first 13 weeks $4.2m ($4.3m), backlog $7.8m ($7.4m).
Bilby (BILB) CEO resigns, new CEO starts 15 April. Sounds amicable but clearly board knew a while ago.
K3 Capital Group (K3C) cuts FY EBITDA guidance to £4.5m-£5m. Blames delay in a number of the significant transactions in KBS Corporate Finance Division which may not close in the FY.
Motorpoint Group (MOTR) guides FY U/L pretax up 10%. Stockopedia F/C is for 18%. Gross margins per unit softened slightly. Outlook - progress in revenue and U/L profit but ~£2m (non-cash) profit 'headwind' from historic deferred extended guarantee income.
Funding Circle SME (FCIF) EGM to approve wind up and return capital. "Funding Circle has reaffirmed its willingness to support the Board so as to effect the best outcome for the Company's shareholders."
Funding Circle Holdings (FCH) re FCIF wind-up - FCIF was projected to fund only ~3.5% of FCH's origination volume in 2019. FCH confirms FY guidance.

sharw

Paul - any thoughts on today's pre-close from Tricorn (LON:TCN) ?

It looks roughly in-line with forecasts but this share is one that has not recovered from the great autumn slide, in fact it kept going down so that we have a prospective p/e of 5 for the year just ended and a stockrank of 89 despite momentum rank of 40.

Tortoise investor

Hi sharw, I hold Tricorn (LON:TCN)

I think it was sold off because of concerns that revenue were flatlining after experiencing stronger growth in early 2018. In my opinion that kind of missed the point as the share is all about the turnaround in operating margin and falling debt - hence why today despite only a 2% rise in revenue there is still a 30% rise in pre-tax profits.

The company still has high debt which hopefully is being pared down and it's a very small cap, so it shouldn't be on a very high multiple, but today's positive update should give it a decent lift into the higher single digits hopefully.

jonesj

Treatt (LON:TET)
This is another one that got away. I held several years ago and one of the reasons for holding was the Bovill family having a large amount of skin in the game. I sold in March 2013 when they announced their intention to sell their holding.
In hindsight I made a bad decision as it has almost 4 bagged since.

rmillaree

Motorpoint (LON:MOTR)
Cash conversion - is always likely to be strong, as secondhand cars are sold for cash or external finance. So I would expect the cash to come in instantly, before cars are released to the buyers.

Hello Paul

Strangely i was thinking exactly the opposite that cash conversion would be the primary problem for this company. Perhaps we are looking at this from a slightly different perspective in this regard - i would agree that once the car is sold they get the cash immediately job done.

But i am guessing they have to pay upfront for the cars they have to sell - so its cash outlay - car sits waiting to be sold for potentially a long period of time before they get their cash back. so to me cash conversion could be an issue if for example the pace of car sales slows or there is a material drop in used car prices? that can work to their favour in reverse too though).

Looking at the balance sheet - which is probably all important for retailers like this

inventories (93 mill) receivables 11 mill and cash 15 mill total 119 mill 65 mill is

Trade and other payables £102 mill - of which "stocking finance facilities. (0.8 mill interest paid

They have land of 1.7 mill and total plant of 7.5 mill which i will disregard as i would say it would cost them money to exit leases

To me this balance sheet is anything but bulletproof as the size of the inventories is much larger than asset surplus - and they are funding the stock on finance. Practicably if they were ever in a financing problems then they cant pay down debt without selling down the stock which would ruin the business model.

I put this company into ????? - i quite like the business model, reasonably simple and probably works well with the scale they have. The balance sheet isn't a killer but i think it's wishy washy enough at present to put me off investing when aligned with the pretty low margin business type. Not for me i guess but i see the attraction.

One added thought - do they earn good money by offering crap finance terms to customers? - if they do this would be the kind of nightmare risk issue that could destroy the company if they ever had any ppi type redress issues dating back multiple years. I don't know enough about their business to know whether that could be a potential banana skin. or not.

Collector

Trust is the most important factor in all good things, so with regards to second hand car dealers. In the back of my mind there would always be a nagging doubt that what they say is not candid, so for me it is a dumb, but calm and relaxed, No, I'll try something else instead.

Paul Scott

Hi millaree,

I don't understand why you think there is a problem with the Motorpoint (LON:MOTR) balance sheet - it looks absolutely fine to me.

Conventional car dealership chains tend to have a current ratio of about 1. As you suggest, the big assets are inventories, and the big liabilities are creditors (manufacturers & stocking facilities).

MOTR is somewhat better, with a last (interims) current ratio of 1.18

Stock turn looks to be a bit over a month. It's doing c. £1bn revenues, with £93.2m inventories (at cost). Assuming roughly a 10-15% markup on cost, then they seem to be turning over their inventory about 10 times per year - very good.

Assuming they get about 30 days credit from the bulk vendors of cars (possibly ex-hire fleet cars, ex company cars, etc), then the money going out for purchases looks to be on a similar timescale as the money coming in from turning over their stock.

Although it looks as if they probably do pay cash for most of the cars (as you suggest) and use a stock-funding facility - here is the breakdown of current liabilities as last reported in note 13 to the 30 Sept 2018 balance sheet;

Accruals seems high- I would like to know what is in there.

Note the £2.5m deferred income. Sounds like that is ending, hence the headwind noted in today's report.

So you've got interest-bearing debt of £65.4m, supporting £93.2m of inventories (at cost), which turns over about every 5-6 weeks. Why is that a problem? It looks absolutely fine to me. It's safe lending for the bank, and is a very cheap facility - the P&L finance cost is £0.8m for the year, for the stocking finance facility. So a big rise in interest rates would be expensive for MOTR, but that doesn't seem likely any time soon.

I prefer the capex-light model of MOTR to conventional dealers, who are beholden by the new car manufacturers to spend on glitzy showrooms.

Good final point you make about the potential for PPI-type fines, if MOTR (and other dealers?) have been mis-selling finance. I recall something about that recently, which I wrote about, where I think the FCA are investigating car credit brokers, who are given leeway to change the interest rate apparently, which sounds a bit fishy.

To me, the attraction of MOTR is that it has the potential to scale up much more quickly than conventional dealers, and its sites are doing something like £80m revenues each. Hence opening say 5 or 6 new sites, would grow the business by about 50%, at very little capex. That looks quite attractive. Also as it doesn't sell new cars, MOTR shouldn't be affected much by any supply disruption, Brexit, etc.

It's not a stock I hold, but it's on my watchlist as a possible future purchase.

Regards, Paul.

Rusty2

I think the potential problem is in a recession people won't be buying cars or very few will be, I remember the last recession, dealers were desperate to sell cars to free up the cash tied up in them, I got a very good deal. So instead of the normal 5-6 weeks what if that becomes 20 weeks and the prices are reduced. I'm seeing around me quite a bit of competition to Motorpoint (LON:MOTR), I don't know if others are finding that in their areas. Their cars did not look cheap to me, I traded mine in locally for a good deal. Looking at the reviews they are good so most people seem to be happy. If looking for a used car I would use Auto Trader (LON:AUTO), good way to find what you want in your area and then just go the dealer, they even give you a price for a trade-in I was surprised the dealer nearly matched, deducted a bit for a couple of problems, which was fair.

Motorpoint (LON:MOTR)

Paul

So you've got interest-bearing debt of £65.4m, supporting £93.2m of inventories (at cost), which turns over about every 5-6 weeks. Why is that a problem? It looks absolutely fine to me.

I don't think its particularly a problem while the business is profitable - i was probably perhaps hoping for too much safety in that regard - it is a big number owed out in total though and with retailers if there ever is problems whats on the other side of the balance sheet doesn't always provide the support one would hope. Reflecting on it more though for a company making £20 mill a year + profits that shouldn't really be a problem - presuming its not trending in the wrong direction going forward.

Beginner

CEO of Airea (LON:AIEA) has sold his entire holding to the EBT. He pockets c£1.7m.

peterg

Not the best news for holders. But does it signify an issue that should be of serious concern? He has sold at a good price to the employee benefit trust, of which I assume he will be one of the beneficiaries, so he will be expecting to get some of those back for free in due course. Certainly not the best look for investor sentiment, however

Hi Collector,

Trust is the most important factor in all good things, so with regards to second hand car dealers.

That reminds me of my 2nd favourite Bob Monkhouse joke - "Sincerity is so important, in showbiz. Once you can fake that, you've nailed it!"

My favourite joke of his, is this one, "When I was growing up, people used to laugh when I said I wanted to be a comedian. They're not laughing now!"

It's Friday, so why not have a couple of jokes!

Small Cap Value Report (Fri 5 Apr 2019) - TET, MOTR, CREO, TCN, LWB

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Treatt (LON:TET)

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Paul Scott

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