Small Cap Value Report (Thu 21 April 2022) - G4M, NRR, CARD, CHH, CFX

21st Apr '22 by Paul Scott

76 comments 9202 reads

Good morning, we have Paul & Roland on duty today. Sorry for all the typos in my (Paul) sections yesterday. I was en route back from a week in Malta/Gozo, and wrote my part of the SCVR from a Hard Rock Cafe inside Malta Intl Airport. Not the easiest place to concentrate in a packed airport, on my travel laptop! Also a framed cream jacket that Madonna had worn on stage somewhere a while ago, kept distracting me.

Agenda -

Paul's Section:

Gear4music Holdings (LON:G4M) - a mild profit warning for FY 3/2022, with EBITDA guidance lowered by 8%. Cautious outlook comments too, given macro conditions, which shouldn't really come as a surprise, but seems to have done, as the share price has opened down about 27%. Forecasts slashed by about half for FY 3/2023. Tough in the short term, but at some point the market might start anticipating recovery.

Card Factory (LON:CARD) - excellent news for shareholders, with details announced of a bank refinancing which removes the previous need for an equity fundraise. Risk:reward has therefore greatly improved. Although I think it remains to be seen if the company's longer term prospects are any good, considering online competitors now dominate that space. No divis for c.2 years, as bank debt takes priority. The bounce today is justified, but what happens after that?

Colefax (LON:CFX) - ahead of expectations update. Looks an interesting value share.

Roland's Section:

Newriver Reit (LON:NRR) - this retail property REIT has made good progress with disposals and deleveraging and appears to be nearing the end of a demanding turnaround. I’m impressed by today’s update and tempted by the high yield and potential value I can see here.

Churchill China (LON:CHH) - this family-owned AIM business supplies crockery to the hospitality trade. Sales rebounded strongly during the second half of last year and today’s results are ahead of expectations. The balance sheet looks bulletproof and cash generation is strong. The shares have fallen by 25% since 1 September. I think Churchill is starting to look reasonably priced.

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…

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Chriskay

21st Apr '22

Thanks for the comments Gnome2 Yes people who 'persist' with learning but probably not many who unpacked a lovely shiny guitar from Gear4music Holdings (LON:G4M) SP during the pandemic. I do own 5 guitars accumulated over decades as I was professionally playing then - all gathering dust - wont be buying any more.

As far as music not being taught in schools is concerned there is plenty of evidence for that - it fell from the curriculum years ago. Here in the West Country a well established concert organiser recently offered free tickets to all the local schools. From memory I think just one replied.

I only wish your description of young eager musicians was accurate but outside London and private schools it sadly isn't. Concerts with world class classical players in the West Country in large venues seldom get more than a handful attending under 60 - no future generations coming up here. It is actually quite depressing.

Sorry if my answer is a bit of a diversion but if ever there was a time to buy a musical instrument it was during the pandemic, same with gym equipment, delivery companies could not pack them quickly enough. I really think that time has passed and the market has significantly contracted but it's only my view.

Perhaps if everyone on here would pick up an instrument and start learning the market might explode and they would get a lot of enjoyment too. Now I wonder what Paul would play? Hm got to be the drums?

Epsilon

Wolfy

Re Mj Hudson (LON:MJH) I'm always intrigued by companies at inflection points.

But with Jun 2022E forecast revenue being similar to that achieved in Jun 2021 (£39m Vs £40m), I see that the forecast net profit improves by a huge £9m (from a loss of £5m to a profit of £4m).

Has the company made convincing operational improvements to achieve this swing?

Boon

FT has an article today with interesting views from both AJ Bell and Interactive Investors. They believe that investors are adding less funds to their investment accounts than before, due to rising household costs.

Share investments definitely fall in the discretionary spending camp. Food for thought.

UK households investing less as cost of living rises, warns AJ Bell - https://on.ft.com/37xFAuY via @FT

abtan

Gear4music Holdings (LON:G4M)

Hi rmillaree

There was definitely a comment today on European operations still coming up to speed, which I find remarkable given that the rules changed over 12 months ago and everyone knew they were coming.

Here's an extract from 2019:

"Our strategy of establishing a physical footprint in Europe continues to benefit the Group and provides a solid platform for growth in the future.

As our European business continues to grow, we are expecting to fulfil a higher proportion of orders from our European distribution centres located in Sweden and Germany, which have significant spare capacity."

The text formatting is mine.

Note that European sales are only 10% higher than that they were 2 years ago so I'm not sure what the company meant when they said "significant spare capacity."

The European hubs should be up and running by now without any problems given the tepid sales growth.

Interesting, thank you for that.

Cheers

-Wolfy-

Hi Epsilon, there's a distinction here between statutory revenue and net revenue. Net revenue being a non GAAP measure defined as "gross revenue less direct costs of sales". Didn't I say I needed help with the figures! Net revenue is forecast to increase from 25.5m (FY21A) to 39m (FY22E) per NOMAD (cenkos) and within this there is a more favourable business mix to higher margin, higher growth areas. However, like I said, we're still looking at adjusted figures so the net profit you quote will be different from the actual bottom line

cmpeckham

On Colefax (LON:CFX) I hear that Boris and Carrie may soon have to relocate, so next year could be another bumper year for luxury wallpaper.

Pg 160 of the annual report and accounts 2021 defines and shows the growth over the years

Paul Scott

Hi nettle,

Sorry we didn't get round to Solid State (LON:SOLI) today, there were so many company announcements today - we reported on the usual 5 companies, but there were 8 more companies that I wanted to cover, but ran out of time & energy by lunchtime.

I note that SOLI rose 13% today, we usually try to focus on the big risers/fallers, but were overwhelmed with the quantity today.

Apologies, Paul.

Hi Bristolian,

That's right, I explained in the SCVR of 20 Jan 2022 why I'd downsized my Gear4music Holdings (LON:G4M) position from medium to small, saying -

Gear4music Holdings (LON:G4M) (I hold)

690p (per market open) - mkt cap £145m

I should add (for full disclosure) that I’ve down-sized my G4M position from medium to small. That was partly due to another large founder CEO share sale, and also worries about the cost of online marketing, and supply chain. It’s a good company though, so I’ll be looking to increase my position size potentially in future, depending on newsflow. I can’t afford any more profit warnings, hence down-sized a few things late last year, also pushed by margin calls on my geared account, as mentioned previously.

Of course, I didn't know it was going to warn on profits today, and lower the outlook considerably.

Having said all that, markets do seem incredibly short-termist at the moment, I think because it seems full of traders, who move the prices up & down a lot, often on quite small volume.

We're not just buying this year's earnings. We're buying all earnings for perpetuity. That's why I'm trying to keep focused on businesses which should be much larger & more profitable in say 3-5 years' time, and am ignoring the short term volatility on my core positions.

There's a good chance G4M could resume growth, and then have another big spurt up, as has happened twice in the past, which has been very lucrative for many shareholders who had the good sense to sell when the price got a bit toppy. Easy to say with hindsight though isn't it!

I'm not at all convinced that the coffee can approach is a good idea right now! So contradictory thoughts are swirling through my brain, and I haven't really decided what is the best approach. Maybe a hybrid approach? Having some locked in long term stuff, and also some additional trading shares in the same companies?

Regards, Paul.

Essensys (LON:ESYS) (no position)

Hi Acorninvestor

I was a holder here until last year when I lost faith and sold out.

I've just been through today's interims and must admit to being confused by the +36% (!) move.

You make a good point on the £20m recurring revenues (ARR) and this should make the company worth much more. If they can grow this metric faster I'll be much more interested to buy back in.

For context ARR in FY19 was £16.3m and the gross margin was 70%; today it is 65%.

A few more observations:

From the interim presentation I found on the company's website (presumably for tomorrow's IMC presentation) it looks like there will be a material increase in staff numbers - I have a feeling that this will quickly eat into the large cash pile.
Also from the same presentation the LTV:CAC is now 2.9:1.
It was 5.9:1 when covid kicked off and has been falling since.
The company only seemed to add 14 new Connect sites in H1 (a balancing figure from the 18 lost sites mentioned in today's report.)
That seems quite low.
Finally ARR/connect site looks like it is c £43k right now.
The pipeline is 523 connect sites...so the max potential revenue is £24.7m?
Forecast revenue for this year is £23.7m.
That's an estimate of course but still seems low.

I'm still intrigued so will be listening to the presentation tomorrow morning. If growth can take off again I'd be more inclined to buy back in.

RutlandRam

I notice that Blackrock has increased its stakes (although not by much) in Marks and Spencer(MKS), Royal Mail(RMG) and ITV (ITV). I hold all of these and the share prices of all have been punished over recent months. Should I look upon this as a vote in confidence in those businesses or should I put my cynical accountants hat on and a treat it as a self serving attempt to raise the share prices and therefore the values of their stakes by Blackrock ? Many thanks for any opinions.

simoan

The point you're missing about the low margins at G4M are these -

1. The average transaction value is high, at about £130. Therefore, the cash margin (ex VAT) is quite good, at £31 per transaction.

2. Low returns rate, as it doesn't have to fit, like clothing, so a lower margin works.

3. G4M covers all its marketing costs on the first transaction only, so doesn't need to rely on repeat business.

4. With low margins, there's little incentive for new entrants to come along and undercut.

5. G4M has volume relationships with the branded prospects, especially guitars. So it can be worth trading off some margin for volume.

These points are all very well and good but sometimes the devil is not in the detail. Sometimes, in fact quite often, it pays just to take a step back and look at a company in the round, and ask yourself whether it is in fact just another Boondoggle Enterprise.

At a very simplistic black box level, a company is a machine that takes in debt and equity to create revenue from which it generates free cashflow for it's equity holders. It can pay out the cash as dividends, reinvest it back into the business at good rates of return, or a combination of both. If very little, or no cash ever comes out, as in the case of Gear4music Holdings (LON:G4M), then you have to ask yourself what the point of the company being listed is other than a jolly wheeze for management and employees. There are so many better quality companies listed on various stock markets that generate healthy cashflows, that I am genuinely puzzled why anyone would invest good money in a company like Gear4music Holdings (LON:G4M) let alone spend so much time writing about it.

As an aside, I'm finding the strident tone of some comments rather boring, and reserve the right to not bother replying in future. It's meant to be a pleasure discussing shares & the markets.

Well, there are plenty of strident posts on a daily basis here, sometimes even from yourself. Do I take it that only positive strident posts are non-boring?

22nd Apr '22

Hi Chriskay,

Not sure why you included this bit -

"I have been watching Gear4music Holdings (LON:G4M) from the side lines for a few years, and the current SP is absolutely no surprise to me (sorry Paul)"

No apology necessary.

My view on 20 Jan 2022 couldn't have been clearer here -

So there were obvious worries as you say.

Where do we go from here? I reckon G4M has recovered well from previous setbacks, so it's a decent company. With a bit of patience, it might do well, again, as it has before after short-term disappointments.

Hence I like the company, and management.

Say anything you like about it. The whole idea of these reports is that we welcome all views. Bearish views could maybe do a bit better than the "oh it's rubbish, now it's dropped 75%, as I'm a complete genius and you're all fools" type of style? Boring & unpleasant! (memo to self there, sometimes, so let's all lighten up a bit!)

Done tomorrow! Check out Friday's SCVR

I am genuinely puzzled why anyone would invest good money in a company like Gear4music Holdings (LON:G4M) let alone spend so much time writing about it.

I keep a framed picture of G4M mgt behind my penthouse door in Bournemouth. Because G4M shares paid for it (not the door, before you come back to me about that).

Can we have the nicer version of Simoan back please?!

ezlifeme

Paul and Simoan - As with any investment it depends on when you buy and your view on the time you hold. So in a way both your comments may be entirely justified

23rd Apr '22

I'm sorry you feel I'm not being nice. Surely I'm allowed to make perfectly valid negative points about a company in this comments section? And this is not the first time I've made the point about this company either, so it's unfair to describe my comments as:

Bearish views could maybe do a bit better than the "oh it's rubbish, now it's dropped 75%, as I'm a complete genius and you're all fools" type of style? Boring & unpleasant!

In particular, I made a serious and valid point about the quality of Gear4music Holdings (LON:G4M) and the danger with investing in poor companies like it with low gross margins. When we are in an environment of high input cost inflation this really matters. There's a lot of chatter currently on Stockopedia and other forums about how to mitigate against inflation and yet very little discussion on avoiding low quality companies with low gross margins and little pricing power.

You and I can do the math but others may not. All other things being equal, a 10% increase in COGS for a company with a 30% gross margin causes a a 33% fall in gross profit whilst for a company with 80% margins it only results in gross profit decreasing by 12.5 %. The company with 80% margins is also more likely to be able to maintain margins by increasing prices. I know which company I'd rather be holding.

Obviously, I'm very happy about you being able to buy a flat with the gains made from Gear4music Holdings (LON:G4M) but I don't find that kind of direct connection helpful from an investment perspective. It will now forever influence your attitude towards the company. And think of all those readers that have had a quite different experience of investing in this company and were not so fortunate with their timing.

I'm trying to be nice, but we all know that it is possible to get a good outcome from investing in poor companies by buying and selling at the right time, however that doesn't make the company a worthwhile longer term investment. Just look at the long term chart for Gear4music Holdings (LON:G4M) - it looks like the humps of a Bactrian camel!! So long term holders have had a rotten time and have not seen a single penny in dividends due to the non-existent free cashflow.

All the best, Si

The point is that by avoiding poor quality companies like Gear4music Holdings (LON:G4M) we improve our chances of success over the longer term. Yes, it's possible to buy and sell shares in any company to make a profit if you get your timing right, but doing that consistently over the longer term is not possible for the vast majority of investors.

Zipmanpeter

24th Apr '22

Re Gear4music Holdings (LON:G4M) and European warehouses, I think the points are that

i) Since 2019, we have had both Brexit regulations, Covid and related disruption to shipping containers, and now Ukraine - I am willing to cut some slack!

ii) The new hubs in Ireland and, more significantly, the one in Spain also mean much more of Europe is now covered in cheaper and overnight delivery. If/as those businesses build, costs should be falling and customers better served

The key issue is demand. Can they grow demand to fill those warehouses? My belief is that they can since I remain of the view that online has much further to go and that Europe is behind. Clearly they have lost some growth momentum (so there is 'spare capacity') but I am a LT buy-and-hold person and think at some point in the next 2-3 years we will see another upcycle. I hold and will be on the other side of the small traders currently selling.

Small Cap Value Report (Thu 21 April 2022) - G4M, NRR, CARD, CHH, CFX

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Paul Scott

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Gear4music Holdings (LON:G4M) (I hold)

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