Small Cap Value Report (Tue 12 March 2019) - HAT, 888, FCCN, STAF, MTC

Tuesday, Mar 12 2019 by

Good morning!

A couple of companies in my portfolio reported today, and we have plenty of other stories to discuss.

Today's list:

Trade update - I now own some long-term, deep out-of-the-money put options in Tesla. The effect of this trade is that I am betting Tesla's equity turns out to be worth nothing by 2021.

This probably won't happen, and the options will probably expire worthless, so I will lose all of the money I've invested in them. Just have to put my feet up and wait until 2021 to find out!


  • Share price: 294.9p (+3.5%)
  • No. of shares: 37.7 million
  • Market cap: £111 million

Preliminary Results

(At the time of publication, I have a long position in HAT).

This share has been in my portfolio since 2013. At this stage, perhaps it's fair to say that I'm a veteran H&T shareholder?

More good results for 2018:

  • pledge book up by 9.5% to £52 million, a fresh high
  • personal loan book up by 38% to £20.5 million
  • personal loan revenue after impairments up 80% to £7 million

The personal loan segment has been the biggest driver of growth, but nearly all operating segments showed encouraging progress. For example, revenue from foreign currency services grew by 24% (from a low base).

The company remains wonderfully disciplined as the number of stores increased by only one during the year, to 182.

H&T has resisted the urge to expand unprofitably, instead fine-tuning the profibability of its existing estate. Indeed, it has a slightly bigger store portfolio (c. 190) if we scroll back to 2015.

It says that it now has access to a "broader customer base", after improving its online channels with respect to both jewellery retailing and pawnbroking.

Traditionally, a pawnbroking customer was an older woman with dependants who had family jewellery items she could pawn to get through a temporary cash flow difficulty.

As the business has moved online, it's easy to imagine a younger audience that is more balanced between men and…

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All my own views. I am not regulated by the FSA. No advice.

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H&T Group plc is a non-trading holding company. The Company provides a range of simple and accessible financial products tailored for a customer base, which has limited access to, or is excluded from, the traditional banking and finance sector. Its segments include Pawnbroking, which is engaged in providing secured loans against collateral (the pledge); Gold Purchasing, which is involved in buying Jewelry directly from customers through its stores; Retail, which is involved in retail sales of gold and jewelry, and the retail sales are forfeited items from the pawnbroking pledge book or refurbished items from its gold purchasing operations; Pawnbroking Scrap, which comprises various other proceeds from gold scrap sales other than those reported within Gold Purchasing; Personal Loans, which comprises income from its unsecured lending activities, and Other Services, which comprises third party check encashment, buyback, prepaid debit card product and foreign exchange currency services. more »

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888 Holdings Public Limited Company is a provider of online gaming entertainment and solutions. The Company is the owner of software solutions providing a range of virtual online gaming services over the Internet, including casino and games, poker, bingo, sport, emerging offerings and brand licensing revenue on third party platforms. Its segments include B2C (Business to Customer) and B2B (Business to Business). The B2C (Business to Customer) segment includes casino and games, poker, bingo and emerging offering. The B2B (Business to Business) segment offers total gaming services under the Dragonfish trading brand. Dragonfish offers to its business partners use of technology, software, operations, e-payments and marketing services, through the provision of offline/online marketing, management of affiliates, search engine optimization (SEO), customer relationship management (CRM) and business analytics. The Company provides payment services, customer support and online advertising. more »

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French Connection Group PLC designs and supplies branded fashion clothing and accessories for men and women. The Company operates retail stores and concessions in the United Kingdom, Europe, the United States and Canada and also operates e-commerce businesses in each of those territories. Its principal brand is French Connection, which designs, produces and distributes branded fashion clothing, accessories, such as toiletries and fragrances, shoes, watches, jewelry, eyewear, furniture and homeware through its distribution channels: retail stores, e-commerce, wholesale and licensing. Its other brands include, Great Plains and YMC. The Company operates in approximately 50 countries around the world. The Company's subsidiaries include French Connection Limited, French Connection UK Limited, French Connection (London) Limited, Contracts Limited, French Connection Group Inc., French Connection (Hong Kong) Limited, French Connection (Canada) Limited and YMC Limited. more »

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  Is LON:HAT fundamentally strong or weak? Find out More »

36 Comments on this Article show/hide all

Effortless Cool 12th Mar 17 of 36

In reply to post #456933

Hi leoleo,

To respond to your comments on Water Intelligence (LON:WATR).

Yet, looking at the fundamentals, the lack of free cashflow stands out as a reason for continued suspicion.

Operating cash flow for Water Intelligence (LON:WATR) has been positive every year from 2012-2018 and demonstrates strong cash flow conversion. The negative free cash flow in 2015-2018 is entirely due to reacquisition of franchisees, which has also been the main driver of top line revenue growth. I don't see any reason to be suspicious about this; the business is simply  implementing its strategy effectively.

Overall I have to agree with your concerns. I'll go further and say I believe there is probably something wrong with the accounting here, albeit more on the lines of accesso Technology (LON:ACSO) than Patisserie Holdings (LON:CAKE). However it could be years before whatever it is comes to light.

Any issue with accesso Technology (LON:ACSO) seems likely to relate to aggressive accounting through  over-capitalisation of expenses, whereas Patisserie Holdings (LON:CAKE) was a fraud, involving fake revenues. It is clear from its balance sheet that Water Intelligence (LON:WATR) is certainly not doing the former. It could be doing the latter, but I think you are making a big and unjustified leap in logic to suggest that there is "probably" something wrong with the accounts.

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Lion Tamer 12th Mar 18 of 36

£ Off topic post.

I am really enjoying the measured and rational conversations here today, even although they are mainly on shares not currently on my watch list. It is a pleasure to be here again (after the friction in the comments section in some previous weeks).

Thanks guys.

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Zipmanpeter 12th Mar 19 of 36

Re French Connection (LON:FCCN) - Can anyone make sense of their results today.  Two queries: 

First query: 

In 2018, they said: 2018 "Total ecommerce revenue grew by 3.1% across our websites representing 29.7% of total Group retail sales, up from 27.3% in 2017".  Given 2018 Retail sales of £65.3, this implies ecommerce sales of 65.3* 0.297 = 19.4 Mn.

However, in 2019 they said "Disappointingly, total ecommerce revenue also contracted by 3.7% across our websites. However, ecommerce still increased penetration of total Group retail sales, which now represents 21.2%, up from 19.8% in 2018." Given 2019 retail sales of £58.4, this  implies e-commerce was 58.4 * 0.212= £12.3 Mn

Given 12.3/19.4 = 0.63, quoted data implies E-commerce declined 37% not 3.7% .....which would be a shockingly bad result whereas the commentary simply says " Within retail, revenue for ecommerce was slightly down on last year, reflecting the general trading environment but alsoimpacted by a high turnover of staff within this area, particularly at the senior level". 

I note that a simple table that showed separate lines for Stores, E Commerce, Wholesale and Licencing Income for the last 5 years would clear this up !!  Why do so few companies provide this sort of thing?  Quoting % participation of a structurally declining "Retail" is not very transparent or meaningful -  especially as Wholesale includes selling through some online sites!.  Looking forward the absolute value/trend of French Connection E-commerce is critical to potential valuations since this looks like an opportunity area for a new owner, especially one which already has good internet selling sysems

Second query: 

 "The Group has assessed the potential impact and we anticipate that the new standard will result in the carrying value of leased assets being increased by approximately £26m, with leased liabilities being increased by approximately £40m on the date of transition"

Given the now relatively small store estate (46 stores, with 8 closures expected this year) and short ave time to lease expiry (now only ave 2.3 years), can anyone explain why there is such a big difference between assets/liabilities that will appear on the next balance sheet. Does this undermine the overall view of balance sheet strength for £FCCN?

I hold since I have bought into the argument that wholesale and licencing arms are very profitable with some sort of radical improvement in retail losses possible over next 12-24 months as final round of loss making store closures goes through, with consequent HO savings.  Hopefully  Stephen Marks sells out at the same time, permitting a radical reshaping of the business.  

With a good answer to these 2 queries, I think there is a good chance of a sale at a good price since the brand continues to sell !  However, weak answers would greatly diminish the attraction.

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Aislabie 12th Mar 20 of 36

The profit at French Connection (LON:FCCN) of £100k should be viewed in the light of stock being valued at £28.4mm. This valuation only needs to be out by less than 0.5% to eliminate the profit (or, the other way, to double it). Retail stock valuation does not come at this accuracy.
The amount of effort on this site that is put into analysis can only make sense if a bid at a good price is expected soon for a marginal company in a terrible business. I hope (but don’t expect) this persistence is adequately rewarded.

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Laughton 12th Mar 21 of 36

Re TSLA - "so I will lose all of the money I've invested in them"

Not necessarily - you don't have to hold them until they expire.With Mr Musk in control (currently) who knows what will happen to the share price between now and 2021?

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LeoInvestorUK 12th Mar 22 of 36

In reply to post #456963

Water Intelligence (LON:WATR)

Any issue with accesso Technology (LON:ACSO) seems likely to relate to aggressive accounting through  over-capitalisation of expenses

When franchisees are reacquired, the goodwill element is capitalised onto the balance sheet. The true level of profits is therefore dependent on an opinion of the allocation of value between goodwill and other aspects such as work in progress. Therefore I can see how a similar over-capitalisation situation could occur. As the acquired franchise goodwill is not amortised any such theoretical situation could continue for as long as shareholders are happy with zero / negative free cashflow.

It could be this, or it could be something else, or everything could be fine and start paying large dividends in a few years. My personal opinion is that there is probably something wrong, but I don't claim this follows logically from known facts and as I pointed out, I am clearly biased having sold early. 

Edit: The lateness of their results is another red flag.

Blog: LeoInvestorUK
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rmillaree 12th Mar 23 of 36

Ref Tesla

The strange thing here is that there is no need for Tesla to be in any potential short term financial stress other than Elon Musks refusal to raise extra capital to bolster the balance sheet. Unless there is something not in the public domain that prevents them raising funds they could have easily at the right time over the last 12 months raised $5 billion dollars via issuing new equity - in some respects i think they would be worth more with 10% extra shares and $5 bill extra in the bank as a safety net.

One would presume the lack of fundraising when it was widely expected that it would happen would make one think the choice not to raise funds is from a position of strength in that they dont need the cash or think they can raise later at higher shareprice- however Musk then goes and says we were within weeks of death - as ever with Musk god would struggle to work out what the reality is as far as that is concerned.

I presently hold no Tesla but have done in the last, main reason for selling was the potential impact of loss of China sales (China was their second biggest market) over trumps tariff fight , with slight other niggling worries about reduction in higher margin sales as model 3 backlog reduced and also the removal of tax credits in us. I am comfortable having exited as current year forecasts look like they won't be as good as the excellent h2 last year (Ludicrous mode for the profit reporting in that h2 18 period perhaps :))

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sharmvr 12th Mar 24 of 36

In reply to post #456963

Indeed - I have noticed increased scepticism post Patisserie Holdings (LON:CAKE) (I too got burned) but it's important to look at it on its own merits (notwithstanding that scepticism is likely a good habit).

Agree with EC on free cash, however I would contend that if acquisitions are a part of the strategy, they should be a necessary deduction from equity cashflow. Would probably have to add back the higher cashflow from corporate owned. Will leave that to EC and those that are excel inclined (Not being flippant - would appreciate if they are shared!)

As a holder and having looked at the accounts, I would not say there is any great indicator of fraud / misrepresentation at least so far as the numbers are concerned.

Concerns raised around RPTs I share and indeed the new director appointment does not help given the historical directorships. I would suggest this is the biggest fraud risk if there is one.

CEO - bullish and excessive remuneration - certainly on the former less so I think on the latter. Jurisprudence professionals in the US don't come cheap and looking at his bio on Bloomberg, I expect he could command a lot more in an alternative role (then again, so could Theresa May!!)

At the last results, I feel receivables quality is coming down including the recording of accrued income. I have some sympathy for receivables given the larger insurance base and municipal offering (both of which have grown) but generally will be looking out for this in the notes. Ageing of receivables will imho confirm whether that revenue growth is real and drops to cash.

Hold Water Intelligence (LON:WATR)
Also may I be so bold as to second comment #18 from Lion Tamer

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WDWombat 12th Mar 25 of 36

nothing on Surgical Innovations SUN? Small but might be interesting l-t and look fairly good numbers plus upbeat comment on current trading.

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sharmvr 12th Mar 26 of 36

In reply to post #457038

Hi Leo,

I am struggling to follow this line of thought:
Goodwill = Excess of cash consideration over the fair value of net assets acquired.
They capitalise expense (by overstating closing inventory), the amount of goodwill is reduced and profit is increased, it should still come out of cash flow.
Cash out on acquisition is a constant, yes closing inventory overstated could increase profit, but then this would show in operating cash flow, with operating cash well below profit.
The only time I see a material increase in inventory is the most recent interims - at the risk of sounding like a broken record, my concern would be on receivables, especially as some of those receivables acquired would be owed to the company, but I have not had a chance to review the fair value adjustments.

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LeoInvestorUK 12th Mar 27 of 36

In reply to post #457078


I was more thinking you would understate the other assets and overstate the goodwill. After all, franchise goodwill is free in profit terms (no amortisation).

If the franchise is making (say) £1 a year (in excess of licence fees and reasonable franchisee salaries), then perhaps the goodwill is worth £10. Say there are other assets of £5. You pay £15 for the franchise but classify £14 of that as goodwill.

Say the other assets consist solely of new plant with a 5 year life. At a valuation of £1 the depreciation charge is 20p pa rather than £1 and so the profit from the reacquired franchisee is now £1.80 rather than the £1 they have historically made. There is no adverse cash impact for 5 years.

Alternatively, say the other assets include £2 worth of surplus assets (maybe due to a synergy). You then sell them, but the remaining assets are still worth £3 so you can still easily carry them at their book value of £1. You've just made £2, both in operating cashflow and in profits.

I dare say it isn't that straightforward in practice, but the incentive to generously value unamortised goodwill seems sufficiently high that somebody, somewhere, will be doing it.

I'm interested if you can poke holes in this argument, but I didn't mean to drag myself into inventing specific conspiracy theories - my case is more that there enough red flags and enough scope for an accounting problem of some kind that I personally think there is probably an issue somewhere.

I agree in receivables - I already checked these and they don't seem to be growing out of proportion to turnover. I also had the same thought about insurance companies delaying payment, flirted briefly with the thought about whether this could be another Accident Exchange and decided it was not a cause for concern.

Blog: LeoInvestorUK
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Graham Neary 12th Mar 28 of 36

In reply to post #456928

Hi Paul, I ran out of time today but might look at Pendragon (LON:PDG) in the morning if I get a chance.



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kenobi 12th Mar 29 of 36

Re mothercare, as long as I've been investing it's been a disaster with only brief ups, it used to be part of store house, which contained some other company that they flogged off to concentrate on the mothercare brand,
I understand why you would be happy to see early learning centre sold off and the company return to no debt,
the company is selling for 13.5M, what return is it getting on it's investment ?
Mothercare bought ELC in 2007 for 85M, well it took them over 10 years, but they've managed to destroy most of the value there. I wish them well, but for me, it's just one of those companies that is a series of bumps on a downward spiral. I remember paul reporting they were doing ok here but abroad was suffering, then vice versa, and now with the challenges that all retailers are facing, why risk it ? Perhaps a short term trade, but you'd be mad to trust this lot with your money, buyer beware, trade away and hope you don't get caught one day.

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Effortless Cool 12th Mar 30 of 36

In reply to post #457038


Whilst you describe a scenario whereby goodwill could be overstated, you don't provide any evidence that it is. It is irrelevant to my valuation basis, in any case, since I am interested in projecting future cash flows, and goodwill and other intangible assets have no impact on those.

With regard to the lateness of the accounts, I think this reflects the fact that Water Intelligence (LON:WATR) does not yet have a proper PLC accounting function. The accounts are clearly pretty much ready now, since they can tell us what the profit is, but they don't publish prelims, instead waiting until they have the fully audited accounts available in May.

This is definitely an area that they need to invest in improving. I raised it last year at the AGM and will do so again this year. The addition of an unconnected CFO with a credible CV to the Board would, I think, go a long way to allaying the concerns of potential investors

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Graham Neary 12th Mar 31 of 36

In reply to post #457118

Hi kenobi, thanks for the comment - great points in there. For the avoidance of doubt, I'm impressed that Mothercare (LON:MTC) seems to be avoiding insolvency for the medium-term, that's all!!



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Graham Neary 12th Mar 32 of 36

In reply to post #457043

Hi rmillaree,

Thanks for the feedback re: TSLA.

It's a great question: why hasn't Tesla raised money already? Bulls have maintained that the company doesn't need to. Bears have maintained that it does need to, but it can't.

Let's assume for the sake of argument that it does need to, but it can't. Why would Tesla be unable to raise funds?

For starters, it might be due to Musk's stubborness. Maybe he is running things close to the wire because he doesn't want to admit that he is running out of funds. That is possible.

Another possibility, which could be completely false, is that Tesla has received a Wells Notice from the SEC. Companies which have received a WN cannot raise capital until they have disclosed the WN to the public.

For context, I would refer you to Note 17 of Tesla's latest 10-K. There are legal proceedings at Tesla under the following headings:

  • Securities Litigation Relating to SolarCity’s Financial Statements and Guidance
  • Securities Litigation Relating to the SolarCity Acquisition
  • Securities Litigation Relating to Production of Model 3 Vehicles
  • Litigation Relating to 2018 CEO Performance Award
  • Securities Litigation and Settlement related to Potential Going Private Transaction

The SEC has accused Musk of being in contempt of this "going-private" settlement. I agree with the SEC's position on this.

And there is the DOJ, too.

"the SEC has issued subpoenas to Tesla in connection with (a) Mr. Musk’s prior statement that he was considering taking Tesla private and (b) certain projections that we made for Model 3 production rates during 2017 and other public statements relating to Model 3 production. The DOJ has also asked us to voluntarily provide it with information about each of these matters and is investigating."



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Effortless Cool 12th Mar 33 of 36

In reply to post #457133


At the risk of boring people, I have a few more thoughts on goodwill/intangibles for Water Intelligence (LON:WATR).

The franchise businesses that they buy in have low fixed assets and inventory, that is the nature of the business. The risk that you are concerned about comes less from understating those elements of the transaction, rather from understating those intangibles that, unlike goodwill, are subject to amortisation, e.g. customer relationships. That could lead to overstated reported profits, but would have no effect on adjusted profits (or my valuation).

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jwebster 13th Mar 34 of 36

Following on from the 888 Holdings (LON:888) results announcement

Graham has already kindly outlined the P&L figures

Dividend for the year is 12.2p versus 15.5p in 2017 which is not a great result, in the sense the best companies increase dividends over time.

However, the item I wanted to drill down on is cash flow. The reason is cash reduced from the start of the year by 46.6m versus previous year 2017 when cash slightly increased.

Good news is 888 has no debt and a positive cash position of USD 133m.  Noted 57.1m of this cash is actually customer deposits. However, 133m is a drop of 46.6m from the start of the year.  The reduction includes dividend payments of 56.6m. Interesting as the 2017 comparable paid a dividend of 70.5m yet slightly increased overall cash position in 2017 from 172.6m to 179.6m.  So why the reduction?  Big swings seemed to be tucked away in: these two items which accounted for a 53.7m reduction in cash

(Decrease) Increase in trade and other payables (29.1)
Decrease in provisions                          (24.6)

The 24.6m was a pay out to the Germany tax authorities relating to a dispute on historical value added tax.

The 29.1m is harder to pin down but 10m of the 28.5m paid for AAPM is in this number. The balance is to be paid in Q1 2019.

Interesting 888 is sitting on 63.6m of accrued expenses related to German tax authorities handing 888 a VAT liability for activity in 2015-2017, plus another 11.3m in provisions for the period prior 2015. In terms of accounting this seems quite prudent but there could be 74.6m of payments coming up which will drain cash again. It least that’s the way I read it, open to more informed views!

So in the round, I think 888 is cheap on earnings ratio, has no debt and has a highly scalable business model, which is great.

On the negatives, the cash position is a bit blurry for me, I suspect these fines and acquisitions will drain the balance down. Also, there is no impetus for an upward rerating at the moment. Interesting the share price jumped up to around 172p on the results day but has now drifted back to 165p. Not a disaster, but I think there is no driver for buyers until the regulatory side has more clarity in the European markets, the German Vat issue and the USA option, and of course the subsequent earnings growth impact.

Worth a buy if you think all this will clear in time. The on line gaming market isn’t going away anytime soon. But 888 will need to get earnings and cash up (obviously!)

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Graham Neary 13th Mar 35 of 36

Thanks for the balanced comment and further analysis of 888, jwebster!

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clarea Mon 4:19pm 36 of 36

Fingers crossed we hear a positive result re the possible take over of French Connection (LON:FCCN) tomorrow.

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About Graham Neary

Graham Neary

Full-time investor and independent analyst. Editor at Cube.Investments, small-cap writer at Stockopedia. Previously a fixed income analyst in the City and institutional fund manager. I'm a CFA charterholder and have the Investment Management Certificate and STA Diploma in Technical Analysis for good measure. When I'm not talking about finance, I enjoy recreational poker, chess and Mandarin Chinese. more »


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