Small Cap Value Report (Tue 14 May 2019) - SDRY, GRG, CML, OTB, IDEA, PMP

15th May '19 by Paul Scott

39 comments 10479 reads

Good morning, it's Paul here!

Here is a catch-up section, before I look at today's news.

Superdry (LON:SDRY)

Share price: 447p
No. shares: 82.0m
Market cap: £366.5m

Pre-close trading statement

A reader asked me to comment on this most recent trading update from 9 May 2019. It is headed with this comment;

Trading performance continues to be weak; initiatives to stabilise and improve performance underway

This has to be seen in the context of the recent Board upheaval, where the founder came back, and kicked out the under-performing old Board. That struck me as a good thing. However, the voting figures made clear that shareholders did not agree, as there was little support for Dunkerton from outside shareholders. That's important as it could mean an overhang of potential sellers in the share, who don't like the new (returning) management. Hence I'm wary of buying into this share, as that overhang could persist for some time, perhaps?

The 9 May 2019 update covers this period;

Superdry announces a trading update for the 13-week period from 27 January 2019 to 27 April 2019 ('Quarter 4').

It's another profit warning;

That's not really a surprise, as new (returning) management has not had time to do much yet. Plus there's likely to be a desire to blame continued poor performance on the old management, and then do a kitchen-sink job in the figures, which lays the ground for a subsequent improvement in performance. That's what usually happens!

Revenues - are showing a deteriorating trend (i.e. Q4 worse than H2, and both worse than FY);

Group revenue flat year-on-year (0.0%), but declined 4.5% in Quarter 4.
Specifically: Wholesale revenue up 3.6% to £335.0m year-on-year, though declining 9.3% in Quarter 4. The Quarter 4 decline was driven by increased levels of returns, lower than anticipated in-season orders and decisions not to ship to customers that had reached their credit limits.

The last point, about customers reaching credit limits, concerns me in particular. This suggests that there could be elevated bad debt risk in SDRY's sales ledger. In my sector experience, if deliveries to customers have to be put on hold, due to credit limits being reached (or exceeded), then the customer is clearly in financial trouble. That…

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SundayTrader

14th May '19

FWIW re Portmeirion (LON:PMP), I feel we may be underestimating the size of the current downturn in Far East (excluding China) consumer markets - if so, then there could be more to come from some other consumer facing stocks with significant FE presence. They are probably dependent on a very small number of distributors in KR - as others have said, they could have clarified a bit more on the causes of the downturn.

I don't hold.

dmjram

The B word impact on S Korea would have been negligible in FY18, it closed months before any changes to the UK trading arrangement were due. More relevant now probably is that S Korea is one of the countries playing hard ball with Mr Fox in recent months, refusing to roll over the existing EU deal for the UK.

It would be sensible for Korean distributors to potentially de risk their supply chains given this to avoid tariffs etc. as the A50 expiry date came closer, especially given the lead times on UK manufactured goods to Asia,.

On exposure, last time I saw details, S Korea accounted for 8% of sales, the 3rd placed country individually behind UK and US and there were 28% lumped as "other". If as is likely these include Canada, EU and Japan there is greater exposure to trade disruption from the B word than just the S Korea deal.

LovelyLovelyGorgeous

Duke Royalty (LON:DUKE) let's hope they are ""Adding to winners"

Howard Marx

As a previous shareholder in Portmeirion (LON:PMP) it became a fact of life that sales orders in Asia were 'lumpy' & hence volatile.

May 2015 : "I am pleased to report that our performance is in line with market expectations. Sales for the four months to the end of April, using a like for like US dollar exchange rate, were nearly 10% above the corresponding period last year. Although sales to South Korea have been weaker during this period, other markets have performed well."

May 2016: "Our two largest markets, the US and the UK have performed better than during the same period last year but sales to South Korea have not recovered as we had expected. As a result total sales for the four months to the end of April were 2% below the corresponding period last year. We have also experienced an unexpected decrease in demand from some of our other Asian markets. However, we do not believe that this is a permanent trend."

I'd guess Portmeirion (LON:PMP) use wholesalers in Asia who purchase in bulk &/or at irregular intervals?

Tortoise investor

Re On The Beach (LON:OTB) I am not sure I share your enthusiasm Paul (diclosure: I sold at 470p). Essentially it has stopped growing - albeit it blames temporary wider market factors such as Brexit and problems with Primera:

International revenue decreased by 56% - this is where the excitement was!
Main OnTheBeach website and Sunshine.co.uk has only gone up by 1% revenue
The headline 46% revenue growth I think therefore is just from its acquisition of Classic Collection Holidays which it didn't own in the comparison period. Oh and Classic has seen revenue fall from £20m to £18.5m as well.

Market expectations, according to Stockopedia, are for YE revenue up c.60% and EPS up c.44%. Looks like those will be missed. Not sure I want to be paying more than 20x EPS for a company which at the moment has stopped growth, albeit maybe this is a temporary issue.

Feel free to challenge if you think I am being too glass half empty!

Gromley

Great précis paraic84 - really useful insight imho.

I was briefly invested in On The Beach (LON:OTB) a while ago but as I was not convinced I set a very tight stop loss and ended up getting out with a tiny profit - it is very volatile.

Your scratching beneath the surface suggests to me market disappointed to come, so I'll be watching with renewed interest now.

To be fair though I don't think Paul displayed that much "enthusiasm" he said :

so I can only assume that it's trading in line with market expectations. Why can't they say so?

If your analysis is correct, you have answer that question. - Trading is actually not in line and this is an un-noticed profits warning.

As a holder, if you're even half convinced you are correct, surely you have to be selling now? OTB is sufficiently volatile that it will over-react on the bad news (if it comes) and you will be able to buy back much lower.

I know only to well the thought to 'give them the benefit of the doubt' or not to bail out, because you are 'in for the long term' - but aren't these just variants on FOMO?

If you are comfortable with your analysis, then sell and watch for a better opportunity would be my play.

doublelutz

Duke Royalty - I usually place emphasis on companies paying dividends for at least that part of my portfolio that provides me with income and so I naturally looked at Duke Royalty with a 7.41% yield. Unless I am misunderstanding this business the income is in part a return of capital with royalties being received over a very lengthy period but which will eventually come to an end and thus could be looked upon much as an annuity. Now with that in mind I would have to consider what income return I would expect from a reasonably safe investment and then add on to that another amount to cover future loss of capital. There is then the risk element to take into account as the companies in which the investments are made seem to include small companies that may not continue to be successful. Taking these things into account then a 7.41% yield no longer seems attractive to me. Maybe I am missing something obvious?

Reacher

Hi Doublelutz, it sounds as if you are assuming the yield on the shareholding of 7.41% is a proxy of the interest on the financing which Duke Royalty (LON:DUKE) provides. The initial interest rate on the loan advanced to royalty partners by DUKE is in the region of 10-15%.

However, this rate is flexed every year depending on the underlying revenue performance of the royalty partner which has a floor and a cap. For example, if revenue increases by 1%, then rate is flexed accordingly.

Therefore, the interest rate on the loans is significantly higher than the dividend yield which is being paid to shareholders.

There is information on DUKE's website which provides more information, including a recent investor presentation.

http://www.dukeroyalty.com/~/media/Files/D/Duke/documents/Duke%20Investor%20Deck%20-%20Feb19%20V2.pdf?pdfdata=1

rmillaree

doublelutz
Duke Royalty (LON:DUKE)
. Taking these things into account then a 7.41% yield no longer seems attractive to me. Maybe I am missing something obvious?

I don't think you are missing anything, however i would say i find it extremely hard to find any non risky investment that pay out 7% plus per year yield. So if you have any alternatives that aren't risky i would love to hear about them.

imranawan

Hi Paraic,

I think you make some good points, although I would pick up the point about the projected growth in EPS on the Stock page. This is one of the areas where Stocko can mislead investors on occasion. For example On The Beach (LON:OTB) did adjusted EPS of 21.2p in 2018 (year ending 30 Sept 2018). So in essence EPS projected growth for 2019 is actually 14% compared to 2018 levels (and not 44%). I have no doubt that the forecast EPS for 2019 will be nudged down shortly, as this has been the pattern for much of 2019 based on the small graph on the Stocko page.

Now whether you accept the adjustments they have made previously or not is another matter, and I guess private investors need to make this judgement themselves.

Overall, I would echo Paul's sentiments that the results were solid rather than spectacular, but given their background market has been trading 10% down YoY the results were respectable. I would agree that the outlook statement was very vague.

I hold a small position and will continue to hold.

Regards,
Imran.

On The Beach (LON:OTB) did adjusted EPS of 21.2p in 2018 (year ending 30 Sept 2018). So in essence EPS projected growth for 2019 is actually 14% compared to 2018 levels (and not 44%). I have no doubt that the forecast EPS for 2019 will be nudged down shortly, as this has been the pattern for much of 2019 based on the small graph on the Stocko page.

Now whether you accept the adjustments they have made previously or not is another matter, and I guess private investors need to make this judgement themselves.

Overall, I would echo Paul's sentiments that the results were solid rather than spectacular, but given their background market has been trading 10% down YoY the results were respectable. I would agree that the outlook statement was very vague.

Disc: I hold a small position in

garbetklb

Portmeirion (LON:PMP)
I've just emailed Dick Steele - pointing him to this SCVR, but just realised that it will be hidden behind a paywall.........
The degree of uncertainty & speculation in the comments section shows that it was an inadequate RNS.
I'll see what / if he has to say
Andy

timarr

The degree of uncertainty & speculation in the comments section shows that it was an inadequate RNS.

That's for sure.

If you pro-rata the last FY results against the percentage figures given today it looks like their sales outside UK and US dropped by the equivalent of £14m. Given that South Korea only did £9m total sales last year it looks like the problems can't just be Korea, they must be having serious issues in the Rest of the World.

It also seems highly unlikely that it's just a product issue - if UK and US consumers are happy with the product it would seem really odd if the rest of the world decided en-masse that they didn't like it, even if there are special circumstances in South Korea. If it's not product it's either manufacturing or distribution, and it's not country specific, it can't just be a problem with their Korean distributor, for instance.

In summary, the trading update doesn't offer an explanation for the speed, magnitude and breadth of the sales fall and the mitigation (new product in South Korea) doesn't seem to offer a solution for it. In short, it's one of the worst trading updates I've seen from a quality company in a long time and the share price fall today is entirely deserved.

john652

Hi Garbetkld (Andy)

Re Portmeirion (LON:PMP) please do post Dick Steele’s response on here. I am a big believer in emailing the CO’s and seeing what they say, sharing it here is an excellent use of this board. I have done this on a number of occasions.

In fact I did it Thursday with Empresaria (LON:EMR) and emailed the CEO/investor relations. I would usually start with investor relations but as the CEO had his email right there why not. BUT no reply, I chased today. My question being, what do they make of the IR35 rules and impact to their contractor revenues, because the new IR35 rules are smashing the contractor market in the city, and where banks lead....

Empressaria is a small cap, cheap and has little support, Negative Impact from IR35 is not going to help. 1/3 of revenues is Uk & 58% is contractor. I hold for divi as bought some time ago but and teetering on the edge.

Edit:

Gromley's point poked my from the subconscious there a few minutes later 'As a holder, if you're even half convinced you are correct, surely you have to be selling now?' I really hate the Endowment effect of behavioural bias, it sinks it's claws in too often for my liking!

Sell order placed for the morning.

Chris Brown

I have a note on file from a couple of years ago, saying the reason I didn't invest in Portmeirion (LON:PMP) was sales to S Korea tanking without sufficient explanation from the company. Sales were -21% in FY16, then a further -32% in FY17.

So it appears a structural long-term problem in that market, rather than something temporary.

The point is if I give you £100,000 for 30 years then I want to recover that amount over that period on top of what the yield would otherwise be if the full capital were repayable to me. I think I would want more than 7% but will leave someone else to do the math taking into account inflation, etc!

Alternatives for income would include (SWEF) Starwood European Real Estate which makes loans of 3 or so years with good security. I have been in from the outset and although the share price can never be expected to go up pays around 6.5%. Or even a property company that I like (RGL) Regional Reit which pays around 7.5% although you have missed the rise in that.

peterg

15th May '19

But you miss the point - Duke Royalty (LON:DUKE) are getting - if all works as intended - around 13% return on the capital provided. Some of that is used to return 7% or so to shareholders as divs, but the rest provides for return of capital and running the company. So, provided things go as planned there is a sustainable business, and you as a shareholder can take your 7% but still have the shares to sell to get your capital back when you choose.

Well different viewpoints make a market. I may be wrong but I was under the impression these were smallish companies entering into these deals and I would question how long some are going to be around although no doubt there is security taken. I have to wonder what type of company is willing to pay for the 13% return. It is usually easy to borrow money at low interest rates if you are even a small business if you have a decent Balance Sheet and some security to offer which makes me think these are companies that can't otherwise raise cheaper finance.

I would question how long some are going to be around although no doubt there is security taken

That's a very reasonable question, but it's not the one you were addressing before - you were assuming that your dividends (7% or so) were all you would get back, and assuming no other further capital value for Duke's shares. Certainly the issue of risk of the the investee companies is a one of the major ones in deciding on an investment here. But your earlier assumption, that there would effectively be no long term capital value in Duke shares is a fairly bad case scenario.

peter - whether there is long term growth will depend upon the terms of the investments and the extent to which this allows income to increase. I think I read that they had taken over a portfolio which was more equity based giving opportunity for growth but this suggested to me that this was not originally the case and the income was more like an annuity as I described it originally.

Small Cap Value Report (Tue 14 May 2019) - SDRY, GRG, CML, OTB, IDEA, PMP

Superdry (LON:SDRY)

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Paul Scott

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