Small Cap Value Report (Tue 5 July 2022) - SAGA, MERC, SUP, KITW, AO., DFS

5th Jul '22 by Paul Scott

80 comments 9809 reads

Good morning from Paul & Graham.

Many thanks for your kind comments yesterday re my new small caps podcast. I'm happy to keep making these, on Saturday mornings, since there's clearly an appetite for them from you. The idea is to recap on the week's best (and worst!) small cap announcements. Then a bit of general macro/market musing. I think it helps me try to make sense of things too!

If we can spread the word, and drive some newcomers (and lapsed former members) to Stockopedia subscriptions (where there's more detail than in podcasts), then that will help keep the wolf from the door too. When markets plummet, many people disappear without trace, only to pop up again when the sun is shining again. Yet in the past, I've found that the work I do during bear markets tends to line up the big winners of the future (and avoid things that could go bust in the meantime).

Agenda -

Paul's Section:

Saga (LON:SAGA) (I hold) - a reassuring trading update, with proper guidance this time (£35-50m underlying PBT - much improved from circa breakeven for last 2 years combined). Insurance division is set to become less profitable per policy, due to a decline in new business. Travel continuing to recover, with good forward bookings in cruise. Debt is fine, with long maturities, and loose covenants. For long-term investors, I think there's plenty to like here, and am encouraged by this update, as the plummeting share price made me wonder if bad news was on the way. Turnaround taking longer than expected though, but it is happening.

Supreme (LON:SUP) - a profit warning that's confined to the lighting division, where customer de-stocking has triggered a significant drop in expected profit for FY 3/2023. Divi payout ratio is being cut in half, but I'm satisfied that's not from weak finances, it's to prioritise M&A. Balance sheet is sound. Today's drop in broker forecasts is a bit shocking, so I'll need more time to have a think on this share, but for now the share price reaction looks about right after a bombshell warning today out of the blue.

AO World (LON:AO.) - a response from the company to negative press comment came out yesterday afternoon. It reassures that things are OK, until the last sentence, which reintroduces doubt over whether it might…

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Helvellyn

5th Jul '22

My recollection of watching a video presentation by Sandi Chadha (the CEO ?) . . . he explained that when they IPO'd they sort of got talked in to offering a dividend because it would make them appeal to Income funds as well as Growth but they hadn't really wanted to as their real strategy was acquisition and that this may have been a mistake, so a change to dividend policy is not a surprise.

Camtab

Seems to me when the Company announces a share buy back, MMs just increase their prices sell at an inflated price and when buy back ends drop price again. Important drain of company funds which we maybe should be aware of. Not massive but annoying nonetheless. Personally never been keen on buy backs it says, "we have nothing better to do with our money", my mind always goes "really!!!"

Paul apologies if you have already addressed it but I couldn't see it, could you give us a view on Quiz. Appreciate not a great business but plenty of reasons to hold I felt (I do), which coincided with your own view last time round. Have to say 10% of portfolio in retail and that is part I regret most!!

jamesalastair

A perfectly rational alternative view .... not in the least hysterical in my view. Thx for posting rmillaree.

jonno

Regarding Supreme (LON:SUP) the following extract from this morning's prelims sticks in my mind. If, as stated the nature of lighting sales facilitates good forward visibility of revenue. It strikes me that the significant decline in sales announced today was likely to have been apparent sometime ago. One could therefore ask whether the company had some indication of the developing situation when it provided an outlook for the current year in the Q&A to the trading update webinar on 25 April?

Just a thought, but it is all water under the bridge now and time to move.

"Whilst it is still early in the new financial year, the nature of lighting sales where a significant portion are sold "FOB" on long lead times means that the Board has relatively strong visibility into the latter part of the year and the expected weakness in trading."

Bronstein

Good point I will be asking tomorrow.

Paul Scott

Hi Camtab,

I've not looked at Quiz (LON:QUIZ) (I hold) yet, leave it with me, probably for tomorrow's report now.

Same with Equals (LON:EQLS) -it's on the agenda, but probably for tomorrow too.

Regards, Paul.

Sorry, am a bit bogged down, so EQLS will have to be tomorrow now.

Bully15

Paul, to provide a counter perspective to AO World (I don't hold) but I think it's an excellent business, run by a really competent manager. It operates as a capital light retailer with a strong culture of both operational efficiency and customer obsession. as it scales it passes back the efficiency and purchasing advantages it makes back into reducing prices for customers and improving the customer experience, widening their competitive advantage further. This has given them the number one position in online retail for main domestic appliances with over 50% market share. They've grown at over 20% per year and I would think that over the long term they have the opportunity to continue that growth as they expand into other areas of electrical retailing.

A capital light business that can turnover a large amount of volume, even with very low margins can be a really good business. Think Amazon as a well known example or Motorpoint (2% margins and 75% ROIC) here in the UK, which I believe you own as well, I see them operating very similar business models.

Heavy investments and losses in Germany and the Netherlands have covered over what is at its core a really solid UK business which generates cash flows and high levels of ROIC. My assumption would be that as they close down their German operation and market conditions normalise over the coming few years, they should be left with a market leading online retailer with good levels of profitability, cash flow and ROIC, which will start showing up in their reported numbers.

obviously news on the business is terrible at the moment, but I would personally not bet against them. Unlike a GAME which you used as a similar example, given the low fixed cost nature of AO I think that would give them various levers in which to pull where they would have the ability to navigate a sticky situation.

Of course I might be completely wrong, but just wanted to provide a counterpoint as I think it is a good business (not on the reported figures) but obviously there in lies the opportunity to uncover great investments when they go under the radar. Given the quality of some of the main shareholders in the business which include Greg Alexander (conifer), Phoenix Asset Management, Crispin Odey, William Burke etc.. there must be something to the business worth exploring further.

ken mitchell

Surprised at so little interest in what look (until/unless Paul convinces otherwise) very good update from Quiz (LON:QUIZ) today. Maybe the lack of interest in retail shares like Quiz (LON:QUIZ) is a signal that the retail sector is near as low as it’s likely to get? Even Marks and Spencer (LON:MKS) is down 50% from peak last year but has bumped along between £1.30 and £1.45 for a good while. Small investors so often seem far more enthusiastic when share prices look inflated than when as now, some look stunning bargains.

Anyway to £QUIZ.

Revenues up 97% year on year

More full price sales....BUT BUT they say nothing about returns that are a serious problem for Boohoo (LON:BOO) and £ASOS.

Increase is gross margin to 60.3%

Rise in operating costs seem under control at 22%.

Cash inflows (previously outflows) £5.3 million.

Strong online growth.

Active customers well up (74%)

International revenues up 96%.

OUTLOOK does suggest sales could well be impacted by cost of living crisis. Otherwise confident,

I added a few more at over 11p this morning expecting the share to rise further. Instead it’s fallen back, admittedly on a big down day.

What am I not seeing please?

chris2021

Sylvania Platinum (LON:SLP) stated at the commencement of the share buyback programme that it would end on 30th June.

yiannos1

Revenue still down a lot from 2019.

Also receivables are up around £3m.

Previous holding of mine , and although , not the most expensive stock around , I find it difficult to see where the growth in revenue is going to come from. However, I wouldn’t be surprised if the price goes up from current levels.

Zipmanpeter

A cruise for 2 could easily cost £4000 for a week all in, with a huge gross margin to Saga (LON:SAGA) - filling the ship 100% vs 90% full will transforms the profit. The marginal cost of the last passenger is almost zero. You can afford a lot of 70p/time direct mail with different offers or just hoping a different person collects and opens the mail or it arrives just after John and Mary have told about their super holiday.

Hi Bully15,

Thanks for that, it's always good to hear a different perspective.

Some good points, well made, in your post.

I think for now, solvency/dilution concerns are too high for me to want to take the risk. However, if AO World (LON:AO.) does manage to successfully refinance, then I'll be happy to take a fresh look at it.

TheHitman

Agreed, one of my neighbour's car had their one stolen too :(

ridavies

6th Jul '22

Hello Epsilon, how did you produce (ie was it a Stocko tool or just your own brilliance?) the chart you showed at 11.26 yesterday in response to my query on SP movements for Sylvania Platinum (LON:SLP) over Mon and yesterday? Thank you

PS SP movements for Sylvania Platinum (LON:SLP) seem to go against the stated forecasts/outlook only very recently from the company and backed up by the house(?) researcher Edison who produced a paper on 6th May https://www.edisongroup.com/pu... after a statement on 4th May https://www.edisongroup.com/in.... Hey, but what do they know?

Tonysaparito

Podcast..

Paul your podcast was brilliant and for one I think you should continue to publish. I know none of us can predict the market, your weekly view of the market as you see it is greatly appreciated as a week in the market at present is longer than a week in politics. Best

Philip999

Thanks Paul

7th Jul '22

So, in case anyone rereads these. The answer was some concentration risk with biggest 3 lighting customers accounting for a third of revenue. Claim is that it was an industry wide phenomenon though

Small Cap Value Report (Tue 5 July 2022) - SAGA, MERC, SUP, KITW, AO., DFS

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Paul Scott

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