Small Cap Value Report (Wed 22 April 2020) - ABDP, MOSB, XLM, BOO

Good morning, I'm back, it's Paul here with the SCVR for Weds.

It's quiet for news today - please see the header for the running order today.

Estimated timings - I'm running a bit late today, and have also just managed to hit the wrong key and delete everything written so far, so am having to re-do it. I should be finished c. 5pm. (extended, because it's going to take me a while to read through the BOO results & broker note)

Edit at 23:41 - OK that didn't work out as planned, but today's report is now finished.

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Ab Dynamics (LON:ABDP)

Share price: 1487p (down 2% today)
No. shares: 22.5m
Market cap: £334.6m

Half year report

AB Dynamics plc (AIM: ABDP, "ABD", "the Group"), the designer, manufacturer and supplier of advanced testing systems and measurement products to the global automotive market, is pleased to announce its Interim Results for the six-month period to 29 February 2020.

The announcement has been given one of those little titles that PR companies seem to like to insert, to steer us towards the conclusion they want, namely;

"Strong first half financial and operational performance across the Group"

Given that the half year end was 29 Feb 2020, then Covid-19 would not have had much, if any impact on these numbers. Hence they're not terribly significant. Outlook comments matter more at the moment.

Here are my notes on the H1 results-

• Revenue up 34% to £34.7m
• Underlying revenue growth is lower, at +11% (still good though). The difference is due to 2 acquisitions, rFpro, and DRI which added more revenues into these figures
• Adjusted operating profit of £8.6m, up 34% (same % increase as revenues). This is a strikingly high op profit margin of nearly 25% - which means this business has considerable pricing power - it must have good products, with little direct competition, to be able to generate a 25% profit margin
• Statutory op profit is much lower, at £3.6m. Adjustments look OK, apart from £1.86m inventory impairment, and £0.54m share based payment, both of which strike me as normal costs of doing business
• Net cash very high, at £35.1m - hence this business looks financially secure, even if Covid-19 hurts its performance in H2 and beyond. No need for a fundraising from shareholders, in my view
• Adj diluted EPS up 10% to 31.2p - this reflects the increased share count, after a big equity fundraising last year
• Recurring revenue has risen from 10% to 25%, which is good
• Interim divi suspended - surprising, and worrying, given how small the divis are, and how high the cash balance is. Trouble ahead?
• Outlook - some large orders deferred. H2 "highly uncertain". Withdrawing forward guidance.
• Balance sheet - very strong, despite cost of acquisitions.

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My opinion - the outlook comments are very worrying, and suggest to me that

There's no doubt this is a great quality company. However, the automotive sector is a nightmare at the moment, it was struggling even before Covid-19 clobbered things further. Therefore it seems likely to me that ABDP's customers are bound to want to rein in capex, which is likely to harm ABDP's sales and profits, potentially seriously, at least in the shorter term. That's all quite obvious really.

Yes the share price has fallen back a fair bit, and as with most things, bounced considerably from the lows.

Personally, I wouldn't want to buy this share right now, because we can be fairly sure it's heading for horrible numbers in H2. The question is whether the market is likely to look through poor H2 figures? People often imagine it will, but then when lousy figures are published, reality for small caps tends to be that a few people sell, and smash the price down due to lack of liquidity.

Overall then, I can't see any reason to buy or hold this share, given that profits are likely to be poor in H2, and maybe beyond? It all depends on your overview. If you think that economies are likely to recover in a V-shape, as suggested by the OBR, then it could make sense to look through short term profit weakness (as seems likely in H2). If however, you suspect that economies could take several years to recover (as I do), then it's probably safest to sit on the sidelines in cash. If ABDP does unusually well in H2, then that could make it more appealing.

I don't know what the figures are likely to look like, therefore I cannot value this share, and have to say I'll steer clear of it for now. Historically though, it's been an excellent company & share. Therefore, long-term shareholders might stick with it, but need to be buckled in for a bumpy ride. Looking at the chart, I wonder if some investors might be "anchoring" to the previous very high valuation, and imagining that it's now cheap (when it really isn't)?

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Moss Bros (LON:MOSB)

I see from today's update that the bidder is trying to wriggle out of its insane bid for Moss Bros. Why is anyone surprised about that? Who in their right mind would want to buy a chain of closed shops?

My take here on 12 Mar was: "I have to say, I think the bidder is crazy, and would be tempted to sell in the market at close to 22p, if possible, in case they change their mind!"

The share price has plummeted today to 14.5p (down 29% on the day). If the bidder doesn't want to proceed, then it strikes me as highly unlikely that the bid would go ahead, whatever the legal technicalities.

I see little to no value in MOSB shares, hence would be a seller at 14.5p now, if I'd been asleep at the wheel and not sold previously into the higher price.

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Xlmedia (LON:XLM)

Share price: 22.5p (down 9% today)
No. shares: 187.1m
Market cap: £42.1m

Audited results

XLMedia (AIM: XLM), a leading provider of digital performance marketing services, announces the Company's audited results for the year ended 31 December 2019.

Considering the market cap is now down to only £42.1m, the 2019 results make this share look a fantastic bargain. It made an adjusted profit of $25.3m (albeit down 30% on prior year).

The problem came after the year end, with google de-ranking some of its websites, and now Covid-19 having some impact.

For years now, I've been emphasising that the profits & cashflow at XLM are real, but questioned whether they are sustainable. That's the big unknown here. Unfortunately, I don't see enough visibility to be able to determine whether there's a likely turnaround here or not.

The only reason to hold the shares in the past really, was the divis. Hence this statement puts me off;

Board will not be recommending a dividend or share buyback programme for the foreseeable future

That suggests to me that management cannot be particularly confident about re-building profitability.

Balance sheet - not as good as I thought. Note there's a big income tax liability within creditors, of $11.9m, which if paid would make a large dent in the $27.1m cash pile. I've looked through note 15, and cannot work out why the balance sheet tax liability is so much larger than the P&L. I'm not interested in wasting any more time digging through the detail, so will leave it there on that point.

My opinion - this one has to go into my "too difficult, and too uncertain" tray.

The big issue with this share has always been whether its profits were sustainable. It turns out they are not. Sometimes companies like this can re-build profits somewhat, branching out into different areas. Therefore I think a partial share price recovery is possible.

The part of my brain that likes a punt, has begun sending me "go on, buy a few of these!" signals. I'm trying to resist it, because I don't have enough information to be able to make a rational decision.

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Boohoo (LON:BOO)

Share price: 293p (up 8% today)
No. shares: 1,160.2m
Market cap: £3,399.4m

Final results

Sparkling figures today, from this online fashion multi-brand group, for the year ended 29 Feb 2020.

It looks like an earnings beat, with adj diluted EPS of 5.88p (Stockopedia consensus: 5.66p).

I'm just printing off the results & an updated note from Zeus that is available on Research Tree. As it's sunny, I'll sit in the garden and read those, so please bear with me. Several hours later - I've ploughed through all the detail, as well as having a nap in the sun. I highly recommend the Zeus note - it summarises things very well in 4-5 pages of narrative.

Going through the numbers & commentary, it really hits me, what a fantastic business this is. Growth was again strong in FY 02/2020, and the business is generating prodigious cashflows now - something that Asos has never managed.

I won't go into the detail of the numbers, but take it as read that FY 02/2020 was a fantastic year for the group, and the balance sheet is laden with cash - net cash of £240.7m. Therefore, solvency is not an issue, even if Covid-19 worsens. This is where the superiority of BOO's business model really shines. Its cost base is largely variable, e.g. marketing, logistics, etc. Traditional retailers are facing serious tests of solvency, in dealing with the fixed costs of many physical stores, and the fact that those stores are currently shut, generating zero revenues. By contrast, BOO seems to be functioning as normal, being online only. That's an incredible advantage, especially that most of its competition is effectively shut down. So whilst (mainly) women may be buying far fewer clothes overall at the moment, BOO's market share must have gone through the roof.

Outlook/Covid-19 - The elephant in the room is obviously Covid-19, whose effects began to hit businesses hard after BOO's 29 Feb 2020 year end. As a couple of readers have commented, the wording in today's update does seem ambiguous. However, reading the Zeus note has helped clarify this. BOO says;

The group saw a strong end to the financial year ended 29 February 2020 and in the first two weeks of FY21 this trading momentum was maintained. Since the middle of March, trading has been mixed, as a result of the impact of the COVID-19 pandemic, initially with a marked decrease in year-on-year growth...

Taken in conjunction with what the broker says, I think this means that the group was still generating positive Y-on-Y sales growth, albeit at a lower level (not provided). Next it says;

Performance has improved in more recent weeks and we are now seeing improved year-on-year growth of group sales during April.

That suggests to me that sales growth is positive, and improving. In the current circumstances, that has to be seen as encouraging.

Forecasts - Zeus has very sensibly slashed forecasts. Revenue growth of +15% is pencilled in for FY 02/2021. Nobody knows how accurate that will be because it depends on what happens with Covid-19, and Govt policy, consumer confidence, etc.

In the positive scenario, if lockdown can be withdrawn in the next few weeks/months, then that should boost demand. However, once the High Street re-opens, then a lot more competition to BOO resumes trading, and will be highly price-competitive, since the High Street retailers will be desperate to clear their spring/summer stock at deep discounts. That could be a nasty headwind for BOO over the summer.

In the negative scenario, if lockdown continues, or is re-imposed after a second wave of Covid-19 later this year, then paradoxically that would probably be a boost for BOO as competitors are once again forced to cease trading from physical stores, in many cases probably for the last time - it's difficult to imagine how many clothing retailers could survive another extended lockdown.

Overall, Zeus is forecasting negligible change in EPS, to 5.9p in FY 02/2021. That's a PER of almost 50. Expensive? Not necessarily, as the earnings forecast is for a year when many companies will almost certainly suffer extreme losses. Therefore I think that has to be seen as the low point for earnings. Once recovery is underway, then it's really not a stretch to imagine BOO achieving EPS of 10p+ which would bring the PER down to below 30.

This is such an outstanding business, which has established the business model of buying up good, but failed brands, then applying the BOO treatment of better product sourcing, test & repeat online only selling, and marketing expertise, to name just a few of BOO's wide-ranging expertise & experience. Note that Nasty Gal brand is now making a meaningful contribution, at nearly £100m revenues, and a contribution of £33m towards central overheads. Coast, Karen Millen, and MissPap are in the pipeline, starting out to get the BooHoo treatment. Hence these are likely to be drivers of future growth. The up-front costs are easily absorbed by the profits made by the rest of the group. Same with capex & automating its warehouse. Cashflows are plenty to absorb these outlays, and acquisitions of more brands.

My opinion - this is a stunning business. I'm kicking myself for not buying any on the recent plunge. I was so close to buying, but just wanted it a little cheaper. That resulted in me missing the boat. Also, to be fair, we didn't know at the time that BOO was bucking the trend, so it would have been speculative to have bought in the March lows.

Personally, I'm not chasing the price any higher than it is now. But I'll definitely be a buyer if there is another market plunge.

If Covid-19 is something that we are just going to have to live with, until there's a vaccine, as some experts are saying, then it really does raise the question of whether it's worth investing in any physical retailers? There's a lot to be said for just buying the best online retailer, BOO, and holding it forever, safe in the knowledge that it seems largely impervious to pandemics. Plus, it was beating the competition before Covid-19 reared its ugly head. So BOO shareholders are likely to win whatever the future holds. The high valuation does arguably reflect that already though.

One final point, is that it's worth looking at how well international sales are progressing, especially USA and Europe. This is rapidly becoming a global stable of brands, hence I think the £3.4bn market cap has plenty of scope to go much higher, if you take a long-term view, and based on the global potential.

I could scarcely be more positive about a share on fundamentals & business model. Valuation is high now though, so for now, I'm going to sit on the sidelines and wait for a better entry price. This share is in top slot on my wish list though.

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That's it for today.

Best wishes, Paul.