Small Cap Value Report (Wed 27 Mar 2019) - GOAL, DEB, CALL, SAA, ABDP, ACSO, CHH

Hi, it's Paul here.

Please see the header for the results/trading updates today which have caught my eye. I''m on a tight timetable today, so will work my way through as many of those as possible, before I have to head off around noon, to an investment seminar.

Goals Soccer Centres (LON:GOAL)

Shares suspended

I think this is probably the end for shareholders here. The company has today announced a "substantial mis-declaration of VAT" estimated at £12m. Presumably that means underpaid VAT. The shares are now suspended.

The Company intends to enter into discussions with HMRC immediately and remains in discussions with our lenders to agree new facilities.

Good luck with that.

I'd be amazed if the bank is prepared to continue supporting this business, now that it has become clear that the books were incorrect, by a substantial amount, over several years. Worse than that, the company's announcement today appears to be disclosing what might be VAT fraud, or at the very least, gigantic errors.

It seems improbable to me that a business of this small size can accidentally underpay £12m VAT. That's serious incompetence, possibly worse. We don't yet know the full facts, so I'm basing the above on what we've been told so far.

I imagine administration is almost certainly the outcome here, which would be a 100% loss for shareholders.

So here we have yet another accounting scandal. As we always seem ask - why didn't the auditors pick up the errors earlier?

Note that the long-standing (since 2000) CFO, Bill Gow, stepped down in July 2018. Once again, an unexpected departure of a CFO, turned out to be the precursor of trouble ahead.

Current trading is strong, but that doesn't really matter, given the problems above.

I warned here on 8 Mar 2019 that this share was uninvestable, when accounting problems were first disclosed. The moral of the story seems to be that, when any kind of accounting problems surface, the safest thing to do is to hit the sell button as quickly as possible, and definitely don't average down.

The only recent exception to that rule that I can think of, is Staffline (LON:STAF) - where its accounting problems turned out to be minor, despite a long suspension of its shares.

My commiserations to shareholders. Hopefully none of our readers got caught out on this one.

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Debenhams (LON:DEB)

Possible takeover bid

Sports Direct announces today that it is considering a possible offer for Debenhams at 5p per share. Although note that it's highly conditional;

• Sports Direct is also considering other options (not stated what these are)
• The offer is likely to be 5p cash, but might be other forms (not stated, but I presume could be SPD shares, loan notes, or a mixture)

Previous announcements have also insisted that SPD wants to oust the Board of DEB, and have Mike Ashley take over.

The Possible Offer is pre-conditional upon Debenhams immediately appointing Mr Mike Ashley as its CEO and terminating the noteholder consent solicitation process it announced on 22 March 2019.

In addition, the Possible Offer is pre-conditional upon the Debenhams group agreeing not to enter into any third party funding arrangements (including those outlined in Debenhams statement of 22 March 2019), granting any new security over any of its assets or entering into any administration, CVA or other insolvency process.

Each of these pre-conditions must be satisfied or waived before any firm offer can be made.

My opinion - given that the DEB Board's restructuring proposals seem to indicate a wipe-out of existing shareholders, then accepting a 5p bid from Sports Direct is a complete no-brainer for shareholders. That's assuming that an actual bid appears (there isn't one yet). This could all be a ruse to topple the Board, who knows?

My view remains that DEB is not viable in its current form, due to its onerous leases, and declining LFL sales. How the carcass is divided up doesn't really interest me. With a high risk of a 100% loss on the shares, my stance remains, why get involved? Shareholders should pray that Mike Ashley's interest does turn into a 5p cash bid, as that's by far the best outcome out of the current possibilities.

It looks like a grudge match between Ashley, and the Board of DEB. Whether there is enough time to implement Ashley's proposals, is the big question mark. So risk of a 100% loss for shareholders still looks very high to me.

Hence risk:reward is not favourable, in my opinion, at the current c.3.5p per share. The upside is you make 1.5p profit on a cash bid from Sports Direct. The alternative is you lose 3.5p on the Board's refinancing (debt to equity probably, wiping out shareholders). Why risk 3.5p, just for a possible 1.5p profit? That doesn't make sense to me.

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Cloudcall (LON:CALL)

Share price: 88.25p (down 15% today, at 08:40)
No. shares: 26.6m
Market cap: £23.5m

(at the time of writing, I hold a long position in this share)

Final results

Today's results are in line with expectations, so it's rather surprising to see the share price down 15% today, at the time of writing. Although, being a micro cap, the volume is small (only 127k shares traded so far today). Therefore the share price movement after results is caused by the initial reaction of a few small investors. This can lead to strange, and not necessarily logical price movements.

Revenues up 28% (all organic growth) to £8.8m (year end run rate is £10.0m)

EBITDA loss widened to £2.9m - as (recently) planned. The company is increasing overheads, in order to maximise growth - e.g. adding new features to its software, recruiting more sales staff.

I don't have time to go through everything in detail, so here's a summary;

Bull case - as set out here, in my report on the recent Capital Markets Day. The company has lots of specific sales & growth opportunities. The customer lifetime value is over 7 times cost of acquisition, which makes expansion a no-brainer, if you take a longer term view.

Bear case - the company consistently misses its targets, especially on cash burn. Whilst revenues are rising strongly, breakeven keeps getting pushed further out, as the company cranks up overheads to drive growth.

My opinion - for me, the glass is very much half full here. Management would be crazy not to drive the business forward, and that costs money in the short term. The return on extra spending is excellent, and that will show through in future years.

I don't think the UK equity market is the right place for this company, as investors don't seem to have the patience, or vision, to tolerate a prolonged cash burning phase. There again, the company itself hasn't exactly helped its own case by being consistently over-optimistic in its forecasts, and running out of cash repeatedly!

Bottom line for me, is that the product is great, and getting better all the time. We've heard from its largest customer (Bullhorn) that the CloudCall product is very positive in terms of improving Bullhorn's relationships & profits from customers.

With patience, I think there's potentially big upside from the current lowly £23.5m market cap. But I share other investors' frustration at how long it's taking to get to breakeven.

Arden has considerably increased its forecast 2019 loss today, from -£0.9m to -£2.5m. That's not particularly because anything much has changed, it's rather that the previous forecasts were just not realistic. I pointed this out to management at the Capital Markets Day, when I spotted an obvious under-estimate of costs in the broker forecasts at that time.

This is a pattern of behaviour, in that CloudCall has a long history of leaving clearly inaccurate/unrealistic forecasts out in the market, rather than getting brokers to revise forecasts in a timely manner.

LoopUp (LON:LOOP) is an interesting comparison, in being a high growth, high margin, recurring revenue business. CALL looks to be about 4 years behind LOOP in terms of revenues (with a similar growth rate). The market cap of LOOP is almost 10x that of CALL. That gives a rough idea of the potential upside from CALL, I reckon, if the bull case plays out.

On the downside, given CALL's repeated disappointments historically, I can also understand why many investors remain sceptical.

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M&C Saatchi (LON:SAA) - results look reasonably OK. Adjusted EPS of 23.38p is a bit below 24.5p consensus shown on Stockopedia. Note that there's an unusually large non-controlling interest figure here, as it doesn't own 100% of some subsidiaries. Outlook comments sound upbeat, with 2019 having started well. Looks priced about right.

Ab Dynamics (LON:ABDP) - share price flat on the day, which looks correct given that it's an in line with expectations trading update out today. Commentary sounds upbeat. This share has done very well in the last year, rising strongly, in a lousy market - impressive stuff. The valuation looks high though, so no room for anything to disappoint.

accesso Technology (LON:ACSO) - this section is a bit of cop-out, but (partly because of time pressures) I have to file this group's 2018 accounts in the "too difficult" tray. The main problems with its accounts, are that the amount capitalised in R&D parked onto the balance sheet is so enormous, that it's difficult to decide whether or not the company really makes any money. The adjusted numbers look impressive, but the cashflow statement looks pretty awful to me. Also the balance sheet is weak, with negative NTAV.

The bull case, that the company has lots of growth potential, in a niche that it seems to dominate, is also quite persuasive.

I haven't got a clue how to value this share. Nor has the market, as it recently peaked at 3000p per share, and is now 749p per share. Arguably, not much has actually changed over that period, other than market sentiment.

It's worth taking a look at the large, repeated, Director selling, going back over quite a few years.

Churchill China (LON:CHH) - 2018 results look excellent - strong earnings growth, and it looks like a beat against EPS expectations of about 5%. This is a very nice business - with a strong operating margin (indicating good products, and pricing power), strong balance sheet, and very good growth having been achieved in recent years. I'm kicking myself for not having put this in my portfolio, as I've liked it for a long time, but usually baulked at the valuation. It just goes to show - sometimes it's best to just pay up for a quality business, rather than quibbling over valuation.

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I have to leave it there for today - sorry it was a bit rushed in places.

See you tomorrow!

Regards, Paul.