Small Cap Value Report (Wed 7 Aug 2019) - GATC, PHO, BOO, BUR, WGB

7th Aug by Paul Scott

48 comments 11211 reads

Good evening/morning, it's Paul here again.

Let's start today (Weds) with a few leftovers from yesterday.

Once I've toned down some of the comments from last night, then I'll move on to the biggest story of the day - a shorting attack on Burford Capital (LON:BUR) - looks very interesting.

Estimated time of completion today, is c. 6pm.

Gattaca (LON:GATC)

Share price: 145p (down 3% yesterday, at market close)
No. shares: 32.1m
Market cap: £46.5m

Trading update

Gattaca plc (LSE-AIM: GATC), the UK's leading specialist Engineering and Technology recruitment business, today provides the following trading update for the 12 months ended 31 July 2019.

I noticed that Gattaca's share price dipped sharply in the morning after this update, but recovered to almost flat on the day. Although, as with so many companies I report on, the liquidity is so minuscule that price movements are almost meaningless in the short term. Only 79k shares changed hands in total yesterday.

This sounds rather encouraging;

Underlying PBT is expected to be slightly above market expectations and net debt also lower than expected levels.

The company bolded the whole thing, and I can't work out how to get rid of the bolding. The key words are clearly slightly above expectations.

Divisional analysis is given, but I find this rather over-complicated. Maybe the company and its advisers could come up with a better format for presenting this information in future? What about some pie charts?

Net debt - this has impressed me - that the company is completely open about a favourable factor affecting cashflow;

Net debt of around £25m (July 2018: £40.8m) benefitted significantly from the year end falling at the most opportune day for working capital receipts and payments. Nevertheless, allowing for this factor, net debt was below expectations.

Isn't that refreshingly honest? A firm thumbs up for this.

Directorspeak - sounds reassuring;

"The Group delivered NFI growth both in UK Engineering and our International businesses, partially offset by UK Technology where we are refocusing on profitable business. These improvements will flow through to profit before tax.

In addition net debt has come in comfortably below expectations, despite the exceptional restructuring and other costs incurred in the year.

We are making good progress…

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tomps3

7th Aug

Further to my eaerlier post on Ultra Electronics Holdings (LON:ULE) here's the analyst presentation of H1 19 results by CEO & GpFD 7.9.19.
(c50 mins)

https://www.piworld.co.uk/2019/08/07/ultra-electronics-ule-interim-results-august-2019-analyst-presentation/

dmjram

Yes, the internal valuation issue a key one re Burford.

They face similar issues to the big contractor companies such as Kier which have to make continual estimates on the profitability or not of long run, ongoing contracts, be they legal or otherwise.

kevfle

Burford is yet another example of why AIM is nothing more than a glorified casino. How many times have we seen this happen over the last few years. Yes, there are some good companies out there but there are lots of bad ones as well and it is not always obvious which is which as evidenced by professional investors who regularly get it wrong.

-1

mojomogoz

I don’t have time to write much as at the Edinburgh Fringe. But skimmed MW report and it’s innuendo around level 3 assets and a gripe about acquisition accounting.

It’s perfect timing to release a bear report on this stock given ongoing controversy and market conditions. My bet is that MW will be out by end of week. They don’t have a smoking gun to short to zero and they could cover today for 75% short term gain.

All high finance is a bit dodgy and involves refinance risks (confidence important) market to market risks and controversy

I bought 2x my share holding earlier

Obvs DYOR. I’m not sitting comfortable. I have interviews many short sellers (most of the ones that did it with any significant assets in last 20 years). Marc Cohodes is the hardest ass and maybe best I met. Check him out. He doesn’t imply and play around with words. If he sees fraud and has done his work he calls fraud. MWs are spivving the price down. No way they believe they have the insight to ride this to zero. They’d have been much more explicit.

The report is BS

Graham Ford

With regard to the Boohoo (LON:BOO) takeover of the Karen Millen online assets and the marketing heft that they are likely to bring to them, I’m wondering what implications that may have for other etailers such as Sosandar (LON:SOS)

I seem to recall that the Sosandar (LON:SOS) target market is the over 30’s and Karen Millen’s is over 25’s. Have Boohoo (LON:BOO) decided that their online juggernaut is going to also target the same part of the market as Sosandar (LON:SOS) at least in part? That “underserved” part of the market could be about to be served much more aggressively it seems.

(No position)

You don't need fraud/go to zero for a short to be valid.

Burford's accounts involve judgments over the present value of contingent income and liabilities. Straightforward widget bean counting backed by historic transactions it aint! If they've taken an aggressive accounting position making use of the leeway inherent in estimating fair values, then they're at risk as a valid short candidate. Graham's write up on cube has found several of the issues raised are valid.

Interestingly, LCM's boss said today:
“LCM has consistently prepared its accounts and its return metrics on a conservative cash accounting basis. There is no fair value accounting in our numbers."

dscollard

as an addendum, Muddy Waters short position disclosed today by FCA open interest : as 0.71% on 5 August 2019: total shorts in Burford Capital (LON:BUR) being 1.36% . Hardly a weighty sum given Kier (LON:KIE) stands at near 12% atm

Stunning amount of damage given the size of the short position: sentiment is a real killer

5d4af5d14e56d07-08-59-03-Short_Interest_

xcity

One thing that's certain is that whatever the Burford Capital (LON:BUR) business was really worth a few days ago it is much less now. Raising capital to fund growth will be harder and more expensive.

Mark Carter

Just a couple of things about Burford Capital (LON:BUR) that stand out to me straight away:

Revenues were $60.7m in 2013, rising each and every year to $425m in 2018. I put this in the "too good to be true" category.
"litigation finance" seems a bit of a "bottom-feeding" line of business to me. Beware the bottom-feeders, they tend to catch a cold out of the blue! Companies like HomeServe (LON:HSV), International Personal Finance (LON:IPF), the one that did "energy reviews" (anyone remember their name? it was quite high-profile on here), and whole host of others.

I was actually surprised to learn the Burford Capital (LON:BUR) has been public since 2009. I was expecting to give a dire warning on companies listed for less than 7 years. So the company doesn't fall afoul that that dictum, at least.

Edit: Look at cashflow. $-233m in 2018, $-102m in 2017, and negative cashflow in 2014-2016. Oh! This is all despite showing healthy operating profits. Huge red flag! They have issued a lot of debt, and significant stock over the last couple of years.

Howard Marx

"Stunning amount of damage given the size of the short position: sentiment is a real killer"

I think the 0.71% short disclosure relates to shares Muddy Waters (MW) sold on Monday. After all, the FCA rules on notification of shart sales are:

"You should notify us of your positions by 3.30pm on the trading dayafter the day the position was reached"

Hence only tomorrow will we see the scale of short selling that MW made on Tuesday.

And only on Friday will we see the extent of shorting activity that occured today.

I wouldn't see litigation finance as bottom-feeding, though equally it's not a magic money tree.
I would see it as a cross between the very large, long-contract contractors and reinsurance.

Each case individually is a gamble. Usually with expert lawyers on both sides on the case so outcomes aren't guaranteed. And the lawyers looking for funding for their cases will be taking the most competitive price they can find. I don't know, but I would expect this pricing to be cyclical depending on profit cycles like much insurance. The huge returns on capital Burford Capital (LON:BUR) have achieved on some very large cases shows they take on very risky cases - outsiders always pay best, when they win. Maybe all their bets are on outsiders.

The very long timescales make accounting treatment a key issue.

I have no way of understanding how their market is moving since it is fundamentally in the US.

davidjhill

Litigation Capital Management (LON:LIT) Hi John - yes, this is one of the items I highlighted earlier in the year when I said it was my preferred play in the space. It carries investments at cost and not fair value unlike the other players and for me that makes it less risky. Despite this it was being mis-priced (or correctly priced depending on your view) as the market seems to value on a multiple of book, whereas this was comparing apples with oranges in Litigation Capital Management (LON:LIT) case.

That said there is not necessarily anything wrong with fair value accounting as long as it is applied correctly and prudently. I've long thought the multiple of book valuations were a bit on the high side and I wonder if this is really the reason for the MW report as it becomes a relatively easy target if you create enough silt to confuse and spook investors!

I will be minded to pick up either some Burford Capital (LON:BUR) or Manolete Partners (LON:MANO), probably the latter if the jitters continue and I see good value for low risk.

Zipmanpeter

Had the same thought re £SOS (see post yesterday). However, the truth is that 'underserved' does not really mean un-served (think M&S and Next let alone many small private and public players). Very few customers are 100% loyal to 1 brand and in practice use a repertoire of companies.

The £SOS bet is that

i) they will 'better serve' a specific attractive segment (by dint of their focus & executive skills)

ii) they can find a viable market scale (ie not just a gap-in-the-market but a market- in-the-gap) and have financial resources to execute it

Personally, I can see them reaching £30-50Mn within a few years due to i) but struggling to go much further since they do not have an in house creative vision so much as an adaptive, finger-on-the-pulse one. However, I think that is enough to make £SOS a good investment in next 3 yrs. (Disc. I hold £SOS and £NXT)

Gladstone ( the other shorter) increased its position yesterday which is included in today's report and dated 06 Aug 19 in the above.. By extension, MW either hadn't increased its position or hadn't notified within the timescale .. yesterday's price was down over 20% .

You may be correct that MW increased its short today...

re Litigation Capital Management (LON:LIT)
Carrying investments at cost may not be more conservative than fair value - that depends on whether the actual fair value is going up or down.

Certainly I would be happiest with a conservative fair value.
When Burford Capital (LON:BUR) value at a price they have been able to sell at, then that seems good to me. Otherwise, I have no feel at all for how accurate their valuations are.

Gromley

I think the 0.71% short disclosure relates to shares Muddy Waters (MW) sold on Monday. After all, the FCA rules on notification of shart sales are:

"You should notify us of your positions by 3.30pm on the trading dayafter the day the position was reached"

Hence only tomorrow will we see the scale of short selling that MW made on Tuesday.

My personal guess (not that it matters) is that 0.71% will prove to be the entirety of the short from MW.

AFAIU Muddy Waters / Carson Block is a high net worth individual not an institution. and 0,71% of £3Bn is pretty chunky (significantly more than his short on IQE about 18 months ago).

It is also clear that Tom Winnifrith's cabal knew about this yesterday and it would have made sense for Block to have taken out his full position before tipping off the network.

I don't honestly know how many followers TW has but I would imagine there are quite a large number of small shorts at well below the dis-closable level.

Assuming that Burford Capital (LON:BUR) is not terminal (and there doesn't appear to be evidence to suggest that) then those shorts will start to close which should see some upwards pressure on the share price.

It could be a worthwhile short term trade (buying that is) now, not really my thing, but I'll give it some thought overnight.

Roger Lawson

Very much agree with Paul's comments on Burford - it's the old problem of optimistic, i.e. not prudent, revenue recognition as at Quindell and numerous other companies. Possible under IFRS unless you have a very critical auditor willing to challenge management - and there are few of those. I said much the same in my own blog post today and gave some advice on how to avoid such companies. Don't just look at the profits because accounts cannot be relied upon - see https://roliscon.blog/2019/08/07/burford-capital-goals-soccer-centres-carillion-and-why-numbers-are-not-important/

brianbathgate

many thanks for your analysis of MW / BUR, stretched my brain today and await developments!

“Why Financial Numbers Are Not Important When Picking Shares” certainly sounds like an interesting read, Roger.

You highlight that 'principles explained in that book that helped me to avoid investing in Burford, in Quindell, in Carillion, in Silverdell' all of which occured in the past 6 years.

So the obvous question relates to false positives i.e.

Which stocks that were identified as ones to avoid actually turn out to be great investments?
Which 'bombshells' did these principles NOT identify?

oaktree

Thanks Paul for your excellent note on Burford. Im a holder of their fixed interest stock, not their shares. So feeling a bit miffed Ive chosen one that obviously wasnt as secure as I thought it was, I'll live and learn on that. With hindsight I should of asked why they were issuing bonds with such high interest rates.

Was very interested when you said you didn't think it was insolvent which as a bond holder is really all I have to worry about. Must admit I don't buy shares in companies like this as they are so difficult to value / understand.

Really appreciate any follow up you do here Paul. Thanks again.

Small Cap Value Report (Wed 7 Aug 2019) - GATC, PHO, BOO, BUR, WGB

Gattaca (LON:GATC)

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Paul Scott

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