Animal spirits appear to have returned to the markets this week, led by a “dovish pivot” by the Fed. Many investors will have had a good week, although there is a long way to go until UK small caps are back to more normal valuation levels.
Here is some of the company news we looked at this week:
Base Resources (BSE.L) - Toliara NPV Update
This is a phenomenal uplift in NPV:
With an incremental NPV10 of US$1.0 billion (post-tax, real), the Monazite PFS has doubled the Toliara Project’s overall NPV10 to US$2.0 billion (post-tax, real).
The problem is they have no idea on when they will be able to start on the ground planning in Madagascar due to the political situation. And now with Kenya production ending, and offtake for project equity discussions that came to nothing, they can’t fund development without resort to a big equity raise. The AIM share price rose in response to this news, but the far more liquid Aus listing was largely flat, representing perhaps better price discovery about this news.
Character (CCT.L) - Final Results
Given the collapse of sales, they are doing well for operating profits only to be down 54%:
It is actually one of the benefits of having such a low gross margin.
Net cash has halved and has now is around 20% of the market cap down from c.40% so this is no longer a significant adjustment to the P/E ratio. At 12.4 2024 Estimate from broker Zeus, this looks far from cheap, even assuming that trading will be bouncing back in 2024. The outlook is not exactly brimming with confidence either:
Despite a challenging macro-economic environment, the business continues to trade satisfactorily, therefore we expect to increase sales and profitability for the current financial year as a whole, relative to FY 2023.
With Tandem warning this weak on poor toy sales, there remains significant downside risk here.
Driver Group (DRV.L) - Preliminary Results
This is another year where if they just had the EU/NA business, they would have much better profitability, cash collection and utilisation:
The results themselves are unimpressive after the previously reported delays from Q4 to Q1, showing how sensitive this is to utilisation. The outlook for this year is not bad:
· Utilisation continuing at 2023 levels
· Q1 revenue improving with an encouraging pipeline of new enquiries
· Cost reduction programme will be completed by the end of December 2023, enabling the full positive benefits of a lower and leaner cost base to flow into 2024
However, I’m not sure how you can increase revenue, have static utilisation and reduce headcount. This is largely a people business. The company have finally been willing to guide broker Equity Development to a forecast.
An EV/EBITDA of 4 isn’t obviously cheap in the current market, but as ED points out is a big discount to the sector. There is perhaps no reason that Driver should be trading at the same level as much bigger and more successful businesses. There is, however:
[a] new strategic plan to deliver an uplift in gross margins of c. 20% by the end of FY27
This would make gross margins c.45% and transform profitability. Management were quite vague about which levers of their strategic plan would actually deliver this on the investor call. So it may look cheap if the recovery continues, but the company/Equity Development haven’t actually been brave enough to make a guesstimate as to how cheap..
Many feel this would be better off as part of a larger group. So that valuation discount may prove compelling to those on much higher ratings and who strip out all the plc costs for what is a slightly sub-scale business to be listed. However, we’ve been saying this forever without any actual bids arriving.
In the meantime, they have finally decided to do something with their surplus cash:
We have identified at least £1m of surplus cash, which at the time of publishing this report is equivalent to c.7.3% of the Driver market capitalisation (£13.76m). This will be returned to shareholders within the current financial year in a cost efficient manner - most likely an on market share buyback.
However, in a typical move for Driver, they haven’t actually decided how or when this return will occur.
Getech (GTC.L) - Trading Update
When Mark met the CEO of Getech at the Mello investing conference, he came away with a slightly more favourable impression. Of course, it was hard for his opinion of the company to be any lower. The new CEO appears to be a genuine man who has come in and done the right thing, slashing costs and returning to the core, potentially profitable, seismic database access sales. The problem is that the company had become so bloated with unprofitable activities that he didn’t have the capital left to make the changes required to return the business to profitability in the short term. So they were left between a rock and a hard place: needing greater sales to cover overheads, but the more salespeople they hired, the shorter the cash would last. Mark certainly wasn’t tempted to invest while they are in this state. Which is good because this week, we got the news that:
While revenue levels are expected to be below market expectations for 2023, demand for the Company's services and data into 2024 and beyond is increasing.
We are always very sceptical when companies claim that a 2023 deficit will be made up in 2024. In the overwhelming majority of cases, that's just not the way the world works. In this case, it sounds like 2024 might actually be worse still:
The Group's orderbook currently stands at £3.7 million (30 June 2023 £4.4m). Of this, approximately half is expected to convert into revenues recognised in 2024.
On the source of the current disaster:
The Company continues to develop the H2 Green projects in line with market demand and is actively seeking potential equity partners for the projects.
Market demand for this appears to be zero, but at least they are not willing to waste any more of their own money on making drawings of (hydrogen) petrol stations. Despite this being mothballed, it sounds like they're running out of cash:
The Company is focused on managing working capital to maintain a positive cash position with a number of initiatives already underway
Their house broker Cavendish now forecasts:
Closing net cash forecast of £-0.3m
Previous forecasts were for £0.5m cash, so that's a £0.8m impact. They already didn't look like they were getting a going concern statement without selling their surplus property, Kitson House, or an equity raise. So things are even worse now.
Net working capital in Cavendish's model has gone from -£1.1m to -£0.9m, presumably due to less upfront license fees. So, despite them saying there is a focus on working capital, this has got worse. It's probably not management’s fault, but this is where a negative working capital software business selling license fees dies.
SmartSpace Software (SMRT.L) - Possible Offer
Another possible bid and one at a very decent premium:
Skedda Holdings, Inc. ("Skedda") announces that it has made a series of proposals to the board of directors of SmartSpace (the "SmartSpace Board") regarding a possible cash offer for the entire issued and to be issued share capital of SmartSpace, most recently at a price of 82 pence per SmartSpace ordinary share ("SmartSpace Share"), (the "Proposal").
The share price had actually been weak in the run up to this announcement, which suggests some of the more ebullient holders/buyers had been taken inside, as does this:
Skedda Holdings, Inc. ("Skedda") announces that it has made a series of proposals
So perhaps the actual news is:
SmartSpace's largest shareholder, JO Hambro Capital Management Limited, has indicated, on a non-binding basis, its support for the Proposal with regard to the 2,405,000 SmartSpace shares in which it is interested (representing approximately 8.3% of SmartSpace's issued share capital).
The board have not rejected the current offer and are considering it. So the response of Herald will play a big part here. However, this increasingly looks like a genuine bid that will lead to a takeout at or above 82p.
Tandem (TND.L) - Trading Update
Another profit warning here. At least these guys actually own the warehouse that they’ve decided to invest in at the wrong time though! The blame is put at toys and home & garden. Interesting that bikes actually outperforms given the collapse of several bike stores/parts retailers. We’ve no doubt the Home & Garden category is challenging, but am not at all sure about using weather as an excuse. The Summer was OK.
There is a reminder that a superior product will get you a long way:
The launch of our new range of electric bikes has helped sales more than double against the prior year in this area and reflects our commitment to innovation and meeting evolving consumer preferences. Sales of our lightweight children's Squish bikes also continue to outperform the prior year. These results are despite a widely reported major downturn throughout the bicycle market in the UK throughout this year
The shares fell precipitously on small volume but recovered somewhat during the week. Given no earnings the investment case here is around the tangible assets. Tangible asset support is anchored by the warehouse. From the Annual Report:
A valuation of the property was carried out by Jones Lang LaSalle Limited in February 2023 in accordance with the RICS Valuation – Global Standards (incorporating the International Valuation Standards) and the UK national supplement (the “Red Book”) current as at the valuation date. The value placed on the property at that date was £14,200,000. The Directors of the Company have adjusted this valuation downwards for capital expenditure between the year end and valuation date and consider this to materially represent the fair value at 31 December 2022.
Two points here:
1) The 31st December 2022 valuation was post-hoc and their approach here brings into question the reliability of the rest of their financial statements.
2) Their true finances looked rather flaky at the year end and an overrun on the warehouse could have been disastrous, but the property is now built, they are out of the danger zone, and should not have a problem getting a mortgage for £7-10m.
However, anyone who has bought, thinking that the TBV would support the price in the face of terrible trading has been proven wrong for the last couple of years.
That’s it for this week. Have a great weekend!