It has been a quiet week for news, and there was no Large Caps Live this week due to a UK Bank holiday, which is good since it has given us more time to enjoy the nice weather for a change. We still found a few snippets of interesting news to discuss, though. [A Discord server invite, to see all this week’s discussions, is here.]
Small Caps Live Wednesday 2nd June
Tandem (TND.L) – Trading Update
Tandem is a classic example of how a management change plus some strong tailwinds can drive significant shareholder returns. For years this company languished with management expenses taking much of the profits and what appeared to be little in the way of drive for growth. In short, this used to be a lifestyle company. And was valued as such.
Since then, the EPS rose 58% from 2019 to 2020, although on flat revenue. The share price has trebled, however, or sextupled if you measure from the March 2020 lows before we all realised bikes would be a big winner from lockdowns. Today we get a trading update for the period ended 31st May 2021:
Today’s trading update Since our last update in February, Group trading has remained robust albeit against a much stronger prior year comparative, especially from March 2020 when the UK was in lockdown following the imposition of COVID-19 restrictions.
The challenges are what every business importing from the Far East faces – cost pressures and sourcing challenges:
One of our biggest challenges continues to be stock availability, particularly on bicycles, which once more is being hindered by worldwide shipping capacity and container availability. Freight costs have increased again in recent weeks and global demand for components, particularly for bicycles, remains high which has impacted our margin.
We also continue to be concerned by ongoing cost increases, with significant rises in input costs such as steel, oil, plastic and cardboard all of which also put pressure on margin.
In the final results they said:
The gross profit margin percentage increased from 30.4% to 32.9%. This reflected the strong domestic demand for products across the ranges and was achieved by controlling supplier cost prices, re-sourcing product where necessary, discontinuing low margin product lines and introducing new, more profitable products. There was also very little discounting necessary during the year.
So perhaps we can see that gross margin fall back to the 30% level overall. On revenue they say:
Despite these challenges Group revenue to 31 May 2021 was approximately 24% ahead of the same period last year.
Profitability was also considerably ahead of the prior year augmented by our cost base not yet returning to pre-COVID levels.
If 24% revenue growth is representative of the full year then this would be £45.9m revenue. With 30% gross margin this would be £13.8m, up 13% on 2020. One of the challenges of being mainly a distributor is that there is little operational gearing compared to, say, a manufacturer.
In the 2020 results they say:
Group operating expenses decreased by 7.5% to £8,097,000 in the year (year ended 31 December 2019 - £8,755,000). This was driven by a reduction in travel, exhibition costs and employment expenses. In addition, there were reduced third party storage costs incurred as stock holdings were lower.
So assuming the same £8.1m of operating expenses, we get an operating profit of £5.7m. With a normalised tax rate of 20% and 5.34m shares in issue we get an EPS of 85p and a P/E of just over 7. The pension deficit and net cash roughly balance each other out.
With the price down 7% today it is fair to say the market is also pricing this period as exceptional and some return to lower levels of trading in the future. The fairly paltry dividend also give this impression.
I have been a sceptic here in the past and assumed that EPS will drop back once COVID-19 is in the rear-view mirror. However, a P/E of 7 buys a lot of leeway on this. Particularly since the new management are adding to distribution capacity that may herald a further positive future.
Tekmar Energy (TGP.L) - Interim Results
Speaking of management changes...what do you think if a young founder CEO leaves suddenly? I am, of course, talking about Tekmar. This is an interesting company and there is a lot to like: They are a market leader in cable protection systems for the fast-growing area of offshore wind farms. If they can maintain market share, then they have 10years plus of forecast 15% compound sales growth ahead of them. Very few companies have this potential.
However, in the last 18 months, there has been little sign of this as sales have reduced significantly, leading to getting rid of their founder CEO, with the former chairman taking the CEO reigns. Their finances looked a little shaky with unbilled revenue increasing significantly and then not dropping off as revenue dropped. Then recently there were issues with one of their installations, and it is not entirely clear what warranty they provide or what liability they may have. The remediation cost on a single turbine cable, if they end up liable and uninsured, would likely bankrupt the company.
So there is a lot riding on recent news, of which we got interim results this week. Let’s get straight to that going concern statement:
The Directors are satisfied that the Group has adequate resources to continue in operational existence for the foreseeable future, including the repayment of the CBILs loan in October 2021. For this reason, they continue to adopt the going concern basis in preparing the interim financial statements.
No qualification. So, while these aren’t audited results, given they haven’t raised cash it looks like I was wrong on that one.
Next to the balance sheet. The obvious issue here is that many of the notes you’d get in audited results / an annual report are missing because these are merely interims. But there is the key “Trade and Other Receivables” breakdown and the good news is that “contract assets”, i.e. unbilled work in progress, has reduced by a third over a year:
Now if these were normal interims we'd have three columns there to compare, but versus the end of September (not shown above) they have reduced contract assets by £2.4m and overdue payments by £0.6m, while receivables not past due were up £0.4m and inventory up £0.3m. So some reasonable continued progress on cash conversion, but still receivables remain three times those of September 2018.
So how much of this working capital unwinding is due to reduced activity rather than improved business dynamics? Doing the sums I see that sales in the H2 to 31st March collapsed to £13.9m versus £23.9m a year earlier, down 42% YoY versus Trade and Other Receivables down 31%. So I’d say this unwinding is temporary and they will absorb capital again if trading returns to normal, putting liquidity at risk despite the high current ratio. Gross cash is quoted, but net cash is around £1m versus £2.1m a year earlier.
So far, so bad. What about the profit and loss? This shows a loss at an adjusted EBITDA level, with high depreciation and amortisation ensuring the accounting profit is much worse still, despite negative share-based payments due to the weak share price. The damage here is caused by the falls in revenue, falling gross margin and a complete failure to reduce operating costs:
To try to explain this I’m going to make my first foray into the commentary because I can’t explain why outdoor/underwater wind turbine construction would have been affected by covid.
Results for the Period show continued business resilience in the face of ongoing Covid-19 related market disruption
I have to disagree with that. Revenue down 42% is not “resilient”. And what do they mean by “market disruption”? What I have seen is massive cuts in the cost of risk capital which is surely the main input into their industry?
· 22% increase in Enquiry Book to £273m in the Period reflects the attractive opportunity in our core offshore wind market
· 45% increase in Order Book to £14.5m in the Period highlights the value our customers place on the services we deliver despite the industry-wide slowdown in commercial activity
So why is revenue down so much? This just doesn’t make any sense to me
The Group reported a modest Adjusted EBITDA loss for the Period reflecting lower revenue as a result of the ongoing impact of the pandemic on order intake, as highlighted to the market previously. Cost savings were implemented whilst maintaining expertise, assets and resources to support future growth as market conditions improve.
I don’t understand the “cost savings” comment - costs have actually increased according to the P&L and the increasing underlying operating expenses was worse than it first appears.
Due to James Ritchie leaving employment in the Period his options lapsed and the related charges have been released through operating expenses and adjusted back through the Adjusted EBITDA in the Period.
Let me go back and find what they “highlighted to the market previously":
During HY21 the Group has experienced some short-term delays in contract awards and sales order intake as a result of the COVID-19 disruption. This has resulted in revenue in HY21 being 10% lower than HY20.
H1 to September 2020 was actually down 11% YoY so it seems things went on to deteriorate over a month retrospectively.
Notwithstanding the disruption to project timings, the visibility of the project pipeline is strong and opportunities in the offshore energy market continue to grow and the focus is now on positioning the Group to maximise on this potential.
So no hint here that H2 would be much worse still. As it turned out, visibility was not as strong since they said:
As delays to contract timings have had, and continue to have, a significant impact on the Group's financial performance, we do not intend to reinstate guidance on financial performance until visibility on the timing of contract awards returns.
Whilst trading conditions are expected to remain challenging in the six months to 31 March 2021, we expect the Group's performance to improve gradually, assuming the global roll-out of Covid-19 vaccines commences to plan.
The trading conditions comment literally makes no sense whatsoever. They are not an airline, they are a supplier to what is essentially a construction industry, an area enjoying a high-profile boom. And it is difficult to imagine a more covid-secure environment than outside in the North Sea or in a diving suit. Yes, I’m merely applying common sense here and there could be some factor I don’t know about, but a read of the trade press such as renews.biz and offshorewind.biz has failed to uncover any major covid-related delays, with most issues around permits as you would expect. Other suppliers to the industry report supply chain issues, but apparently with minimal and short-lived impacts.
OK, so things have been inexplicably bad, but maybe the strategic review will lead to improvements? Here I must comment on the fairly strange structure of today’s update. The first two sections are “Update on Strategic Plan”, followed by “Trading Update for 12 months to 31st March 2021”. Why would they give us a “Trading Update” at the same time as the results for the very same period? The whole point of a “Trading Update” is that it comes ahead of results. And why is “Update on Strategic Plan” first?
I think the answer to the strange format here. In the H1 Results I quoted from earlier:
We expect to update the market on the conclusion of this stage of the review in our H2 2021 trading update.
The reality is that an H2 2021 trading update was never issued. Perhaps it was prepared in April and the words were stuck onto the beginning of yesterday’s interims, but by 26th April they’d clearly decided to skip it and go straight to the interims. Either way, by calling a section “trading update” in the interims and including the strategic plan update in the same release they apparently believe they have met their commitment to include it in the trading update that never was.
So, does this strategic review address the falling revenue and margins, high fixed costs and working capital absorption issues? I already have a theory...
Double Tekmar's revenue within 5 years through organic growth, from the FY20 revenue run-rate of approximately £40 and deliver a sustainable mid-to high teen EBITDA margin in the later years of the plan
That seems crazy! Where’s the working capital going to come from for that kind of growth? And on margins, they achieved 23% in 2018, 17% in 2019. Clearly, they are saying that the 12% in 2020 was no aberration and they’re going to struggle to return to previous levels of profitability. 4/5 years to get back to mid-teens EBITDA margin doesn't seem great, particularly since they acquired a consultancy company that had 50%+ GM's. Either the consultancy is dying or the core business has increasing competitive margin pressures that are not likely to reverse.
Strengthen the broader financial characteristics of the business, including more diversified revenue and stronger cash generation.
I suppose it is good that they have identified that cash generation is an issue.
Reinforce Tekmar's industry leadership position as a trusted partner for offshore wind customers, building on the Group's established track record and major market share * Expand Tekmar's technical capability, its service and geographical reach to capitalise on expanding global offshore wind markets
I’m in favour of consolidating an existing strong position, but can they do that AND expand reach? Sounds like really they’re just saying they want to grow.
Complement and supplement organic growth through targeted M&A to strengthen our core offshore wind capability, so adding to the doubling of revenue through organic growth.
This is insane. M&A with the IPO money and lack of focus is pretty much how they got themselves into the current situation. And anyway, where’s the money coming from?
Underpin the growth ambitions with a robust People Strategy to equip our team with the skills to deliver the Plan
The implication appears to be that their staff are pissed off.
The plan also anticipates phased investment of £10-12m to deliver this growth, self-funded from cash generation.
That’s about a decade’s worth of cash generation at current rates...
The Company will host a capital markets event in July 2021 to provide a more targeted update to investors on the substance of the strategic plan and the phasing of strategic and financial targets.
What we have so far are just management aspirations, so following this up with an actual plan to deliver it would be positive, but we all know what a “capital markets event” means. They tend to be a prerequisite to raising cash...
We thought they would have raised by now given the market strength, however, a CMD in July looks like they left it too late. The likely raise will be 35-40p whereas they would have got it away at 60p 3 months ago.
Anyway, it is clear the institutional investors have already spoken. Our view is that the outgoing CFO failed to stand up to the old CEO's grand plans and so needed to go.
It was confirmed in the recent Downing Strategic presentation that Tekmar failed their Due Diligence process. A process that both FireAngel and Real Good Food passed by the way!
In our view, the only winners in the short term are likely to be brokers N+1 Singer and Berenberg, which doesn't help us much as they're not quoted.
Maintel (MAI.L) - Final Results
On the surface these results look disappointing:
- Group revenue down 13% to £106.4m
- Group adjusted EBITDA decreased 20% to £9.5m (2019: £11.8m)
- Adjusted earnings per share at 31.9p, a decrease of 39% (2019: 52.6p)
When you add in £22m of debt, then the current £44m market cap has these on a 7xEV/EBITDA. Net debt is down further due to the sales of Managed Print Services for £4.5m. However, would also add in an extra £18m or so for the negative working capital. Not paying a dividend suggests that management are not comfortable with the debt & working position and paying a dividend. Which is one of the reasons you want to own these sort of legacy melting ice cube companies.
On earnings they comment:
I firmly believe that the business is in a strong position to deliver organic growth on a like for like basis in both revenue and EBITDA in FY 2021.
But this would be at best a bounceback. To not be growing on these figures would be worrying.
They allegedly turned down a 450p bid recently, but given these results, it looks like that may have been a mistake to reject it.
Adjusting for the working capital position & debt I get an adjusted Earnings yield of around 5.4% for Maintel. It may be higher on a forward basis, but I look for greater than 10% typically, either adjusted earnings or FCF yield, particularly for mainly legacy businesses. If they get below £2, probably worth a more detailed look though since cash flow can solve a lot of woes but not at the current price.
Small Caps Live Friday 4th June
Jet2 (JET2.L) – Convertible Bond Offering
With investor psychology, it is important to be optimistic, especially if your livelihood depends on it. Over the past few weeks, we have had various experts predicting which countries/islands would be added to the green list. Inevitably many of these have been travel industry professionals who had a fairly distorted view of things. I was less confident and that was why I was short airlines. Sadly, my last short was closed out at a loss on Wednesday. So, timing is everything!
This week we get news from Jet2:
Jet2 plc ("Jet2", the "Group" or the "Company") today announces the successful pricing and final terms of its offering (the "Offering") of £387.4 million of guaranteed senior unsecured unrated Convertible Bonds due 2026 (the "Convertible Bonds").
…will carry a coupon of 1.625% per annum
…convertible into new and/or existing ordinary shares of the Company (the "Ordinary Shares"). The initial conversion price is set at £18.06, representing a premium of 40% above the reference share price of £12.90.
1.625% with a 40% premium seems outstandingly cheap. Now you could argue that the share price at the time was over £12.90 because:
…the reference share price of £12.90 which is equal to the placement price of an Ordinary Share in the Concurrent Delta Placement (as defined and further described below).
The recent equity raise gave them enough money to last through to a full re-opening in September at the latest. Even if the UK fully re-opens, and even that is in doubt because of Boris's India vanity project, then I can't see lots of countries on the green list in September. So JET2 needed the money to see them through. Raising debt rather than equity does increase the risk though.
B&M (BME.L) – Preliminary Results
An Exceptional Year
"Exceptional" is a rather double-edged sword! While the word has come to mean "Really really good", let's not forget it really suggests an element of one-offness. As you know, I'm not really interested in BME but UPGS, one of their major suppliers.
B&M UK fascia2 revenue up 29.9%, including like-for-like3 ("LFL") revenue growth of 23.8% within which H1 was 23.0% and H2 was 24.5%
Remember that B&M have been able to cheat the lockdown in the UK, taking custom from other closed and badly located non-essential stores.
Babou delivered an adjusted EBITDA4 of £11.1m (FY20: £(3.0)m), despite the disruption caused by 10 weeks of lockdown restrictions. FY21 ended with a total French estate of 104 stores, of which 73 now trade as "B&M"
But not so much in France.
Looking ahead, there are many uncertainties as society slowly emerges from lockdown and trading patterns are likely to be unpredictable for much of the year. Within our UK business, we will be up against the strong comparatives from last year but we remain confident that the B&M customer proposition, with its modern network of predominantly Out of Town stores and value-led variety offer, will prove highly relevant to the needs of shoppers. As such, we are well positioned to support the communities in which we trade, retain the loyalty of new customers, and to continue our store roll-out strategy.
That only seems fair. Doesn't sound too bad. But:
Trading continues to be volatile at a weekly and product category level, in particular since the recent easing of lockdown restrictions. This is likely to remain the case for the whole of FY22, as the business annualises against the very strong comparatives throughout last year. As such, the B&M UK business expects to see a decline in LFL revenues in FY22 compared to FY21, but is focused on delivering a healthy two year LFL versus FY20.
So they are predicting a fall. This led to some weakness in the share price when announced on the 3rd:
On the positive side:
The Group is however focused on customer retention and disciplined cost control across all fascias to underpin efforts to maintain an adjusted EBITDA4 margin higher than historical levels, albeit lower than the exceptional 13.0% margin delivered in FY21.
And especially good for UPGS:
Long term, the Group's growth strategy remains unchanged and it is committed to a rollout target of at least 950 B&M UK stores, with 45 gross new stores expected in FY22. The geographic expansion of the Heron Foods convenience store chain will also continue, alongside developing a compelling proposition in France.
There’s nothing on Research Tree, but Koyfin has some updates.
Their graphs don't work very well sometimes, but basically, there has been an upgrade to FY 2022 of the back of this, but a downgrade to FY 2023. FY 2023 EPS forecasts are around 36p, but may include some stale brokers. On that very simplistic basis, the valuation doesn't seem unreasonable. But what's most important to me (and UPGS) is that this sector continues to do well and grow numbers of stores.
SpaceandPeople (SAL.L) - Final Results
With lots of companies doing well and even some that aren't hitting all-time highs, it is easy to forget that the revenue of many companies has been very severely affected by COVID-19. Results to 31st December today from SpaceandPeople show this:
· Revenue of £2.8 million (2019: restated £7.7 million)
· Operating loss before non-recurring costs of £2.1 million (2019: restated profit of £0.1 million)
Bear in mind, that revenue for this business had already halved between 2014 -2019. Given that the company is trading at the same price today as in 2019, there must be a strong outlook, right? Well…
Post Year End Highlights
· Further lockdowns in the UK and Germany continuing to have an impact on trading
As you would expect from a company facing this level of losses, the balance sheet is very weak. Their receivables have reduced significantly but payables remain high. And they now have net debt at the balance sheet period. Unsurprisingly, it is CBILS funding that has bridged the gap:
· Long term refinancing of business secured using additional government CBILS lending.
CBILS funding was meant to be for businesses that were viable pre-pandemic, although that seems to have been pretty loosely defined as far as we can tell. Sometimes you think that it would just be better for this sort of business to be allowed to die gracefully in its own home rather than kept on CBILS life-support beyond all hope.
The main attraction to shareholders appears to be its c.£3m market cap, meaning that its price can be moved by enthusiastic holders/commentators. On any rational assessment of this business, a £3m market cap looks significantly overvalued.
RA International (RAI.L) – Contract Win
RA International announced a contract win yesterday:
The integrated facilities management ("IFM") contract is with the US Government to provide comprehensive life support and maintenance services for the United States Agency for International Development ("USAID") in one of their compounds in East Africa. These services will also be provided to the US Embassy as they share the USAID compounds.
This is IFM which is the highest margin of their services and to a very prestigious client. Value is given as:
The contract is for an initial two-year base period, with the option for two one-year extensions. The contract value, including the option years and incentives, is USD 21.5 million and will commence in June 2021.
So this is incremental c.$5m a year revenue and probably around $2m operating profit, for each of the next 4 years assuming extensions are awarded. Given that the business generated around $7m operating profit last year this is material to them.
Although the revenue booking may be lumpy, the almost immediate start date is good for a company that has faced COVID-19- related delays to many construction projects. The management comments are pretty positive too:
As we announce this important contract win, it is worth highlighting to shareholders we continue to be very encouraged by our business development activity, both the number and value of new contracts we are discussing.
Prior to this week, it felt that contract wins were a little thin on the ground this year, and news was overshadowed by the issues with Total in Cabo Delgado. Maybe that is due to change as we go into the second half of the year.
Camelia (CAM.L) – AGM Trading Statement
When we looked at Camelia in #scl-2021-05-05, following their results, we commented first how strange a beast it is, that the significant discount to tangible book value may be attractive but that management holdings prevent a shake-up and that it is unlikely to re-rate unless those assets generate higher earnings and dividends.
That looks further away today, with their AGM statement. Again, lots of detail but without the agricultural background, it seems hard to judge any long-term trends. Short term, they are struggling, saying:
…the factors discussed above suggest the results for the year will be approximately £2 million below market expectations.
Although the board do seem now ready to take action that they weren’t before:
The Board of Camellia is also very much aware of the recent share price performance, which it believes is largely driven by the weakness in tea prices globally. Whilst there is little we can do regarding the tea price, a programme is being undertaken to review all non-core investments and other options with a view to maximising value for the Group and reducing UK costs. Additional detail will be issued in due course and as appropriate.
Firstly though, I’m not sure the share price is where it is due to tea prices but a lack of earnings and dividends! Putting that to one side, reducing costs and selling non-core investments is exactly what this business needs. Maybe the 'Heritage Assets' will finally end up at Sotheby's where they belong, not in a vault or on the walls of HQ. Perhaps this is why the share price didn’t react negatively to this profit warning.
Given this, I think I’d rather wait to see the action rather than simply the words here before reconsidering whether this is investible.
That’s all folks. Have a great weekend!