Small Cap Value Report (22 Jan 2020) - TED, SOM, VCP, AIR

22nd Jan '20 by Graham Neary

64 comments 8840 reads

Good morning!

Some announcements I've noticed today:

Ted Baker (LON:TED)
Somero Enterprises Inc (LON:SOM)
Victoria (LON:VCP)
Air Partner (LON:AIR)

Putting the pen down at 11.20 AM, as I have to go and look at the house I'm about to buy. I didn't cover Sumo (LON:SUMO) or Burberry (LON:BRBY) (in which I have a long position). If I'm not back too late, I may add an extra section or two. Thanks for your understanding!

Ted Baker (LON:TED)

Share price: 319p (pre-market)
No. of shares: 44.6 million
Market cap: £142 million

Update on independent review of inventory

Shocking news, although less shocking for those who run a mile at the first sight of accounting problems:

The Deloitte review has now largely concluded and Ted Baker expects to report that the value of inventory held on the Group's balance sheet at 26^th January 2019 was overstated by £58m. This is materially higher than the £20-25m preliminary assessment announced on 2^nd December 2019.

We've covered this share on numerous occasions in recent months - see the archives.

Both Paul and I tend to dramatically write down our valuation of companies as soon as accounting problems are revealed.

For me, it's a matter of trust: I can either trust the accounts, or I can't. If I can't trust them, I don't bother going any further. This lesson was learned during the period of Chinese frauds on AIM.

Paul wrote on December 10 in relation to TED:

I suspect that more, possibly deeper, inventories write-downs could be in the pipeline.

On December 2, when the inventory issues were revealed for the first time, I wrote;

Investors need to be wary of:

Early estimates being too optimistic.
Other accounting problems being discovered, after a more thorough investigation ("there's never just one cockroach in the kitchen").
Accounting problems being indicative of wider ethical problems in a company.
The company being unable to generate the expected level of profitability, when it starts telling the truth about its finances.

It wouldn't surprise me if all of the above four issues apply to…

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bench2

22nd Jan '20

Hola Paul and Graham ,

Please could you update the heading on WYN it says " Full Quote " but this is an AIM stock . I can quite understand why you passed on this and looking at a house is much more fun . However WYN is as far away from ASOS / BOOHOO .. as you can get .. cyclical , low margin and subject to the Ag cycle . But at 280p we are back to Sept 2010 level , having touched 680p in 2014 when IHT buyers thought it was a growth stock . Like NWF this company has been going for over 100 years and farming might not be fashionable and too green but will not be massively disrupted by Amazon etc. The divi record is superb and although the outlook is poor and value investing unfashionable , this is one of the few AIM stocks on a 10 year low selling below tangible book . Worthy but Dull so I have put a toe back in the water today but expect to see it lower .

shipoffrogs

"Re: Air Partner (LON:AIR) and the idea rich people are going to stop using private jets .."

True to a point, I suppose. But I don't think it's global warming that's stopped a lot of them wearing fur coats.

Jeffvshepherd

Hi David, how do you make your earnings estimates?

xcity

I've never looked at Wynnstay (LON:WYN) before
No growth, cyclical. Profits just down and will be worse again next year. Yield and PE okay, but not exceptional in the circumstances.
Just my sort of share.
If I can get the price right.

A lot of uncertainty though. Trade deals with EU and US could have substantial impact. Farmers will be protected but there's no political reason to support agricultural companies. We have no idea what sort of support mechanisms will be put in place of CAP but they could be environmental which would reduce demand for Wynnstay (LON:WYN) .

ACounsell

Whatever the merits or otherwise of the Somero Enterprises Inc (LON:SOM) business the share price action over the last 12 months is indicative of how difficult it is to follow a selling strategy which avoids the behavioural bias that Ben Hobson wrote about in his Stock blog recently. At the beginning of June 2019 the share price fell by more than 20 % on a trading update (profit warning) and then again by another 30% at the results announcement at the beginning of September 2019. At both these stages a trailing stop loss strategy would almost certainly have sold out (unless at a very wide margin) as would recognition of two negative reports on trading suggesting a third was inevitable (see Stocko research into profit warnings). However today Somero Enterprises Inc (LON:SOM) announces a storming 4th quarter that no one, not even the management, appeared to be expecting with a consequent 11% spike in the share price which has already moved higher from its 2H 2019 lows. This pattern seems to repeat itself quite regularly - at least for quite a few of my past holdings that were sold! (Avon Rubber (LON:AVON), Aberdeen New Dawn Investment Trust (LON:ABD), Computacenter (LON:CCC), Headlam (LON:HEAD) to name a few). It might be bad luck but faced with this history it is probably worth adopting the strategy referred to in earlier comment on today's SCVR. When a share hits x% above cost (say 50%) sell half and hold the remainder until, hopefully it goes up another 50%, and then repeat! This might not get too many multibaggers but for a low risk approach for investors with a shorter time horizon to retirement/living off investments it might be a safer option.

Aberdeen New Dawn Investment Trust (LON:ABD) was meant to be £ABDP...

andrewjames

Victoria (LON:VCP) I would be much more nervous as a shareholder about a bond financing for a fairly small company. The debt may be cheap, but the terms are very inflexible and if there is a bump in the road then the ability to restructure is very limited. Based on experience, I think that bond financing is way too dangerous for most companies. It often ends in tears. I have seen this happen many times. I avoid companies that take this superficially attractive option.

davidjhill

hi Jeff - a mix of history, analyst consensus and common sense (hopefully). I don't stick to estimates if the facts change though, which I think is the important element to this.

On Micron we peaked at circa $12 but there has been a large scale buy back that would push it closer to $14 on an adjusted basis before any growth. Therefore I use $15 though I think that could be light. As DRAm prices started to bottom and turned up again as demand/supply relationship changed I could see that lows were in around the 75c for the quarter. The year itself has come in at $3.10 but you could pencil roughly that number in about 6 months ago before the price turned.

Last year Somero Enterprises Inc (LON:SOM) made 30p. I don't consider this peak as I think there is more to go over next year or two as sky screed and other initiatives kick in. I don't want to over-egg the pudding so I have adjusted for a maximum of 15% increase in earnings from there before we peak. If it looks like that is a light number going forward I will adjust it, if we have a downturn before then I will move back to a 30p number. The low number is harder because the cycle is much longer. we know that revenues halved in 2008/9 and they were servicing a lot of debt hence the losses. They are at a much higher base now with more resilience to the cycle and net cash (but still cyclical) so I have adjusted revenues to a 40% drop and a bigger loss in profitability to reflect fixed overheads but think they will keep their heads above water unless the recession is prolonged or particularly savage.

Never going to be totally accurate but it gives me a good base for a ranged valuation and gives me a more objective view of where I might buy and sell.

Martin Verlaine

Thanks for that. For what it is worth I think others seem to have taken my aside that there maybe some slowdown in private jet trade due to green issues as far more of an issue then I see it. Blatantly, the economy has slowed so like many situations it is reasonably apparent that such a trend should not be a surprise. I like this stock but not sure there is a rush to buy especially if Castlefield are going to sell down further

Greyinvestor

I commented on RLE before and being well aware of a number of these locations would say I am struggling with the quality which is where retail needs to be to prosper IMHO
I am sure there is a bottom in retail but I am not certain we have seen it, nor whether catching this knife is one to prioritise. I am not wholly convinced that whatever happens on business rates would be enough to justify buying a REIT which invests in Midlands shops . If pushed I may have a modest interest at a discount of 25% to current NAV but it is hardly compelling and would be bottom fishing. I note that Premier Miton have been reducing their holding so this may not help the share price if more shares over hanging from that source

Whilst I can see the logic in converting shops to residential, this seems like a disruption to income which hardly seems great news for a REIT where one is buying for the yield?

Gromley

TED: Stockopedia rates it 77 for Quality and 97 for Value, with ‘Contrarian’ status.
This worries me given dramatically falling Operating Margin and Net Income, with poor ROCE and high Debt.
I am sure the analysis used by Stocko has been applied correctly, but this undermines my confidence in it.

It shouldn't do, if you fully understand how to use the StockRank.

(Sorry I couldn't find a way of saying that without sounding condescending - it's not intended).

StockRanks are a statistical (erm) Ranking.

If you compare a sample group of high ranking stocks with a similar sample of low ranking stocks, in the former you should more winners and less duffers (but there will still be some).

So my take on that is that there are two main ways to use the StockRanks :

1. To build a sufficiently diversified portfolio, based on the StockRanks alone - no or little interpretation needed. Yes you will pick some duffers, you might even have picked Ted Baker (LON:TED) but you should on average beat the market.

2. Use them as a starting point for further research on individual stocks. Here my view is that the focus should be on avoiding the duffers and particularly risky shares, that imho is more important than trying to find the stars.

I don't know if there is any truly systematic way to do this, but I am interested by NickRay's observation that a high StockRank coupled with a very high ValueRank could be a warning sign.

Hopefully not misquoting (NIck please correct me if I am wrong) but I think he has observed elsewhere that the very highest StockRanks can produce more extreme results on both the upside and downside. That leads me to wonder if an investing saw can be re-purposed - if the StockRank is too good to be true, it probably is?

nquaile875

Thanks for this David. Valuing share ranges is one thing I find very difficult and this is a very clear explanation of your approach that seems to make sense! Nick

23rd Jan '20

Thank you David :)

nicobos

Victoria (LON:VCP) on the contrary, bond debt is far more flexible than bank debt. As long as you continue to pay your interest, there isn’t much bond holders can do. Look at the level of interest cover (EBITDA as a proxy of cash flow to interest costs) and what earnings would need to drop to for you to be left unable to pay interest from either cash flow or retained earnings.

Graham Neary

Thanks Paul :D

peterg

Re: Air Partner (LON:AIR) and the idea rich people are going to stop using private jets and go with Ryan Air or Easyjet instead because of a 17 year old Swedish girl is laughable. The idea that they are not going to travel by air at all is also ridiculous. Rich people will still fly even if it is taxed to buggery - sorry to break that news Greta.

True, the very rich will go on using private jets - or at least some of them will. But it's not an all or nothing issue. If air travel gets taxed more, even "to buggery" is not impossible, it will of course have an impact. The only slightly very rich, and even the very rich with concerns for their children and future generations, are likely to end up flying less. Air Partner's market won't disappear, but that doesn't mean it won't shrink.

dmcarver

There are many thought-provoking comments here on Somero written by people who seem to be terrific analysts. The overall opinion appears positive, though several are concerned by the cyclical nature of the industry and the danger of new competitors.

I'll add just a few subjective comments which go in the sense of believing this is a super company with a brilliant future.

1. Management. Over the past year, I've had access to two lengthy management presentations through the good offices of Stockpedia. I was more than impressed by the professionalism and the ponderation of the various participants from the Managing Director through the Financial, Marketing and other Directors. These people know their business, their industry, and their customers. They are straight-forward in talking about their problems and do not over-gild the lilly of their successes.

2. Proprietary know-how. For the past years, Somero has significant patented techniques regarding laser and automated guided equipment that no one else has been able to replicate. And they take pride in not sleeping on their laurels but coming out annually with a new tool. A classic case of a niche player protected by a technological moat. Reminds me of a Michael Porter case.

3. Their SkyScreed innovation is of immense potential. Here I am being totally subjective, but I am willing to bet that the number of square meters to be screed in the hig-rise sector far exceeds those, though consequential, in the factory/warehouse/commercial center sector. That is certainly the sense one gets of management's commitment to developing their know-how in this area in 2020, even if this might dampen results (somewhat).

4. Finally, though never mentioned in all I have read on Somero, an acquisition by a larger, construction equipment firm may well be in the offing in the next five years. At a good premium given their competitive advantage and terrific financial condition.

Sorry, clumsy fingers.

David - I read with much interest you comments which contribute to my own appreciation of this company. I've added a few subjective commen ts down in one of the lower messages.

mojomogoz

Somero Enterprises Inc (LON:SOM) went into the hole on freak (bad) weather / its partially come out of the hole on freak (good) weather.

Somero will now most probably warn at some point in 2020 and so go back down into the hole and the freak-ish weather merely provided a smoke screen on cyclical (structural?) decline in terms of strength of demand and margin. This is why mgt appear surprised at how good it end of 2019 was.

All the words of praise re margins, customer service, end market, etc (and something rather obtuse re behavioural economics by simoan) will be forgotten when the cycle bites....as it will even if its not 2020.

Somero cannot be a a high quality compounder sort of growth thing. Its end market is too uncertain and prone to cycles and fads) and Somero has v low ability to generate demand in that market through what they do with service and product ie they are very dependent on industry factors.

It is as clear as the nose on my face (and I'm not Voldemort) that Somero have had excellent growth and margins as they have been selling into an end market in a sustained (near uninterrupted) upswing. There may be some barriers to entry for competitors but they ain't that high...the high margin is significantly a cyclical phenomena.

Ergo, margins will decline meaningfully in the next downswing. Somero may touch say 600p in future, but it will definitely be below 150p in next couple of years and probably less than 100p.

I've got no axe to grind on this company. I think it looks decent but people are creating attributes and narratives that this stock just can't hold. An end of cycle takeout by a bigger and broader offering operator is the glory exit....

simoan

Ergo, margins will decline meaningfully in the next downswing. Somero may touch say 600p in future, but it will definitely be below 150p in next couple of years and probably less than 100p.

Well you were making a reasonable case until you wrote this. Foreseeing future share price ranges of any company is a patently ridiculous thing to do. And you seem to comment an awful lot on Somero Enterprises Inc (LON:SOM) for someone with no axe to grind!

Small Cap Value Report (22 Jan 2020) - TED, SOM, VCP, AIR

Ted Baker (LON:TED)

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Graham Neary

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