Wednesday, 30 March 2011

My Sun Sets for PVCS

PVCS announced its results for the year to 31 December 2010 on 24 March and what a comprehensive read they are.

I first bought into the Company in April 2009 (way before this blog started) and reviewed it on this blog in December 2010


Volumes of wafers have increased, more than offsetting the continued price fall = revenue + 6%

Gross margins fell from 36% to 29% due to continuing price falls

Operating margins fell from 17% to 13% despite cost reduction measures

EBITDA of £36m, down 8% (v FY09)

Operating cash was £16m, down 56% (v FY09) due to increased stock levels

EBIT of £29m, down 21% (v FY09)

PAT of £20m, down 21% (v FY09)

Free Cash Flow - outflow of £5m v inflow of £4m in FY09, due to investment in capex (without grants)

FY10 EPS of 5.0p, down 21% (v FY09)

FY10 DPS of 2.6p, down 25% (v FY09) and equates to a yield of 4.6%

Chinese and Taiwanese customers accounted for 42% of revenue (up from 12% in 2009)

75% of revenues are now generated in Asia and 25% in Europe & USA

No immediate impact on Japanese customers, suppliers or operations from earthquake and tsunami. A strong Yen has a negative impact on PVCS's results, although the back-lash against nuclear is likely to be positive for solar in the long-term

A strong start to 2011 due to strong growth in global installations - with H1 volumes expected to be 45+% up on H1 2010

Valuation Metrics

NAV of £245m, including Net cash of £48m on balance sheet

Market cap of £238m based on a share price of 57.2p. This represents a PER of 11.4x

EV of £190m. EV/PAT ratio of 9.5x and EV/EBITDA of 5.3x

ROE of 13% in FY10


Whilst PVCS is not particular expensive in terms of valuation and has a strong balance sheet, what concerns me most is the future. As the solar market evolves and the Chinese in particular pick up the pace, PVCS has an increasingly 'commodity' feel to it, with falling prices, squeezed margins and falling shareholder returns looming.

Ok, it is investing in its facilities, the global market is growing and it appears to be a well-run and financed-company, but do I want to invest in a company where they will have to run to stand-still trying to sell ever-increasing volumes in order to combat ever-falling prices? No.

I am struggling to see how I am going to generate my desired return of 15% IRR and think there are more suitable candidates out there. I am selling my holding in PVCS.

Tuesday, 22 March 2011

Will UK Mail Deliver a Profit?

UK Mail Group PLC (UKM) claims to be one of the leading independent parcel, mail and logistics services companies within the UK and the main alternative to Royal Mail for business requirements.

Why Am I Interested?
  1. It pops up on my new prototype screen (one of the '19' identified in Financial Ratios);
  2. Reasonable valuation/yield - PER of 13x and yield of 6%; and
  3. Cash generative and net cash on the balance sheet.  

History & Business Model

The Business was set up in 1974 by Peter Kane, who acts as Chairman, and grew with the help of his brother, Michael Kane, who stood down as Non-Exec to retire in 2010. The Kane brothers and family hold 59% of the ordinary share capital of the Company.

The Company is organised into four separate divisions:

  1. Mail - 45% of turnover and 7% operating margin - collects up to 17m mail items a day for over 1,000 corporate customers. Mail is sorted, consolidated and handed over to Royal Mail to deliver the final mile. Licensed by Postcomm (= barrier to entry);
  2. Parcels - 43% of t/o, 9% op margin - next-day B2B and B2C parcel delivery services;
  3. Pallets - 8% of t/o, 6% op margin - distribution of palletised goods through a network of 80 suppliers; and
  4. Courier - 4% of t/o, 13% op margin - same day delivery service.

The Business has grown turnover every year since 2001 (except for a flat 2010) and operating profit has been between £12m and £20m each year. Operating margins have fallen as lower-margin Mail has taken an increasingly large share of turnover, and there was a slight blip in 2006 when cost-cutting measures and price increases back-fired. The existing CEO joined at the end of 2005 and has grown PBT three-fold since then.

The Strategy is to strengthen its position as the "UK's leading integrated postal group" through (i) integrating the network (think IT) to make best use of resources (lowest cost) to deliver the breadth of services offered and (ii) increasing market share through new products and services.
The Company changed its name from Business Post Group to UK Mail in October 2009.

Investor Relations is here

Share Price & Value

Source: LSE
The current share price of 305p (mid-point as at 21 March) represents a PER of 13x and gives the Company a market value of £167m.  

In the past three years, the shares have hit a high of 390p (Oct 2010) and a low of 255p (June 2009). The shares are 63% off the three year high.

M&G and Schroders hold just under 11% and 7% respectively. These two, the families of the founders and directors therefore control 75-80% of the ordinary shares, so there is not much left over for the open market...hence the large and nasty 3% spread on the bid/offer price.

Risks & Challenges

  • competitive environment with pressure on revenues and margins likley to persist in short to medium term at least;
  • the ability to pass on rising fuel and energy costs to customers;
  • the UK mail market is in structural decline and is contracting at 5% pa - therefore innovation and product development will be important in growing market share (eg imail product - a web-to-print postal service), as well as diversification into new areas (eg April 2010 - signed a new contract with Royal Mail to operate a packet collection and delivery service);
  • proposed privatisation of Royal Mail; and
  • succession issues - for management and the share price - if and when the Kanes start to unwind their influence.
The Rules

The following analysis is based on the 12 months to March 2010 (FY10)

1 - Assets - NAV was £59m, meaning that the Company is being valued at 2.8 times asset value. £12m of NAV is in relation to Goodwill and Intangibles and £40m in relation to Tangible Assets, and of this c£18m is freehold land & buildings, which is pretty much the book value (£20m) they had attributed to them back in the 2000 accounts. I cannot see an open market value disclosed in the notes, but suspect that it is significantly higher than the carrying value in the 2010 balance sheet. Refreshingly, I cannot see too many nasties in the balance sheet either. Whilst I do not like a premium to NAV, I can just about live with it given that the premium to actual market value will be lower than  2.8 times. Pass(ish).

2 - Market Value - market cap of £167m. Pass

3 - Cash Flow - (a) net current assets of £16m and (b) operating cash of £29m after working capital movements. Out of this we need to cover: replacement capex (£7m - full capex) and tax (£5m - FY10 P&L), meaning that there is £17m left to cover working capital movements, investments for growth and dividends (£10m). Cash generation appears to have been consistently good, and can be seen by moving from a net debt position (£-9m) in 2006 to net cash (£+16m) - a £25m positive swing. Pass.

4 - Debt - (a) net cash of £16m and (b) Adjusted EV/EBITDA of 7.5x, which is not particularly cheap. For those who are interested, it gets a Piotroski score of 8, which is very good. Pass.

5 - PER - based upon FY10 EPS of 23.4p, the current PER is 13.0x, which is right at the top-end of where I would like it to be.  

The 10 year EPS is 18.6p, which equates to PER of 16x, which is neither cheap nor expensive. The PER (based on earnings at the time) has been in the range of 12x to 20x over the past decade. Pass

6Yield -  FY10 DPS of 18.2p equates to a yield of 6% at the current price. The dividend is covered 1.3 times. Pass

The 10 year average DPS works out at 17.2p, which is covered 1.1 times by EPS10 of 18.6p. Reassuringly, the 10 year average Free Cash Flow (FCF10) is 18.9p which means that the dividend has been covered out of cash (1.1 times) over the past decade.

The two issues I have are: (i) low cover - but I can get comfortable with this to the extent that dividend payments are important to the Company's major shareholders and a yield of 6%, whilst pretty generous, is covered by earnings and cash generation, and (ii) lack of dividend growth - the level of DPS has barely budged in 10 years. However, during this period and in the past five years in particular, the Company has been focusing on reducing debt and building up a cash pile. The 2010 dividend was increased (+6%) for the first time since 2006.

7 - ROE - was 22% in FY10 and ROE10 works out, spookily, at 22% too. The Company has consistently generated 'returns' for ordinary shareholders over the past decade. As an aside, ROCE10 is 35%, which is good. Pass

8 - Directors - executive remuneration is probably reasonable and there are bonuses linked to PBT targets (good for shareholders if set at appropriate levels), plus various options, LTIPs and other bits and bobs. The three executive directors hold c425k shares directly (£1.3m in value) and have options/LTIPs over another c300k (which are not under water). A slightly higher holding would be nice, however, the key drivers in this equation are the Non-Execs, principally the founding Kane brothers, who control 59% of the Company. This should ensure that a generous dividend remains.  Pass

9/10 - Buy or Bye? - an EPS10 of 18.6p and a PER10 of 18.3x gives a 'long-term fair value price' of 340p. The current price of 305p represents a 10% discount to this. Pass


The interim results for the 6 months to September 2010 were released in November 2010. These showed modest turnover growth and continuing cash generation (cash balances £5m higher than H1 FY10), although gross margin was down. "The Board intends to pursue a progressive dividend policy". "Market conditions for the balance of the year remain hard to predict and...the final three months of the calendar year represent the key trading period for our business".

A trading update was issued in January 2011 which indicated that volume was slow and had been impacted by the adverse weather conditions, resulting in full-year profit being broadly in line with FY10 profits. These factors were considered to be 'one-off' in nature, but the share price fell by about 10%.


The Company appears to be a profitable, cash generative and well-run family controlled concern. There is a growing cash pile and a growing dividend, albeit in the environment of challenging market conditions. The shares are not cheap, but are not expensive in the context of good and sustained shareholder returns (ROE).

As ever, there will be interesting structural issues to play themselves out, particularly with Royal Mail, but UKM appears to be as well placed as any to face these.

The question is do I add now or wait for the 'fat pitch'? I cannot see these trading at a discount to net assets or becoming a Net Net, so maybe I should live with a PER of 13x, which is towards the bottom of the 'normal' trading range, and wait to be compensated through an increasing dividend and ongoing ROE. I am going to dip my toe in and ADD at around 305p (+10p spread).

FY11 results should be released in May and there could be a further buying opportunity if the market gets spooked by seeing the Janaury 2011 trading update in the cold light of day.

Thursday, 17 March 2011

Book Review: Peter Cundill

There's Always Something to Do: The Peter Cundill Investment Approach
Up until his death at the end of January 2011, I had not come across Peter Cundill, the Canadian value-based investor in the ilk of Benjamin Graham.

Cundill set up and ran the Cundill Value Fund, which sought out under-valued global opportunities, and generated an IRR of 15% over a 33 year-period to 2007. This has a nice resonance with my target objective of a long-term IRR of 15%. 

Cundill kept detailed diaries and Christopher Risso-Gill, a former director of the Fund, has read, analysed and interpreted them, resulting in this book, which acts an interesting chronological journey though Cundill's investing life.

The Things I Took Away

1. All roads lead to (from) Yorkshire! Cundill could trace his family roots back to 1860s Yorkshire and first worked on the Yorkshire Trust Company, which had been set up with original Yorkshire wealth;

2. "Always change a winning game" - businesses (and investment opportunities) need to be dynamic and constantly working to maintain their competitive advantages;

3. "The art of making money is not to lose it". Which is very similar to Buffett's two rules;

4. "Buy a dollar for 40 cents". Margin of safety and all that;

5. When to buy: lots of things to evaluate (eg price below book value, Net Nets etc), but consider whether the share price is less than 50% off its all-time high. This is something that I have started to factor in;

6. When to sell: sell half of any position when it has doubled;

7. "The most important attribute for success in value investing is patience, patience and more patience. The majority of investors do not possess this characteristic"


Whilst there is a not a huge amount of new theory for disciples of Graham (and to a lesser extent Buffett or other value investors), the book provides an interesting and enjoyable summary of one man's successful investing life through his own personal diaries.

There are plenty of anecdotes, case studies and things to think about, which might just provide an objective tonic of sanity in today's volatile markets. I think I shall have patience, patience and more patience ringing in my ears for the rest of my investing days.

Tuesday, 8 March 2011

Solid Progress at Johnson

Johnson Services Group plc (JSG) announced its results for the year to 31 December 2010 this morning. I last looked at the Company in December 2010 and decided to continue holding.

The ordinary shares are currently trading at 33.75p, giving the Company a market value of £84m (8 March 2011).

On the face of it, the results seem positive with increased Adjusted Operating profit (+5%), EPS (+20%) and DPS (+9%); good cash flow generation and lower levels of net debt (from £68m at Dec 09 to £60m).

However, revenue was flat (snow and tough trading conditions) and there was £8m of Exceptional costs, mostly in relation to closing 20 loss-making dry-cleaning stores (lease commitments and redundancies)

Rules Refresh

1 - Assets - NAV has hardly budged from last year, remaining at £71m. The shares are now trading a slight premium (12%) to Net Assets given that the share price has edged up from 30p since my December review.

On the plus-side, the pension deficit has reduced from £15m to £12m, and there was a tax rebate of £6m received in February 2011 - ie after the year-end.

3 - Cash Flow - (a) net current liabilities increased from £9m to £15m, with trade creditors being stretched; (b) operating cash was £34m (EBITDA after working capital movements and pension scheme payments). Out of this, the Company needs to cover interest (£4m), replacement capex (£12m - guess), tax (£1m), dividends (£2m) and debt repayments (£6m due in next 12 months). This leaves £9m "spare" and together with the £6m tax cash, covers the trade creditors. The Company appears to be generating enough cash to meets its short-term needs at least.

4 - Debt - (a) debt:equity ratio has fallen from 0.95 to 0.85, which is encouraging, even if higher than I would ideally like; (b) EV/EBITDA ratio has crept up to 7x, which is pricey. However, if Exceptionals are removed, the Adjusted EV/EBITDA ratio is 5x, which is acceptable. Since the year-end, the Company has agreed to acclerate payment of the June instalment and has reduced the overall level of facilities available, which has led to a slight reduction in the future cost.

5 - PER - the 2010 EPS is 1.2p, resulting in a PER of 28x! Stripping out the Exceptionals and the underlying EPS was 4.1p, equating to a PER of 8x.

6 - Yield - 2010 DPS of 0.82p, represents a yield of 2.4% at the current price. As mentioned in my previous post, I cannot see stellar dividend growth in the short-term.

7 - ROE was only 5% due to the Exceptionals, which if removed, results in a ROE closer to 15% as in the prior year.


JSG appears to be making steady progress and is heading in the right direction. Trading conditions remain challenging, but the Company benefits from having a diversified business model with the majority of income coming from corporate customers. Cash generation is good, the debt is decreasing and the dividend increasing. The Exceptional items are slightly disappointing, especially as they are substantially cash items, but if it means spending a sum of money now to remove loss-making stores, it should be positive for earnings in the long-run.

I am going to HOLD and maintain my price target of 42p, representing a ball-park EPS of 4 to 4.5p and a PER of 9-10x.

Thursday, 3 March 2011

Lies, Damned Lies and...Financial Ratios

Following on from a previous excursion into Return on Equity, and the very good debate which ensued on this blog and on Stockopedia, I have been pondering further on how to identify and recognise what constitutes a great company.

Why Great?

It sounds like a redundant question, but why the interest in great companies?

To paraphrase the likes of Buffett and Co, they would rather buy a great business at a fair price, rather than a fair business at a great price. This makes perfect sense as the stronger a business is (and is likely to remain so in the future), the stronger the likelihood that future profitability will increase. Get the quality business at a discount and then you can make a killing a la Greenblatt.

I may have come to it a bit late, but there seems to have been a lot of excellent analysis and discussion around the subject recently, particularly with UK Value Investor's screening based on ROE and other attributes, and Richard Beddard's Herculean efforts in attempting to apply Greenblatt's Magic Formula to the UK with ROA being a key component.

I have been taking a closer look at other ratios that are commonly used alongside ROE.

Useful Tools for the Tool-kit?

1 - Return on Assets (ROA)

ROA = Adjusted Net Income / Total Assets

Adjusted Net Income = PAT + Interest (and the tax effect) - to show (kind of) operating profits without the cost of the capital base (ie interest)

Total Assets = Net Assets (opening or average)

Observations. Trying to adjust for interest and the tax effects is fiddly (Sharelockholmes in its ROTA calculation gets around this by using EBIT (I think)). Net Asset Value will include book values of intangibles and goodwill, and fixed assets, all of which may be very detached from market value.

2 - Return on Capital (ROC)

ROC = EBIT / (Net Working Capital + Tangible Assets )

NWC = net current assets/liabilities - ie stock + debtors + cash - current liabilities. Cash should be operating cash

TA = opening or average book value of Tangible Assets

Observations. This is very similar to Greenblatt's Magic Formula measure, although adjusting for surplus cash remains problematic. At least intangibles and goodwill are excluded from Assets, but there is still the issue of tangible assets at book cost. Maybe a high ROC is a sign that the assets could be undervalued?

3 - Return on Capital Employed (ROCE)

ROCE = EBIT /  (Total Assets - Current Liabilities)

Very similar to ROC but includes long-term debt.

So What?

They all sound fine and dandy and they have particular strengths and weaknesses, but it is too easy to get hung up about the finer details of these ratios in isolation. Every man and his dog seem to tweak each definition, and each sector has different drivers which will influence the outputs when compared to other sectors. Formulas are useful, but should not be the 'be all and end all' and do not remove the need to understand the movements in a company's finances. At the end of the day, we're all try to find good quality companies at an appropriate price, and I'm going to use them as an early stage screening tool.

I am in the process of re-writing/tweaking my Rules, but am considering using the following measures for screening purposes:

1 - ROE > 15% average over 10 years 
2 - ROC > 25% (as suggested by Greenblatt - ROA equivalent)
3 - ROCE > 15%
4 - PER < 14
5 - Yield > 2.5%
6 - Gearing < 50%
7 - Mkt cap > £20m

A first pass has thrown up 19 interesting companies, including the likes of Astrazeneca and Unilever. In an ideal world, I would want to back-test these parameters so see what the results are like, but for the time being I will judiciously select a few targets and take them to the next level of analysis. Watch this space...

Tuesday, 1 March 2011

Virtuous Vertu and HMV the Dog

A flurry of activity this morning when I switched on my Blackberry to see trading updates from HMV and Vertu. Let's start with the bad...

HMV Group

The two pieces of news this morning were short and pithy, but no less significant. 

The first announcement was a trading update since the last one a mere seven weeks ago. In that period, profits will now be "moderately" below market expectations (which were £45m of PBT based on the median expectations -  there must be some crazy stuff out for them to use median) due to "challenging" trading conditions.

To compound matters, debt will not be less than £130m due to changing product mix and adverse working capital, and it now expects to breach certain banking covenants based on the full-year tests. The Company has commenced discussions with its lenders, who "continue to be supportive".

In the second announcement, the Chairman has stepped aside (to focus more on M&S presumably) and Philip Rowley has picked up the mantle with immediate effect.

The shares dropped over 20% to 16.5p in early morning trade, giving the Company a market value of £88m.

Before I starting writing this, my mind-set was to ditch HMV along the lines of 'run the winners and cut the losers'. 

It's easy to paint a very bleak picture: tough trading, profits below expectations, covenant breach on the cards, debt higher than forecast, reduced cash generation, big sector/cyclical issues playing themselves out and the Chairman stepping aside.

Is there any Value here?

I have no idea what "moderate" means in terms of black and white (or red) numbers, but let's assume PBT comes in at £30m (two-thirds of median expectations - sounds moderate to me)

Tax this at 28% and EPS equates to about 4p per share. The current share price of 16.5p equates to a PER of 4.1x.

The dividend policy is to aim for say 3-4x times cover, so a theoretical dividend of 1p per share would be possible. The interim dividend was 0.9p, so rule out any further dividends in the short-term from an earnings perspective and in any event, the banks will not permit it if the Company has breached covenants or will breach covenants on a look-forward basis.

EBITDA looks interesting given that that DA was about £45m in FY10 (I would expect it to be higher in FY11) and Interest will be, say, £10m (v £7m in FY10). This gets us to an underlying EBITDA of £85-90m for FY11. Based on an EV of £220m (£130m debt and £90m equity), this represents an EV/EBITDA ratio of 2.5 times.

We would want to look at the rent-adjusted position given that it is a retailer, but I am not sure how much sensible analysis can be undertaken given that they are on a store closing programme.

HMV is priced for failure based on a PER of 4x and an EV/EBITDA of 2.5x. The two aspects that worry me most are (i) cash generation - is the adverse working capital temporary or permanent (if the former, then the level of debt is higher than normalised and cash should come back in) and (ii) the size of the 'exceptionals' and the extent to which these are cash items (eg redundancies and unexpired lease costs).

The other interesting aspects are: the Russian Mamut waiting in the wings and/or the potential disposal of Waterstone's. If Waterstone's was valued at £50m (figure plucked from the air via "media sources"), this would equate to a fully-taxed gain of about 7p per share - from what I can see, this is not reflected in the share price.  I would not be surprised to see a Rights Issue appear sooner rather than later too.

HMV is one sick mutt, but is it terminal? Not yet; I can still see some value here, but the next few months are going to be very interesting indeed. Stick or twist?


Vertu is the Ying to HMV's Yang (if that's the right way around).

Trading has remained strong and results are likely to be ahead of FY11 expectations (EPS of 2.7p as per Digital Look) . Market share has grown, cash generation has been good and a final dividend of 0.3p has been disclosed (full year DPS 0.5p; yield of 1.8%).

On the down-side, there will be exceptional costs in relation to asset write downs and financing costs.

I am topping up my holdings in HMV and Vertu.