Still Vert for Go

Jacques Vert announced its full year results on 5 July and showed that there is still life in some retail stocks. The previous analysis is here.

Year to 30 April 2011

In a nut-shell, the Company held its own, which is more than a lot of retailers can claim. Turnover, margin and profits were all there or thereabouts compared to last year. The recently reinstated dividend was increased by 3% (v FY10), which is encouraging.

Cash generation remained strong, although there was a big adverse swing in working capital (stocks up, trade creditors down) and increased capex (IT system), but closing cash balances were over £10m. The full year results are here.

Valuation

Based on a share price of 17.5p, the market cap is £34m. Adjusting for the net cash of £10m, the Enterprise Value is £24m. The PAT, which is the profit attributable to shareholders, was £5m. Put it another way, if you buy a share in the Company, it would take only five years for the Company to generate enough profits to pay back your initial investment. Of course, that assumes that profits do not grow (or fall, as the market may be implying). No doubt, FY12 trading will be tough with increased margin pressure, but given the customer base and the cash cushion, I do not anticipate that it will fall off a cliff. EV/EBITDA is around 3.5x, which is very, very reasonable.

The PER comes out at 6.9x (FY11 EPS of 2.55p), ROE 19.6% and ROCE 23.3%. The current yield is 3.8% (EPS 0.67p).


Source: Digital Look



The shares trade on a 30% discount to the general retail sector, which trades at a PER of 11x, (source: Sharelockholmes) and this (probably) does not even reflect the cash-rich nature of the Company, although the shares have handsomely out-performed the bigger AIM shares in the past three years. 

There has been sign of some institutional buying with New Pistoia Income Settlement now up to 5%, whilst Schroders have been trimming their substantial holdings. No sign of director buying since January 2011.

The normalised PER appears to be in the 6 to 9x range based upon the trading history of the past ten years, so I am still maintaining some upside PE arbitrage potential. I'm still aiming for a share price close to 30p (being EPS of ~3 and a PER close to 10x). Seymour Pierce reiterated its price target of 28p.

Conclusion

The Company is probably unloved because it is a small, AIM listed retailer and therefore off the radar of most folk. I still think that the valuation is too stingy for a solid, profitable and cash generative potential, and that there is further upside potential to the share price, so I have topped up some more. 

Less is More?

Having been on an extended holiday and had a change of personal circumstances, I am no longer able to publish blog posts as frequently as I have done previously. To combat this, I have decided to be more selective in the quality of the opportunities that I look at.

I am therefore re-working my rules to screen the population (via Sharelockholmes) and spend time looking at the select few. My new rules have borrowed the thoughts of the great and good, including the likes of Greenblatt, Buffett, Graham and esteemed fellow bloggers. The emphasis is intended to be on 'quality first, price second'. I like the prospect of buying a share and tucking it away for the long-term...and watch it grow and grow.

Hopefully, less will mean more.

10 Ingredients

1 - ROC > 25% - ROC is a proxy for Greenblatt's ROA;

2 - Earnings Yield > 15% - Greenblatt has it as a relative measure, but I'm going for an absolute measure of 15% as this feels aligned with my target return of 15%;

3 - ROE10 > 15% - a Company needs to be be able to demonstrate enhanced shareholder value over the long-term, ideally over a ten year period;

4 - ROCE > 15% - I'm just being greedy now on my financial ratios;

5 - PER < 16x - a la Graham;

6 - PER on EPS10 < 20x - slightly higher to allow for an element of growth;

7 - Yield > 2.5% - I want to hedge my bets and at least get a return as I go along; 

8 - Gearing < 50% - a bit of debt is capital efficient, but I do not want too much;

9 - Piotriski >= 6 - a new one for me. Appears to be a interesting snap-shot for balance sheet health; and

10 - EPS 5 year growth >27.5% - this is the equivalent of 5% annualised growth over five years. EPS needs to grow to drive value over the long-term.

And More...

Once I've got my candidates, I will then be looking at:

- quality of earnings - past and future
- cash generation and what happens to it
- director buying and motivation
- relative valuations versus historic trends and peers

Simple!

The First Cohort

Throwing all of the above ingredients into the mix comes up with five candidates which tick all of the boxes.

They are, in no particular order:

1 - Braemar Shipping
2 - Clarkson
3 - JD Sports
4 - RM
5 - Unilever

This is not a recommendation to buy these shares! I have a stake in Unilever at the time of writing, but I am intending to drill down into all of these companies, and more besides, in the coming weeks and months. On the face of it, these look like quality candidates, but time will tell.

Portfolio Matters...

I had indicated a while ago that I would discuss my portfolio and subsequent performance in more detail. This article starts that journey, but first I want to discuss my investing context (if such a thing exists).

My Approach

To surmise conventional investment "wisdom", one can conclude that 99% of expected return from the stock market is down to asset allocation, dividends and (possibly) timing.

If that is true, then it makes sense to go and buy a few index trackers, ideally in the form of low-cost ETFs, set your dividends to reinvest themselves, and then go off and wash the car, creosote the fence or whatever else is on the 'to do' list. This approach assumes that the market is "efficient" and that it is not worth your while spending effort and energy in trying to finding market-beating investments, because you will not be able to do so sustainably in the long-term. 

At the other end of the spectrum, if the market is not so efficient then consistent above-average returns can be made from stock-picking the right companies at the right time a la Buffett, Graham & Co.

I take the middle ground and adopt a bit of both. My portfolio of ISAs and SIPPs is currently structured into three components as set out below.

NB - I did not deliberately set out to create three components, but after considering my rationale and doing some analysis, I realised that my portfolio fell into three camps. For more instructive discussion and analysis on portfolio allocation and passive investing, I would heartily recommend spending some time with Monevator.

Three Components

A - Thematic

Big picture: the global population is growing; resources are finite; food, energy and infrastructure will be in demand; emerging markets are...emerging. 

My sphere of knowledge extends to UK listed companies. I do not have the expertise or time to try to understand overseas companies with a degree of comfort. I also believe that emerging markets in particular are less efficient and that a good stock-picker (fund manager) should be able to generate superior returns (in the medium-term at least). 

In the past, I have favoured Investment Trusts as these can often be bought at a discount to net assets and tend to have lower charges than Unit Trusts. Going forwards, I will look increasingly at ETFs. On a PE/yield basis, Brazil and Russia look cheap, China and India look more expensive.

Current holdings:

Asia - First State Asia, Scottish Oriental  
Emerging - BR Latin American, TEMIT, Aberdeen EM, JP Morgan Emerging Markets Income
Infrastructure - International PP, HICL, Utilico EM, Ecofin Water & Power

B - Global Growth

These are UK listed companies with a global footprint and a track-record of delivering for shareholders over the long-term, usually with a generous dividend. The key to optimising returns will be buying these at the right price.

Current holdings:

Shares - Vodafone, National Grid, Aviva, BP, Unilever and Reckitt
I/T - Hansa Trust, British Empire, RIT Capital Partners

C - Special Situations/Value/Discount/Other

This is really the category for anything that I like which is not covered in the other two categories and where the main thrust of this blog has been so far.

Current holdings:

Drax - UK only, but reasonable value and good dividends
Johnsons - turnaround/recovery play that appears to be on the right track
Jacques Vert - lowly valued, cash rich, retailer with steady growth potential
Vertu - discount to net assets, net cash and growth potential
HMV - double or quits
Gleeson - housebuilder with strategic land - big discount to assets, but needs to clarify CEO and business model
UK Mail - reasonable value, cash rich, good dividend

Others, not yet covered on this blog:

Hansteen - interesting property play with growth potential
Chesnara - long-term holding that has doubled my money in three years 
HG Capital and Graphite - private equity players with growth potential and acquired at significant discounts to NAV
Home Retail - Argos and Homebase retailer on a relatively low value, with net cash and a good dividend 

Asset Allocation

In terms of allocating funds between the three pots, I am aiming for a 30/30/30 split with +/- 10 deviation either way, and the remainder to be in cash and/or fixed interest. This will force me to think about re-balancing, as well as keeping a pot of cash available for new opportunities.

As at 31 March 2011, the split was as follows:

A - 19% - with a locked-in yield of 3.8%
B - 19% - yield of 5.1%
C - 27% - yield of 4.1%

Cash & fixed interest - 35%

The Future

I am aiming for a pot of 15-20 companies to follow in categories B and C, and am there or thereabouts for that.

My current holding of cash is a bit on the high side and I will drip-feed into certain investments as appropriate, with my focus on categories A and B.

I am looking at re-writing/re-focusing my Rules to accommodate B opportunities as well as C. Richard Beddard  and UK Value Investor in particular, as well as some interesting correspondence with other private investors, have really got me thinking more about 'great companies at a reasonable price' rather than 'ok companies at a cheap price' - ie quality first, price second.

Overall, I am still aiming for an annual return of 15% after costs.

Play Time

This will be my last post for a while as I am off for an extended holiday shortly. I will be back in May, hopefully with some modified rules in tow. Happy investing!

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


Headlines

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


Thoughts

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.

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.  

Background

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

6 - Yield -  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

Update

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%.

Conclusion

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.

Book Review: Peter Cundill

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.

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.

Conclusion

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.