Category Archives: Value Stocks

Admiral Plc (ISIN GB00B02J6398) – Short candidate or “Outsider” company with a Moat ?

Disclosure: The author might have bought the stock well in advance of publishing the post. In this special case, the idea has been presented already some weeks ago to a group of value investors.

Introduction

Admiral is a UK based P&C insurance company. A brief look into Admiral’s multiples would single it out as a potential short candidate (~15 GBP/share):

P/B 8,0
P/S 4,5
P/E ~14,5
Div. yield 3,7%

Especially P/B and P/S look overvalued if compared to other P&C companies. The average multiple for European P&C companies is ~2,1 for P/B, 1,6 for P/S and 11,6 P/E. So the company looks wildly overvalued.

Admiral – “The UK Geico” ?

Admiral is definitely no stranger for value investors. Metropolis Capital, a value investing shop with a good reputation presented Admiral as their pick for the London Value Investor conference some weeks ago.

The pitch is relatively simple: Admiral is the UK version of GEICO, the famous low cost direct insurer owned by Warren Buffet. Just look at the cost ratios of Admiral compared to its 4 main competitors:

Cost ratio P&C 2013
Aviva 32,8%
RSA 32,6%
Direct Line 22,3%
Esure 23,8%
Admiral 19,9%

Clearly, the cost advantage against “traditional” companies like Aviva and RSA comes from the fact that they don’t have to pay insurance agents. But even compared to the direct competitors, Admiral seems to have a cost advantage. Among other things, Admiral is the only FTSE100 company located in Wales which implies quite “reasonable” salaries.

However there is a big difference compared to GEICO:

GEICO’s business model as we all know, combines low cost / direct with investing the “float” Buffet style, so every premium dollar earned is kept and invested as profitable as possible, preferably in stocks. In principle, this is the strategy of all insurance companies, but very few are able to get “Buffet like” returns.

So I have compiled 3 statistics which show that Admiral “ticks” differently:

2013 Ratio Financial income /total profit Net retained premium “Other” in % of profit
RSA 116,4% 93,6% 0,0%
Aviva 72,9% 88,2% 0,0%
Direct Line 35,2% 101,6% 36,3%
Esure 11,3% 91,4% 40,1%
Admiral 3,3% 25,0% 85,0%

A quick explanation of those ratios: The net profit of an Insurance company is the result of 3 major components:
a) Underwriting result
b) investment result
c) “other” stuff

The first column in the table above shows what percentage of the total result in 2013 can be attributed to the investment result. RSA for instance actually makes a loss in insurance, so more than 100% of their profit comes from the investment portfolio. Admiral, on the other end, attributes only 3% of the total profit to investments. So what’s going on here ? Do they manage their investments so badly ?

The second column explains this “conundrum”: All the other players keep more or less all the insurance premiums they are collecting. Admiral, on the other hand only keeps 25% of incoming insurance premiums, the other 75% get “ceded” to Reinsurers.

Finally, the third column shows, that Admira is actually earning most of its money with “other” stuff whatever that means. To solve the puzzle, one has to look back into history of Admiral: Admiral was founded by a Lloyds syndicate to act as a kind of “Underwriting agency” in order to generate premium for the syndicate. So from the start, Admiral had a very lean structure, selling only direct etc. At some point in time they decided that the syndicate was too expensive and that they actually want to issue the policies themselves. Nevertheless, they kept their lean set up and lined up reinsurers to shoulder the majority of the risk.

Most people familiar with Insurance would say that the concept of Admiral doesn’t make sense. Why should you give up profits both, on the insureance side as well as in investments by passing 75% ? The answer is relatively simple: Capital efficency. Most insurance companies are notouriously capital inefficient. Long term ROEs for most major players are below 10% p.a. despite often significant leverage through subordinated debt. The main reason for this is the fact, that in many jurisdictions, the “GEICO” model requires to hold a large amount of capital to buffer capital market movements. Unless you are Warren Buffet, the returns on those investments are often below average so as a result, ROEs are bad. Plus the fact that growth often requires a lot of upfront capital as well.

For Admiral, the big structural problem of course is the following: If I pass most of my premiums and cash to reinsurers, how do I then earn money ? This is where the “other” column from my table above comes into play. Due to this business model, Admrial very early concentrated on making additional money by selling “ancillary” stuff.

This is what Admiral writes in its latest annual report (by the way: all annual reports since 2003 are highly recommended for clarity and insight !!!):

Other Revenue
Admiral generates Other revenue from a portfolio of insurance products that complement the core car insurance product, and also fees generated over the life of the policy. The most material contributors to net
Other revenue are:
> Profit earned from motor policy upgrade products underwritten by Admiral, including breakdown, car hire and personal injury covers
> Profit from other insurance products, not underwritten by Admiral
> Vehicle Commission (see page 25)
> Fees – a dministration fees and referral income (see page 25)
> Instalment income – interest charged to customers paying for cover in instalments

This additional income is extremely high margin with almost no capital requirement and drives the profitability of the company.

The result

This low capital requirement leads to ROE’s which are compared to its peers “from outer space”:

Name ROE FY ROE 5Y
     
Average 16% 17%
ADMIRAL GROUP PLC 59% 59%
TOPDANMARK A/S 26% 31%
TRYG A/S 19% 21%
LANCASHIRE HOLDINGS LTD 15% 17%
BEAZLEY PLC 21% 16%
GJENSIDIGE FORSIKRING ASA 16% 15%
SAMPO OYJ-A SHS 14% 14%
GRUPO CATALANA OCCIDENTE SA 13% 14%
EULER HERMES SA 13% 13%
ZURICH INSURANCE GROUP AG 12% 12%
ALLIANZ SE-REG 11% 12%
AMLIN PLC 19% 10%
MAPFRE SA 9% 9%
XL GROUP PLC 9% 9%
RSA INSURANCE GROUP PLC -11% 5%

Other unique aspects of Admiral’s business model

Comparison sites

Admiral runs in addition to its insurance operation, its own insurance comparison sites (e.g. Confused.com in the UK). Although those comparison sites themselves only contribute less then 10% of total profit, it gives Admiral a strategic advantage: Via their comparison site they can monitor in real time what competitors are doing and how they are pricing stuff. Other comparison sites also sell this kind of data but usually with a significant time delay. So running its own comparison site is clearly an advantage against a “normal” onilne insurer.

Capital allocation

With regard to capital allocation, again look at this statement from the 2013 annual report:

Admiral believes that having excess cash in a company can lead to poor decision-making. So we are committed to returning surplus capital to shareholders. We believe that keeping management hungry for cash keeps them focused on the most important aspects of the business. We do not starve our businesses but neither do we allow them the luxury of trying to decide what to do with excess capital.

Charly Munger would say at this point “I Have nothing more to add”. This is how it should be done but rarely found especially in the Insurance industry.

Managment & Shareholders:

The current CEO, Henry Engelhardt founded the company on behalf of the Lloyds Syndicate in 1991. He still holds ~12,8% of the company.

Co-founder David Stevens owns around 3,8%. Both founders only pay themselves ~400 k GBP per year salaries and no bonuses. The only exception is the CFO, who is relatively new. He earns around 1 mn GBP including a bonus and doesn’t have a lot of shares. There are quite some interviews available on Youtube with the CEO, among them this one is especially interesting:

Largest outside shareholder is MunichRe with 10%, who is also providing the majority of the reinsurance capacity. Other noteworthy shareholders are PowerCorp from Canada and Odey, the UK Hedge fund with a -0.79% short position. All Admiral employees are shareholders and there is a program for employes to purchase shares.

Stock price

Since going public, Admiral has performed very well:

Including dividends, Admiral returned 25,5% p.a. since their IPO against ~8% p.a. for the FTSE 100. Since 2004, EPS trippled and dividends per share increased by a factor of five. Interestingly, Admiral never traded at a level which one would asociate normally with such a growth stock, at the peak, the share had a P/E of 22 in 2006. I think this has to do with the general discomfort that many investors have with financial stocks.

Challenges for Admiral

Some of the additonal income sources for Admiral are clearly under regulatory thread. Referral fees, bundling etc. are currently investigated by UK regulators (see here and here) but especially Admiral seems to be quite creative on how to find different ways to earn fees.

Another and maybe the biggest strategic issue is that in theory comparison sites could start to sell additional products as well as we can see in the car rental market. However Admiral has the big advantage as they cover both, the comparison area and the insurance “sales funnel”.

I also think that for the comparison sites, it is not that easy to sell additional insurance products. Insurance policies are less standardized than rental cars, with very individual pricing so it is harder for a comparison site to actually close the deal intead of passing the client on to the insurer for a fee. Clearly comparison sites will try to get into this game as well but again, Admiral is the best positioned insurer.

Finally, the UK car insurance business shows almost a “brutal” cyclicality, for instance in 2013 premiums for the whole market dropped ~20%. Nevertheless, Admiral has shown that they are profitable over the cycle.

Opportunities

Admiral is currently trying to expand its business model into 4 other countries: Spain, France, Italy and the US. An earlier attempt in Germany failed a couple of years ago, mainly because the German market renews policies only once a year and Admiral was not able to really use its strengths (dynamic offers and pricing) on that basis.

If they succeed in any one of those markets similar to the UK, then there would be significant upside in the stock. If they suceed in 2 or more, Admiral could become a multibagger. If they don’t succeed at all, one could imagine that they might take additional market share in the UL, but then the upside is limited.

Although the subs are growing strongly, they still made a loss in 2013. Car insurance is however to a certain extent a scale business. You need a certain scale to become profitable. Clearly, just buying a competitor (and paying a lot of goodwill) would look better in the short term. Building up your own operations takes longer, but if you do it right, the value generation is significantly better than via M&A.

SUMMARY: Bringing it all together

Personally, I think Admiral has a very unique “outsider” business model. Reinsuring most of their business allows them to focus on the core product, car insurance underwriting and ancilliary services. They don’t have the complexity of traditional insurers with complex investments, expensive investment management and “asset liability management” departments etc. etc.

This keeps structural complexity low, lowers cost and allows them to scale up business much quicker than any “traditional” model and with very low capital intensity. Traditional insurance companies have always the option to realize investment profits in order to make results look good in the short term. In the long term, this often leads to a detoriation of the core business. Admiral doesn’t have this luxury. Additionally it insulates Admiral mostly from capital market volatility and enables them to move aggresively if other insurers are nursing their investment losses. Additionally, they don’t need to sell complicated subordinated debt etc.

Overall, I think the likelihood that someone succesfully copies Admirals business model is low, because for any Insurance executive, it is extremely counterintuitive to give premium away. Any insurance CEO would rather sell his grandmother than increase the reinsurance share and give away investment money. GEICO for instance in my opinion is not a “real” outsider company. It is a traditional insurer with a focused direct sales force. Admiral is really a very different animal.

Clearly, the thread of Google & Co is real, but on the other hand, Google & Co hesitate to to move into regulated areas. However if they would want to seriously move into this business, I would think that Admiral could be an interesting acquisition target for cash rich Google & Co.

Against the traditional competition, in my opinion Admiral has a 10 year headstart in understanding how to sell insurence and especially “others” over the internet. I think they will chuckle when they read how for instance AXA tries to become “digital” as they were already selling 70% of their policies over the internet in 2003.

I would go so far as calling the combined business model a “moat”. Yes, it is maybe not that difficult to start an online insurer and does not fit into the classical moat categories, but to scale up quickly and get the whole package right, this is another story and in my opinion very very unlikely. Even the direct clones like Esure only go “Half way” by keeping all the premiums and exposing themselves to capital market volatility.

I also think that this is still a “value investment” despite the optically expensive multiples. In my opinion, the value lies in the business model plus the headstart in online insurance. To put it into s short thesis: This is a high quality company at a “Normal company price tag” and an “above average” growth opportunity due to the cost advanatges.

For the portfolio, I had bought already a “half position” in April at 13,80 GBP per share as I have briefly mentioned in the April post. I know this is a little unfair but I just didn’t have time to finish the write up.

P.S. There will be an extra post for this, but I have sold the rest of my April SA position in order to keep the exposure to the financial sector (~20% of the protfolio including the bonds) constant

Update: Vetropack (CH0006227612)

Vetropack just released 2013 numbers and the annual report yesterday.

All in all, things don’t look so great. Sales increased 2%, however EBIT margins declined and net income declined significantly as the one-off gain from a property sale in 2012 could not be repeated. EPS (undiluted) was 137 CHF per share.

A quick reminder here: Vetropack reports in CHF but the majority of sales are non-CHF. In 2013, the Swiss frank depreciated against the EUR, so all things equal, even with constant EUR sales, Vetropack would show increasing CHF sales.

The stock market seems to have been expecting more, the share has dropped significantly over the last few week:

The biggest problem for Vetropack is clearly Ukraine, where they had ~15% of sales in 2013. They do not provide profits for their subsidiaries, so we do not know which margins come from what country. But clearly, with the currency devaluation (~-50% since the beginning of the year), in the best case, sales from Ukraine (and profits) will be -50% lower in 2014 than in 2013 just from the currency effect.

Looking into the 2013 annual report, we can see that most other subsidiaries are stagnating or only growing very slowly. interestingly, if we compare 2013 with the 2008 report, we can see that especially Switzerland has disappointed, with sales now -20% lower in 2013 than in 2008. Somehow, the increase int he Swiss franc seems to have been a big problem.

All in all, things don’t look very good. This is reflected also in the current valuation. At the current share price of ~1570 CHF, P/B is almost exactly 1, trailing P/E 11,4 and the dividend ~2,4%.

The only bright side was that cashflow looked rather OK in 2013. Operating CF of around 100 mn CHF minus Capex of 50 mn is ~50 mn free cash flow which has been distributed to shareholder to a large extent via divdends and teh stock repurchase last year. Net cash went down but this seems to be the result of a “Non core” purchase of a real estate company which came with some real estate loans (note 26 annual report). I would therefore exclude the 20 mn real estate debt from EV as the acquired assets are “extra assets”, not required to run the business.

Valuation & Competitors

That’s what i wrote back in “the old days”:

We can clearly see that for a margin of safety of 50% I would need to assume for instance a discount rate of 8% and a growth rate of 3%.

If history is any guide, Vetropack should be easily able to grow by 3%, having achieved much much mor in the past. Additionally, a 8% discount rate for a non-cyclical consumer product related company with net cash and an extreme conservative balance sheet should be reasonable.

This was based on 150 CHF free cash flow per share. 2013 FCF per share was around 122 CHF per share. So first mistake: Free cash flow did not increase by 3% from 150 CHF but did actually contract. Secondly, I used 8% as discount rate. As we see now, Vetropack’s regional exposure does not really warrant a lower discount rate than my simple 10%. So second mistake: The 8% discount rate was much too optimistic for a company with signficant “emerging markets” exposure.

If we look at the peers, both Zignano and Vidrala have been doing much better, at least over the last 2 years:

Both trade at siginficant higher valuations. Zignago at 20x trailing p/E, 8,5 EV EBITDA and 4,6x book, Vidrala at 18xP/E, 3x book and 7,8 x EV/EBITDA. MArgins are not that much higher for Zignago and Vidrala, but Return on invested capital (including debt) looks better. ROE anyway as both competitors use leverage. Both peer companies, despite being based in “PIIGS” countries managed to grow their top line better than Vetropack. Vidrala has grown sales by ~25% since 2008, Zignago by around 20%. Vetropack in comparison has grown sales (in EUR) since 2008 only by 15%, net income went down -10% vs. 2008.

But: Also for Zignago, net income went down -20% since 2008, only Vidrala could actually increase net income (after a small dip in 2011 and 2012). Although they seem to do almost all of their business in crisis ridden Spain, Portugal and Italy. So Vidrala clearly shows that you can do a solid job in this business even under adverse circumstances. Although valuations look stretched for both competitors.

Back to Vetropack: Starting with the current variables (1.575 CHF per share, 125 CHF FCF), I would need at a 10% discount rate ~4,5% FCF growth per annum to give me a 50% upside. This is clearly not going to happen soon. On the plus side, the downside is well protected via the (conservative) tangible book value which will most likely grow by mid single digits going forward.

So at the moment, I do not see a big upside or under valuation for stock, taking into account the higher risk profile of the stock.

The upside could come back, if Ukraine gets solved quickly and a lower discount rate could be justified. Another positive could be somehow lower costs but I would not rely on this. Finally, if they continue to buy back shares, then we could also see improving metrics per share but they didn’t announce anything yet.

What to do now ?

I am a little bit uncertain at the. I think I made a mistake in the beginning by using a discount rate which was too low and did not reflect the geopolitical risk profile of their subsidiaries. Now however, the Ukrainian risk seems to be priced in already to a large extent. As I am somehow more sympathetic to Emerging Markets in their currently depressed state, I am tending to keep Vetropack as a partial “Emerging markets / Ukraine bet” for the time being.

However, if I would find more and better EM bets, I might sacrifice Vetropack at some point in time.

TGS Nopec ( ISIN NO0003078800) – an “Outsider” Company Buffet would buy if he could ?

Disclaimer: This is not an investment advice. The author will most likely own the stock already and sell it without telling anyone as well….

As the post is rather long, a short Elevator pitch:

- TGS Nopec is a potential “outsider” style oil services company with a distinctive and capital efficient business model
- currently cheap because of cyclical issues, negative sentiment for the oil and natural resources and top line decline yoy
- underlying business much less sensitive to oils price than the market believes and yoy top line decline is due to “outsider” behaviour

Read more

Portfolio transactions: MIKO BV, Emak SpA

MIKO

MIKO issued a short Q3 trading update 3 days ago, which in my opinion is very very good. I did already buy more MIko before and have now upgraded into a full 5% position.

This is an excerpt from the release:

Turnhout, 28 October 2013 – Miko NV, the coffee service and plastic packaging specialist listed on the NYSE Euronext Brussels, has announced that during the third quarter of 2013 its turnover was 12.8 % higher than during the same period last year. The combined turnover for the first nine months of 2013 increased by 6.7 % compared with the first nine months of 2012.

The growth in turnover is due, firstly, to increased sales in the plastic segment and, secondly, to the acquisitions in the coffee segment that marked the first half of the year (Kaffekompaniet in Sweden and ABC Mokka in Denmark).

In terms of results, there were encouraging increases in both these segments.

According to Mr Frans Van Tilborg, CEO and Managing Director of the Miko Group: “Within the coffee service sector, we have seen a slight drop in sales in most domestic markets, Germany being a positive exception. Although the economic crisis is far from over, the situation has been helped by a number of acquisitions and by reductions in the price of raw materials. In addition, the plastics division is still performing well, with impressive sales growth at each of our plants in Belgium, Poland and Germany. We are optimistic for the rest of 2013.”

This represents a huge acceleration against the first 6 months.

It is a kind of strange feeling to buy at an all-time-high, but on the other hand I try to avoid any kind of anchoring with regard to past stock prices in my decisions. Fundamentally, I think MIKO is a really good deal at this price level.

EMAK Spa

On the other hand, I sold half of my EMAK Spa position. EMAK is/was a “special situation” investment I made during the brutal capital increae in 2011. Now, the price jumped to a level where I think the risk/return relationship is not as good any more. There was no fundemenatl news, so I assume that part of this price jump is the due to the momentm of PIIGS small caps in the last few weeks.

Compared to MIKO for instance, which is growing nicely, EMAK seems to be now rather overpriced, even assuming a further recovery in the “PIIGS”.

As I am always selling too early, I sold only half of the position now ;-) I will decrease my FTSEMIB hedge accordingly, as now the Italy exposure is down to only around 12.5% of the portfolio.

Van Lanschot N.V. (ISIN NL0000302636) – High end Private Banking at a discount price ?

As this is going to be a pretty long post, the “executive summary” upfront:

- For a specialized private bank without PIIGS exposure, Van Lanschot looks extremely cheap (P/B 0,5 vs. 2.0 for other private banks)
- negative 2012 result is very likely „kitchen sink“ result in order to give new CEO a head start
- turn around story. Strategy change under way, goals look achievable
- Van Lanschot has no controlling shareholder, a potential M&A transaction likely if turn-around is sustainable
- potential secular tail wind because of crack down on Swiss Private Banks and regulation for large international banks
- negative overall sentiment vs. Dutch real estate market could explain very low valuation

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Trilogiq SA (ISIN FR0010397901) – Another of those hidden French champions ?

DISCLAIMER: The author might own the stock already before the release of this post. The stock discussed is very illiquid. Please do your own research. This is not a recommendation to buy or sell or anything.

As many readers might have figured out, I am currently looking a lot at French stocks. I already had mentioned in my August review that I am building up a stake in a company which I didn’t disclose back then. Well: here is the company: Trilogiq SA.

If one looks at Bloomberg, the description is quite short and meaningless:

Trilogiq SA manufactures a wide range of flow racks.

However, looking at the Corporate Website is much more revealing:

Trilogiq is manufacturing a modular system of flexible components which supports the material handling at an assembly line. The underlying philosophy is based on the Japanese “Kaizen”. More on that later.

The company went public in late 2006 at a price of EUR 28.59 per share, a level the share hasn’t seen since as the stock chart clearly shows:

Valuation:

Traditional value metrics look OK, but not super cheap (at 18,15 EUR) :

Market Cap: 68 mn EUR
P/B 1.46
P/E 12.0
P/S 1.1
Div. yield 0%
EV/EBITDA 6.0
Debt: Net cash of ~5 EUR per share

So why do I think the company is interesting ? Well, if we look into the last annual report, they seem to do something right:

Net Margin 8.6%
ROE of 12.2% BUT: ROIC (ex cash) is 20%

ROE was higher in previous years, but adjusted for Cash, ROICs are relatively constant at 20%.

EPS DIV ROE ROIC
29.12.2006 0.87 #N/A N/A 25.6% 25.7%
31.12.2007 1.48 #N/A N/A 29.0% #WERT!
31.12.2008 1.45 #N/A N/A 22.1% 19.7%
31.12.2009 1.64 0.50 20.7% 19.9%
31.12.2010 1.75 0.50 18.3% 18.7%
30.12.2011 1.50 0.50 12.6% 23.7%
31.12.2012 1.68 0.00 12.4% 20.7%

So this now gets interesting: We get a company with a (cash adjusted) PE of 8 and an ROIC over the last 7 years of around 20% and the company is growing. This is very good and hard to find these days. On top of that, the company is growing quite nicely and : only around 15% of the business is in France, 85% is “Export”.

So in current times, this definitely is a good reason to investigate the company further.

Business model:

In such a case as Trilogiq, where I do not know the company really well, I usually try to figure out what they are doing in more detail in the next step. Here, fortunately, we can still find the (French) IPO prospectus on Trilogiq’s web site

General Remark: IPO prospectuses are always a very good source for information about the business model, competitors etc. So if one can get hold of it and it is not too old and outdated, this is usually the single best source for such information. Much better than annual reports, because the risks are usually disclosed quite extensively.

The founder of the company worked as an engineer at Renault and had the task to study Japanese car manufacturing. He then started out on his own, producing equipment to improve manufacturing efficiency for Renault and Peugeot.

The basic “philosophy” is to have a lean flexible production process which avoids unnecessary material, handling steps, heavy machinery, large quantities etc. Among others, it is advised to transport small amounts only within the assembly lines, avoid unnecessary distances etc etc.

Now comes the interesting part: Trilogiq itself does not only provide the tools, but is offering the full consulting service as well. So a company calls Trilogiq and they start with simulating the production process on a computer (CAD) and then optimize it using their various tools. They will then go on site and then implement the stuff including full project management etc.

So in essence, Trilogiq rather seems to be a specialised consulting company with a physical product than your typical car parts supplier. This in my opinion also could explain the rather high margins which are quite unusual in the automobile industry.

A few videos which explain the principles:

(company movie)

Some product presentations

In order explore this thesis a little bit more, let’s look at two ratios:

- What amount of raw material etc in relation to sales does Trilogiq show against other companies ?
- What amount of sales do they generate per employee ?

Lets look at some companies, I have chosen 2 car parts companies + 3 of my portfolio companies as comparison:

material cost/Sales Sales per Employee (K EUR)
 
Trilogiq 43% 350
     
PWO 55% 33
Sogefi 56% 15
 
Poujoulat 59% 73
Installux 48% 198
Thermador 60% 389
     
G. Perrier 26% 90
 
Accenture   295
IGE 22% 284

The result is quite interesting. PWO and Sogefi are 2 “typical” car parts manufacturers. Material cost is more than 50% of sales, sales per employee are relatively small, so implicitly this is rather pretty “low tech” work.

If we look at my Portfolio companies, only Thermador has a similar per employee sales number but this is normal as it is primarily a trading and logistics company. Poujoulat for instance needs more material than Trilogiq as well as Installux and even Installux only manages 2/3 of Trilogiq’s sales per employee.

Just for fun, i also listed software company IGE + Xao and Accenture. Interestingly those companies generate similar sales per employee volume.

While this is clearly no scientific proof, I think it is however fair to say that Trilogiq is not your typical “manufacturer” but rather something different. It is no trading company either so I think my thesis that it is a kind of consulting company with a physical product might not be unrealistic.

Another interesting aspect shown on page 33 of the IPO prospectus is the aspect that they do create significant recurring revenues out of their products. According to this, they have a 4 year cycle. If they sell an amount of 100 in the first year, they will expect 20 maintenance revenue in year 2 and 3 and then (if renewed) another 40 in year 4.

Competitors:
They only consider 2 companies as direct competitors: Fastube in the US and Yakazi from Japan, both privately owned. As Trilogiq is currently expanding quickly in the US it seems like Fastube is maybe not the strongest competitor. They don’t seem to be active in Asia, maybe too much respect versus the Japanese “master” like STarbucks and Italy ? Of course, the “traditional way” is a competitor too.

Why is the stock cheap ?

- One reason is clearly the non-existent financial communication. Minimalistic reports in French only, only a few small research houses cover the stock (5 according to Bloomberg, only 2 in 2013). Interestingly, in 2007 and 2008 they still made some additional press releases about large new orders, but from 2009 on they only released their reports and nothing else
- they only paid a dividend once (50 cent in 2009). Since then they are accumulating cash.
- data for the company for instance in Bloomberg is not very accurate, 2011 and 2012 numbers are not updated. TheyWon’t show up in many screeners
- it is a French company and sentiment is still bad for France
- they are viewed as an “average” car parts producer

Now it gets interesting: Shareholders

No reliable data in Bloomberg. According to them, French value fund Amiral Gestion owns 2.13%.

According to this research report however, the founder still owns 77%, but Amiral Gestion owns 13%. Leaving a tiny free float of 10%. Amiral in my opinion is one of the better European Value companies and maybe the best in France.

Shareholder activism:

AMIRAL, actually has increased its stake to 13,55%. On the general assembly a few days ago they went kind of activist and demanded a special dividend of 3.75 EUR per share.

As the owner most likely seems to have been present at the AGM, I guess this was voted down, but nevertheless it clearly shows the strategy Amiral is running here. They are in for the long run and will press for some form of payout, be it dividend or share buy back.

In my opinion this is also an interesting kind of “insurance” against any unfriendly behaviour from the CEO and majority owner, as Amiral is not a small fund. With their 13% stake (which is more 56% of the free float) Amiral is automatically committed for the long-term as it will be extremely hard to get out of this stake via the rather illiquid market.

I found this interview with the founder and CEO (in French), where he explains the company and mentions that taking the company private would be worth a consideration….

There is a quite active discussion (in French) on Boursorama about Trilogiq and someone is even claiming that the special dividend was approved, however I am not sure that this is the case.

France / Portfolio concentration

As some readers might recall, I sold my Bouygues stocks when I bought Thermador because I thought that my exposure to France is big enough. With Trilogiq, I don’t have this problem. trilogiq has only 15% of its sales in France and is currently expanding rapidly outside France, especially in the US. So I don’t see an issue here.

Interestingly, french sales haven’t improved much over the past years, the growth came almost exclusively from outside France.

Summary:

In my opinion, Trilogiq is a very interesting company and might even be a true “Hidden champion”. For me it looks more like a consulting company with a physical product than a manufacturer which helps to explain the good margins and 20% ROICs.

There are clear reasons why the company is cheap compared to the quality of the business, especially the negligence of shareholders so far. However, with Amiral having built up a 13% stake, this could improve.

Nevertheless it shares many characteristics I like in a stock:

- founder/owner majority owned
- relatively illiquid and negelected from investors/analysts
- business model not too easy to understand
- negative headline news for home country

In my opinion, the company is worth much more than its current price. Conservatively I think if this would be a German or UK company, People would pay 15x earning plus the cash which would be 25 EUR +5 EUR or 30 EUR per share.

Trilogiq is therefore a clear “buy”. For the portfolio I assume that I was able to build up a position of 20000 shares at 18,27 EUR per share which is roughly 50% of the trading volume since July 1st and represents a 2.3% allocation of the portfolio.

Short cuts: Rhoen Klinikum, Hornbach, Vivendi

Rhoen Klinikum

KABOOM !! After a lot of corporate boardroom chess, Rhoen Klinikum and Fresenius today cam out swinging and announced that Rhoen will sell the mAjority of its business for 3.07 bn EUR to Fresenius.

Among other (and subject to regulatory approvals), Rhoen plan s to:

- pay a 13.80 EUR special dividend (this translates into ~1.9 bn EUR)
- and/or repurchase shares
- they will keep hospitals (mostly university hospitals) with an annual turnover of 1 bn where they expect an EBIDTA margin of ~15% in 2015
- the purchase price is cash, but Rhoen will use part of it to pay back debt
- the purchase price is priced at 12x EV/EBITDA

The stock price jumped initially today to 22 EUR and something but came back to ~ 19.50, giving Rhoen a current EV of around 3.5 bn (Net debt 800 mn)

The “stub” (remaining business) is currently then priced at around 500 mn EV but expected to earn 150 EBITDA in 2015. If we assume a Forward EV/EBITDA of around 6-8x, then a fair value of the current Rhoen shares (pre tax etc.) would be the current 19,50 plus 3,50 to 5 EUR per share or so. Slightly higher than the 22,50 Fresenius was ready to pay two years ago.

So for the time being I will not sell the shares and watch what is going to happen. At some point in time, the stub itself coul dbe an interesting situation in itself, as it will most likely drop out of the index etc. Sow I guess I will sell before the extra dividend is actually paid.

Hornbach

Quite a surprise: Kingfisher representatives, which owns 25% of the holding votes and 5% of the Baumarkt shares are actually leaving the supervisory board and planning to enter the German market.

They seem to target the “professional” market, not the retail sector. Clearly this is also the sector where Hornbach is strongest.

I am not sure how to interpret this. Clearly, it would be better if Praktiker (and MAx Bahr) would just disappear. I do not really understand why Kingfisher wants to enter the German market. Kingfisher is a great company, but in their major markets, UK and France they are number 1 with a clear size advantage. In Germany, they are a small fish and I would claim that the German retail market in general is one of the most brutal markets in teh world. Even WalMart didn’t have a chance here.

I am wondering if somehow now Hornbach enters the French market ? As far as I know, they so far operate some shops along the border which draw a lot of French people because prices are a lot lower in Germany.

Vivendi

Some 18 months ago, I had a quick look at Vivendi because Seth Klarman bought a stake.

Subsequently, he sold out again a large part at a loss. Now however, there seems to come some actual change. French “raider” Bolloré became vice chairman and the company announced the following:

Bowing to investor pressure to overhaul its structure, Vivendi will begin a formal study to separate its French phone unit SFR and assemble the rest of its businesses into a new international media group based in France, it said yesterday. Billionaire shareholder Vincent Bollore will become deputy chairman, as Vivendi ends its search for a new chief executive.

This is quite interesting. Thinking loud, Vodafone with all its Verizon Cash might be interested in the telephone part (after cashing out their minority participation to Vivendi some years ago….).

Nevertheless, I still hesitate to buy Vivendi. 2012 was a very bad year for them. Under my metric the made a loss, increased the share count and have 1 EUR per share more debt despite showing positive free cashflow.

Note to myself: Put Bolloré on my watch list. This guy seems to know what he is doing in France.

MIKO NV (BE0003731453): Coffee and plastics – a tasty combination ?

DISCLAIMER: The stock discussed is a relatively illiquid small cap. The author will most likely own the security already before posting any analysis. This is not an investment recommendation and reflects the personal (biased) opinion of the author. Please do your own research.

Miko NV is a Belgian company, which has been lying on my “reasearch pile” quite some time.

However, a few weeks ago when I read the news that the Benckiser heirs were acquiring Coffee company DE Master Blenders for 7.5 bn EUR (2.6 times sales, 27 times book, 23 times EV/EBITDA), I decided to look at them next.

Miko’s traditional numbers look Ok, but not spectacular

Edit: I wrote the post last week, a few days ago for some reason the stock price jumped significantly. I did not update the numbers. The analysis is based on a stock price of around 57 EUR.

P/E 10.5
P/B 1.1
P/S 0.5
Div. Yield 1.9%
EV/EBITDA ~5

At a first glance, their core businesses look like a very odd combination. 50% of sales are coffee related, 50% is plastic packaging for food and cosmetics.

This is how they explain it on their website:

Out of the coffee roasting department, which in 1958 launched the one-cup coffee filter, and which as such acquired significant expertise in the area of plastics, the second core activity of the Miko group developed itself next to the coffee service division, namely plastics processing.

The company looks quite well in my BOSS model, because in the past they have shown consistently double-digit ROEs and ROICs, together with nice growth:

NI margin ROE Sales per share FCF per share
31.12.2002 5.0% 21.7% 55.2591  
31.12.2003 5.2% 21.1% 59.346  
31.12.2004 5.2% 17.5% 61.1627  
30.12.2005 5.3% 16.0% 67.2204  
29.12.2006 5.4% 15.6% 73.2292 -0.5172
31.12.2007 5.5% 15.0% 79.3292 -0.0121
31.12.2008 3.9% 11.5% 90.1941 -2.6932
31.12.2009 7.2% 18.5% 89.0562 10.4591
31.12.2010 6.5% 15.3% 94.8683 1.4043
30.12.2011 4.3% 10.0% 104.8493 -2.5251
31.12.2012 4.6% 10.6% 111.4887 #N/A N/A

However we can see 2 issues in this time series:

a) ROE’s declined to ~10% and net margins to < 5% in 2011 and 2012
b) Free cash flow looks very "Lumpy"

Lets tackle the first one: Why did margins and ROE decline in 2011 and 2012 ? Well both, the plastics division and the coffee division share that they depend on "commodity input". The coffee segment clearly depends on coffee prices, the plastic segment on the price of plastic granule which itself depends on oil price and energy costs.

This is a table how the price of raw material developed in comparison to sales:

Raw materials /Consumables Total sales In % Net Margin
2006 40.7 90.6 44.9% 5.4%
2007 45.7 98.4 46.4% 5.5%
2008 53.9 113.0 47.7% 3.9%
2009 49.6 111.0 44.7% 7.2%
2010 57.2 117.8 48.6% 6.5%
2011 69.4 130.2 53.3% 4.3%
2012 73.1 138.5 52.8% 4.6%

So we can clearly see that input costs compared to overall sales increased quite significantly over the last years. But we can also see that at least in 2009/2010 they seemed to have been able to compensate for the rise in input prices. nevertheless it is interesting to see, that despite almost 9% increase in input prices, they manage to squeeze out more or less the same margin as in 2007. Why so ?

<

2007 in% of sales 2012 in % of sales Delta % of sales
Other (pos) 1.8 1.8% 2.7 1.9% 0.1%
Raw material etc. -45.7 -46.5% -73.1 -52.8% -6.3%
labour -23.9 -24.3% -30.7 -22.2% 2.1%
Depr. -6.3 -6.4% -7.8 -5.6% 0.8%
other -17 -17.3% -20.8 -15.0% 2.3%
financial -0.1 -0.1% -0.6 -0.4% -0.3%
Taxes -1.5 -1.5% -1.7 -1.2% 0.3%

This table shows the “composition” of the cost base 2007 vs 2012. We can see clearly, that input costs have increased relatively to sales and quite dramatically so. On the other hand, the growth of the company seems to have produced good economies of scale effects. Labour percentage is down, depreciation and other costs.

So we can see that we have a company here which is clearly a price taker to a large extent, but was able to grow quickly enough in order to realize economies of scale and keep the margins more or less constant. This means that management has done a good job and can grow while at the same time control costs. I see that as a huge plus and a sign for good management.

Lumpy free cashflows

In today’s investment world, investors want to see a smooth increasing figure for free cash flow per share. I have written about this quite often. But in reality, for a “normal” company, free cash flow is anything but smooth. A real “traditional” company will buy or build a long-term asset, sand depreciate it over a certain amount of time and then buy the asset again etc. Naturally for a traditional company, free cash flow will be lumpy, unless it is “managed”. Operating leases for instance are a management tool or M&A activity. Personally, I can live with “lumpy” free cash flows. At Miko, they clearly are not “managing” this because it think the majority family shareholders are not too interested in such an exercise.

The core Coffee business

Their core coffee business is relatively straight forward. They install and service larger coffee machines in offices and bars/restaurants including additional supplies like roasted coffee, milk, sugar, cookies. They do not produce coffee machines themselves, also the technical service is outsourced to a partner. However they do lease them out if required. So once they have got a contract, it seems to be a nice “recurring” business although they are clearly not the only company offering it.

When they expand internationally, they usually buy a local company and then expand on that basis. In the last few month, the bought in this fashions small existing companies for instance in Denmark and Sweden.

Qualitative aspects / checklist

The score in my checklist is a good 19 (out of 28), at the same level as for instance G. Perrier or Tonnelerie. Highlights are

+ small market cap 71 mn and only 1 analyst following company
+ 55% Family owned via 2 holding companies
+ unusual feature of 2 very different businesses in one stock (investors prefer “pure plays”)
+ potential catalyst for higher margins: Lower coffee prices
+ solid balance sheet, no significant pensions, low debt, low operating leases
+ straight forward reporting, no fancy “adjusted” numbers
+ the company operates over a diversified region (Belgium, UK, Germany Poland)
- not actively shareholder oriented (no buy backs etc.)

An interesting soft factor is the fact that the stock cannot be traded at one of my two brokerage accounts (DAB Bank). This means that no one of the currently 600k clients in Germany has ever traded that stock. Which

Valuation:

My BOSS model (which I don’t take to seriously in that regard) says the shares have an upside of 75%-150%. With a more simple approach I would assume the following:

Both, the coffee service and plastic packaging businesses are “above” average businesses. An “average” business for me would justify a PE of 10, an !above average” like those two something like 12-13 times. On top, MIKO has demonstrated that it can grow and compound in both areas. This is also something one should not pay for explicitly but factor in. All in all, for me a P/E of 15 or EV/EBITDA of 7-8 would be not totally unreasonable.

Based on this, I would see an upside from the current share price of ~30-40%. The downside risk in my opinion is relatively limited. Miko never traded below book value since its IPO, so the current 1.1 P/B seems to be comparably cheap.

Overall I would rate this as buying an above average investment at a below average price.

Stock price

The stock price looks quite interesting. The current price is approaching the all time high from 2007/2008. In comparison to now, Miko then was valued at around 13-14 trailing P/E, so around 30% higher than today. I am not a chartist but if they actually manage to crack this ATH, this is normally a good sign.

Timing & oither considerations

An important question to keep in mind is the following: Would I buy this stock also now if I would not sit on a pile of cash ? The answer is yes, I would even buy it if I were 95% invested or I would also be prepared to sell lower conviction stocks like SIAS for it.

The reason is the following: As discussed earlier, I am not really positive on BRIC and commodity prices in general. So I stay away from anything which profits from increasing commodity prices. MIKO, on the other hand benefits from a decline in commodities, especially coffee.

This is the coffe price chart over the last 15 years:

This illustrates quite well, how unusual the 2011-2012 period was. SO I do think that there is a good chance that we can see improved margins in the coffee business, starting already in 2013. The sole analyst covering Miko is actually expecting 7 EUR Earnings per share for 2013 and 8 EUR for 2014. I don’t think it will be that good, but nevertheless it looks like a good time to buy into Miko.

Miko is in my opinion an interesting stock because it doesn’t fit in most “value” categories. It is clearly no “wide moat” company, it is not a “bargain” nor will it show up on a lot of classical value screens. Also those investors who want (or need) a high dividend yield will not consider the stock However, as a new member of my “boring but sexy” quality stock portfolio it is a very interesting “off the beaten path” addition.

Summary:

Miko fits nicely into the type of stocks I am looking for:

+ it is small, unspectacular family owned company followed by only one sole analyst
+ the underlying two businesses are stable, solid balance sheet, good management
+ the company should be able to compound at 10-15% ROE for quite some time
+ there might be a small “catalyst” with increasing margins in the coffee business dut to lower input prices
+ geographically it nicely diversifies vs. my France/Italy holdings (mostly Belgium, UK, Germany, Poland)

I therefore establish a “half” position at 58 EUR per share (see disclosure above).

Short cuts: Installux, Maisons France, SIAS, EMAK

Installux

Installux reported 6m numbers. As they have already indicated, sales were down -10%. Interestingly, they managed to keep their EBIT margin at a constant 11%, despite higher depreciations.

This is very remarkable. The net result went down ~-11% mostly because taxes remained unchanged on absolute terms. At the end of the day, EPS for the first 6m was 13.80 EUR. If history is any guide, I would expect an additional 5 EUR EPS or so in the second 6m, resulting in 19 EUR EPs. Net cash went slightly down to around 16 mn EUR or ~53 EUR per share due to higher receivables which is normal for Installux in the first six months.

All in all, Installux is still one of the cheapest stocks around and the business seems to be surprisingly resilient and their cost base quite flexible.

Maisons France Confort

As expected, MFC is experiencing an even deeper decline in sales than Insatllux. Maybe it was also the weather, but sales are down -10.5%, excluding M&A by -15.4%. However they will publish results only in beginning of September. So lets wait and see. The stock price remained surprisingly resilient.

SIAS

SIAS released 6M numbers as well. Numbers were Ok. Traffic seemed to have picked up later in Q2. Overall, as now the “special” is gone, one of my lower conviction ideas. Good dividend and still below book value but that’s it.

EMAK

Finally, EMAK released the 6M report. Despite unchanged topline sales, they managed to significantly increase profitability which I find remarkable (profit margin 6.2% vs. 4.4%). Even moreinteresting, their European sales increased nicely despite the unfavourable weather and sales decreased mostly in Turkey. One more data point for my “gorilla theory”…. This is what they say:

In the “Asia, Africa and Oceania” the decline in sales is mostly due to the decrease in shipments to Turkey, tied to a moment of weakness of the local market.

They lowered slightly their guidance for 2013, but still the expect 38-40 mn EBITDA which would transale in somethin like 0.10 EUR profit per share.

Overall, EMAK in my opinion is on a very good way and has significant recovery potential from here.

AS Creation (DE000A1TNNN5) Half year report 2013 – SELL

AS Creation was on my watch list for a potential sale quite some time.

The initial investment casé was as follows:

At the time of writing in 2010, AS Creation was trading at around 29 EUR. We thought at that time that either “reversion to the mean” of net margins of around 5% and/or the Russian JV could give earnings and of course the stock price a nice boost. Our overall fair value at that time was estimated at around 38 EUR, a weighted average of good/medium/weak scenario.

In the meantime however, both assumptions were not reached. Net margins went down to 2.4% in 2011 and back to 3.6% in 2012. So far away from the 5% we assumed for the good case.

Additionally, based on the 6 month report issued on Monday, the Russian JV seems to develop rather dissapointing. The second quarter alone brought an additional “at equity” loss of 1.5 mn EUR after 0.5 mn loss in Q1. The reasons for this disappointing developement were “unforeseeable” difficulties in getting their stuff into the sales channels. This sounds like a quite weak explanation. Additionally they mention declining demand in Russia which fits into my “Gorilla” thesis.

So our old “best case” seems hard to reach. I mean if they don’t earn their margin now, with parts of Germany in a real estate bubble, then I highly doubt that they can do that ever again.

Combined with some other issues, like a non-explained general waiver for management in connection with the ongoing cartel investigations, I do not see a lot of upside in the stock for the next couple of years.

As the current share price is way above the estimated “Mid case” valuation, the only possible consequence is to sell the AS Creation position completely.

This further increase the cash pile, so I have to work hard on new ideas….

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