Monthly Archives: October 2012

Portfolio maintenance – autumn cleaning

One of the things I tend to avoid is a regular review of all portfolio holdings. It is much more fun to look at new companies than to refresh the analysis on the existing companies. As I usually scale into a position slowly, I somtimes get distracted or disturbed by stock price movements or fundamental changes.

As a result, the number of position in the portfolio increases over time and in my opinion this makes it much harder to focus.

As November is a quite dull month anyway it might also be a good month to review the portfolio.

In a first step I will look “high level” at all positions and try to come up with a “conviction” level which has only three levels: HIGH, MEDIUM, LOW and a short descritpion why this is the case.

In a second step, I want to apply the following logic:

1. If I have “HIGH” conviction, then the position should be a “FULL” position or close to full (5%) unless there is a specific reason against this
2. IF I have “LOW” conviction, then I should sell or close the position
3. For “MEDIUM”, I will have to define at a later stage what will lead either to an upgrade or downgrade for the coming year

The following list is the result of this exercise:

I will therefore “upgrade” Installux, Dart Group and the IVG Convertible to “full” 5% positions. On the other hand I will sell Mapfre, Fortum, EVN and OMV and close the Kabel Deutschland Short.

For Rhoen, I will increase to 2.5%, as I am still in the “early” stage of the investment but so far it goes according to plan.

After this exercise, the portfolio will be around 90 net long, which is kind of the “Normal” allocation.

Maybe some additional comments to the “Energy sector” which I comletely exit after this exercise:

– my initieal “simple” investment case was the following: If energy prices rise, companies with large renewable/nuclear capacity will outomatically profit as well as Oil companies
– Finland and Austria are non-critical from a regulatory point of view

The first thesis obviously was not correct. Both, EVN’s and Fortum’s Earnings decreased from the 2010 level which was the basis of the analysis. Although their balance sheets are comparably stronger, stock prcie performance was only average against the non-PIIGS peers. In relative terms, the stocks are more expensive.

At the moment I just don’t really have an invetsment case for all three companies any more. They look kind of cheap but I do not have a clear view if they will earn their cost of capital going forward. The classical utiliyt business model has been somehow disrupted by alternative energy.

Maybe I invest into them at a later stage, but currently I just do not have any special insight why they should be superior investments.


I already sold Fortum and OMV yesterday at October 30th prices as well as the increase in Rhoen Klinikum shares.

Hankook Tire Co. (ISIN KR7161390000) – Spin-off Gangnam style ?

Hankook Tire is well known as a succesful Korean manufacurer of Tires worldwide. This year however, the company performed a spin-off which to a certain extend looks strange compared to other spin offs.

Basically, Hankook Tires spun off the operating tire business into a new entity. The old entity has been renamed Hankook Tire Worldwide and trades under the old ISIN KR7000240002. The spin-off entity is called Hankook Tire Co. and trades under the ISIN KR7161390000.

The spin off is strange to me at least for those “specialties”:

1. Before the spin-off, the stock was suspended from Trading for ~5 weeks, from August 30th to October 5th.
2. After the spin-off, the holding company will receive royalties from the operating company

There is a very interesting report from KDB Daewoo Securities about this “korean style” spin-offs in general and Hankook in particular.

Genrally, this seems to be the result of new rules in Korea which limits cross shareholdings as a mean to control companies.

If I understood the mechanics correctly, the process in general works the following way and intends to increase the stake in the HoldCo to the highest percentage possible:

A) The OldCo is split into a HoldCo and OpCo. So the “big shareholder” holds equal percentages in both compnaies
b) in a second step, the “big shareholder” will then execute both, a rights issue and a tender offer for the holding company

In the second step as far as I understood, the HoldCo will issue new shares. The “big shareholders” will tender their OpCo shares for new HoldCo shares. As not many investors are interested in in the new HoldCo shares. the price of the Holdco will suffer.

In order to maximise their final percentage in the HoldCo, the “big shareholder” has the following incentives:
– push down the value of the HoldCo shares before the offer
– push up the value of the OpCo shares before the offer

This leads, according to the research report to the following “investment opportunities”:

buy the OpCo shares after spin off and sell before or at tender offer
– buy the HoldCo shares after the tender offer

If we look at the stock charts, at least the first step seems to work perfectly:

So the HoldCo already lost -25% since October 4th. However the second part, the increase in value of the OpCo shares didn’t really work out so well, especially after the OpCo lost ~5% market value today.

So this might be a good special opportunity to buy the OpCo shares now and maybe hedge them with a Kospi Short position.

The only practical problem with this is that Hankook shares are not listed outside Korea and it is currently not that easy to buy shares on the Korean stock exchange. Ii still did not try to open a brokerage account with a Korean broker, but maybe I Should at some point in time….

I am not sure if I should open a “paper trading” position for the portfolio. If I would really run a 10 mn fund, it would be reall making sense to open a Korean brokerage account.

To be continues…….

Boss Score Harvest: Accell Group (NL0009767532) – maybe another time

Accell is by far the best Scoring stock in my Boss Score Top 25 Benelux. According to Bloomberg their business is focused on bicycles:

Accell Group NV designs and manufactures racing, children’s, hybrid, mountain, electric, and luxury bicycles. The Company manufactures its bikes under the brands Batavus, Hercules, Koga-Miyata, Lapierre, Mercier, Loekie, Sparta and Winora. Accell also makes bicycle accessories and fitness equipment. The Company markets its products in Northern and Central Europe.

Traditional metrics:

Market cap 299 mn EUR
P/E 8,1
P/B 1.19
P/S 0.39
EV/EBITDA ~ 12Div. Yield 7.4%

So the company looks cheap from a P/E perspective, but expensive from an EV/EBITDA point of view. Debt to Equity is ~56% or 5.12 EUR net debt per share.

Business model

Accell is producing and wholesale distributing bicycles, not retailing them. They have been constantly acquiring smaller competitors over the last years. Bicycles were good business over the last years. If we look at the currently listed manufacturers, we can see that valuations are generally quite high (just for fun I added Shimano to the peer group):

MIFA MITTELDEUTSCHE FAHRRADW 62.7 2.0 83.2   0.6 2.0 2.2  
MERIDA INDUSTRY CO LTD 894.6 4.7 17.6 17.0 1.6 6.7 29.6 13.8
SHIMANO INC 4664.3 2.5 17.1 8.3 2.0 12.3 15.2 14.2
GIANT MANUFACTURING 1510.0 4.1 18.9 12.7 1.1 5.7 22.7 12.4
ACCELL GROUP 300.6 1.2 8.1 12.3 0.4 4.6 15.0  
DERBY CYCLE AG 242.6 3.7 21.7 11.4 1.0 4.8 22.3 20.5

I guess this is mostly due to the fact that the bicycle producers have gained from two major tailwinds: high fuel prices and E-Bikes. One can also see that Accell looks relatively cheap on a P/E and P/B basis.

From a business model perspective, I see some positive and some negative aspects for bicycle producers:

+ there are no really dominant retailers for bicycles. So a large producer does have a better competitive advantage
+ the business is not very capital-intensive
+ there is a secular trend in many countries / cities to a more bicycle friendly environment (health and fuel cost, see for instance here)
+ The internet might not disrupt the sector as much as other area
+ the market is still divided between many smaller players, so further consolidation might be possible

Howver there are also some factors which I consider negative

– brand awareness: People might pay a little more for a branded bike but there is not so much brand loyalty like for instance cars
– the high tech part of bicycles are mostly outsourced to suppliers. Best example is Shimano which has basically a monopoly on gear shifts
– it is therefore quite easy for small competitors to start production, as welding a frame is not so difficult and you can buy the parts pretty easily
– the European market is protected by a heavy 48.5% tariff. According to the Bloomberg article, this has been extended 3 years until 2014. But if this falls, the European producers would be in big difficulties soon. A good general source for market data, news etc. is this website.

So to sum up the industry:
The industry has/had some secular tailwinds, however the overall competitive landscape is average. Combined with the really expensive overall valuation, the listed companies look vulnerable to a certain extent. The success of the European producers might also be a result of the massive tariffs for Chinese manufacturers, so there is also some kind of “regulatory” risk.

Company valuation:

The company scores so well in my model because they have shown phenomenal ROE and ROICs in the last years and steadily increasing net margins:

ROE Ni Margin EPS EBITDA/share
31.12.2002 17.02% 2.6% 0.41 1.01
31.12.2003 20.34% 3.2% 0.55 1.23
31.12.2004 24.23% 3.9% 0.77 1.59
30.12.2005 22.51% 4.2% 0.88 1.70
29.12.2006 21.72% 4.3% 1.00 1.91
31.12.2007 19.91% 4.2% 1.30 2.17
31.12.2008 23.89% 5.3% 1.48 2.86
31.12.2009 23.07% 5.7% 1.65 2.88
31.12.2010 21.91% 6.3% 1.79 2.64
30.12.2011 20.39% 6.4% 1.93 2.13

However I also showed EPS and EBITDA per share over this period. The strange thing is that EBITDA per share and earnings per share more or less “converged” whereas in earlier years, the relationship EBITDA to EPS was on average 2:1.

So let’s quickly compare the 2003 P&L (from the 2003 annual report) against 2011:

2003 % 2011 %
Sales 289   628.5  
Material cost -184.5 -63.8% -420.2 -66.9%
Personel -45.1 -15.6% -82.9 -13.2%
Depr. -3.8 -1.3% -7.4 -1.2%
other oper. -39 -13.5% -83 -13.2%
Financial /part -2.5 -0.9% 8.6 1.4%
Tax -4.9 -1.7% -3.1 -0.5%
Net 9.2 3.2% 40.5 6.4%

So we can clearly see that there is a big “special” effect in 2011’s results. If we look into the P&L, we can see the following note:

This is the result realized with the sale of the in 2011 acquired 22% investment in Derby Cycle AG. The result consists of the capital gain less corresponding expenses.

So this was a nice but one-time gain during the (short) fight for Derby cycle, the German listed bicycle manufacturer where Accell lost out against Dutch competitor Pon.

So let’s look at 2010 instead to see if this was a “normal” year:

2003 % 2010 % Delta
Sales 289   577.2    
Material cost -184.5 -63.8% -373.9 -64.8% -0.9%
Personel -45.1 -15.6% -76.6 -13.3% 2.3%
Depr. -3.8 -1.3% -7.5 -1.3% 0.0%
other oper. -39 -13.5% -73.3 -12.7% 0.8%
Financial /part -2.5 -0.9% -4.1 -0.7% 0.2%
Tax -4.9 -1.7% -5.8 -1.0% 0.7%
Net 9.2 3.2% 36.0 6.2% 3.1%

One can see that also in 20110, there must have been some special effects, for instance the tax rate looks low. Again the notes give the following explanation:

The effective tax rate is the tax burden relating to the book year divided by profit before tax. The effective tax burden amounts to 20.6% (2009: 27.5%). Accell Group and the Dutch tax authorities agreed on the applicability of the so-called patent/innovation box. For the years 2007 – 2009 part of the Dutch taxable profit is taxed against a tax rate of 10% (instead of 25,5%), resulting in a refund of b 1.7 milion. In 2010 part of the Dutch taxable profit is taxed against a tax rate of 5% (instead of 25,5%) resulting in a tax saving of approx. b 1.0 milion. In accordance with IAS 12 a tax receivable is recorded as tax receivable for an amount of b 2.7 milion.

So just based on those 2 examples, I would already state that “earnings quality” at least in 2010 and 2011 is somehow mixed. Especially the 2011 result would look a lot worse than reported if they wouldn’t have the gain.

Other considerations:

So let’s have a quick overview on some other check list items:

+ Good growth over the last 10 years
+ Consistent payout of around 509% of net income
+ good underlying “story”: E-Bikes, roll up opportunity
+ only covered through 7 local analysts, bad ratings (which i see as a positive)

– many acquisitions
– increasing share count (increase by 50% over the last 10 years)
– accounting “special effects”, operating results more volatile than they appear
free cashflow generated only ~ 20% of stated earnings over the last 14 years
insiders are/were constantly selling according to company info
deteriorating Business in 6M 2012 despite large acquisition, again suspiciously low taxes
– balance sheet now much weaker after Raleigh acquisition (more debt, more goodwill)
– according to the shareholder information on the company web site, there seems to be some kind of take over poison pill in place which limits any take over /control premium catalyst
The stock price seems to be clearly reflecting those issues:

On a 2 year basis we can clearly see that the stock looks vulnerable:

Longer term, the cahrt looks relatively OK, the stock had an incredible run over the last 10 years or so:

So let’s stop here and summarize:

– the reported earnings, especially in 2011 do not show fully the underlying results
– Accell made a rather large acquisition into a difficult market
– going forward, it is pretty clear we will see lower earnings and lower profitability
– if things deteriorate, there is not a lot of margin of safety in the balance sheet (high debt load, Goodwill)
– the business doesn’t look a lot like a moat either
– insiders are constantly selling, any take over seems to be unlikely
– despite the low P/E, valuation is rather expensive on an EV/EBITDA basis and cash flow generation to earnings is weak

So in short, despite the fantastic score, the company at the moment does not look attractive to me. Past profitability seems to be clearly above the historical achievable mean. As I don’t by in principle into “stories” like E-bikes, I will not invest in the stock.

Allow me a small excursion at the end:

Accell might still be a good investment going forward, but in my opinion it is not a good “value” investment. Why ? For a value investment it is not enough to look cheap. You have to have a margin of safety. This comes in two forms

– either a margin of safety based on the balance sheet (Graham style)
– or a margin of safety in the business model (moat, Buffet style).

Accell in my opinion has neither. Maybe they will make a ton of money with E-Bikes or not. I don’t know. But if things get worse, there is not real downside protection for the stock. As a value investor one should not speculate on stories or secular trend, because they can change more quickly as one might think (see Solar).

Boss Score harvest: Top 25 Benelux

After looking at the Top 25 according to my Boss model from Germany, France and the UK, let’s look at the Benelux area (Belgium, Netherlands, Luxemburg:

Top 25 10 year Boss score:

Top 25 5 year Boss score:

I have to admit that I do not no much about a couple of the stocks which score well . So let’s look at some of those stocks which might be interesting (apart from Accell which I have to tackle anyway at some point in time…)

Macintosh Retail
Retailer with UK exposure, market cap 200 mn EUR. Struggling lately (loss in first 6 month 2012). Might be interesting. Bestinver holds 10%.

Also interesting. Mkt. cap 100 mn EUR. Seems to process food but is also active in chemical business. Loss 2nd half of 2011 and first half of 2012.

Hamon SA
Market Cap. 80 mn EUR. Producer of cooling systems and air polution control. Relatively large US activities.

Construction & engineering company, 46% owned by Vinci.

Ten Cate
Specialty textile company. Doesn’t seem to have majority shareholder

SA Belge Constr. Aeronautique
Thinly traded supplier to Airbus & Co. 98% owned by Dassault and Focker.

Large cap (4bn). Interesting business model (collects and sells geological data).

Coffee distribution and plastic packaging.

Sligro Food
Market cap 900 mn, food distributor. Very stable margins.

Summary: So all in all some really interesting companies to research in the Benelux area. I guess Accell and Macintosh will be my first priority.

Boss score harvest: Morgan Sindall (GB0008085614) part 2 – no investment

After part 1, I have to admit that I share some concerns some commentators raised:

– the lack of tangible book value combined with a P/B of 1.3
– the cyclically of the business which however does not really show in the balance sheet (yet
– volatility of cash flows

The first issue is something one has with almost all UK groups. Anglo Saxon companies are almost always “capital light”. I guess the reason is that there are so many active PE investors, raiders, activists etc., which make sure that a well capitalized company will not long stay well capitalized.

However, this pressure sometimes produces much more capital efficient business models. As we all know, price to book is not really a good value indicator. Let’s look at a small collection of construction companies with some multiples:

MORGAN SINDALL GROUP PLC 5.30 1.22 8.60 14.30 11.88 1.52 -0.03
STRABAG AG 9.81 1.25 11.77 10.90 3.05 -5.75 0.05
KONINKLIJKE BAM GROEP NV 11.42 0.57   9.62 2.86 -13.43 0.13
HEIJMANS N.V.-CVA   0.29   -8.84   0.38 0.12
BILFINGER SE   1.94 15.09 21.95 7.71 4.80 -0.02
VINCI SA 7.15 1.47 9.88 15.01 6.59 4.37 -0.06
CARILLION PLC 7.04 1.38 8.23 16.38 11.64 3.24 -0.06
KIER GROUP PLC 4.66 3.36 9.25 34.35 37.95 2.89 0.06
BALFOUR BEATTY PLC 6.62 1.71 10.86 16.22 8.24 1.72 -0.08
COSTAIN GROUP PLC 0.82 4.13 5.98 64.01 66.71 3.17 -0.01

Here we can see some interesting items:

Generally, the higher the ROE & ROIC the higher the price book valuation. With the exception of Kier, there is also a clear relationship between WC to sales and ROE and ROIC. Especially the Dutch companies seem to have to fund a lot of their working capital themselves. Interestingly those companies also operate at a loss level.

For me it is very interesting to see how the UK companies seem to have changed their business models to a certain extent.

Interestingly, the largest company Balfour seems not to be able to create any advantage out of their market share, which according to this list of UK construction market share for 2011 was around 15%.

On the same page, there are also a lot of news about the UK construction sector. All in all it doesn’t look pretty, it seems to be that 2012 seems to be even worse than 2008 at least in the UK. That might be the reason why UK construction groups look so cheap.

If we go back to Morgan Sindall, I see another issue: There is not a lot of mean reversion potential. Morgan Sindall is only 10% below its average profit margin. Historically they were values ~10 P/E and 4.7 x EV/EBITDA which is more or less where they are today.

Combined with a clearly donwtrending ROE (both, absolute and under “boss” definition”, I will pass over Morgan Sindall for the time being.

Nevertheless I want to follow up more on “negative working capital” companies because I firmly believe there is a lot of hidden value in such business models.

Book review: The missing risk premium – Eric Falkenstein

Eric Falkenstein might be well know through his Falkenblog. Hi is an outspoken critic of “classical” finance theory, especially the CAPM and its derivatives.

His main thesis is that there is no risk premium for riskier investments.

In his new, self published book (I have read the Kindle version), he starts with the history of the CAPM (MArkowitz &Co).

He the summarizes most of the well known anomalies, which clearly contradict the efficient market /CAPM paradigm such. For me the most interesting anomalies were:

– the highest beta stocks have significantly lower than average returns
– distressed stocks (measured by Rating) have the lowest returns

In “traditional” academic theory, many of those anomalies are often related to behavioural biases, such as lottery tickets etc.

However he goes further, formulating his own theory why a risk premium does not exist. I have to admit that I read quite quickly over that one, but the issue according to him is that one should use relative utility functions instead of absolute utility functions.

At the end, he briefly discusses how one can outperform the market easily with low volatility stocks. One possibility would be minimum variance portfolios (MVP), the other a subset of an Index with stocks which have a beta of around 1.

Additionally he makes a very good point that typical pension fund asset allocation (i.e. allocating into hedgefunds to generate higher long term returns) will most likely not yield the expected results.


+ the book is a good summary of all the current available studies which contradict the CAPM
+ he makes a good case for investing in low volatility assets, although I didn’t fully understand his theory
– what he misses in my opinion is the fact, that all this is common knowledge among value investors.

Value investing doesn’t assume efficient markets and it also ignores stock price volatility as one is concentrating on fundamentals only. So a typical value investor clearly is indifferent about stock price volatility and does not believe that more volatile stocks produce higher returns. Maybe as an academic you need a complicated formula to prove this, as a value practitioner one simply knows that “safe & cheap” stocks will outperform over time.

Overall I would say for a typical value investor, you might not need to read the book. If you are more interested in general financial theory and want to have a good update of the current empirical status then it might be a good investment. The kindle version is actually quite cheap at 8 EUR or so.

For me personally, it somehow validates the result of my “boss” model. The Boss model identifies stocks with low fundamental volatility. Low fundamental volatility very often transforms into low beta, cheap valuation and high potential returns.

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