Short cuts: Lloyd’s Banking (Sold), Admiral ( Add) & Silver Chef (Add)
Some readers might have noticed that I sold my Lloyd’s banking position (with a loss of -16% in EUR7 -8,4% in GBP) in order to partially fund the new Record Plc position.
So why did I sell Lloyd’s ? For this it makes sense to go back to the original write up in April 2015. At the core, I liked the business and the bank as such and thought that government selling and election uncertainty provided an attractive entry price:
Anyway, to me Lloyd’s banking Group looks like an interesting special situation at this time. The share overhang and selling should clear at some time, profits will most likely increase. Over 3-4 years I look for an upside of around 50% plus dividends or ~15% p.a. if my assumptions turn out to be correct.
Now several things happened which back then I considered as “tail risk”:
- PPI fines continued, GAAP earnings increased slower than I thought
- Interest rates in the UK declined significantly
So some very important assumption of my business case turned out to be wrong. One could argue that I should maybe wait until the end of my planned period to see if the case works out. On the other hand, if my assumptions were so wrong, I think it is better to close out the position unless I think the situation reverses quickly.
Especially the last point is an issue which makes the UK banking sector less interesting. When I wrote the post, 10 year UK swap rates were at around 1,9% vs. 0,6% in Europe. Now we are at 1,1% vs. 0,8%. In my opinion, low interest rates makes earning money more difficult for banks in the UK and the business as such has become less attractive. One could make the argument that I should have seen that before but for me the outcome as it is now was not so clear.
In the original Admiral post I mentioned that I have increased my Admiral position from around 3,6% to 6%. Why ?
Personally I think the 6M numbers were very good despite the negative share price reaction.
A few highlights from my side
- despite strong growth especially in international insurance and paying a nice dividend, the Solvency II ratio improved. This proves in my opinion that their business model scales very well
- Growth in the European business is exceptionally good (+50% in France, +25% in Italy and Spain).
- expansion in the US slowed (+17%) but underwriting results improved significantly
- there is an interesting slide on page 51 with regard to total market potential. Especially in France and Italy, the share of direct insurance is tiny. Which means there is a looooong potential runway for growth in those markets
Overall the strong growth in international insurance and household insurance creates an interesting effect: Overall margins go down because those businesses are not yet break even. But similar to other “subscription” models, the cost for new customers will fall in a “steady state” and also costs will scale down going forward.
Admiral at the moment doesn’t look cheap. At an estimated 1,1 GBP earnings for the current year, they trade at 17,5 times earning. However if one would assume for instance that all non-UK car insurance subsidiaries would earn 90% combined ratio ex the cost to gain new customers, this would add 0,2 GBP earnings per share or translate into a P/E of ~15. In my opinion this is quite cheap for a top quality company with a potentially long runway of growth. I don’t have that many better ideas at the moment.
Silver Chef released FY 2016/2017 numbers a few days ago. At first glance, the numbers didn’t look that attractive with EPS shrinking by almost -20%. According to Bloomberg, this was -11% below “consensus estimate” and the share price dropped from around 8,50 AUD to around 7,30 AUD.
“Under the hood”, numbers for the traditional hospitality segment still look good. Profitability in hospitality has decreased a little vs. 2016 but in my opinion is a function of the strong organic growth in New Zeeland and Canada.
GoGetta obviously doesn’t look as nice. In the annual report on page 39 one can see that impairments in the Gogetta segment clearly were the biggest factor explaining the drop in overall profits. On the other hand, looking on page 8 of the presentation it looks like that the problems at GoGetta seem to be back under control. As GoGetta contracts mature relatively quickly (23 months), the bad deals should disappear relatively soon and new business hopefully should look better.
What I found interesting is that they announced quite ambitious profit targets for next year:
The Company expects full year after tax earnings for FY18 in the range of $24 million to $26 million.
In EPS this translates into a range from 0,64 to 0,69 AUD per share or a P/E somewhere between 10-11. For me this looks (too) cheap. Therefore I increase my position from currently 3,5% to ~5% of the portfolio at around 7,30 AUD/share.