Cranswick – Update & reality check
Cranswick is now my biggest position with around 6,3% of the portfolio (Performance 85% including dividends). The stock had a great run since I bought it in June 2012 as we can see in the chart:
Category Archives: Cranswick
Behavioural bias: “Averaging down” vs. “averaging up”
Sometimes it makes sense to reflect why one has done something and why not.
Following my “boss Score harvest” project, I invested in two new UK stocks this year, Dart Group beginning of June and Cranswick in Mid June.
In September I increased the Cranswick position to a full position, for Dart however I was hesitant and could not decide to increase .
One doesn’t need to be a genius in order to find out that increasing the Dart position would have been better:
Since mid of September, Dart made 50%, against more or less flat performance for Cranswick. If I look back to September, I think one of the “true” reasons why I didn’t increase Dart was that I would have to “average” up on Dart, as the stock was already 20% up against my purchase price.
For some reason I am much more hesitant to buy at higher prices. So for Cranswick, it was easier to increase the position because I could slightly decrease my average purchase price. Somehow I seem to prefer lowering the percentage loss on a loss position (“averaging down” than to lower the percentage profit of a gain position (“averaging up”).
I am not sure if this fits into the standard behavioural biases, maybe it is a special form of “anchoring”.
This behavioural bias, not increasing the Dart stake cost me around 1% of portfolio performance so far and now I am even more hesitant to buy. It is also in direct contradiction to the fact that “momentum” combined with Value seems to generate strong results in the long run as demonstrated by O’Shaugnessey’s “what works on Wall Street”.
Lessons (hopefully) learned:
In the future I need to have a better formulated plan for scaling into a position in order to avoid this “behavioural bias”. Either a clear timeline or some clear fundamental triggers where I then execute regardless if the position has already increased to a certain extent or not.
Publishing the Boss score – Top 25 UK
In the third installment, after the French Top 25 and the German Top 25, lets look at the united Kingdom.
In my current database, i have around 220 UK companies. This is of course only a part of the big UK stock universe, but I “filtered” out a lot of stocks even before putting them into my database.
So let’s look at the 10 Y Top 25:
Portfolio updates: AIRE KGaA, April SA, Cranswick, Dart, Installux
AIRE KGaA:
For AIRE KGaA, I decided to accept the tender offer at 18.25 EUR per share. There is not a lot of upside left and I guess the stock will be really illiquid after the offer.
Installux
Whereas the built up of Poujoulat goes really really slow, For some reasons, last Friday almost 2.500 Shares have been traded. That’s almost 1% of the market cap. Interstingly, in Bloomber a new fund called “Agicam” showed up at the end of April with a 0.99% position. Due to those sales, I could now already built up a stake of 1.8% of the portfolio in Installux shares, a lot faster than I thought.
DJE Real Estate
The sell down of this position is quite cumbersome. Up to know, I could only sell half of the position so far. However prices are relatively stable.
Dart Group & Cranswick
Both shares were relatively active over the past few days, so I could establish 2.5% positions fopr both. Dart Group issued their “preliminary annual” statement as of MArch 31st, a very good write up can be found here at ExepctingValue.
For Dart I will wait for the final annual report in order to determine if I increase the position to the full amount (5%).
April SA
Since I ahve increased my buying limit for April to 11,50 EUR, I could establish a small position in the stock (0.6% of the portfolio). Of course I got punished and bought ~2% higher than today’s share price……
Cash is now down to around 16.5% of the portfolio, but taking into account the AIRE Tender Offer, Cash is around 21.5% of the portfolio. So plenty of room for 2-3 new ideas…..
Cranswick Plc (ISIN GB0002318888) – Business model and valuation
After the first post on Cranswick Plc, as promised some more thoughts about the business model and valuation.
Business model – peer company Frosta
As mentioned, Cranswick operates mostly in the private label market. Frosta AG a company I owned when I started the blog is a relatively similar company. They are also food producers (however frozen food and fish instead of “chilled” food and poork) and most of their sales are private label products for supermarkets.
Let’s look at a quick comparison table focusing on net margin, ROE and debt/assets for both companies:
| Cranswick | Cranswick | Cranswick | Frosta | Frosta | Frosta | |
|---|---|---|---|---|---|---|
| NI Margin | ROE | Debt/Assets | NI Margin | ROE | Debt/Assets | |
| 31.12.2002 | 5.3% | 22.0% | 6.2% | 0.8% | 5.9% | 31.9% |
| 31.12.2003 | 4.7% | 19.3% | 12.6% | -2.9% | -23.4% | 36.3% |
| 31.12.2004 | 5.1% | 20.1% | 39.2% | 2.9% | 18.7% | 26.1% |
| 30.12.2005 | 5.2% | 22.2% | 35.7% | 3.1% | 14.3% | 30.8% |
| 29.12.2006 | 4.4% | 18.2% | 30.4% | 3.4% | 15.6% | 30.9% |
| 31.12.2007 | 4.6% | 17.6% | 31.6% | 3.5% | 16.2% | 35.0% |
| 31.12.2008 | 3.1% | 11.8% | 27.1% | 3.1% | 14.4% | 37.6% |
| 31.12.2009 | 4.4% | 18.1% | 17.7% | 2.9% | 13.2% | 36.1% |
| 31.12.2010 | 4.7% | 17.0% | 15.2% | 2.5% | 10.0% | 30.1% |
| 30.12.2011 | 4.6% | 16.1% | 11.0% | 2.3% | 8.4% | 27.2% |
| Avg | 4.6% | 18.2% | 22.7% | 2.2% | 9.3% | 32.2% |
One can easily see that Cranswick earns twice the margins and ROEs of Frosta. Additionally they are employing on average a lot less financial debt than Frosta.
So what are the reasons for this discrepancy ?
One thing which distiguishes many good companies from mediocre companies is capital management. The less capital a company needs, the better is not only the return on capital (and equity) but also the net margin.
So let’s have a quick look at how those to companies compare with regard to Asset (and capital usage)
First Frosta AG:
| Frosta | ||||
|---|---|---|---|---|
| 2010 | 2009 | 2008 | 2007 | |
| Sales | 392.6 | 411.3 | 391.8 | 348.7 |
| NI | 9.8 | 12 | 12.1 | 12.2 |
| NI in % | 2.50% | 2.92% | 3.09% | 3.50% |
| Inventory | 56.5 | 61 | 70.9 | 57.7 |
| Receivables | 68.2 | 67 | 68.9 | 62.9 |
| Trade liabil- | -40.6 | -27.7 | -44 | -34.3 |
| Net WC | 84.1 | 100.3 | 95.8 | 86.3 |
| In % of sales | 21.42% | 24.39% | 24.45% | 24.75% |
| PPE | 77.9 | 78.9 | 84.5 | 71.8 |
| in % of sales | 19.84% | 19.18% | 21.57% | 20.59% |
| Goodwill | 1.2 | 1.1 | 2.2 | 1 |
| Net WC+ PPE in % of sales | 41.26% | 43.57% | 46.02% | 45.34% |
| Net WC +PPE+GW in % of sales | 41.57% | 43.84% | 46.58% | 45.63% |
I have concentrated on Working capital and fixed assets only. Frosta needs ~24% of sales in net working capital. Besides inventory, receivables are always much higher than payables which means that Frosta basically finances the supermarkets as they are not able to mirror their payment terms with their suppliers.
Fixed assets account for another 20% of sales on average, Frosta does not show any Goodwill as they haven’t made any acquisitions in the past.
So how does Cranswick look compared to this ?
| Cranswick | ||||
|---|---|---|---|---|
| 2010/2011 | 2009/2010 | 2009 | 2008 | |
| Sales | 758.3 | 740.3 | 606 | 559 |
| NI | 35.3 | 32.5 | 19.9 | 25.7 |
| NI in % | 4.66% | 4.39% | 3.28% | 4.60% |
| Inventory | 35.7 | 36 | 28.5 | 30.6 |
| Receivables | 78.7 | 84.1 | 73.7 | 77.3 |
| Trade liabil- | -84.9 | -86.7 | -75.2 | -73 |
| Net WC | 29.5 | 33.4 | 27 | 34.9 |
| In % of sales | 3.89% | 4.51% | 4.46% | 6.24% |
| PPE | 123.3 | 106.1 | 91.7 | 92.7 |
| in % of sales | 16.26% | 14.33% | 15.13% | 16.58% |
| Goodwill | 127.8 | 128.7 | 117.8 | 117.8 |
| Net WC+ PPE in % of sales | 20.15% | 18.84% | 19.59% | 22.83% |
| Net WC +PPE+GW in % of sales | 37.00% | 36.23% | 39.03% | 43.90% |
The short answer is: Much much better !!!
Especially working capital management seems to be extremely efficient. They can basically finance their receivables out of payables and inventory is on average only 5% of sales compared to 15% at Frosta.
Also fixed assets are around 5% less compared to sales than at Frosta, however Goodwill adds to assets which have to be financed.
The interesting fact about this asset usage is also the impact on the P&L. More fixed assets mean higher depreciations charges and maintenance capex. Goodwill on the other hand doesn’t require depreciation nor a lot of maintenance capex.
When we compare the two companies, Cranswick showed around 1.8% of sales in depreciation over the last 4 years against 3.0% at Frosta. If we assume equal tax rate, this alone explains the difference in net income margins over the last 4 years !!!!
A second smaller effect where capital management influences net margins is the cost of interest. Currently interest rates are low, but nevertheless, Frosta had 0.2% higher interest cost compared to sales over the last 4 year on average. Especially for instance in 2010, where Forsta’s NI margin was 2.5% against 4.6% for Cranswick, the difference in interest expense (-0.7. ) and the difference in depriciation charges (-1.5%) fully explain the difference in profitablity.
Why is Cranswick managing capital so much better than Frosta ?
As we all know (now), competitive advantages are almost always local. If we look at Cranswick’s business locations, one can clearly see the regional concentration:
Most of theiz facilities are concentrated in and around the Yorkshire area. Due to their overall size one can assume that Cranswick has a dominating position in this local area with the local suppliers. Their suppliers are most likely several hundreds or thousands of pig farmers. Another aspect of this is that for a British farmer it is much more difficult to export living pigs to Europe for instance. I highly doubt that the Eurostar transports live pigs so you have to involve ships in the transport route which makes it much harder to transport the pigs than for instance driving them form Poland to Germany. If you just want to export just the meat, you will have to go to a Cranswick facility first……
In terms of payyments, it is most likely easier to negotiate “back to back” pamant terms than for Frosta which has to buy its suplies from fish markets or b2b traders etc. So this leaves Cranswick with a significant amount of negotiation power with its suppliers.
Another advantage of the regional concentration is of course inventory management. The longest distance between any of their sites is 250 kilometers, a distance which could be covered back and forth most likely within a day. With such short supply routes it is much easier to run “just in time” production than if you get your supplies from thousands of miles away by ships.
This was for instance also the problem of another company I used to own but sold, Einhell AG. They are sourcing most of their supplies in Asia but have to pay before the merchandise even gets shipped from China. Due to the relatively long time of ship travel, they have to finance 6-9 months of supplies upfront and then they have to wait another few weeks to get their money from the DIY stores.
Cranswick, on the other hand seems to have a quite powerfull local position, being able to pass through the payment terms of the supermarkets to the pif farmers, leaving it only with a relatively small amount of “just in time” invesntory to finance.
I am not sure how easy this is to copy, but it protects them at least also to a certain amount against cheaper imports.
Valuation:
As mentioned in the first part, the value in Cranswick doesn’t is not in its asset base or any mean reversion phantasy. It lies in a consistent business developement with stable and high ROEs.
If Cranswick would manage to deliver 20% ROE going forward, my Boss modell would indicate a fair value of around 2.000 Pence per share or an upside of 160%. If we assume going forward 15% ROE, Cranswick would still be a double with an Intrinsic value of ~1.550 pence per share. I think this is definetely possible over a time period of 3-5 years without any P/E expansion.
Risks
Of course, as any company, the busienss of Cranswick is subject to a lot of risks.
As Tobias mentioned in the comments, among them are:
Hygienic risks
This can kill food companies. One of the most recent examples is Mueller Brot in Germany. However at least in Germany, this is usually a developement over years. Normally, the authorities give many warnings before they really take actions. Of course in the interent age, this can go much quicker. But this is not only an issue for Cranswick, but for all food and beverage companies incl. the “Star” companies like Coca Cola and Danone as well (anyone remembering the Perrier scandal ?).
Customer power
The custumors of Cranswick are of course extremely powerfull, with a few names dominating the client list. But again, this is an issue for many food producers and other consumer product producers have, as retail is consolidating more and more. The loss of one client can harm the business significantly.
On the other hand, I highly doubt that any of the supermarkets can come up from scratch with such an efficient organization like Cranswick. As we have seen, they do not calculate crazy margins into their products but they are really great capital managers.
Subsitution
Of course, Pork products can be substituted through different meats. As we have seen, in the downturn, Cranswick has profited from substitution, so chances are high that in an upturn they will suffer from the tendency to buy more expensive products. It will be interesting to see how successfull they are with their other ventures, such as dried ham, olives, meat pastries etc. This should lower the risk of substitution to a certain extent.
Imports
If for some reason, for instance the EUR would depreciate strongly against the GBP, EU imports would be a lot cheaper than locally produced pork. Although I assume there is “sticky” demand for British pork, this could impact Cranswick’s margins to a certain extent. On the other hand this might be a good hedge against Dart Group’s off setting EUR exposure !! Howver Cranswick has proved that it can maintain margins in the past and I do not see any reason why this should suddenly change.
Summary:
Although Cranswick is no “cheapie”, I do think that Cranswick has some local competitive advantages which allow them an extremely efficient capital management and corresponding high returns on equity. As they have proved to maintain this through out the cycle, I will add a half position (2.5% of the portfolio) of Cransdwick Plc Shares to my portfolio.
The current valuation looks attractive enough, any take-over or recap upside is basically “for free”.
After the 2011/2012 report in July I will then decide if I double up to a full stake.
value and opportunity 