Tag Archives: Competitive advantages

EVS Broadcast Equipment (BE0003820371) – A super profitable market leader at a bargain price ?

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The company:

EVS Broadcast Equipment SA is a Belgian company developing and selling state-o-the art equipment mostly to broadcasters and TV production companies, enabling them to store, edit and broadcast live camera images on a fully digitalised basis. They are especially strong in the area of live sporting events.

Growth and profitability

Looking at the current valuation multiples:

P/E (2013) 13,0
EV/EBIT 14,0
P/B 5,2
Dividend yield 7,0%

we can see that EVS is not super cheap. However if we look at past profitability and growth numbers numbers, we can see that EVS is still “super profitable” at levels which only can be explained by significant competitive advantages:

5 y avg 10 y avg
Profit Margin 30,8% 36,5%
ROE 55,2% 63,5%
Sales growth 3,30% 12,70%
EPS growth -5,40% 22,30%

However, if one looks at the growth figures we can clearly see that the “High growth” phase seems to be clearly over, but they are still incredibly profitable.

Why are they so profitable?

This is a quote from the 1999 annual report (which is by the way a very good report):

The EVS Group sells its equipment to radio and television channels as well as to people providing services to these channels. This is a professional market where quality and technical performance of the equipment is often more important than its price.

Plus another quote from the 2002 annual report:

Investments

Production of the equipment manufatured and marketed by ECS and NETIA does not require important tangible investment. Nor does R&D require any considerable investments, since engineers and programmers work directly on the machines to be sold or on PC type equipment for the sftware developement.”

So building “mission critical” equiment with low price sensitivity combined with low to no physical capital needs sounds like a pretty good business case. But how do you get into such a desirable position ?

Again, the best explanation is given in the 1999 annual report:

In 1994, most recorders used by television channels were tape recorders, although hard disks already had replaced tapes for recording purposes in the
computer area. Three factors have since then influenced the use of hard disks rather than tapes for professional video recording :
• the increased capacity and higher performance of hard disks,
• their lower cost,
• considerable progress has also been made in compression : for example, the JPEG system allows an average compression ratio as low as 5:1 in the memory space required to record a picture.

EVS strategy on the huge professional recorder market has been to pinpoint those applications for which hard disks would offer the user a substantial competitive advantage over tapes. By the end of 1996, the number of professional recorders installed throughout the world was estimated at about 352 000 units, for 60 000 users.
Among these, tape recorders accounted for about 340 000 units, compared to 12 000 disk recorders.

So what EVS did in the mid/late 90ties was a classical “disruption”: At that time, most broadcasts were recorded on physical tapes which had a lot of disadvantages. In sports for instance if you wanted to show a replay, the recording had to be stopped, rewinded and replayed. In between, no recording could be done,so often the consequent action on the field was unrecorded. EVS as one of the first companies offered a digital solution, which allowed continuous recording and easy access to slow motion etc.

The second boost came in the mid 2000s with the introduction of full HD and HDTV which sped up the change from tape to digital and required new generation of servers.

EVS became the defacto industry standard for most of the digitalised live TV production around the world, especially for sports. Somewhere I read that they claim a 95% market share in certain areas. With all the money pouring into professional sports these days, it still looks like a pretty good place to be a “niche market leader”.

Will EVS stay so profitable ?

This is a much harder question to answer compared to “why are they so profitable”. The question boils down to: Are the obvious competitive advantages sustainable ?

According to theory, two potential competitive advantages could e relevant for EVS: Size advantages and the network effect.

Network effect:

As far as I know, EVS did use mostly open source and industry standards, so in theory it should be relatively easy to replace EVS’s equipment. It seems however that the software implies a certain way to do things that doesn’t make it that easy to simply copy the stuff. EVS equipment seems to define work processes and many people in the field might prefer a known, working process to a new one even if its cheaper. The technicians are trained on the gear and might prefer this to any other gear. Nevertheless I would argue that there is no strong network effect at work here but maybe a “soft” one.

Size advantage

Although EVS is still a relatively small company, within its niche, it is huge. They had a big headstart into the current technology and have built up significant technical knowledge which is not easy to copy. Any small competitor who wants to compete with based on the same technology will have a big issue. Even if they would be able produce slightly better gear, they would still need to build up a sales and service organizition and spend a lot of money on getting access to all those potential clients. This would be different if a competitor would be coming into the market “vertically”, for instance guys like Sony who produce the cameras etc. but for some reason that didn’t happened. Maybe the niche overall is too small to justify a big investment by a “vertical” competitor.

For me, the biggest issue might be that once again the technology will change and allow another disruptor into the business. A small hint could be seen in a interesting research report from media technolgy research company Devoncroft (report is free but registration required).

For EVS, one of the most “dangerous” developments could be what is described on page 36: The move from specialised IT gear for real time processing to “generic” gear. EVS delivers “spezialised” gear and software. This is how a typical EVS “box” looks like:

I am not sure how solid their business would be if the “Boxes” were seperated from the software and this would clearly open the door for disruptors.

Limits to Armchair Investing

At this stage, there are clearly limits to Armchair Investing. With the time available for me, it is impossible to judge for me if EVS will be able to keep its high margins or not. If margins “normalize”, then the current price for the stock might be still high. If margins remain high and the market still grows then the stock would be a “high quality” bargain. However I do not feel comofrtable to make any judgement here.

Some other observations

– Founders sold down early, only one remaining (CTO)
In 1999, the three founders and their families owned around 57% of the company. Since then, 2 of the three left and the remaining one has reduced his ownership to ~6%. It seems that they were not fully convinced about the long term prospects of EVS.

– they are currently building crazy expensive heaquarters in Belgium.

Overall cost is expected to be around 60 mn EUR. This is from the 6 month report:

At the end of 2011, EVS started the construction of a new integrated building in the proximity of its current location in Liège, in order to gather all employees of EVS headquarters, split today in 6 different buildings. EUR 39.4 million have been invested by the end of June 2014 (less EUR 5.2 million of subsidies booked at the same date). The total budget for the project (including some higher investments in future-proof equipment) is estimated between EUR 55 and EUR 60 million.

EVS has in total 500 employees, with at least 1/3 outside Belgium. So spending ~200k EUR per employee for a new headquarter is absolutely insane in my opinion.

– current CEO is a “manager”, no ownership

The current CEO came from outside and has no stock ownership. He does have stock options and I have not seen a single share purchase of management ever.

– potential “diworsification”

The new strategy is to diversify “verticaly” into post production technology as the core sports area seems to be somehow saturated. EVS tried to diversify early on, but both attempts failed (digital radio, digital cinema). Maybe vertical diversification works better but if the high margins can be retained ?

– weak first half of 2014 indicates increasing pressure on margins

Normally, EVS always performs strongest in years with large sports events. 2014 with the Winter olympics in Sochi and the Football Worldcup in Brazil should have beenn a great year for them. However, despite rising sales, profit went actually down compared to the “non event year” 2013. 2015 with no events willbe even harder for them. So the trend clearly is negative at the

The stock price also shows that the market does not look that favourable at EVS’s prospects following the 6 month numbers:

Summary:

EVS is an interesting company. As a clear niche market leader with fantastic historic profitability , it could be a great investment especially if the diversification strategy would work. On the other hand, there are several qualitative factors which i found distrubing, especially with rgeard to the new HQ and the lack of “ownership” within management and employees. On top of this, 2015 will be a tough year for them anyway so it might be the wrong time to invest in any case. So for me it is just a stock for the watch list with the next review in Q3 2015.

What’s you competitive advantage (in investing) ?

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There is a very interesting post at the (higly recommended) Psy-Fi blog about the general chances of small investors against institutional investors.

They compare it for short term trading to the “Sanzibar war”:

In terms of competitive advantage private investors engaging in short-term trading against financial institutions is the greatest mismatch since the Anglo-Zanzibar War of 1896 which lasted only 45 minutes – and which ended with the British being paid for the shells they’d fired into their opponent’s country.

They also correctly mention privileged information from companies available for institutional investors:

We find significant increases in trade sizes during the hours when firms provide off-line access to investors, consistent with off-line access providing selective access advantages. We also find significant increases in trade sizes after the presentation when the CEO is present, consistent with CEO meetings providing selective access advantages. … Finally, we find significant future absolute abnormal returns after the conference for firms providing off-line access, suggesting such access is potentially profitable for investors. While we cannot conclusively state that managers are selectively disclosing new information outside of the presentation, our evidence does suggest that investor conferences confer a selective access advantage on the buy-side investors that have been invited to attend.

Additionally they think that private investors ar much less likely to exploit statistical anomalies:

The ability of the securities industry to automate trading to capture the abnormal returns from any anomaly in the market (Pricing Anomalies, Now You See Me, Now You Don’t) means that anyone attempting to out-compete them is facing the hopelessly overwhelming odds of the Zanzibar Effect and, like the hapless Zanzibarians, paying them for the privilege.

So should we just stop messing around with managing our own money and hand over our hard earned money to the institutions ?

Psi Fi offers some hope: They stress that small cap investing with a longer time horizon could be one way to beat the institutions:

Our competitive advantages are elsewhere; the Law of Big Numbers dictates that smaller companies simply aren’t big enough to justify lots of institutional analysis, so the asymmetric informational advantages often lie with private investors prepared to put in the effort. One reader noted that he invests in smaller French companies because the reporting language rules out a lot of competition. Nor are private investors constrained to make quarterly or annual returns – we can buy companies with good business models but which are temporarily distressed and wait. Or we can make sure we’re ready to supply liquidity to the markets when institutions are forced to give it up in one of their once a decade panics.

I fully support their arguments, but I think in addition to long term contrarian small cap investing , private investors have much more advantages than they are aware of.

1. Asset class restrictions

Most asset managers are restricted to certain asset classes. Many large institutions (pension funds, insurance companies) employ either consultants or own employees who are supposed to be great allocators acrosss asset classes, leaving actual money managers with very narrowly defined mandates for only small sub sets of the investment world.

Anyone with some institutional knowledge can tell some stories how the supposedly superior asset allocation process works: Money almost always goes into the historically best performingasset classes which is the dominant “cover your ass” strategy in this area.

As a private investor, you have a big advantage here : you are not restricted at all. You can look at stocks if they are cheap, or bonds if they seem to be a better choice. In 2008 for example, it was relatively clear that the risk/return of subordinated financial bonds were much better than owning stocks. However as a typical stock portfolio manager you were not allowed to buy bonds.

In my opinion, this is also one of the underappreciated competitive advantages of Warrent Buffet’s Berkshire set up. Despite the whole “moat” thing, his structure allows him for instance to go to “pref shares + options” type of trades as well a selling options, buying distressed debt etc.

2. Instrument restrictions

Many money managers are further restricted with regard to instruments they can buy. So either they can buy only stocks or only bonds or only convertible bonds, but few can freely decide what instrument tob uy.

The best current example for this are currently in my opinion the now closed former open ended German real estate funds. I do not know any institiutional mandate which would allow this kind of investment.

The German Insurance regulation for example explixitely does not allow insurance companies to invest in open ended funds which have stopped taking back shares, meaning that if you owned them before they have closed, Insurance companies were forced to sellt hem.

So being abletoinvest in any instrument as aprivate investor,in my opinion opens up a lotof very attractive risk / return scenarios.

3. Reputational risks

As I mentioned in point 1., a lot of the activities in institutional asset management is based on “cover your ass” strategies. For every portfolio manager it is much easier to talk to his bosses, clients or to attractive persons on cocktail parties about “great” companies one owns and manages. If thegreat company turns out to be a not so great investment, this gets attributed very rarely to the money manager.

It is much harder to explain why one owns subordinated bonds of banks under Government control, shares in now closed investment funds or “obscure” Italian companies, where everyone knows from “Bild” that Italy goes down the drain. Many people think that those “special situations” are much riskier than the “great and easy to explain” investments andthis is exactly why they are often much more interesting from a risk return point of view.

4. Size & Control of funds and liquidity premium

As an institutional money manager, one has the following two problems if one wants to exploit illiquidity premiums:

a) you do not control in and outflows of money. So if you think a relatively illiquid market segment is an interesting opportunity and you invest, suddenly the clients wants out and you have to liquidate your positions at great losses. So even if you have a long time horizon as an institutional money manager personally, your time horizon in reality might be much shorter. This is by the way the second “institutional” feature which is in my oninion very important to understand Warren Buffet’s success.

b) many times, size is an issue. Even with my “modest” 10mn EUR virtual portfolio, I find it hard to enter and exit into smaller but interesting situations. For a 1 billion portfolio, it just doesn’t make a lot of sense to research a potential 1mn EUR investment which leaves a lot of ideas unexplored.

So summarizing this whole post, I would conclude the following:

For individual investors, the freedom to invest in any asset class, in any type of instrument, regardless of name, country of domicile and size creates a significant competitive adavantage to institutional money managers.

Combined with the control of the funds and a long time horizon, in my opinion this is almost unbeatable by any traditional money manager. Only money managers who manage to overcome those limitations (Berkshire, Private Equity funds, Hedge funds, family offices) can come close.

IMPORTANT: It is not a guarantee to outperform. There are many bad investments, value traps, frauds and semi-frauds out there, but mostly they can be avoided through thorough due dilligence and common sense.

Piquadro SpA – Competitors, market analysis and strategies

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Normally it is quite difficult for a private investor to get hold of comprehensive market information. One could try to google and try to collect some articles, but “hard data” is usually only available if you pay.

However, many listed companies include some market and competitor info in their analyst presentations. Piquadro provides us with a nice graphic of competitors in its 2011 April Analyst presentation:

Interestingly, in it’s own presentation one can see that the “Premium / Performance” segment is also the most crowded one.

An even better source for market data are IPO filings. In an IPO prospectus, companies usually provide a lot more information than in annual reports, as they have to persuade new investors that this is a exciting market.

Luckily, competitor Samsonite actually was IPOed last year on the Hongkong stock exhange after filing bancruptcy in 2009 (and also in 2002 if I remember correctly). The Samsonite story also shows the biggest risk for those companies: Overexpansion and too much lease liabilites, in this case driven by a Private Equity owner.

Tumi, currently owned by PE firm Doughty Hanson is currently on the path to an IPO and has already filed its documents for an IPO. To make things more interesting, Samsonite already anounced its interest purchasing TUMI.

So we have to additional sources for market information in this case.

For Mandarina Duck, the other major competitor from the Piquadro Matrix, currently no financial information is available. It seems to be owned by a PE shop as well.

Let’s start with the “Competitor” section of the TUMI IPO prospectus:

Competition

We have a variety of competitors in the categories and geographic regions in which we operate. We believe that all of our products are in similar positions with respect to the number of competitors they face and the level of competition within each product category. Depending on the product category involved, we compete on the basis of a combination of design, quality, function, price point, distribution and brand positioning.

Our biggest global competitor in the travel goods category is Rimowa, a German company. We also compete with Samsonite in Europe, the Middle East, Africa and Asia-Pacific. In the premium luggage and business cases category, we compete with Bally, Dunhill, Ferragamo, Gucci, Louis Vuitton, Montblanc, Porsche and Prada. In the business case category, we also compete with smaller brands in specific markets. In the U.S., our main competitors are Victorinox and Briggs and Riley. In Europe, the Middle East and Africa, our key competitors are Mandarina Duck and Piquadro. In the Asia-Pacific region, competition is fragmented. In Japan, our two key competitors are Porter and Ace Brand. We also compete with Coach across the luggage, business cases and accessories categories.

We believe that our primary competitive advantages are favorable consumer recognition of our brand amongst our targeted demographic, consumer loyalty, product development expertise and widespread presence in premium venues through our multi-channel distribution. We may face new competitors and increased competition from existing competitors as we expand into new markets and increase our presence in existing markets.

So again, we do not see any “hard” moats but rather some fuzzy brand recognition and customer loyalty aspects.

Even more interesting is the very detailed IPO prospectus of Samsonite. This is a “treasue trove” of interesting market data.

The “1 million dollar quote” however can be found at page 95:

Barriers to Entry and Benefits of Scale and Leadership in the Luggage Market
Barriers to entry into the luggage market are generally low, which has contributed to the fragmented nature of the industry. Key challenges for an entrant or an existing company are investment in brand awarness, innovation in new products, access to quality producers, and developement of an effective national / local retail network.

So here the “market leader” tells us there are no barriers to entry. So no “moats”. Period.

The Industry overview section of the filing is really interesting and comprehensive (p-90).

The market itself is supposed to grow at quite an attractive overall rate:

Samsonite itself does not yet realise Piquadro as competitor, neither Mandarina Duck. Piquadro and Mandarina Duck are only mentioned among others which are shown having a combined market share of 74.5%.

Howver, Samsonite places itself directly into the “Premium” category in contrast to Piquadro and Tumi themselves:

Side remark: Anyone who had the problem at an Airport baggage claim to find out which of the 25 identical black Samsonites is the own bag knows that this is more “mass market” than anything else.

The luggage market according to Samsonite can be segmented into 3 product segments:

Samsonite also has an interesting “market share” slide for Europe which shows the high fragmentation:

So the big question is now: Should I stop now with analysing Piquadro because there is definitely no “objective” moat ? I would say, no, because for some reason, Piquadro has been able to grow, maintain high margins and produce free cashflow. When we continue to evaluate the company we should however incorporate a certain “normalisation” of returns anad margins.

Also the whole market segment seems to be quite attractive as even in “good old Europe” some nice growth is expected in the coming years as indicated before which can be incorporated int he valueation to a certain extent..

Strategy

Tumi has a very interesting passage in its IPO filing regarding marketing:

We do not employ traditional advertising channels, and if we fail to adequately market our brand through product introductions and other means of promotion, our business could be adversely affected.
In 2010, we spent approximately 3% of our net sales on advertising and promotion expenses. Our marketing strategy depends on our ability to promote our brand’s message by using store window campaigns, product placements in editorial sections, social media to promote new product introductions in a cost effective manner and the use of catalog mailings. We do not employ traditional advertising channels such as newspapers, magazines, billboards, television and radio. If our marketing efforts are not successful at attracting new consumers and increasing purchasing frequency by our existing consumers, there may be no cost-effective marketing channels available to us for the promotion of our brand. If we increase our spending on advertising, or initiate spending on traditional advertising, our expenses will rise, and our advertising efforts may not be successful. In addition, if we are unable to successfully and cost-effectively employ advertising channels to promote our brand to new consumers and new markets, our growth strategy may be adversely affected.

Interestingly, the “Market leader” Samsonite spent almost 9% of revenues on marketing in 2010(see IPO fact sheet), Piquadro around 5%.

Samsonite focuses basically to almost 100% on the wholesale sales channel, Tumi has reached a 50/50 split between wholesale and single brand stores.

Very interisting is the fact, that Piquadro just hired a seasoned TUMI executive for international brand expansion.

Peer Group comparison

Let’s just make a quick comparison with regard to profitability. As one could expect for PE owned companies, both TUMI and Samsonite show quite a messy capital structure and “real profits” don’t really exist. So let’s work with what they call “adjusted” EBITDA (Samsonite & Tumi in USD, Pqiadro in EUR):

Samsonite TUMI Piquadro
Sales 1,215.0 252.8 61.8
Total assets 1,665.0 321.0 29.6
NWC 372.0 80.2 16.1
EBITDA adj 191.9 40.6 16.4
       
EBITDA/Sales 15.8% 16.1% 26.5%
EBITDA/Assets 11.5% 12.6% 55.4%
NWC/Sales 30.6% 31.7% 26.1%

This is really interesting. Piquadro is the most efficient and most profitable company of this “Peer group” based on “simple” metrics.

Summary: A quick view into the market and competitors show the following:
– the market is quite fragmented, no real barriers to entry exist and therefore no “classical” moats
– nevertheless all companies seem to be able to generate at least currently some decent returns on assets
– Picadro itself seems to be the most efficient of the 3 companies. It is therefore likely that no strong “economies of scale” exist in this market

I will follow up with a valuation approach in the next days.