Cube Midcap Report (7 Jan 2020) – A very mixed bag 888 #AML #MRW #SAFE

Cube Midcap Report (7 Jan 2020) – A very mixed bag 888 #AML #MRW #SAFE

Good morning!

A nice mix of updates from Midcaps today, including 888Aston Martin (AML), Morrison’s (MRW) and Safestore (SAFE).

12.20pm: this report is now finished.


888 (888)

  • Share price: 161.7p (pre-market)
  • Market cap: £596 million

Post close trading update

Please note that I have a long position in 888.

You’ll forgive me for covering this one first, since it’s one that I actually hold!

I bought it just over a year ago, at what I thought was a bargain level. Although the share price subsequently dropped as low as 130p over the summer, it is now back around the levels at which I originally bought in.

The main shock to me has been the speed at which 888’s poker platform has shrunk. I thought (and still think) that it had a good reputation among poker players, but it seems to have been outplayed by its industry rivals. This theme continues in today’s update.

Fortunately, the much larger Casino operation, responsible for two-thirds of revenues, remains in rude health. See the archives for comments on previous updates.

FY  Dec 2019 update

Today’s update confirms that adjusted EBITDA (the standard measure of profits, sadly) will be in line with expectations.

December revenue was an all-time monthly record – I suppose this can’t hurt!

Segment news:

  • Casino – “continued success”
  • Sport – “further good revenue growth”
  • Poker – “challenging”. New platform is being rolled out.

In poker, 888 reiterates that competitors are sharing liquidity between Spain, Portugal and France, i.e. allowing players from these countries to play against each other.

This kicked off in 2018. Pokerstars had Spain/Portugal/France players competing against each other, and PartyPoker had a Spain/France poker offering, too. There is no doubt that 888 will need its own shared liquidity networks to be strong, if it is to stay competitive.

Regulated markets have increased again, as a percentage of total Group revenue – good. They are the majority of Group revenues, and much safer than the unregulated markets (which might become regulated in the future, to the detriment of 888).

CEO Comments

“We are very encouraged by the growth in new customers during 2019 with a record of more than one million new customers signing up to 888’s brands during the year

…888 remains on track to launch its first proprietary sport product during the first half of 2020

We have delivered a strong recovery in our UK business underpinned by a clear and unwavering focus on entertaining recreational customers in a safe and secure environment.

888 has entered 2020 with good momentum across several regulated European markets and, underpinned by further investment in our team, marketing and product development, we remain focused on achieving further progress in the US. With 888’s core strengths as a responsible operator with outstanding technology and diversification across a number of regulated markets, the Board remains confident of further progress in the year ahead.”

My view

There is no change to my view here. I’ve been watching this company for a while, and today’s update is in line with what I’ve come to expect from the company: steady performance, troubles in poker, and modest success in the other segments.

I wonder if a sale of the poker platform might be on the cards at some point in the future? As with things like property portals and other businesses which benefit from network effects, perhaps it would make more sense for 888, as the third operator, to allow a duopoly between Pokerstars and Partypoker? Providing, of course, that one of them will buy out the 888 platform at a reasonable price!

The P/E multiple at 888 remains in the region of 15x, with a single-digit EV/EBITDA multiple. I continue to view this as a cheap stock whose quality is probably not as bad as the valuation suggests.

Its foreign heritage will be a red flag to UK-based investors. However, despite my warnings about Plus500 and NMC in yesterday’s report, I do very occasionally break my own rules about investing in foreign stocks.

888 is the only Israeli company in my portfolio – I have used its products and I know that it is active all over the world, having people on the ground all over the world. So I have a level of comfort with it. Possibly misplaced, but we shall see!

 


Aston Martin (AML)

  • Share price: 471.7p (-9%)
  • Market cap: £1,075 million

Trading statement

Bright spots are few and far between in this update.

Updated EBITDA guidance for FY 2019 is £130 million – £140 million. This represents a sharp fall from the £195 million EBITDA forecast given by financial software. December, the last month of the financial year, must have been truly shocking.

Wholesale deliveries are down 7% year-on-year to 5,809.

I’ve pulled out the H1 report to help me understand how the company came to this point. In that report, the company said wholesale deliveries were “expected to be significantly weighted to H2” – the dreaded H2-weighting, applied to a large company rather than a small one!

Wholesale delivery guidance had already been reduced. 2019 guidance was for 6,300-6,500 wholesale deliveries, and an adjusted EBITDA margin of ~20%.

Instead we have 5,809 deliveries and an EBITDA margin of just 12.5% – 13.5%, i.e. lower volumes and lower margins per unit sold.

Reasons

Let’s consider the reasons given by the company in today’s update.

  • Europe underperformed on volumes, other regions were “broadly in line”.
  • higher customer financing support.
  • lower average selling prices, customers shifting towards the Vantage.
  • more marketing spend needed.

As someone who keeps an eye on Tesla ($TSLA), which is now in the mass-market luxury segment rather than the super luxury segment, I have to give the electric vehicle manufacturer credit on a couple of points, in contrast with Aston Martin.

Firstly, it has mastered the marketing business. It abandoned traditional advertising methods and focused instead on social media and word of mouth. Aston Martin’s more traditional methods are turning out to be more expensive than it predicted.

Secondly, according to its most recent update, only 8% of Tesla’s deliveries were leased. This is lower than the industry average, which I understand to be 25% – 30%. Tesla is able to get rid of its cars for cash (though I expect this would be more difficult in the absence of major price cuts and a rising share price, since many Tesla investors are also Tesla drivers).

Overleveraged

Anyway, let’s get back to Aston Martin. Today’s update also informs us that net debt was £875 million – £885 million at year-end, and leverage was 6.2x – 6.8x (net debt / trailing adjusted EBITDA).

That leverage multiple is unacceptably high for most industries and certainly too high for a car manufacturer. Barring a fast turnaround in trading performance, I would assume that a balance sheet restructuring is needed.

Net debt was just £732 million at the half-year point, so it’s up by £150 million in six months. It’s now approaching the market capitalisation of the equity, thanks to the falling share price – this is often a good sign of a company in trouble.

The company will provide an update on financial forecasts “in due course” – but we can assume they will be negative.

Next steps

Some sort of refinancing is on the cards – hopefully.

Consistent with our announcement on 13 December 2019, we continue to review our funding requirements and the various funding options

We also remain in discussions with potential strategic investors which may or may not involve an equity investment into the Company

The CEO comment talks about cost savings, restoring inventory levels (which will be a drain on cash), and “winning back our strong price positioning”. The company’s first SUV, the DBX, will be produced in Q2.

My view

This company should be vigorously avoided, in my view. It has a consistent track record of unprofitability and going bankrupt – it has been bankrupt no fewer than seven times.

Indeed, from a balance sheet point of view, this might be a much better short candidate than Tesla – at least for the time being.

 


Morrison’s (MRW)

  • Share price: 196.95p (+2%)
  • Market cap: £4.7 billion

Trading update

The supermarkets category, like the car and the airline category, is one which I will probably never buy. These are industries where a sustainable competitive advantage is rarer than hen’s teeth.

With that out of the way, let’s see how Morrison’s is doing. Updates from a large company such as this can help us to understand how the economy is doing.

This update is in line with expectations, which seems to have come as a relief to the market.

For the first 22 weeks of H2:

  • like-for-like sales down 1.7% (excluding fuel)
  • like-for-like sales down 2.8% (including fuel)

Retail sales are the main problem. By contrast, wholesaling is flat.

No improvement in general retailing conditions:

Throughout the period, trading conditions remained challenging and the customer uncertainty of the last year was sustained.

In wholesaling, declining volumes at their customer McColl’s (MCLS) were a problem, though most customers grew. Offsetting this negativity, the conversion of some MCLS units from the McColl’s brand to “Morrisons Daily Convenience” has got off to a good start.

Outlook

We managed costs well throughout the period, offsetting some of the impact on LFL sales of the challenging trading conditions and continued uncertainty amongst customers. With four weeks of the year still to go, we expect 2019/20 profit before tax and exceptionals to be within the current range of analysts’ forecasts.

My view

The ROCE at Morrisons is 6.7% (according to Stockopedia), which is in fact slightly higher than Tesco (TSCO). I don’t think any of these companies are likely to earn above-average rates of return on their capital, so I don’t see any reason to invest in them. But they are a large part of the consumer landscape, so perhaps there is some utility in keeping tabs on them. Credit to Morrison’s for maintaing profitability through these difficult times.

 


Safestore (SAFE)

  • Share price: 795.5p (-0.4%)
  • Market cap: £1.67 billion

Final results

This is the UK’s largest self storage provider.

I wouldn’t normally invest in REITs, because I generally want a higher return than can be achieved by property. But with storage space in such short supply as the population grows, I can see the potential for a secular tailwind to underpin returns.

This update shows a significant improvement in the like-for-like occupancy rate over the year: from 75.1% to 78.5% of maximum lettable area. The price paid per square foot increased too, from £25.78 to £26.04.

To me, this is evidence of real and growing pricing power. It’s unlikely to last forever, as the supply of storage space must eventually catch up with the demand, but it could last for many years to come.

EPRA NAV per share (a standard way of calculating NAV for property companies) increases by 12.4% year-on-year, despite the payment of dividends – very impressive.

Note that the company didn’t benefit from gains in property values this year, so statutory operating profit fell by 17%. That’s ok, from my perspective – we can’t count on rising property values every year:

Operating profit decreased by £33.9m from £197.6m in 2018 to £163.7m in 2019, reflecting a lower investment property gain in 2019, offset by an increase in underlying EBITDA.

Underlying EBITDA2 increased by 5.4% to £87.5m (FY2018: £82.9m) on a constant currency basis. Underlying EBITDA2 after rental costs increased by 6.3% to £76.2m (FY2018: £71.7m).

Balance sheet – loan to value is reported at 31% for the Group, which does not strike me as particularly impressive (I only get nervous above 50% for a property company).

The interest cover ratio is reported at 8.9x, which also seems to be on the conservative end of the scale.

CEO Comment

I like the CEO’s focus on maximising the use of existing space. And the new year is off to a good start:

“Over the last six years we have grown the occupancy of a same-store portfolio from 63% to 78%. As ever, our top priority remains the significant low cost organic growth opportunity represented by the 1.5m square feet of currently unlet space in our existing fully invested estate. The Company is in a very strong position and we are encouraged by early trading in the new 2019/20 financial year. Our leading market positions in the UK and Paris combined with our resilient business model enable us to look forward to the future with confidence.”

My view

I like this company and on a long enough timeframe I do feel confident that it will work out fine for investors.

Unfortunately I am priced out of it with the share price at 795p and the EPRA NAV per share at only 452p. That’s a whopping 76% premium. I am constitutionally incapable of paying such a premium for a REIT.

 


All done for today, thanks again for dropping by and see you tomorrow!

Cheers

Graham

 

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