Wednesday, January 30, 2013

Not very glamorous, but cheap, Creighton's at 56% of NCAV

I've heard it said that intuition is really just a fancy name for pattern recognition.  After seeing hundreds or thousands of patterns a person can recognize certain things intuitively.  It might sound funny, but when I first took a look at the Creighton's financial statements my heart skipped a beat.  I knew exactly what I was looking at, the type of net-net I like to hold in my portfolio.  Sure they aren't perfect, they have a bit of debt, and less cash than I'd like, but then again nothing's perfect is it?

Creighton's is a beauty supply company located in the UK.  They make skin cremes, moisturizers, and other personal care and beauty products. The business is not all that glamorous, and without setting foot in the UK or knowing consumer trends I'd guess they make just another bottle of shampoo, or just another bottle of lotion on store shelves.  Consumers do have preferences, and some consumers prefer to purchase Creighton's products what whatever reason.  This company doesn't have a moat or any product differentiation, they note a risk is that Asian products are in direct competition with their own.  The beauty product market is very price competitive, but that doesn't mean that it's unprofitable either.

I'll start with the negatives on the company first.  If any of these negatives are too much to get past save yourself five minutes and stop reading. My biggest complaint against the company is the low amount of cash they hold, and in turn the financing for working capital expansion.  I prefer companies with lots of cash and no debt, but I'm also flexible with what I invest in.  Creighton's has £786k worth of debt against £4,103m in equity for a debt to equity ratio of 19%.  This debt is necessary because the company only has £33k in cash on hand.  Unless the company suddenly starts to generate a lot more cash flow they will continue to be in a vicious circle where they don't have quite enough cash to pay suppliers at the time of order.

What Creighton's doesn't have in cash they have in other assets, here is my net-net worksheet:

The company is loaded with receivables and inventory.  Many investors look at these accounts with suspicion and give the values a large hair cut.  The non-discounted NCAV is 4.9 GBp, whereas a discounted NCAV is .59 GBp, a large difference, all attributable to the lack of cash.

In this company's case I think both receivables and inventory could be turned into cash fairly quickly.  The receivables could be factored and the company might receive 80-90% in cash for the receivables now.  The inventory doesn't go out of date.  If the company were in a liquidation scenario I doubt consumers would know their favorite brand of face lotion was going out of business, they would happily continue to purchase the lotion at the grocery at normal prices until suddenly the shelf is empty.  Considering that both receivables and inventory could be liquidated at values close to NCAV I am using the unadjusted NCAV as the bogie value for my thesis.

The company has a market cap of £1.58m against a NCAV of £2.951m, they're selling at almost 50% of NCAV at current prices.  The company is also fairly profitable with growing sales and earnings.

The company earned £223k last year, or .37p p/s, which is a 7.43x multiple at current prices.  The company's revenue grew 16%, and profits grew 65% over the past year.  The difference between the revenue growth and profit growth shows the operating leverage imbedded in the company's operating structure.  If revenue is able to continue to grow net income will grow at an even faster pace, with incremental pound revenue falling straight to the bottom line after the fix costs are taken care of.  Some of the revenue growth is attributed to better inventory management, and higher inventory turnover.  The company has also repositioned itself away from the end of the year Christmas market to more calendar stable products year round.  

The metrics alone for Creighton's make the company a tempting investment, but it wasn't just the numbers that pushed me into buying some shares.  It was another factor, the management contract between the company and the CEO.  The company's employment contract (renumeration if you're searching) is very straightforward, the CEO is paid a bonus based on certain profitability targets.  But there's a second incentive which provides the CEO a bonus if he's able to dispose of the toiletries business for £1.5m or more.  Unfortunately the company doesn't break out segments so it's impossible to know how much of the company's business toiletries entails, but at the most simple level they're looking to divest toiletries, not the entire business for £1.5m.  The market is selling the entire company for £1.5m, which means that either the directors are valuing a division of their business too highly, or the market has the pricing wrong.

For a simple company like Creighton's, with a simple investment thesis there isn't much else to say.  The company is cheap, small, and ignored.  I could never imagine making this a large position, but I couldn't resist picking up some shares recently.  This is the type of net-net that I'm looking for a good puff from, I would sell this at or near NCAV if the opportunity arose.


Disclosure: Long

8 comments:

  1. Thanks for the write up. How are you thinking about the operating leases?

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    1. I knew this would come up…

      I treated them as debt, although the annual report is unclear exactly what the future obligations are. In the notes the company has £86,000 in future payments over the next five years.

      The bigger issue for me is the debt which is 10x larger than the leases. The interest on the debt and leases appear to be covered by operating income, but the debt is also short term, and rolling it could always become an issue in the future.

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  2. Interesting company, I had a look through and would be tempted to buy. But, they have a bid/ask spread of 28% when I looked.

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  3. The company is actually at a really good start. It's still the second month of the year and they're already that high in percentage. I'll still think about it though.

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  4. Nate -

    Thanks for your great articles; I have found many of your previous write-ups very interesting.

    I have started performing some additional research on this business and like what I see regarding their building of shareholder equity.

    One thing I have noticed is the company is apparently over valuing the toiletries business at GBp 1.5MM when considering the Directors Remuneration Report from 2006 outlines the same compensation policy for Mr. McIlroy as presented in the most recent annual filing.

    I do like the fact that he owns >26% of the shares of the company and has done so since 2006.

    Otherwise, I find the investment compelling considering the company has grown equity each year but the business is being valued as though it's headed towards liquidation.

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  5. Thanks for this write up, Nate. Love your website.

    During the past five years Creighton's has increased its BV 34% (7.7% cagr), but at the same time its operating profit has declined by more than half, on pretty much the same revenues, and it's FCF has gone from positive to negative. (To get FCF I'm just subtracting from operating cash flows all investing cash flows, and thus assuming the latter are all maintenance CAPEX, which might not be such a crazy assumption, given that the company's revenues are the same now as five years ago).

    So, the accounting value of the assets has grown over time, but they produce ever smaller earnings (negative true earnings if you accept my FCF calculation). This makes the accounting value of the assets highly suspect, especially so when the dismal trend in ROA cannot be blamed on an accumulation of cash that currently yields nothing, as is the case with some of the other net nets.

    Why would you invest here on the basis of a highly suspect asset value, rather than add to other net nets of your portfolio whose NCAV is largely cash, and thus of more ascertainable value, which have positive FCF, and which have no debt?

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  6. Wow, did this just go up 50% or what.

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  7. This business is better known under its main trading name Potter & Moore.

    www.potterandmoore.com

    This entity/company has been in operation since 1749 and claims to be UKs oldest established toiletries manufacturer;its brand was once quite well known (in the first half of the last century!).

    I get the impression the company is trying to re-establish its own brands rather than making "own brand" products for others which is an area where it has heavy competition from E.European & Asian producers.I believe Body Shop is a significant customer and it has a niche market making product lines for top of the market Barbers Shops for example Royal Warrant Holder (Duke of Edinburgh) barber Truefitt & Hill.

    The Peterborough factory from where it operates which is shown on the Potter & Moore website is owned by Creightons Chairman and is leased to the company.

    The writer has had a fairly modest shareholding for a few years.

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