Investor's Champion Blog
Provides refreshingly forthright, independent comment on predominantly small cap companies and specialist investment funds. Informed opinion, based on first-hand research, but pulls no punches in exposing management weaknesses.

Norman Hay - it's been a great share over the last 3 years and it looks like there is more excitement to come

Norman Hay, the AIM quoted diversified industrial group involved in chemical sealants and surface coatings came out with another pleasing announcement today.

Norman Hay (a nice straightforward name is always pleasing, remember James Halstead) describes itself as the UK's number one surface coatings company and a world leader in the supply of sealant chemistry for the automotive and construction industries. The Company's advanced chemical products and processes enable metal components of all sizes to be protected when operating in harsh environments, and are widely used in the oil and gas (that’s fashionable), aerospace and general engineering industries.

After having visited their Coventry site 3 years ago we have been keen followers of this quirky little business and the shares haven’t disappointed.

It announced this week that conditional agreement has been reached to sell the Company's Coventry freehold site to a subsidiary of UNITE Group plc, the UK's number one student hospitality company.

I love the following paragraph from the announcement:

‘For some time Norman Hay plc has anticipated that its city centre site in Coventry could not continue to absorb the changes required for the Group's future.’

To translate, management realised some time ago that they were sitting on a potential gold mine!

The current net book value of the asset is £1,840,000 and depending on the actual planning permission granted, the site will achieve a value of between £7,756,000 and £9,265,000.

To put things into perspective, the current market capitalisation of the entire Norman Hay group is c£17m.

The sale proceeds will be used in part to fund the relocation costs, with the remaining proceeds being reinvested in the Company to fund future growth. I suspect that there might also be a little left for a distribution to shareholders if everything works out as planned.

The bad news is that the sale of the property is also conditional upon the release or modification of a restrictive covenant which affects part of the site.

With the Hay family the largest shareholders and very limited share liquidity Norman Hay is the sort of AIM stock that is much more appealing to the small private investor than the big City institution.

It’s also rewarded those that were prepared to go through the numbers (and they aren’t very big or complicated) and realise that, despite its small size, this is a very attractive, cash generative little niche engineering business.

The shares currently trade at just under 12x 2007 estimates-you guessed it, only the house broker covers them-and they yield just over 3%.

The shares are up approximately 300% over the past 3 years and it looks like there could be more excitement to come!

Pixel Media - its looking encouraging for the minnow

In the last five weeks, Google, Yahoo, AOL, WPP and Microsoft have all made acquisitions of substantial online media companies at stratospheric prices.

The house broker has reminded us that Pixel Media (AIM:PIXL), a new issue in which we participated last year and featured in my blog before, was itself an MBO of DoubleClick’s loss making Hong Kong operations about five years ago.

Google has now bought Double Click for $3.1bn, equivalent to 30x 2007 EBITDA or just over 10x historic sales. The broker has reminded us that In terms of Pixel these valuation metrics would equate to a value of 62p/share and 112p/share respectively.

Although we are hardly comparing like with like in terms of size, footprint and revenue the broker’s price target of 59p compares favourably with the lower of these valuations and also with the minimum of 61p for the deferred equity element of the earn out for the acquisition of Easy Growth (Chinese online affiliate marketing through Share Freedom Wireless).

The broker expects the market soon to latch on to the investment opportunities in marketing and advertising for the ever nearer 2008 Olympics in Beijing. But what about buisiness post Beijing games!

Kensington – not the best of news for those (like me) who were holding out for more

Back in March Kensington, the UK ‘sub prime’(that’s US speak) mortgage specialist announced that it was still in discussions with a number of parties who had approached it. Today it announced that was in advanced discussions with a view to announcing a recommended offer. However, they went on to say that in the event that an offer is made it is likely to value the group at a price below yesterday's closing share price of 560.5!

There didn’t appear to be much left for the smaller investor. However, since deciding to exit the position I note the shares are trading at c481p which is now 'materially' below yesterday’s closing. Can one assumne that there are now potential short terms trading opportunities!

Today’s announcement simply stated that any deal would be at a price below yesterday’s closing share price, but not ‘materially’ below it.

Great fun, we shall see what happens!

Network Data - sunk costs but the business is still swimming

The news today that the introduction of Home Information Packs (‘HIPs’) will be delayed until 1st August not surprisingly brought about a sharp fall in the share price of Network Data (AIM: NDH). Although with only c£3,000 value of shares traded today’s fall was hardly representative of wider shareholder opinion!

The AIM quoted group has committed a great deal of its hard earned money (it didn’t raise any new money on float) to supporting HIPS and today’s classic government back track will have probably caused Chief Exec and 78% shareholder Richard Griffiths to question the wisdom of his decision to whole heartedly invest in HIPs through his Hipstar operation which was due to kick off in earnest on 1st June. It now appears to be doubtful that they will be ever be brought in at all at least ti any extent.

Yes, it is clearly bad news for NDH but there is a lot more to this £13.6m market cap business than just HIPs. A look at the annual results to 31st December 2006 revealed pre-tax profit of £220,000 but this was after writing off £1.4m on Hipstar. So the results excluding Hipstar would have resulted in a profit of c£1.6m and this was after incurring a loss on the new Network Surveyors business.

If one assumes that the original core mortgage broking business continues to perform, factor in some profitability for Network Surveyors (it turned profitable in the first half of 2006) and even allowing for further Hipstar cost write offs, the shares don’t look bad value.

Any further share price falls would appear to represent a buying opportunity. Unfortunately this is where the problems really begin because, with Mr Griffiths holding 78% of the shares and no money raised on float, there just aren’t any shares out there.

So they came to AIM but didn’t need any new funds and the Chief Exec and staff hold nearly all of the shares.

Once again I question why they on earth they came to AIM in the first place!

Nichols - does the offer look less likely and should we care?

Nichols the AIM quoted soft drinks group and one of our AIM favourites announced today that it has traded successfully since the beginning of the new financial year and that results so far are on target to produce another year of growth. With regard to the preliminary discussions regarding the possibility of an offer (originally announced on 19th March 2007) they said that discussions continue, although there is no certainty that an offer will be made.

If one assumes that they were also in discussions well before 19th March it all appears to be taking a long time to sort out (good things come to those that wait I suppose). I sense that perhaps we might be receiving one of those ‘discussions terminated’ statements in the not too distant future. The shares rose fractionally on not much volume following today’s announcement. Offers notwithstanding it remains a good business.

Best of the best - getting better

Best of the Best, the group responsible for those luxury car lotteries (although I don’t think I’m supposed to call them lotteries) at UK airports and a new issue in which we participated in August 2006 issued a positive pre-close trading update today confirming that they expect results for the year to 30 April 2007 to be in-line with expectations.

Having had the misfortune of joining AIM in August when UK airports were in turmoil one has to commend their efforts.

They have clearly had excellent second half performance with a continuation of the strong
trading conditions experienced in November and December. Apparently the new stand at
Gatwick South has resulted in a material increase in sales and they are due to expand into a number of new regional airport locations.

The shares have has a great run of late and having floated at 63p have been as high as 80p-not bad considering they were down at 43p at one point. Preliminary results will be announced on 19th July.

Main market new issue - eaga plc (The City will love it, some tax payers may be less impressed)

I recently met with the management of eaga plc (no that isn’t a spelling mistake, it’s one of those lower case names that always strike me as strange-are there any really serious businesses with lower case names?) which is seeking to float on the full list with an indicated valuation range of £373m-£423m.

Brewin Dolphin is the house broker so name spelling notwithstanding I have given the offer some respect.

eaga was established in 1990 to tackle fuel poverty amongst vulnerable households and is the UK’s leading provider of residential energy efficiency solutions. From its humble beginnings of helping the poor through administering government handouts, its key management will now become multi-millionaires. That’s not a bad result for the eaga staff but probably less appealing to those UK tax payers who have funded the handouts and aren’t eaga employees.

I’m quite frankly staggered that a business with a market cap of c£400m can be created in such short time from simply servicing government initiatives. All credit to the management to have seized upon the opportunity and ran with it, but it’s a rather bizarre turn of events and a sign of the times in the UK. I do realise they aren’t the only ones benefiting in this way.

It almost makes the investment business appear moral!

A classic business model for our times; a group that recognised the potential in government initiatives at an early stage and has made the most of it. It clearly wants to diversify and become less dependent on its original paymasters and in the short term (at least to 2010) there doesn’t appear to be much in its way. Just think of all those energy efficient light bulbs ‘fuel poor’ households will be acquiring through eaga!

The suggested valuation (for the short term at least) looks very reasonable relative to peer group but these ‘relative’ valuation conclusions are sure to hit the buffers some day soon and the sector looks pricey.

The issue looks like it’s got great institutional support but I do question the morality of it all and that’s really saying something coming from an investment boy!

The term social justice has been bandied about by management. The social justice in question appears to lack consistency and I’m still not sure about that lower case name!

Please email me if you would like to receive the full Investor’s Champion note on this.

Analyst valuations – it’s always cheap relative to something else!

Analysts appear to relish assessing companies relative to peer group.
Without mentioning names here is an extract from something I received today:

Relatively cheap compared to principal listed comparator

…we can see that ‘Company A’ December 2008 P/e of 17.7x is only fractionally ahead of the sub sector average (16.9x) and well behind that of ‘Company B’ (20.7x). Given a superior product and a more diversified customer base we believe ‘Company A’ should trade at a premium to the sector and we remain buyers.

So the analyst concludes that Company A is a ‘buy’ simply because it is trading at a big discount to another ‘similar’ company in the sector. Never mind that Company A and Company B are very different in size, quoted on different markets and that the sector in question has been concocted by the broker and doesn’t actually formally exist.

That’s my Friday whinge out of the way!

Devro - the sausage skin maker surely looks like classic take-out candidate.

Having participated in the new issue of Hilton Food Group this week I also had a look at Devro, the maker of casings for sausages, hams and other processed meats.

The group recently announced that trading for the year-to date has been mixed, with the more mature markets (UK, US and Australia) being slower to gather momentum, while the developing markets have been buoyant. It concluded that it was confident about its prospects-aren’t they always!

A potential acquirer had arrived on the scene in January offering 150p a share for the business. Unfortunately in April the group came out with the announcement that they had been unable to reach agreement in relation to the pension scheme and that discussions between the Board and the potential offeror have been terminated.

The shares naturally tumbled from a high of c147p and are currently trading at 116p.

Devro surely has all the appearances of a classic take out candidate.
A highly cash generative business with manageable levels of gearing that has a very strong position in its market. The shares are also currently yielding over 4%.

I acknowledge there are plenty of negatives such as US$ exposure, impact of high energy prices, falling demand for meat products, the pension deficit, changes in foods standards, to name but a few.

All in all, it looks a fairly stodgy low growth business, but someone was clearly interested enough a few months ago to offer 150p a share. Furthermore, the pension position should have improved dramatically over the past few years, energy costs have stabilised, developing markets are growing and recent investment is starting to bear fruit……and there is always all that lovely cash to get excited about.

JAMES HALSTEAD –The AIM star still shines brightly!

James Halstead, my star AIM holding of the last few years and a company covered in an earlier Investor’s Champion note on 13th April came out with the ‘usual’ positive trading update this week.

In the company's previous interim announcement on 28th March 2007, the Chairman mentioned that a major plant upgrade was imminent that involved the closure of one of the production lines. The company this week announced that the upgrade to the Polysafe facility was successfully completed (naturally) and full production resumed ahead of schedule (of course it did, James Halstead never disappoints!). Sales also continue to meet expectations.

My concern now is this Queen's Award for Enterprise that they have won. Gongs of this nature are often followed by a decline in share price, however, surely outcomes of this nature only apply to run of the mill businesses and not AIM stars like James Halstead!

China Shoto - Electric growth and an appealing valuation-so why the share price fall!

I recently met with the management of China Shoto, the Chinese producer of industrial batteries and power supply systems which announced its year end results last week.

Although the group appeared to come out with some great numbers the market (or rather a small number of shareholders) was clearly unimpressed pulling the shares down c8% on the day.

For the year to end December 2006

- Revenue increased by 134% to £66.45 million (2005: £28.41 million)
- Net profit increased by 29% to £4.0 million (2005: £3.11 million)

…and this is the big one:

- Debtor days fell from 121 days in 2005 to 75 days in 2006-now that looks quite good for a Chinese business.

- An interim dividend for 2006 of 1.5 pence per share can be added to a final dividend for 2006 of 3 pence per share to give 4.5p for the year. Also very encouraging.

If a British company had come out with these sorts of numbers the shares would have soared. Furthermore, China Shoto has, in quick time, managed not only get its new plant up but also running at near to full capacity.

Admittedly there no growth in eps but none was really expected with the business having gone through a metamorphosis in the year, with fund raisings, acquisitions, new factories etc.

After all China, much like Rome (or Microsoft for that matter), wasn’t built in a day!

The core back up battery business grew by 38% with sales to China Mobile, the largest network operator, doubling and now representing c25% of group sales.

We acknowledge that earnings per share of 19.5p was slightly below the house broker’s estimate of 20p but given all the activity in the year and the work involved in getting the factory up and running we shouldn’t be too concerned at the current valuation.

The industrial back up power supply business should be flying with 3G being rolled out.

The new line supports the manufacture of batteries for electric bicycles and with bicycle production increasing by 78% in 2006 and c25m electric bikes forecast to be produced this year there is no problem with demand! The group has also expanded its sales network in order to address the replacement market as this develops and has opened 43 sales offices. This is essentially a commitment for the future which is clearly going to have an impact in margins in the short term, as evidenced by the operating margin falling from 16% to 9%. With regard to these falling margins, other factors include the increase in lead prices over the year (lead represents c55% of cost of sales) and the lower gross margins from the electric bicycle battery business.

Year end stock levels have obviously shot up but this is a very different business one year on.

I agree with the house broker (that’s a first) that a UK stock experiencing such positive conditions would trade at c13x to 15x next years estimates. Coslight, a Hong Kong listed peer trades on a calendar year 2007 PER of 19x. I wouldn’t be surprised if China Shoto is having regrets about coming to London!

The house broker estimates 15% earnings growth in 2007 and a yield of 3%. The stock currently trades on a calendar year 2007 PER of 7.3x falling to 6.5x for 2008.
The PEG is therefore just under 0.5-there aren’t many out there in the UK market on these sort of valuations at the moment!

Even if one takes a hatchet to the numbers and pulls back the earnings the shares still seem to look reasonable value. The debtor days (75 days average, but a big spread) still remain quite high as do year end stock levels (60 days) but this is a business that is expanding at the sort of rate of most of us have never seen from a UK operation so perhaps allowances should be made.

It should also be remembered that this is a Chinese business whose principal customers are big telcos and who is well supported by major Chinese banks.

Let’s see what happens!

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