Small Cap Value Report (Tue 21 Sep 2021) - COG, SIG, APP, SAA

Good morning, it’s Paul amp; Roland here with Tuesday’s SCVR.

Agenda -

Paul’s section:

Cambridge Cognition Holdings (LON:COG) (I hold) – interim results are strong, with revenues up 50%, and breakeven reached. Numbers are all as expected, from Aug 2021 trading update. This is an excellent GARP share, in my personal opinion. £44m market cap seems low, considering the progress made, the record order book, 80% gross margins, and industry tailwinds.

Mamp;c Saatchi (LON:SAA) – complicated accounts, but there’s good news today on trading. I need to do more research on this one, but for the moment reckon it’s potentially interesting amp; worth a closer look.

Roland’s section:

Sig (LON:SHI) : This construction material group is trading well, but facing the usual cocktail of rising costs. In my view, the valuation is probably up with events given the uncertain outlook.

Appreciate (LON:APP) : An upbeat trading update from this gift voucher specialist, suggesting that trading levels are returning to pre-pandemic levels. I’m attracted to the financial performance of this business, but have some lingering concerns about its growth potential.

Explanatory notes -

A quick reminder that we don’t recommend any stocks. We aim to cover trading updates amp; results of the day and offer our opinions on them as possible candidates for further research if they interest you. Our opinions will sometimes turn out to be right, and sometimes wrong, because it’s anybody’s guess what direction market sentiment will take amp; nobody can predict the future with certainty.

We stick to companies that have issued news on the day, with market caps up to about £700m. We avoid the smallest, and most speculative companies, and also avoid a few specialist sectors (e.g. natural resources, pharma/biotech).

A key assumption is that readers DYOR (do your own research), and make your own investment decisions. Reader comments are welcomed – please be civil, rational, and include the company name/ticker, otherwise people won’t necessarily know what company you are referring to.

140p (last night’s close) – mkt cap £44m

Interim Results

Cambridge Cognition Holdings Plc (AIM: COG), which develops and markets digital solutions to assess brain health, is pleased to announce its unaudited interim results for the six months ended 30 June 2021.

Greatly improved interim results are out today, with the figures being in line with those which we were given in the last trading update on 3 Aug 2021, which I reviewed here in a fair bit of detail.

There’s actually not a lot to add to that, since the numbers today are the same. Finncap upped its forecast revenues for 2021 by 19% after the last update, and that stands at £10.1m, with a small adj profit before tax of £0.2m forecast for FY 12/2021. Everything seems on track, with key H1 numbers being -

Revenues £4.5m

• Gross margin of 80% gives tremendous operational gearing, which could be very positive if strong revenue growth continues.
• Profit before tax of £81k in H1
• Orders won in H1 of £8.6m, substantially more than revenues, so the order book is growing strongly, giving improving visibility.
• Contracted order book £15.2m at end June 2021 – more than doubled in the last year.

Balance sheet is small, with only £262k NAV. NTAV is £(114)k. As there are hardly any fixed assets, and customers pay some up-front, then the overall financial position is absolutely fine, with £4.2m in net cash – so no need for any more placings.

Outlook - includes a section about overall market growth, which is estimated at 15% p.a., and substantial, at gt;$1bn p.a. So there’s plenty for COG to go for.

The Company remains firmly on track and we continue to trade in line with market expectations. We continue to see potential for growth for both clinic-based and virtual assessments for cognition, whether for recognised solutions such as CANTAB™, or for newer high-frequency digital or voice-based assessments and for electronic Clinical Outcomes Assessment solutions for CNS disorders in clinical trials.

With increasing investment in commercial activities, continued product development, a rising cash balance and supportive shareholder base, the Company is well positioned for further revenue growth. We remain excited about the potential for the future.

My opinion – I remain very bullish on the long-term opportunity here. COG has reached breakeven, and has a very strong contracted order book. So it’s passed that lovely inflection point where jam tomorrow companies become a viable business.

There’s a very good industry tailwind – the pandemic has triggered big pharmas moving to virtual clinical trials, doing things digitally rather than in person. That plays right into COG’s area of expertise.

Competition is limited, because COG benefits from decades of experience amp; data, difficult amp; time-consuming to replicate. Therefore it does seem to have a moat – the evidence is also in the figures, with an 80% gross margin.

COG has relationships with all the big pharmas, and a lot of its orders are repeat business.

There’s so much to like here, that I’m puzzled why the market cap is only £44m? That seems too low to me, given the likelihood of a bright future. Maybe investors might be anchoring in the short term, looking at how the price has tripled, and baulking at paying more? That seems short-sighted to me. £44m is nothing these days, for a promising growth company.

Obviously the bull case relies on the company being able to continue winning more business. Given the industry tailwinds, I don’t see why we would see growth stall.

It’s not really a value share, but I certainly see this as a good GARP (growth at reasonable price) share. These interim numbers reinforce my bullish stance, so I’ll be happy to keep holding for the foreseeable future (and probably buying more on the dips, when funds permit).

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150p (up 2% at 09:08) – mkt cap £182m

Half-year Report

This is an advertising amp; marketing group.

I’ve tended to steer clear of this share, because it’s had various accounting issues, including a potential very dilutive ill-considered options scheme relating to takeovers. Although I think most of the issues have since been mostly resolved.

It looks as if trading has been good in H1 (Jan-Jun 2021) –

A strong first half performance, results ahead of management’s initial expectations and profits ahead of H1 2019 pre-pandemic levels…

Full year profit before tax and earnings expected to be substantially ahead of consensus

Options scheme – this sounds really good news, as this potentially large dilution was a big issue when the share price was in the doldrums -

Strong financial governance has enabled Board decision (post period end), to settle put options in cash rather than shares. Eliminates risk of continued substantial share dilution and represents a key turning point for the Group

Outlook – ahead of expectations -

Full year profit before tax and earnings expected to be substantially ahead of consensus…

Momentum from H1 has continued into H2 with important client retentions and new wins

2019 comparisons – a lot of companies are recognising that 2020 comparatives are not very useful, given that they were so widely impacted by the original, most severe lockdown 1. Therefore I very much like it when companies present H1 2021 numbers with both 2020 and 2019 comparatives, so we can see both the extent of recovery from the lows last year, but also how performance is versus pre-pandemic levels.

I can’t see any 2019 comps in the financial highlights for SAA’s results (but they are mentioned in the commentary), so I checked back myself, and it looks fine -

H1 2019: Revenues £117.9m Headline PBT £3.4m
H1 2020: Revenues £103.4m Headline PBT £2.0m
H1 2021: Revenues £118.1m Headline PBT £10.5m

As you can see, performance this year trounces both pandemic, and pre-pandemic levels of profit. That’s assuming you’re happy with the adjustments made. Remember that PR companies can’t help but massage up the story to within an inch of its life, which after all is their job!

In 2020, the Group embarked on a large-scale, global restructuring programme, closing or merging 20 operating entities. This has had a strong favourable impact on H1 2021 results. We expect the revenue and operating profit benefits from the 2020 disposal programme to continue to positively impact the second half of the year.

Although further down in the commentary it refers to a different headline PBT for 2021. It looks as if one figure is adjusted, and the other isn’t. Confusing!

H1 2021 Headline PBT is £7.1m or 209% ahead of the pre-pandemic H1 2019 outcome.

Restructuring - as with many companies, the shock of the pandemic triggered a restructuring that has enhanced profitability.

Although with a people business, we should bear in mind that when profits rise strongly, the staff want a slice of the action, understandably. So wage inflation could become an issue in future. SAA neatly flips this around and turns this into a positive – very clever, and it might fool some readers!

The war for talent: In what has been called the Great Reappraisal by HR experts, there is a post-Covid fight for talent. Employees are re-assessing their vocational criteria, and the evidence strongly suggests that strong brands with a clear, noble purpose will become employers of choice.

Net revenue is £118.1m, with the largest cost (staff) devouring most of this, at £85.5m. Hence this is very much a people business.

Balance sheet – is a bit complicated, but looks OK overall, with about £10m NTAV.

There’s a large £73.6m cash pile, offset partially with borrowings of £41.8m, so net cash of a robust £31.8m.

The commentary says net cash improved post period end to £41.4m at 31 Aug 2021.

Hence it looks reasonably healthy overall. Much of this cash will be needed to settle the problematic put options, the latest comments being -

We expect to pay no more than £9.0million in cash in the next few weeks to settle the most immediate (2021) batch of put options. Thereafter, we expect the total liability for the remaining four years, 2022 to 2025, to be £27.4million. Based on our medium-term profit and cash forecast, we now expect to be able to settle the options in cash as they fall due.

That looks manageable in the context of the cash pile, and (hopefully) future ongoing cash generation. Eradicating potentially large dilution is a very positive thing in my view.

Receivables look very high, and have increased considerably, consuming most of H1’s cash generation. That’s probably due to revenues rising, thus receivables also rise. It looks as if receivables probably includes some pass-through revenues, hence why receivables are so large relative to revenues.

My opinion – it’s taken me a while just to review the numbers, but more work is needed, as this is quite complicated for a small cap.

However, on a first glance, I think there’s enough here that seems positive, to make me want to dig deeper at a later date. For now though, it goes into my “potentially interesting, more research needed” tray.

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Share price: 50p (pre-open)

Shares in issue: 1,182m

Market cap: £589m

Interim results

Construction materials group Sig (LON:SHI) reports half-year results today. Jack covered this turnaround situation in July and today’s numbers appear to contain more good news. Like-for-like sales are 33% ahead of H1 2020 and 1% ahead of the same period in 2019. Profit guidance for the full-year has been upgraded.

“Trading in July/August remained solid, strengthening the Board’s confidence in full year outlook despite caution over ongoing impact of material shortages and cost price inflation”

“Continued profit improvement expected in H2 2021 and full year underlying operating profit anticipated to be ahead of prior expectations”

Financial highlights: SIG operates in the UK and Europe, but has been facing particular problems in its UK distribution business. This division is now said to be back on track but has been a significant drag during the half year.

Here are some of the main financial highlights. I’ve provided a comparison with H1 2019 as the first half of last year was something of a washout due to the initial disruption from Covid-19.

• Revenue +3.4% to £1,108.2m (H1 2019: £1,071.5m)
• Like-for-like sales +1% vs H1 2019 (LFL +8% excluding UK distribution)
• Gross margin: 25.9% (H1 2019: 25.3%)
• Operating profit -36% to £9.0m (H1 2019: £14.2m)
• Net debt excl. lease liabilities: £57.5m (H1 2019: £158.2m)

Gross margins and sales have improved against 2019 levels, but operating profit is still significantly lower. This reflects a sharp increase in underlying operating costs, which rose by 8.5% to £273.4m compared to H1 2020.

Unsurprisingly, SIG says this primarily reflects increases in freight and other handling costs.

What this implies is that SIG is only partially passing on cost increases to its customers, and is absorbing the remainder itself.

Balance sheet: Shareholders got diluted last year when SIG carried out a £165m placing that doubled its share count.

In fairness, it was the first time the company had issued shares for at least 10 years – in quite extreme circumstances: But the placing was driven by a need to reduce debt, which I’d argue was a little too high before the pandemic.

I have no such worries now. Net debt (excl. leases) is down to £57.5m from £162.8m at the end of 2019, which looks manageable to me. Lease liabilities are quite hefty, at £258m, but with the company trading profitably I don’t expect these to be an issue at present.

Outlook: SIG is clearly enjoying good demand for its products, but facing significant higher costs. How will these competing forces balance out?

CEO Steve Francis is taking a fairly optimistic stance. He says that trading in July and August was “solid” and expects to see

“continued profit improvement through H2 despite the ongoing impact of material shortages and cost price inflation” (my emphasis).

However, it’s worth remembering that prior to today, SIG was expected to report a loss this year. So any upgrade may be little more than breakeven – we don’t know yet.

My view: In the commodity sector, they say that the best cure for high prices, is high prices.

I’m starting to wonder where the tipping point is in this situation. At what point will rising prices and transport problems cause demand for SIG’s goods to level out or fall? We don’t seem to be there yet. The company clearly traded well over the summer.

But it’s a general truth that if prices rise too far, people will find a way to use less. We’re already starting to see the impact of soaring gas prices in the UK, with industrial customers such as fertiliser producers switching off production.

If the cost of building materials and road transport continues to rise, will we see a slowdown in building activity, for example?

I don’t know the answers, but with SIG shares now trading on 27 times 2022 forecast earnings, I would argue that the valuation of this low-margin business is probably up with events.

SIG’s turnaround appears to be going well, but I’m not convinced the balance of risk and reward is favourable at this point.

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Share price: 29.9p (+8% at 08:42)

Shares in issue: 186.3m

Market cap: £51m

AGM statement amp; Chair to step down

Appreciate Group runs gift voucher schemes such as Love2Shop, highstreetvouchers.com and the Park Christmas Savings scheme. The firm also runs reward schemes and provides VIP experiences for corporate customers.

The last trading update in June was fairly downbeat, as Jack reported here.

Today’s statement covers the period from April to September and is much more upbeat. Appreciate’s share price is up by 8% as I write.

“Q2 improvement in trading – now ahead of both FY20 and FY21 for year to date”

• Corporate and Gifting billings of £40.7m in Q2 were 14.6% ahead of the same period in FY20 (the last pre-pandemic period)
• YTD (April-September) billings of £79.7m are up by 3.6% versus FY20, reversing the fall of 6% seen in Q1

The improvement is being driven by growth in the corporate business, which is currently up by 6.8% YTD against FY20.

Appreciate’s Corporate business had a record Christmas last year as employers spent money on gifts for staff rather than Christmas parties. Revenue was also boosted by the company’s involvement in the free school meals initiative, which is now starting to taper.

The company is focusing on corporate growth, but it remains to be seen how much of last year’s gain can be retained as life returns to normal.

In contrast, Gifting billings (High Street vouchers, etc) are down by 12.1% so far this year, compared to the same period in FY20. In part, this reflects a backlog in redemptions from last year’s lockdown periods. The company says redemptions are now starting to improve, driving deferred revenue into the business.

In a similar vein, the Park Christmas Savings has been held back by £6.4m of unspent paper vouchers (as of June 2021) from Christmas 2020. In today’s update, the company confirms previous guidance that the Christmas Savings business will be down 14% on last year. The Christmas order book is now said to be complete, so the focus has now switched to reinvigorating this business for Christmas 2022.

Growth opportunities: Appreciate recently partnered with retail payment group PayPoint (disclosure: I hold) to offer the group’s gifting products at PayPoint’s network of 28,000 outlets. The business is still working to “build awareness and availability of our products” with PayPoint’s retailers but describes this as “an exciting opportunity”.

I’d imagine Appreciate’s client base should be a good demographic fit with PayPoint’s, so I can see some potential here.

The group is also expanding the range of redemption options available on its gift vouchers to include dining out and experiences, rather than just retail. Recent additions include All Bar One, Toby Carvery, Canvas Holidays and Merlin Entertainments (Legoland, Madame Tussauds). New retailers have also been added.

Board change: Appreciate’s chairman Laura Carstensen has announced her intention to step down today. This appears to be an orderly transition and Ms Carstensen will remain until a replacement is appointed. I don’t see anything to be concerned about here – she’s been on the board for eight years. With the company’s turnaround nearing completion, now seems a logical time to move on.

My view: House broker Liberum has left FY22 profit forecasts unchanged after today’s update. This is broadly in line with my own view. Although growth in billings is encouraging, there was some cost inflation last year and we don’t yet know how well the company will trade in the Q3 peak trading period (Oct-Dec).

More broadly, I have some concerns about the long-term growth potential of this business.

I’m encouraged by progress in the corporate division. But I wonder if the consumer gifting and Christmas businesses will ultimately struggle to make the shift to digital. Can they attract a loyal cohort of younger shoppers and families who expect hybrid online/offline services and more seamless payment processes?

Despite this concern, my overall view remains favourable. I’m also attracted to the financial characteristics of this business, which has been extremely profitable and cash generative in the past:

If Appreciate can deliver on current forecasts, then I think the shares could be very cheap at current levels:

I’ve been following this turnaround situation with interest and the shares are on my watchlist as a potential buy.

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