SIF Folio: Profit warnings from Bonmarchamp;eacute; and Keller + a fresh look at Morses Club

Last week’s market wobble certainly generated some column inches. The SIF folio certainly didn’t escape unscathed, giving up all the gains seen since March.

It’s too soon to say whether last week’s falls were the start of a more significant market sell-off. For now, I’m going to focus on stock-specific issues that are affecting my shares’ performance. Unfortunately, these include two recent profit warnings.

SIF performance vs. FTSE All Share 2018 YTD

Bonmarche warns on footfall

Women’s clothing retailer Bonmarche Holdings issued a profit warning on 27 September. This was particularly frustrating as I’d reviewed the firm’s performance favourably just two days earlier, following a solid Q1 update.

As the stock still qualified for my SIF screen, I’d then opted to keep the shares in the portfolio for another month.

Online vs stores: I was reassured by online sales growth of 27.3% during Q1. But I should have been more suspicious about the 1.2% fall in like-for-like store sales during the period. According to the firm, this weakness has extended into the second quarter.

Rather than blaming warm weather, management’s view is that weak footfall on the high street is the main cause. The balance sheet remains strong, so that’s not a concern. What we need to know is how easily Bonmarche might be able to start closing stores.

Are rents falling? Last year’s annual report shows that the average unexpired lease length was 3.5 years at the end of June 2018. That’s sounds reasonably flexible.

What’s worries me is that the firm only managed to negotiate an average 4% rent reduction on 42 lease renewals last year.

This seems to compare poorly with Next, which renewed 19 store leases last year and cut rent costs by 28%.

Obviously Next has considerably more heft with landlords. But is Bonmarche’s management doing everything possible to take advantage of the retail downturn and cut store costs? Like Graham Neary, I’m not convinced.

What’s the hit? Underlying pre-tax profit for the 2018/19 financial year is now expected to be £5.5m, 31% below the FY18 figure of £8.0m.

That’s a disappointing outcome. It means that Bonmarche is likely to exit the SIF fund at a loss at the end of this month.

Keller doesn’t dig Asian trading

Profit warning number two came from groundworks specialist Keller last Thursday. The shares fell by 31% in one day after the company said that its Asia-Pacific (APAC) division would not return to profit this year:

That’s a big contrast to the statement given on APAC trading at the end of July:

Weak market conditions may indeed be a problem. But I suspect this change of stance is the result of new management taking a more realistic view of existing problems than their predecessors.

The company doesn’t seem very confident that it can turn things around. Keller is now carrying out a strategic review of the affected business units. This could see the group retreat from what should have been a long-term growth market.

What’s the hit? Performance elsewhere is said to be in line with expectations. But my sums suggest pre-tax profit will now be about 15% lower than last year. Seen in this light, the share price collapse makes sense.

Unfortunately this means another thumping loss is likely for the portfolio later this month.

Morses Club is back in my screen results

In May, I looked at doorstep lender Morses Club and concluded that it could be a good fit for the SIF folio. At the time, I owned shares of pawnbroker and loan firm Hamp;T, so I ruled out Morses on the grounds of duplication.

However, Hamp;T is no longer part of the portfolio and Morses Club is now back in my screening results. So this week I’m going to take a fresh look at this doorstep lender and decide whether to add it to SIF.

I won’t repeat my analysis from May, which you can find here. Instead, I’m going to look at the firm’s recent interim results and the impact they’ve had on Morses’ value, quality and momentum metrics.

A Super Stock?

Morses’ revenue rose by 11.9% to £57.5m during H1. The group’s loan book grew by 8.4% to £68m and adjusted pre-tax profit rose by 14.1% to £10.5m.

Adjusted earnings rose by 15.8% to 6.6p per share, while the interim dividend was lifted by 18.2% to 2.6p per share.

Impairments were almost unchanged at 21.5% (1H17: 21.9%).

One slight disappointment was that customer numbers fell slightly from 233,000 to 230,000. However, if this is an indicator of more selective lending it could be good news.

The FCA issued a “Dear CEO” letter to high-cost short-term credit lenders (payday lenders) on Monday. In it, lenders were warned to take prompt action to ensure all lending activity complied with affordability criteria.

Morses claims to be a quality operator with good processes and checks in place to prevent repayment problems. So far there’s no evidence to the contrary.

Stockopedia now rates the firm as a Super Stock, with a StockRank of 98. Let’s take a look at some key financial metrics.

Value: October’s half-year results have combined with a reduced share price to improve the stock’s value metrics. On the left are the figures from May. On the right is the current ValueRank:

The stock’s trailing P/E ratio, dividend yield and earnings yield are all significantly more attractive than in May. When combined with continued growth, I hope that this less demanding valuation will provide some downside protection if market conditions remain uncertain.

I’m happy with the value situation, assuming there are no red flags elsewhere.

Quality: In May, I pointed out that Morses Club’s QualityRank might be skewed by a pro forma return on capital figure of 59% dating from before its IPO. That remains possible, but the firm has delivered steady improvements in profitability since its flotation:

Net debt remains very low and the stock’s Piotroski fundamental health score (F-Score) has risen from 6/9 to 7/9 since May.

I’m quite comfortable with the stock’s quality metrics.

Momentum: My initial takeaway from the SIF folio’s recent decline is that it highlights the risks of buying stocks whose valuations have been buoyed by strong momentum. So I’m pleased to see that Morses Club’s share price has already cooled off a little, while remaining within a longer-term uptrend:

Recent earnings upgrades mean the stock’s MomentumRank has actually improved since May, despite the falling share price:

The share price has fallen further below its 52-week high, but my hope is that positive relative strength readings mean that further gains are still possible.

My decision: Morses Club now trades on rolling forecast P/E of 9.4, with a forward dividend yield of 6.2%. This seems an attractive valuation to me, given that impairments are stable and the business is generating a 25% return on equity.

It won’t be everyone’s cup of tea, but I’ll be adding this stock to the SIF folio and to my own holdings this week.

Disclosure: Roland owns shares of Keller and Bonmarche Holdings.

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