February 2020 Portfolio Update

A very quiet month for company news but I hardly need mention the elephant in the room - which is the sharpest correction in global stock markets since the Financial Crisis due to fear around the Coronavirus pandemic. Like many others I've been doing some soul-searching this week. After all it's not like I didn't see this coming. Well not exactly this - day after day of total panic - but I did sell shares with direct Chinese exposure (Volex, Strix and UPGS) last month to avoid some of the damage. What I didn't expect was that the reporting of cases in other countries would kick out all of the stops and cause a meltdown of markets regardless of geography and sector. As a direct result of this carnage I've done exactly nothing and have actively done no trading whatsoever. My feeling is that share prices have become unmoored from reality (more so than usual) and it's impossible to sensibly trade amongst such carnage - especially at the smaller end of the market.

I appreciate that this approach doesn't suit everyone but my conclusion is that, broadly speaking, nothing has really changed with the companies that I own. For sure some of them will have some sales lost, or deferred, and profits in the short-term will be impacted. However I don't expect the pandemic to permanently disrupt their operations or cause such a liquidity crunch that they fall into administration - particularly as most of them either have net cash or low levels of debt. In other words I believe that these businesses will survive and prosper in the years to come. I've also come to realise, having invested through 2007/2008, that timing the market is not one of my strengths and that even stop-losses really don't work for me. Instead I know that psychologically I can live with wide market volatility and that dropping from +7% to -7% in a week doesn't fundamentally bother me. It's annoying but frankly I don't really care. The things that I enjoy in life continue regardless of my portfolio and no one outside of the investment community cares what the stock market is doing. For me it's useful to have this perspective and so it's business as usual - particularly as half of my holdings will be reporting in March!

To put all of this into perspective about a week ago my portfolio was up by just over 7%. Now my YTD return stands at -6.7% with a 7.0% drop in February alone. I'm pretty sure that I won't be anywhere near this figure in December but whether I end up above or below this mark remains to be seen. It's rather fortunate that Haynes came out with its sale news this month as otherwise I would have a clean sweep of losers. It feels a bit pointless to try and identify specific reasons for these declines but I would guess that SDI and GAN in particular are just giving back some of their recent gains. Ramsdens may also be down over fears around its FX business but I doubt that this time of the year is significant for foreign exchange anyway.

Here are the numbers for completeness:

Risers: HYNS 64%

Fallers: GAW -5%, GRG -7%, TM17 -8%, CCC -8%, IGR -9%, SCT -9%, III -9%, JDG -9%, FDM -12%, MGP -12%, HAT -13%, DRV -13%, QTX -13%, PPH -13%, GAMA -14%, AFX -14%, FRAN -14%, BUR -15%, SOM -15%, BOWL -17%, NRR -17%, LIO -17%, SPSY -18%, RFX -21%, GAN -21%, SDI -31%


Future Bought at 1423p - February 20

I freely admit that this was an over-exuberant purchase. I've never had a position in Future before but I know that it's performed very well in the last few years as an effect of monetising the content that it owns. This makes a lot of sense to me as unique content can be a gold-mine (thinking of Haynes as an example) if properly managed. Anyhow last week Shadowfall published a shorting dossier on Future and the shares fell - but not excessively. This week the board rushed out a trading update stating that they expect to materially out-perform current market expectations. Generally this type of update leads to a sharp price re-rating and Future have a history of putting out such updates. This is very much a signal that I look for and I like to invest on the back of such announcements. However I fear that I may have jumped the gun here as the initial positive reaction sputtered out on the day and the shares have slipped back. Hopefully a short-term set-back though as analysts should be raising their forecasts to some degree and that eventually feeds back into the share price.

RWS Holdings Bought at 597p - February 20

A few years ago I had a decent size holding in RWS but foolishly disposed of it over fears around a recent acquisition and margin pressure. Since then, of course, the company has stormed ahead with growth rates north of 30%. It's a quality outfit and I definitely took my eye off the ball. However the share price has been range bound for almost a year now suggesting, perhaps, that the valuation had got ahead of itself. With this in mind I figured that the recent slide from 670p all of the way down to 550p might be offering up an opportunity. All I wanted to see was some positive news to reassure me that nothing untoward was taking place. With this AGM Statement it seems that RWS is doing just fine with recent contract wins off-setting currency headwinds. In addition cash generation is better than expected with the group returning to a net cash position rapidly. Add on an extended, larger debt facility and I'd lay odds that RWS is on-track to announce another large acquisition. With all of this in mind I'm back in with a new holding.

Volex Bought at 150p - February 20

I sold out of Volex last month on fears around the impact of the Coronavirus epidemic. However a couple of updates from the company with regard to their Chinese factories provided me with some reassurance that the situation was improving. In essence all four of their Chinese sites have resumed operations but at reduced capacity. This is not too surprising as migrant workers returning after the New Year have to be quarantined for 14 days before they can actually go back to work. Since the last statement came out two weeks ago it's reasonable to assume that Volex operations should be on-track to handle their outstanding orders. Unfortunately if these orders are delayed there could still be an impact on profits. From this perspective I was perhaps a bit hasty with this trade but in the long-term I'm confident that the recovery will continue at Volex.

Sylvania Platinum Bought at 65p - February 20

There's no doubt that natural resource companies are way outside my circle of competence and I've had very mixed success with mining companies in the past. In addition the share price of Sylvania Platinum has come close to doubling in the past month, on heavy trading volume, as the price of platinum group metals (PGMs) has soared and a reversal is always possible. That said the forecast P/E for SLP remains astonishingly low at somewhere between 2 and 6 due to analysts doubling their forecasts for 2020/21 in the last two months. This recent improvement isn't just a flash in the pan either. Looking at the results over the past 5 years there's a clear and strong trend of self-help paying rewards as earnings have grown at double and triple digit rates. At the same time operating margin, operating cash-flow and ROCE have all risen at tremendous rates while cash now makes up a quarter of the market cap. If this wasn't a mining company then Sylvania would be a slam-dunk purchase and yet the company doesn't actually do any mining. Instead it processes the waste of other mining companies, which means that its potential resources are known, and the extraction process is well understood. On the downside all of these operations are in South Africa, where power and water shortages are an issue, but management have successfully dealt with such challenges in the past. So I've taken a small position to see how the story plays out.




Burford Capital

This was an unexpected surprise given that Burford don't put out trading statements. Apparently the board were persuaded by investor requests and rightfully so given that we own the business. In typical fashion this is an artfully written press release which trumpets the growing level of commitments and high level of cash returns. However it soon becomes clear that this is a veiled profit warning. Due to timing effects, apparently, net realised and unrealised gains for 2019 will be lower than in 2018. In itself I have no problem with this outcome as litigation concludes on its own timetable, and Burford revenue is inherently lumpy, but it is a little suspicious to have this occur in the direct aftermath of the shorting attack. Still the continuing increase in deployed funds suggests that there are plenty of customers out there looking for litigation finance and it's reasonable to expect that Burford remain picky about the cases that they accept. The bigger problem is one of liquidity since Burford can have funds tied up for years with no means of retrieval - so they need access to new sources of funding. The sovereign wealth fund helped in 2019 but it seems that the board will be tapping the bond market again for 2020. It'll be interesting to see what rate they have to pay on this debt. Anyway I'm looking forward to reading a lot of additional detail when the full results are published. (Update)

Haynes Publishing Group

Well that was quick and talk about beating expectations. Last November the board announced that the entire company was up for sale and to be honest I was disappointed. The digital transformation of the group is far from complete and analyst forecasts point towards 20%+ growth rates over the next few years. Be that as it may the board have moved rapidly to identify a willing buyer able to pay a handsome premium to the share price at any point since flotation. What they've come up with is Infopro Digital who already have a foot in the Automotive aftermarket and appear to be a very natural fit for Haynes. Clearly they see enough synergy for 700p to be an acceptable offer price with this being an immediate 62% premium to the previous share price. Personally I still think that they're getting a bargain but with 82% of all shares having been irrevocably bound to the deal there's no doubt that it will complete in April. (Update)

Quartix Holdings

These results are pretty much as expected with flat sales masking the structural changes down below. As guided by management insurance revenues are down heavily, by 30% (or £2.2m), while fleet revenues are up by 11% (or £2m) with these fleet sales now being 81% of the total. Unfortunately profits are down almost 22% as a result of insurance margins falling sharply along with a simultaneous rise in fleet customer acquisition costs. This is a bit of a surprise but looks to be a one-off change given that analyst forecasts are for modest profit growth in the next couple of years. It's fair to say that such limited growth doesn't sit well with a P/E rating of ~32 but there are a couple of reasons for this disconnect. One is that Quartix has always been a high-margin affair with limited capital requirements which translates into high levels of free-cash flow conversion. In addition the business is intentionally growing its fleet subscription platform and the associated recurring revenues - which is very much a SaaS model. The only problem with migrating to this model is that present-day revenue takes a hit as sales are deferred until a future period. This is exactly the problem that the Quartix board are grappling with and up until now they've done an excellent job of navigating this strategic change while keeping investors fully informed. I expect this to continue with the CEO holding 37.25% of the shares.(Results)

PPHE Hotel Group

Over the last three years the board have spent over £100m on asset upgrade projects with this boosting sales as the guest experience has improved. In this light the £300m development pipeline in London, New York and Eastern Europe suggests a bright long-term future for PPHE. Obviously travel disruption related to the Coronavirus outbreak may hit profits in the short-term but so far the year has proceeded in-line with expectations. The key indicator that management knows how to manage hotels successfully is the RevPAR figure (up 5% to £103.70) with this the product of occupancy and average room rate. The former is up 1.6% to 80.7% while the latter improved 3.4% to £128.50 despite some FX headwinds. One reason for this operational performance may be that PPHE are active in the whole value chain, from development to hospitality. This should allow for rational investment decisions, at the expense of tying up capital, and so far this hypothesis has been borne out in practice. On this front it's notable that the group have in-sourced housekeeping services at their UK hotels allowing greater control over standards and mitigating the effect of pressures in the labour market (not least from Brexit). This is all very sensible and I remain optimistic for the future with PPH.(Results)

Disclaimer: the author holds, or used to hold, all of the shares discussed here

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