With this month's company seminar I was pleased to see three familiar companies on the agenda - ones that I'd seen present before. This probably seems a little bit backward as surely I'd prefer to meet some brand-new managers and uncover another undiscovered gem or two? Well, yes, but my problem isn't a lack of investment opportunities; instead it's knowing whether or not companies have decent management who follow through on their strategic plans rather than chopping and changing. So this was my chance, with notes in hand, to hold a few directors to account and find out how well their plans played out.
Richard Wolanski, FD at Avation, has presented to a Sharesoc audience several times now with a consistent message. This is that Avation is, fundamentally, a very simple business: it buys planes in high demand, leases them to airlines for 10-12 years at a 12% yield, leverages the equity that it accrues as leases progress and uses this to buy yet more planes. Beyond the disposal of planes after two or three leases (when the cost of the plane has been returned several times over) and looking for ways to acquire new planes this is broadly all that the company does - which explains why it only has 18 employees or so. To mitigate risk Avation only owns narrow-body planes, such as the ATR-72 and Airbus A321, has 96% of debt secured at fixed interest rates (4.5% average), manages its assets to ensure a very low average fleet age of 2.8 years and has visibility of revenue with an average lease term of 7.8 years. So long as the rental checks arrive every month then there's nothing more to do operationally - and a customer has only gone bust once in the last decade.
So the company is something of a cash-cow and yet Richard remains displeased because, in his view, the shares shouldn't be trading below book value (which they are by 10-15%). The problem seems to be uncertainty regarding the valuation of planes on the balance sheet; all leasing companies have to depreciate their assets appropriately because under-depreciation boosts profits in the short-term but leads to enormous losses in the long-term when assets are written off. Fortuitously the company received an unsolicited offer for their entire turbo-prop fleet (24 planes) in October and this might just provide a benchmark for the market - even though the board don't intend to sell all of their profitable planes. If this deal goes through then the reported book-value may start to be taken at face-value and the share-price will appreciate (although it has leapt by almost 50% since the offer was announced).
In the autumn of 2015 I saw Richard present for the first time and back then he outlined how $100m of unsecured debt, at a 7.5% coupon, had been raised to finance fleet growth (towards the current level of 40 planes) with some of these jets coming via sale-and-leaseback from airlines. In this context fleet age and remaining lease term were their key metrics for success (they still are) while an improved capital structure pointed to reduced interest payments. Nothing has really changed since then, in message or execution, except the company has hit its target of having $1bn in assets and generating $100m in revenue. Now Avation are moving more towards the jet market, using planes acquired from airlines or other lessors, with an ambition of continuing to double in size every two years! In the long run the company may end up being taken over, which would please the directors and employees who own ~25% of the share capital, but for now Avation is in a sweet-spot of rising demand for air travel combining with the desire of airlines to keep their balance sheets trim and tidy.
Exactly a year ago I saw the CEO of Berkeley Energia, Paul Atherley, present at Sharesoc and he remains just as convincing now as he did back then. The unchanged pitch is that Berkeley Energia are the only company currently developing a uranium mine and, unusually, their mine is in Western Europe rather than Kazakhstan, Niger or some other politically challenging locale. This is very positive: there is excellent infrastructure in the local area and an educated, willing pool of workers just itching for employment (the mine is located in a very economically depressed part of Spain). In addition production here allows customers to earn political brownie points by taking some of their fuel from an employer that isn't actively exploiting its work-force or benefiting from child labour (both real issues in less-developed countries). Finally the government is so desperate to invigorate this zone that they're kicking back something like 10% of the development cost!
That said the background to this development is somewhat mixed as the uranium price sits at a 12-year low and the solid downtrend in place doesn't show much sign of dissipating. Even at the current spot price the mine should be profitable but it's hard to make predictions, especially about the future. On the upside China is planning to double its estate of reactors by 2020, and then double them again, as it tackles pollution and other countries are similarly bringing reactors on-line. This ties in nicely with the mine hitting full production in 2020-21 and having a 20-year lifespan with very low operating costs.
From a financing perspective Berkeley Energia knew that they needed funds last year and ended up raising $5m of royalty financing during the year and then $30m in a placing to institutional shareholders at the end of the year. This means that a decent chunk of the $100m build cost is in place with strong support evident for further raises (with Paul implying that this would only happen at a premium to the share price). It seems likely that a strategic partner will be brought on-board at some point but nothing was mentioned on this angle. Overall this continues to look like an excellent and necessary project but it'll be a good few years yet before the results of all this investment bear fruit.
I've been invested in Empresaria for a couple of years now, ever since I first saw them at Sharesoc, and have reported on them here and here. Over this time the message has consistently been one of expansion into new areas, with higher levels of profit conversion backed up by pruning lower quality offices and working to reduce indebtedness. To their credit Joost Kreulen (CEO) and Spencer Wreford (FD) have stuck to this plan and delivered a demonstrable jump in turnover, 14 consecutive quarters of Net Fee Income (NFI) growth and decent progress against their 5-year targets. To recap these are to hit a conversion ratio of 20% (now 16.6%), deliver NFI growth of 10% p.a. (actually 20%) and reduce the debt to debtors ratio down to 25% (currently 38% as a result of two chunky acquisitions).
Now there's no doubt that the debt load of Empresaria is the biggest operational concern, although the pace of acquisition runs a close second, and ironically net debt is worse than the reported £10.5m because of the Rishworth purchase last year; the company holds £5.2m in pilot bonds as insurance for clients but this cash doesn't belong to Empresaria and so total debt is £15.7m! Quite a jump from the previous year and in response the board are not planning any investments in 2017: this will be a year of consolidation and debt repayment. If all goes to plan they should get back down to the target debt ratio in 2018 which is a testament to the group's cash generating ability. That said if another quality company like Rishworth, with its mix of 100% temporary staffing over long 3-5 year contracts, came along then the directors might take a look down the back of the sofa but nothing like this is on the horizon.
So I'm pretty happy with the progress that Joost and Spencer have made in turning round what was a mixed bag of variable quality recruiters into a more focused and effective group. The acquisitions of Pharmaceutical Strategies, Rishworth and ConSol Partners have extended the reach of the group in both sector (medicine, aviation and communications IT) and geography (US and New Zealand) while being quickly earnings enhancing. It's somewhat disappointing that organic growth has been held back by permanent staffing weakness in the UK and Middle East but the board have been quick to restructure these businesses; I guess that such volatility is inevitable in recruitment and the key is to respond quickly and make sure that you're not too exposed in any single area. On that front Empresaria are doing well although, if given the choice, they'd like a greater presence in South America and in the healthcare and professional services sectors - then the group really would be diversified!
Formed in 2002 Plastics Capital is a great example of a manufactured business: here Chairman Faisal Rahmatallah observed that while most plastic companies survive on high-volume, low-margin production there is space for a different approach. In this case a focus on high-margin, low-competition technical products designed to high tolerances such as plastic bearings and hose mandrels. To create the group Faisal embarked on a heady sequence of acquisitions both before, and after, floating on AIM in 2007. The downside to this growth was that for many years the vast bulk of free-cash flow (FCF) went towards debt reduction, rather than re-investment in the business, and profits were erratic.
Fortunately the group managed to trade through these financial difficulties and is now able to spend 50% of this FCF on capex/investments with enough left over for a +3% yield. In tandem with this turnaround the board kicked off a 5-year plan in 2015 with the main objectives being to hit £100m in sales, boost EBITDA margins to 15-20% and reduce the net debt:EBITDA ratio to 1-2x. With turnover at £50m, and a full-year margin of 11.6%, clearly there is work to do but the team have identified a small number of organic growth initiatives (such as capacity expansion for mandrels and adding production in high-strength bags) as well as further bolt-on acquisition opportunities. So it looks as though the business is building up a bit of momentum.
That said Plastics Capital have, as Faisal admitted, gone through a number of strategic plans in the past without any of them quite bearing fruit. On the whole this seems to be because they didn't identify the right people to back and initiatives were starved by a lack of capex. Now that funds are available this approach has a better chance of success although it's likely that capex will remain at an elevated level for the foreseeable future in order to drive long-term growth. Still if this happens then it's likely that Faisal will hire a full-time CEO, rather than remaining as Executive Chairman and 7.5% shareholder (the largest individual holding), and the share price will be a lot higher.
Disclaimer: the author holds shares only in Empresaria out of those discussed here.