Sell discipline

Hi,

If you held the below companies, would you sell or hold?
i.e. Is it enough of a no-brainer to make a decision without knowing the company names, sectors or further information?

I am happy to disclose the company names later - just wanted to avoid any preconceptions and I appreciate this is all backward looking data aside from EPS (but maybe this avoids susceptility to company brokers / spin-doctors?).

Ben

Name Lease-adj ROCE 5y %chg (7x, 7%) Return on Equity 5y %chg PE % of PE 5y av. FCFf (m) % of 5y ago FCFf (m) % price chg 5y 3y fc EPS % of 2y ago EPS Lease-adj ROCE (ex goodwill) 5y av. (7x, 7%) Lease-adj ROCE (7x, 7%) Return on Equity 5y av. Piotroski F-score / 5y ago Piotroski F-score Piotroski F-score 5y ago Piotroski F-score
Company1 -94.4 -65.1 225% 34% 251 216% 14.9 1.4 37.6 0.66667 4 6
Company2 -50.1 -31.9 106% 479% 155 180% 30.4 12 20.5 1 7 7
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Hi Ben,

Very interesting exercise. Let me see what I can deduce!

Company1

  • Lease-Adj ROCE (ex-goodwill) 5yr av. of 14.9 is lower than ROE 5yr av. of 37.6, and suggests notable debt.

  • Lease-Adj ROCE of 1.4 is lower than Lease-Adj ROCE (ex-goodwill) 5yr av. of 14.9, and suggests notable goodwill.

  • FCFf (m) % of 5y ago FCFf (m) of 34% indicates notable reduction to free cash generation.

  • Lease-adj ROCE 5y %chg (7x, 7%) of -94.4 suggests notable investment has yet to deliver commensurate higher earnings.

  • PE % of PE 5y av. of 225% suggests notable share-price re-rating.

Company2

  • Lease-Adj ROCE (ex-goodwill) 5yr av. of 30.4 is higher than ROE 5yr av. of 20.5, and suggests notable goodwill and no debt (I think).

  • Lease-Adj ROCE of 12 is lower than Lease-Adj ROCE (ex-goodwill) 5yr av. of 30.4, and suggests notable goodwill.

  • FCFf (m) % of 5y ago FCFf (m) of 479% indicates a notable improvement to free cash generation.

  • Lease-adj ROCE 5y %chg (7x, 7%) of -50.1 suggests significant investment has yet to deliver commensurate higher earnings

  • PE % of PE 5y av. of 106% suggests share-price has not re-rated.

Verdict

Company1 uses debt to fund acquisitions for growth. Poor FCF probably reflects recent acquisition spend. But the market seems happy.

Company2 appears to have the better capital structure, but likes acquisitions as well. Cash generation has improved. Share price has climbed but the market not really given a re-rating.

The declines to ROCE/ROE over the last 5 years indicate notable investment (acquisition?) occurring at both companies. I wonder if Company1 is using debt to grow while Company2 is issuing equity.

Overall I would prefer Company2 to Company1.

Without the company names and sectors, I would need more financial information for a more informed judgement. But even with 5 years of complete accounts, we can only glean so much. We could spot poor accounts, but knowing exactly what the business does helps us to understand whether great accounts are likely to remain great.

Maynard

PS well done on the table formatting :grinning:
PPS now slightly concerned that when you reveal the company names, my guesswork is completely wrong!

1 Like

Hi,

Yes, I was rediculously proud of the table formatting! :grinning:

You may be relieved to know your analysis is very good.

Both companies concerned me due to their lack of recent organic growth (despite Covid) and that they may well be following the (risky) Rentokil route of growth through acquisition whilst potentially being currently overpriced due to the crowded trade in ‘quality companies’.

For Company1, debt has increased to £93m but for a £1.1bn mkt cap company this should not be too much of a problem. There is goodwill of £21m against net assets of £180m.fcff has reduced dramatically.

Another area of concern for me was co adj eps vs reported eps, as below;

Yes, there has been a spare price re-rating, in part due to the divestment of it’s milk equipment business being preceived as increasing quality. The company is … Avon Rubber.

For Company2, yes, effectively no debt. There is large goodwill of £250m against £400m nav.
Same problem with co adj eps vs reported eps as with Avon in recent years, albeit to a lesser degree;

Company2 is…RWS Holdings.

I would prefer RWS over Avon however I’ve recently sold both of them.

The problem I now have is finding somewhere to put the proceeds…

Thanks for taking a look,

Ben

Understandable decision. Always have to be careful with acquisitive companies for the reasons you suggest. Never looked at Avon, but RWS I am vaguely familiar with and its purchases are becoming larger every year. Not the bolt-ons that operators such as Halma tend to prefer. Relieved that my guesswork was accurate! Thanks for letting me know and including the charts.

Maynard