Our annual Bargain Shares Portfolio is based on a simple idea: to invest in companies where the true worth of the assets is not reflected in the share price, usually for a temporary reason, but where we think the market may wake up to that value in good time.
Our portfolios are based on the investment ideas of Benjamin Graham (see box ‘Rules of Engagement’) and the performance over the 19 years in which we’ve run them suggest these approaches remain as effective as ever, beating the FTSE All-Share index 15 times. During that time, they’ve generated an average return of 21 per cent in the first 12-month holding period, compared with an average increase of 4.5 per cent for the FTSE All-Share. My 2017 motley crew of bargain shares proved no exception, generating a 12-monthly total return of 30.4 per cent on an offer-to-bid basis and including dividends, massively outperforming the 10.7 per cent total return on a FTSE All-Share tracker ETF, the index against which we benchmark our annual performance.
That’s not to assume that this investment strategy is a dead cert. Investing rarely is. Take 2016’s portfolio, for example, which while returning 11 per cent that year lagged behind a FTSE All-Share tracker – the problem then was a lack of exposure to the resources sector, and the mining sector in particular, which had a storming year and buoyed the return on the index. Furthermore, the 2016 portfolio subsequently delivered hefty gains in its second year and has now produced a total return of 46 per cent, or nearly 9 percentage points more than from a FTSE All-Share tracker ETF in the two-year holding period.
If you want to learn more about how Simon chooses his Bargain Shares portfolio and his assessment of his portfolio's performance in 2017, listen in to our free IC Companies & Markets podcast in which editor John Hughman interviews Simon on Bargain Shares.
|Bargain Shares Portfolio 2018|
|Company name||TIDM||Market||Activity||Offer price (p)||Market value (£m)||Bargain rating|
|Crystal Amber||CRS||Aim||Activist investor||210||205||1.0|
|Shore Capital||SGR||Aim||Investment bank and asset manager||216||46.6||0.8|
|Conygar||CIC||Aim||Property investment and development||158||104||0.6|
|Parkmead||PMG||Aim||Oil and gas exploration and development company||36.4||36.0||0.4|
|Sylvania Platinum||SLP||Aim||South African producer and developer of the platinum group metals||14.5||41.6||0.3|
|U and I Group||UAI||Main||Specialist regeneration and property developer||206||258||0.3|
As usual, the hidden treasures we have uncovered are found amongst the under-researched small and micro-cap segment. The handsome rewards we’ve reaped over the years from this small-cap approach justifies our long-term bias here, but remember that it cuts both ways: when smaller companies disappoint they can be punished more severely than their large-cap counterparts given the less liquid nature of these shares. The flipside is that when we get it right the long-term outperformance can be substantial, as our track record demonstrates.
It’s worth pointing out that no portfolio can be immune to a market crash. The global financial crisis of 2008 wreaked havoc with our Bargain Shares portfolio that year, but readers who kept faith subsequently recovered all their paper losses, which again highlights the solid asset backing of the companies and the strength of the Bargain Shares methodology. In fact, two of those companies from the 2008 portfolio – Indian Film Company and Raven Mount – both succumbed to takeovers, as rivals woke up to their hidden value. Merger and acquisition (M&A) activity has been a regular feature of all our portfolios, as predators, attracted by the asset backing on offer, run their slide rule over the numbers. It’s understandable as in some cases valuations are so depressed that we are getting all the fixed assets in the price for free, thus offering the substantial “margin of safety” Benjamin Graham was aiming for.
So having run the rule over 1,700 listed companies on Aim and the main market of the London Stock Exchange, I’ve once again uncovered a portfolio of companies where the asset backing should be strong enough to overcome any short-term trading difficulties and, in time, reward long-term value investors.
Aim: Share price: 158p
Bid-offer spread: 154-158p
Market value: £31.9m
I strongly feel there is a lucrative valuation anomaly to exploit in the shares of Mpac (MPAC), a small-cap packaging engineering company that has completed some important disposals. I have history here as in its former guise, Molins, I included the shares in my 2012 Bargain Shares Portfolio at 107p, enjoyed an 82 per cent surge in the share price by the end of the following year, before a series of trading setbacks sent the shares tumbling and prompted my exit in the autumn of 2014, marginally below my advised buy-in price ('Molins profits go up in smoke', 14 Oct 2014). My concern at the time was the scale of the deterioration in the company’s tobacco machinery division as customers delayed equipment orders. It was justified, as trading deteriorated even further and the shares continued to head south.
However, the company is a completely different proposition now. That’s because Mpac’s management sold off its underperforming tobacco business for £30m in cash last summer to recoup the book value of the assets after accounting for £2.7m of fees and taxation. A further £2.7m of the cash was paid into the company’s UK pension fund, and £1.5m set aside for warranties and indemnities pursuant of the sale. That left £23.1m of cash, a healthy sum in relation to Mpac’s current market value of £33.3m. In addition, the company has just completed the disposal of a packaging facility in Ontario, Canada, for a net £5.9m, a sum well in excess of the £1.5m book value of the assets. Mpac will pay £350,000 a year to lease out a newly built plant instead. After fit-out costs the disposal boosts the company’s cash pile by £4.9m to £28m, a sum worth 139p a share, so 87 per cent of the current share price is backed by cash.
That’s rock solid asset backing and there’s still an outside chance that the company could yet reap a windfall from a slimmed-down residential planning application on a 10-acre site it owns in Buckinghamshire that’s surplus to requirements. An application for a mixed 131-unit scheme on the greenbelt land was turned down by the Secretary of State at the end of July 2017, but there may be scope to resubmit a slimmed-down version of the application for fewer houses.
Importantly, prospects are robust for the company’s remaining businesses, which supply high-speed packaging equipment and machinery. In the six months to the end of June 2017, Mpac’s revenue surged by 40 per cent to £25.4m, buoyed by a trebling of sales in Asia Pacific to £5.6m, and 58 per cent top-line growth to £9.5m in the EMEA [Europe, the Middle East and Africa] regions. Turnover was flat in North America, the largest market segment, but the company was facing pretty tough comparatives there. More significant is that order intake is supportive of full-year expectations that point towards underlying pre-tax profit rising from £0.9m to £1.1m on revenue of almost £48m, as analysts at Panmure Gordon predict. On this basis, expect a 39 per cent hike in EPS to 5p when Mpac reports its full-year results next month.
Critical to this growth, and forecasts that Mpac can grow revenue by 8 per cent in both 2018 and 2019, is demand from the pharmaceutical, healthcare, nutrition and beverage end markets that the company services. These markets are expanding at around 5 per cent a year, according to chief executive Tony Steels, and have attractive underlying long-term growth drivers such as urbanisation, convenience and health awareness. Mr Steels, who has led the company’s restructuring since his appointment in May 2016, has an ambitious medium-term target to grow revenue annually at an organic rate of 10 per cent, and generate a 10 per cent return on sales. It will take some doing, but if it can be achieved the shares will clearly warrant a price well in excess of Mpac’s last reported net asset value (NAV) of 203p.
That’s because as sales rise, and operational gearing of the business kicks in, then profit will rise sharply too. This explains why Panmure expects Mpac’s underlying pre-tax profit to ratchet up to £2.6m in 2018 and to £3.6m in 2019, an outcome that should drive up EPS to 10.4p and 14.7p, respectively. Analysts Paul Hill and Hannah Crowe at Equity Development have similar forecasts based on Mpac’s forecast operating margin of 2.1 per cent last year, doubling to 4.6 per cent in 2018, rising again to 5.7 per cent in 2019. In other words, even without deploying its hefty war chest of cash on bolt-on acquisitions, there is potentially a strong organic growth story unfolding here, and one that should support the reinstatement of the dividend as and when profits hit a meaningful level.
So, with earnings-accretive acquisitions in the packaging sector on the cards, a new senior management team in charge, and the shares trading on 11 times next year’s earnings estimates, I feel the heavily cash-backed shares are well worth buying.
Crystal Amber (CRS)
Aim: Share price: 210p
Bid-offer spread: 206-210p
Market value: £205m
Activist investment company Crystal Amber (CRS) was one of the constituents of my 2015 Bargain Shares Portfolio when the shares could be purchased for just shy of 150p. They performed well until May last year when the share price peaked at 248p, driven by substantial valuation gains. In fact, the company’s 36 per cent total return in the 12 months to end-June 2017 made it the seventh best performing trust among the 119 UK investment trusts covered by Trustnet.
A key driver behind the stellar NAV performance was Crystal Amber’s largest holding, Hurricane Energy (HUR), a £750m market cap oil exploration company that is building up a huge resource base in a strategically important part of the North Sea by targeting naturally fractured basement rock reservoirs in the West of Shetland. It controls 728m barrels of certified resources, including 62m barrels of reserves. I am bullish on prospects for Hurricane, and it’s in a strong financial position too, having raised $300m (£216m) in a placing at 32p a share, and $230m through a convertible bond last year. The proceeds of the placing are being used to fund the early production system development of the company’s Lancaster field, which is expected to produce 17,000 barrels of oil per day, and provide data required to plan a full field development.
However, Hurricane’s share price reacted badly to the fundraisings, which dragged down Crystal Amber’s price too. It was not surprising given that the shares offered in Hurricane’s placing were priced at 32p, or less than half the 68p share price high last May. It also meant that despite an excellent exploration campaign over the past 18 months, at that low point Hurricane’s enterprise valuation was less than the total amount of capital it has raised from investors since inception. Importantly, it appears that investors are regaining their poise, with Hurricane’s share price rising by a third since the start of the year as the focus returns to the company delivering its first oil in the first half of next year. Moreover, there is still significant upside with its current share price of 39p well below Arden Partners’ risked NAV of 66p a share, and 73 per cent below its unrisked NAV of 147p a share based on a $60 per barrel long-term oil price.
By my reckoning, Hurricane’s share price recovery has added 13p a share to Crystal Amber’s last reported NAV of 190.6p a share, and the fund’s 8 per cent shareholding in Hurricane accounts for 62.8p of my pro-forma NAV estimate of 211p a share.
Crystal Amber’s other major holdings include a 5.2 per cent stake in van hire firm Northgate (NTG), a 15 per cent holding in foreign currency payment services provider FairFX (FFX), a 14.5 per cent stake in media group STV (STVG), a 2 per cent holding in cyber security firm NCC (NCC), and a 0.5 per cent stake in online food retailer Ocado (OCDO). Shares in Ocado surged by more than a quarter last week on news of an agreement with Sobeys, Canada’s second-largest food retailer. The group operates more than 1,500 stores across the country, generating sales of C$23.8bn (£13.7bn) in 2017.
Combined, these five holdings account for 95.5p a share of Crystal Amber’s NAV. The fund has some extra cash to invest too as the recent partial cash offer for waterfront regeneration specialist Sutton Harbour (SUH) released 8p a share of Crystal Amber’s NAV into cash. It’s not a one-off as Crystal Amber has a history of backing companies that have been taken over.
So, with its largest holding in recovery mode, and the portfolio of investee companies looking promising too, I feel that Crystal Amber’s shares, which also offer a dividend yield of 2.5 per cent, are worth buying once again.
Shore Capital (SGR)
Aim: Share price: 216p
Bid-offer spread: 200 -216p
Market value: £46.6m
Investors are placing an incredibly cautious valuation on shares in Shore Capital (SGR), an investment bank and asset manager with offices in Guernsey, London, Liverpool, Edinburgh, Berlin and an affiliate office in Dubai.
Not only is the company’s market capitalisation of £45m almost a third below its last reported net asset value of £66m, but the balance sheet includes some rock solid assets, including: £31.5m of net cash; £1.6m of gilts and bonds; £3.6m of quoted equities; £4.1m in various Shore Capital Puma Funds; £3.1m of unquoted holdings; and £5.7m in a social care joint venture, Puma Social Care Investments, that’s acquired six properties providing residential accommodation for individuals with learning disabilities.
In aggregate, cash and the aforementioned investments are worth almost £50m, or £3.4m more than Shore Capital’s own market value of £46.6m. This means that after taking into account £10.3m of borrowings on the company’s balance sheet, Shore Capital’s current market capitalisation is attributing a value of just £7m to its operating businesses, a harsh valuation considering these make £5m of pre-tax profit a year.
Shore Capital has a broad-based offering of activities, which diversifies the revenue and profit mix. The company is the fourth-largest market maker on the London Stock Exchange by number of stocks covered; has more than 70 retained corporate clients and worked on transactions raising more than £5.35bn in equity capital markets since January 2014; and offers equity research on more than 200 companies to an extensive institutional client base.
In asset management, Shore Capital has been managing alternative assets since 1996 when it launched its first fund, and now has in excess of £800m of assets under management. The business is focused on development capital and real estate for institutional investors, and private client investments on the retail side. For instance, Shore Capital has raised in excess of £220m for its 13 Puma Venture Capital Trusts (VCTs) since 2005, and distributed over £100m back to those investors. It’s been successful as each of its first five Puma VCTs led their peer group for total returns.
The company has utilised the team’s strong track record and expertise in asset-backed investing by launching an Enterprise Investment Scheme (EIS) portfolio service under the Puma brand. It now manages £53m of funds for those clients. The company’s Puma Aim Inheritance Tax Service is worth flagging up too. Launched in June 2014, it delivered a 67.3 per cent return over the next three years, massively outperforming the 23 per cent return on the FTSE All-Share index.
And shareholders are not being left out as the board declared a final dividend of 5p a share in the 2016 financial year. With chairman Howard Shore, who founded the company in 1985, retaining 8.94m of the 21.57m shares in issue, it’s fair to assume that the dividend, covered 2.7 times by underlying EPS of 13.4p in 2016, will be maintained when the company reports its 2017 full-year results at the end of March.
True, around 70 per cent of the issued share capital is held by the company’s six largest shareholders, which reduces liquidity, and means share price moves can be accentuated. However, Shore Capital is likely to have performed well in the second half of last year given the buoyant backdrop for its market making and corporate fundraising activities, so this could work in our favour. Ahead of next month’s full-year results, the chronic undervaluation of the shares is worth exploiting. Buy.
Aim: Share price: 158p
Bid-offer spread: 154-158p
Market value: £104m
There is undoubtedly value on offer in the Aim-traded shares of property vulture fund Conygar (CIC), which trade on a 22 per cent discount to the company’s last reported NAV of 203p.
Last year’s £130m disposal of its investment portfolio to Regional REIT (RGL), a property company that owns a £700m-plus portfolio of UK commercial property, predominantly office and industrial units in regional centres outside the M25 motorway, left Conygar’s balance sheet debt-free and with a £37m cash pile available for acquisitions at the end of September 2017. The company also received 26.32m of new shares in Regional Reit as part of the transaction on which it receives annual dividend income of almost £2m, thus covering 75 per cent of its own administration costs. This means the £37m cash pile and the £27m shareholding in Regional Reit account for half of Conygar’s NAV of £136m, giving the board substantial firepower to make opportunistic acquisitions.
The directors wasted no time, acquiring a 37-acre site for £13.5m in Nottingham that was formerly the Boots HQ. Located close to the train station, Conygar will be submitting an outline planning application early this year for a 2m sq ft development encompassing a mixture of office, residential, student accommodation and leisure facilities. It’s an exciting development prospect, and one that accounts for 20 per cent of Conygar’s £71m portfolio of investment and development properties.
Other major developments include the construction of a 106,000 sq ft retail development at Cross Hands, South West Wales, of which the 65,000 sq ft initial phase completed last autumn. Around 80 per cent of the whole project is now let and retail tenants include national retailers B&M, Iceland, Pets at Home, Costa Coffee, and Dominos. The aim is to have the full site let out this year, thus offering upside to the £8.1m carrying value of the development in Conygar’s accounts.
Discount retailer B&M has also agreed a pre-let on another one of Conygar’s developments, a two-acre site in Ashby-de-la-Zouch, Derbyshire. The company is submitting a planning application for a 20,000 sq ft store, and a 7,500 sq ft garden centre, with a view to construction work commencing in early spring. Interestingly, Conygar received an unsolicited offer of £4.35m for the 11,000 sq ft pre-let M&S store it had developed on an adjoining site, representing a hefty premium to its £3.55m carrying value. The disposal completed last November to further boost Conygar’s cash pile, and adds 1.2p a share to its NAV. The fact that the company is achieving sales at premiums to book value not only highlights the potential valuation upside to the pre-let B&M development, but at other sites too. For instance, Conygar has agreed a 25-year lease with budget hotel operator Premier Inn for a new 80-bedroom hotel at the Parc Cybi Business Park, Anglesey. Construction is expected to commence shortly.
The point is that the company is well funded to roll out all these developments, all of which offer potential to generate bumper profits. The same is true of its flagship project at Haverfordwest, Pembrokeshire. The 93-acre site is held in the accounts at £22m, implying that ‘oven-ready’ residential land is in the books for a modest £30,000 per plot. The company has been working with a national housebuilder on a masterplan of the entire residential scheme, and intends to submit a ‘reserved matters’ application to the planning authorities for the first phase of the development this year. Positive newsflow here can only be good for the share price. Conygar will also be submitting a fresh planning application for a development for the retail element on the site.
Sensibly, Conygar has been using some of its cash pile to make accretive NAV-per-share buybacks. Since the 2017 financial year-end, it has acquired a further 1.07m shares, or 1.6 per cent of the shares capital, at prices between 155p and 163p, the effect of which is to boost NAV per share by 1.1p. The board of directors own 11.3 per cent of the equity, so there is strong incentive for them to continue with the buyback programme as it not only enhances NAV per share, but creates a floor for the share price.
The bottom line is that with the company adding value to its development portfolio, and selling properties above their carrying value, Conygar’s share price should not be trading on a 25 per cent discount to house broker Liberum Capital’s end-September 2018 forecast NAV of 210p a share. To put the undervaluation into some perspective, analysts at Liberum note that the average share price discount to NAV is less than 4 per cent for the UK Small and Mid Cap Reits. Add to that the fact that half the company’s share price is backed by cash and the shareholding in Regional Reit, and Conygar’s shares are worth buying.
Aim: Share price: 27p
Bid-offer spread: 25.5-27p
Market value: £57.2m
Aim-traded specialist bank PCF (PCF) increased underlying pre-tax profit by a quarter to £5m in the 12 months to end-September 2017, and prospects for the current financial year are just as promising. However, this is not being reflected in the valuation, with the shares rated on a modest 13 times historic earnings and 1.5 times book value even though lending volumes are set to ramp up sharply after it was granted a banking licence last summer.
PCF has around 12,000 customers, three-quarters of which are on the retail side and borrow an average loan of £11,500, mainly to finance second-hand motor vehicles. The balance of its lending is to small- and medium-sized enterprises (SMEs) that raise finance for commercial vehicles and plant with an average loan size of £30,700. The increase in new business originations, up almost a quarter to £85m in the latest 12-month trading period, was mainly driven by SME lending and in line with the 20 per cent growth in total receivables. The £146m loan book is split equally between the two divisions. It’s a highly profitable operation as a 12 per cent post-tax return on equity highlights.
Importantly, PCF is not chasing volumes at the expense of credit quality: the impairment charge fell by half to a record low of 0.5 per cent of the average loan book in the latest reporting period, suggesting better credit quality. And with £53m of retail deposits being received in the first nine weeks after PCF commenced banking operations last summer, credit quality is likely to improve even more. That’s because the savings product has a blended interest rate of 2 per cent, well below PCF’s current cost of funding of 5.6 per cent, highlighting potential to recycle low-cost deposits into higher-grade customer lending [that were previously deemed uneconomic] while maintaining a net interest margin of 8 per cent.
Furthermore, the company is well funded to achieve its internal target of ramping up total receivables to £350m by 2020. Following a £10.5m equity raise at 25p in April last year, PCF has a tier one equity ratio of 26.3 per cent, suggesting the balance sheet is adequately capitalised to support a further £200m of retail deposits required for it to hit that £350m lending target by September 2020. If achieved then analyst Robert Sanders at Stockdale Securities believes that PCF’s pre-tax profits will double to £10m by 2020, and net assets will increase by half to £57.6m, implying it will generate a post-tax return on equity of almost 15 per cent.
Clearly, there is execution risk in this growth strategy. However, the expansion led by chief executive Scott Maybury has been reassuringly impressive to date. Also, the company has steered clear of offering finance through personal contract purchase (PCP) plans. This is a form of finance that has been widely used by consumers to fund new car purchases and where the lender is exposed to used car prices falling below guaranteed residual values. PCF’s consumer motor division only finances used vehicles on fully amortising hire purchase contracts, so has absolutely no exposure to PCPs.
A hard ‘Brexit’, or an economic downturn are risks to consider, too, as this would dampen demand for loans from both of PCF’s markets. However, I feel the risk premium embedded in the company’s current valuation is factoring in far too much economic risk and that the shares, which also offer a small dividend yield, are unlikely to be languishing on the stock market forecourt in 12 months’ time. Buy.
Main: Share price: 160p
Bid-offer spread: 154-160p
Market value: £17.5m
It’s not often that a company’s shares are rated on less than 10 times historic earnings after it has posted record annual results for the fourth year in succession, but that’s what’s on offer at Colchester-based Titon Holdings (TON), a little known small-cap designer and maker of domestic ventilation systems, and door and window hardware.
The company was formed 45 years ago, but the performance in recent years is what catches the eye: Titon has increased annual revenues by over 75 per cent to £28m since September 2013, including 18 per cent growth in the last financial year, a performance that has seen pre-tax profits rise fivefold to £2.5m. Titon may be a minnow of the stock market, but it’s proving an absolute titan in South Korea, its largest market and one accounting for two-thirds of the company’s pre-tax profits. Its 51 per cent-owned South Korean subsidiary, Titon Korea, manufactures natural window ventilation products and boasts a 75 per cent share of the national market. Revenues from this unit surged by a third to £9.5m last financial year, accounting for a third of Titon’s annual turnover, and at a healthy margin too: the subsidiary earned Titon post-tax profits of £821,000.
The demand for products in South Korea has been driven by the introduction of building regulations for ventilation which specify that all new houses and apartments have to be adequately ventilated. The use of natural ventilation products over mechanical ventilation has been championed by the major South Korean social housing authorities and it is predominantly this factor that has helped Titon achieve high levels of growth over the past few years. Moreover, the market for its products has been boosted by the private housebuilding sector embracing window ventilation products, in preference to mechanical systems, in order to reduce construction costs. Titon Korea does not sell mechanical ventilation, so is well placed to benefit from this change.
Titon also has a 49 per stake in an associate company, Browntech Sales, which distributes ventilation products, and generates further revenue through residential property development activities in Seoul. It has three schemes on the go at present, all of which are expected to complete this year and generate profits for Titon. In fact, chairman and 8.9 per cent shareholder Keith Ritchie “expects another first-class year for Titon Korea and Browntech Sales”. He has reason to think this way as the Korean economy, the 12th largest in the world, is producing robust economic growth. Annualised GDP rose by 3.6 per cent in the third quarter last year, and economists are predicting another strong showing this year, and next, pencilling in an aggregate 5.5 per cent increase in economic output over the two-year period. Mr Ritchie says that the ongoing political spat between North Korea’s Kim Jong-un and US President Donald Trump has “made very little impact in economic terms”.
The company’s UK operations account for half of turnover, and make about £0.8m of annual pre-tax profit. Operating as a leading supplier of background ventilators in a market where air tightness standards for buildings is supported by changes in UK building regulations, Titon has introduced innovative low-energy mechanical ventilation systems, and provides a comprehensive design service to its customers. However, the real growth story is in the Far East.
Importantly, the key financial performance indictors I look out for make for an impressive read too. Reflecting improved working capital management, and a focus on cost control, Titon generated £2.2m of cash from operations last year, a performance that enabled the company to spend £520,000 on capital expenditure and still increase closing net funds by a third to £3.27m, a sum worth 30p a share. In turn, the robust cash flow generation allowed the board to raise the full-year dividend per share by a fifth to 4.2p, a payout covered almost four times over by EPS of 16.55p. The burgeoning cash pile suggests that another decent dividend hike is likely this year if sales momentum is maintained.
The balance sheet is in a rude state of health, with current assets of £14.7m – three times higher than current liabilities – indicating a strong working capital position and one able to support further orders. Titon is using its capital employed efficiently, as its capital turn (calculated by dividing revenue by capital employed) of 2.3 times clearly suggests. The fact that the company’s return on capital employed has been maintained at 15 per cent indicates the high returns shareholders are receiving, as does the near-10 per cent rise in net assets to £16.2m in its accounts to end-September 2017, a sum worth 148p a share, or 90 per cent of the current share price.
It’s also good to see the directors, who hold a third of the issued share capital, being sensibly rewarded, so the interests of the insiders and outside shareholders look well aligned. The fact that the board decided to mothball a new commercial ventilating venture at a cost of £370,000 last year (because it was unable to establish an economic niche in its market place) is also worth flagging. That’s because the absence of this one-off expense in the current financial year will accentuate the upward profit trend.
Titon may be under the radar, but its share price has potential to be a titan of the portfolio this year. Buy.
Parkmead Group (PMG)
Aim: Share price: 36.4p
Bid-offer spread: 36 -36.4p
Market value: £36m
It’s pretty rare for shares in a company to be priced on a 50 per cent discount to risked NAV when 85 per cent of the share price is backed by cash on the balance sheet, and liquid resources. However, that’s what’s on offer at Parkmead Group (PMG), a small-cap oil and gas exploration and development company led by 19 per cent shareholder Tom Cross, the founder and former chief executive of Dana Petroleum until its sale to the Korea National Oil Corporation in 2010.
Parkmead produces gas from a portfolio of four fields across the Netherlands, and holds oil and gas interests spanning 26 exploration and production blocks in the North Sea, several of which have potential to be transformational for the company, albeit this is not being recognised by investors right now. That’s because once you strip out net funds of £26.4m from the company’s market capitalisation of £36m, and take into account its £4.4m shareholding in oil and gas producer Faroe Petroleum (FPM), a company I have a positive view on, then effectively Parkmead’s exploration assets are being attributed a value of just £5m, a tiny fraction of their balance sheet value. It’s not as though they don’t have some worth.
For instance, the company holds a licence over Block 2015/13 of the major Sanda North and South structures, which have potential to contain 280m barrels of recoverable oil. The prospect is situated in the Faroe-Shetland Trough in the West of Shetland region and is located to the north-east of the Lancaster field being developed by Aim-traded Hurricane Energy (HUR). The Sanda prospects have been de-risked through the drilling of a previous well, and Parkmead’s experienced team of geoscientists has undertaken extensive seismic reprocessing work on the licence and acquired detailed geochemical data from the previously drilled well. This new data is being analysed to further de-risk the target ahead of a drilling decision being made.
Sanda is not the only field with potential, as Parkmead has established a key position in the UK Central North Sea following a series of licensing round successes and strategic acquisitions. The company has interests in eight licences, of which Faroe is invested in seven, including some in the Perth and Dolphin fields in the Moray Firth area, which contains very large oil fields including Piper, Claymore and Tartan. Perth and Dolphin are two substantial Upper Jurassic Claymore sandstone accumulations that have tested 32-38° API oil at production rates of up to 6,000 barrels of oil per day (bopd) per well. As a result of increasing its equity in these licences to 60 per cent, Parkmead has boosted its total proved and probable (2P) reserves by almost a fifth to 27.9m barrels of oil equivalent (boe).
Progress is also being made on the Platypus gas field in the UK Southern North Sea in which Parkmead has a 15 per cent equity stake alongside Dana Petroleum, the operator and 59 per cent stakeholder. Detailed development concept work has found that, by collaborating with other facilities in the area, a minimal platform concept can be adopted, substantially reducing development expenditure. In addition, the field’s gas reserves can now be recovered from two rather than three development wells. The joint venture partnership holding the licence is working towards optimising the export route for Platypus ahead of an offtake agreement.
Positive newsflow on any one of these fields could easily fuel a substantial share price rally to narrow the huge gap to house broker Panmure Gordon’s risked tangible NAV of 72p a share. The brokerage’s unrisked NAV is almost 300p a share, highlighting the potential for significant longer-term upside. I also feel that investors have yet to cotton on to the fact that Parkmead reported a gross profit for the first time last year on the back of the strong performance of its Dutch gas operations. Net cash outflow from operating activities was just £400,000, a marked improvement on the previous financial year, enabling the company to retain a strong cash position.
Importantly, the resurgent oil price – Brent Crude has risen by more than 50 per cent since last summer – makes the economics of oil exploration and development far more attractive, which is why there has been a sharp rerating in the three other small-cap oil and gas plays I follow closely: Chariot Oil & Gas (CHAR), Bowleven (BLVN) and Faroe Petroleum (FPM). To date, Parkmead has missed out on the sector rally, leaving its shares ripe for a rerating. Buy.
Sylvania Platinum (SLP)
Aim: Share price: 14.5p
Bid-offer spread: 14-14.5p
Market value: £41.5m
Sylvania Platinum (SLP) is a fast-growing and low-cost South African producer and developer of platinum group metals (PGMs) platinum, palladium and rhodium, with two distinct lines of business: the re-treatment of PGM-rich chrome tailings material from mines in the North West Province; and the development of shallow mining operations and processing methods for low-cost PGM extraction.
The company’s dump operations comprise seven active PGM recovery plants that treat chrome tailings from surrounding chrome mines across the western and eastern limbs of the Bushveld Igneous Complex. The chrome tailings re-treatment plant is located at Kroondal on the western limb, and is managed by Aquarius Platinum Corporate Services. The operations are hugely profitable. Buoyed by a 17 per cent rise in production to 70,869 ounces of PGM, the fourth consecutive year of record output, the company’s dumping operations produced cash profits of $20m (£14.8m) at a margin of 40 per cent on revenues of $50.5m in the 12 months to end-June 2017.
Cash costs were half the gross basket price of $935 per PGM ounce achieved, enabling the company to generate $18.8m of cash from operations before movements in working capital. In turn, net cash on Sylvania’s balance sheet ballooned by over $8m to $14.8m in the 12-month period, and that’s after taking into account the planned investment in ramping up output from the company’s Millsell and Doombosch facilities. The aim of the investment there is to replace the output lost from its Steelport operation, which came to the end of its life last summer.
In addition, the company paid $6.3m a few months ago to acquire Phoenix Platinum Mining Proprietary, a PGM dump operation with an operational concentrator plant and 2.4m tonnes of tailings dump resources of a similar grade and recovery potential as Sylvania’s neighbouring Mooinooi dump operation. Due to the close proximity of Phoenix to Sylvania’s existing operations and similar process and business model, the company expects to generate savings from the combined operations. The acquisition, together with the expansion of output from Millsell and Doombosch, is expected to boost Sylvania’s production to 75,000 ounces of PGM in the coming year.
The other point worth noting in this week’s trading update was that the company’s cash profits increased from $9.2m to $10.4m for the six-month period to end-December 2017, buoyed by an average basket price of $1,057 per PGM ounce, up from $883 in the same period of 2016. Moreover, in the second quarter to end-December 2017, Sylvania invested $5.2m on capital expenditure and paid $6.3m for the Phoenix acquisition, but its cash balances only declined by $4.8m to $12.6m, highlighting its impressive cash generation. I expect a positive trading update when Sylvania announces its interim results on Monday, 26 February.
A glance at the charts for rhodium, palladium and platinum is revealing too: the PGMs increased in value by around 45 per cent, 30 per cent and 5 per cent, respectively, in the final three months of 2017. That can only be positive for Sylvania’s profits if these prices are sustained through 2018.
The point being that this is not in the price with the shares trading on a 46 per cent discount to its last reported NAV, and net funds equating to over a fifth of its market capitalisation of £41.5m. Strip out cash on the balance sheet, and operations that reported post-tax profits of £6.6m in the 2017 financial year are effectively being valued on five times net profits. That’s an incredibly harsh valuation for a business that has reported record output four years on the trot, and boasts a massive cash profit margin of around 40 per cent. Interestingly, the share price chart could be poised to make a sustainable move above last February’s high of 14.2p. Buy.
U and I Group (UAI)
Main: Share price: 206p
Bid-offer spread: 202.5 -206p
Market value: £258m
If, like me, you believe that U and I Group (UAI), a specialist property developer and investor in regeneration projects, will deliver the £65m to £70m of development gains in the financial year to end-February 2018 as promised by its directors, then the shares are an absolute bargain. The company, formed by the merger of Development Securities and Cathedral Group in 2014, has a £6bn portfolio of complex, mixed-use, community-focused regeneration projects, and owns an investment portfolio worth £173m. The strategy is to unlock the value in urban sites in the London, Manchester and Dublin city regions.
For example, at the end of last year, U+I sold a site in Waltham Forest, north London, to housebuilder Telford Homes (TEF) for £34m, having purchased the site off-market in March 2016 and secured planning permission for a £130m mixed-use regeneration project. That lifted total gains booked by U+I in the current financial year to £26m. U+I also announced that it had entered into a joint venture agreement with a consortium comprising McArthurGlen, Aviva Investors and the Richardson family to deliver a new designer outlet in Cannock, near Birmingham. The £160m project will see the site developed into a 26,500 sq m designer outlet scheme. U+I has retained a 12.5 per cent interest in the joint venture and the consortium acquired the remaining stake, thus enabling U+I to recognise the profits from the scheme as outlined in guidance given at the time of the interim results last October.
Expectations of the company delivering the aforementioned £65m to £70m of gains were further enhanced after U+I announced in late December that it has let 94 per cent of office space at its development at 12 Hammersmith Grove, West London, with the remaining 6 per cent of space in solicitors’ hands. Chief executive Matthew Weiner confirmed that U+I is bang on course to book projected gains of between £9m and £11m from the project, which is being developed in partnership with institutional investor Aberdeen Standard Investments.
The point being that after accounting for all these gains, I reckon U+I’s underlying NAV per share is set to rise from 278p in February 2017 to in excess of 300p by the end of this month, as analysts predict, suggesting a closing book value of £380m. This implies the share price is trading on a 33 per cent discount to spot NAV, a hefty discount considering the company’s investment portfolio of 17 properties had a carrying value of £173m alone at the last balance sheet date, and boasts a contract rent roll of £12.6m. Moreover, there is likely valuation upside as the company disposed of £22.5m of non-core assets in the investment portfolio in the first half to end-August 2017, all above book value, and is planning a further £27.5m of sales too.
As is the nature of a property company, U+I has borrowings, but is certainly not overleveraged. At the end of August 2017, the company’s net debt of £159m represented a comfortable 47 per cent of its net assets of £337m with the aforementioned £12.6m annual rent roll covering the 4.4 per cent average interest charge payable on its debt facilities. Since then the company has agreed terms to restructure its long-term debt facility with Aviva, which will shave annual debt servicing costs by 0.75 per cent.
Importantly, the quality of the tenants is high and voids are low, with governments and listed companies accounting for two-thirds of the mix, including household names such as Waitrose and Sainsbury. This mitigates the risk of tenant default. Indeed, over 99 per cent of rent is collected within 30 days.
The development pipeline is impressive too. It includes the £150m Preston Barracks project in Brighton, the largest regeneration project to have been consented in the City. Also, following a review of the delivery of the company’s wind farm projects, and after taking into account strengthening investor demand for alternative assets with long-term income streams, U+I is now delivering projects on a forward sale and build-out model rather than individual site sales. This funding structure is in line with its business model for regeneration projects. It’s sensible to do so as it delivers a higher level of profitability per project, with the first wind farm due to realise between £6m and £8m of profit in the second half of the financial year to end February 2018.
So, with the company set to report a sharp hike in NAV per share, and rewarding shareholders with an annual dividend of 5.9p a share, implying a dividend yield of close to 3 per cent, and special payouts on top, I feel investors are missing a trick here. Indeed, the board reiterated guidance at the interim results that the business is on track to deliver £155m of development gains in the next three years to generate a 12 per cent annual post-tax total return. The implication being that the shares are rated on a massive 40 per cent discount to likely NAV at the end of February 2019.
If, as I suspect, the company’s management delivers on the £65m to £70m first year target of development gains when it issues its full-year results at the end of April this year, then the huge share price discount to NAV is set to narrow markedly. Buy.
|Bargain Shares Portfolio 2016 performance|
|Company name||TIDM||Opening offer price (p) 5.02.16||Latest bid price (p) 25.01.18||Dividends (p)||Total return (%)|
|Bioquell (see note one)||BQE||125||365||0||192.0%|
|Juridica (see note two)||JIL||36.1||14||32||27.4%|
|Oakley Capital (see note 5)||OCI||146.5||164||6.75||16.6%|
|Minds + Machines (see note three)||MMX||8||8.5||0||13.7%|
|Gresham House Strategic (see note six)||GHS||796||835||15||6.8%|
|Walker Crips (see note 4)||WCW||44.9||40||2.43||-5.5%|
|Deutsche Bank FTSE All-share ETF index tracker (LSE:XASX)||341||436.25||31.42||37.1%|
|1. Simon Thompson advised buying Bioquell's shares at 149p in February 2016. Bioquell bought back 50 per cent of shares in issue at 200p each in June 2016 through a tender offer and Simon recommended buying back the shares in the market at 145p to give an average buy in price of 125p (‘Bargain shares updates’, 22 June 2016).|
|2. Simon Thompson advised buying Juridica's shares at 41.2p in February 2016. Juridica subsequently paid out a special dividend of 8p a share in June 2016 and Simon recommended buying shares in the market at 61p using the cash proceeds to take the average buy-in price to 36.1p (‘Brexit winners', 1 August 2016). Juridica then paid out a special dividend of 32p a share in September 2016 and total return reflects this distribution. Simon advised to sell at 14p ('Taking Q1 profits and running gains', 4 April 2017), hence the price quoted in the table. Please note that Juridica has since paid out a further special dividend of 8p a share and current share price is 7.5p.|
|3. Simon Thompson advised buying Minds + Machines shares at 8p in February 2016. Minds + Machines subsequently bought back 13.22 per cent of the shares in issue at 13p a share. The total return reflects this capital distribution.|
|4. Walker Crips has paid out dividends of 2.43p since 5 February 2016.|
|5. Oakley Capital has paid out dividends of 6.75p since 5 February 2016.|
|6. Gresham House Strategic paid out a dividend of 15p on 21 July 2017|
Source: London Stock Exchange share prices correct as at 9am on Thursday, 25 January 2018.
|2017 Bargain Shares Portfolio performance|
|Company name||Market||TIDM||Opening offer price on 3.02.17 (p)||Latest bid price on 25.01.18 (p)||Dividends||Total return (%)|
|Chariot Oil & Gas (see note one)||Aim||CHAR||8.29||21||0||125.1|
|Cenkos Securities (see note four)||Aim||CNKS||88.425||113||9.5||38.5|
|BATM Advanced Communications||Main||BVC||19.25||26||0||35.1|
|Manchester & London Investment Trust (see note two)||Main||MNL||291.65||377||3.0||28.4|
|H&T (see note five)||Aim||HAT||289.75||349||9.6||23.8|
|Avingtrans (see note six)||Aim||AVG||200||222||3.4||12.7|
|Management Consulting Group||Main||MMC||6.183||6||0||-3.0|
|Tiso Blackstar Group (see note three)||Aim||TBG||55||40||0.54||-26.3|
|Deutsche Bank FTSE All-share tracker (XASX)||409||436.35||16.28||10.7|
|1. Simon Thompson advised selling two-thirds of the Chariot Oil & Gas holding at 17.5p on 3 April 2017 ('Bargain shares on a tear', 3 April 2017). Return reflects the profit booked on this sale.|
|2. Manchester and London Investment Trust paid total dividends of 3p a share on 2 May 2017. Simon Thompson then advised selling half of the holding at 366.25p on 26 June 2017 ('Top slicing and running profits', 26 June 2017), and selling the remaining half at 377p ('Bargain shares second chance', 17 August 2017).|
|3. Tiso Blackstar paid an interim dividend of 0.28465p on 8 May 2017, and a final dividend of 0.25935.|
|4. Cenkos Securities paid a final dividend of 5p on 26 May 2017, and an interim dividend of 4.5p on 9 November 2017.|
|5. H&T paid a final dividend of 5.3p on 2 June 2017, and an interim dividend of 4.3p a share on 6 October 2017.|
|6. Avingtrans paid an interim dividend of 1.2p on 16 June 2017, and a final dividend of 2.2p a share on 8 December 2017.|
|Source: London Stock Exchange share prices correct as at 9am on Thursday, 25 January 2018.|
Main: Share price: 43.4p
Bid-offer spread: 42.1-43.4p
Market value: £86.4m
Currency manager Record (REC) made it into my 2015 Bargain Shares portfolio, and the shares have performed well since. In the past three years, the board has paid out total dividends of 6.6p a share, and the share price has risen from 34.3p to 44p to deliver a total return of 47 per cent. It’s more than justified.
Third-quarter results released in early 2018 revealed a $5.7bn increase in Record’s assets under management equivalent (AUMe) to a record high of $63.9bn (£46bn) in the nine months to end-December 2017, up from $52.7bn three years earlier. Passive hedging mandates account for $54.3bn of AUMe, or 12 times more than higher-margin dynamic hedging mandates. That’s important because revenues from these stickier passive mandates cover all of Record’s annual overheads of £11.7m, excluding variable remuneration. So, if the company continues to enjoy net inflows, pre-tax profits should continue to rise, and deliver an increasing flow of dividends to shareholders.
That’s because Record retains £26.6m of net cash on its balance sheet, a sum worth 13p a share, albeit £8.9m of its cash is required for regulatory capital. As a result of its balance sheet strength, the board is able to return all of its net profits to shareholders, which is why analysts at Edison Investment Research predict a total payout of 3.1p a share for the 12 months to end March 2018, up from 2.9p in the 2017 financial year. This implies the shares offer an attractive prospective dividend yield of 7.1 per cent, and are rated on a modest cash-adjusted PE ratio of 10. Importantly, there is potential for upside to Record’s profits in the 2018-19 financial year given the likelihood of increased volatility in currency markets linked to both political and economic events.
The most likely catalyst is the European Central Bank ending its quantitative easing programmes. Investors are certainly betting on this possibility as the euro has been on a tear against both the US dollar and Swiss Franc in the past 12 months, rising by 15 per cent and 10 per cent, respectively, against each currency. That’s important for Record given its geographic spread: around 60 per cent of its AUMe are from Swiss clients; 16 per cent from those in the UK; and 11 per cent from the US. It’s no coincidence that Record opened an office in Zurich last autumn to increase its presence in the Swiss market and to enhance its relationship with existing clients.
Also, roughly half of Record’s hedging fees earned relate to equity assets, and 30 per cent to fixed-income assets. Bearing this in mind, and the buoyant state of US equity markets, if the ongoing pummelling of the US dollar turns into a rout, then the increased currency volatility can only support demand for Record’s hedging strategies as overseas investors look to protect their US dollar denominated investments from the currency’s devaluation. Buy.
■ Simon Thompson's book Stock Picking for Profit can be purchased online at www.ypdbooks.com for £14.99, plus £2.95 postage and packaging, or by telephoning YPDBooks on 01904 431 213 to place an order. It is being sold through no other source. Simon has published an article outlining the content: Secrets to successful stock picking