Character Group (LSE:CCT) has a very good record of producing high profits and return on capital employed. Today we take a closer look at profits generated relative to net tangible assets under the control of the directors.
Profits, assets and liabilities
.........(For 2015-19 I’ve put “cash needed for operations” equal to short term borrowings because there are certain times of the year, especially in the months leading up to Christmas when the company is borrowing to pay for inventory and receivables. Currently, this money comes from overdraft, factoring, invoice discounting and import loans. But, conceivably, the directors might decide to use some cash to reduce borrowings and thereby save on interest and lower financial risk.)
Return on net tangible assets, RONTA = Profit for shareholders ÷ Average net tangible assets over the year (beginning BS and end BS averaged).
Return on tangible assets, RONA = Profit for shareholders ÷ Average net assets over the year (includes internally generated intangible assets capitalised)
£’000s 2019 2018 2017 2016
Profit for shareholders 9,090 9,612 10,050 10,787………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
With owner earnings we’re trying to obtain the earnings that, in future, would be left for shareholders after the managers’ use of the cash generated to pay for items of expenditure to maintain the strength of the economic franchise, maintain unit volume and to invest in all value-generating projects available.
Depending on circumstances, the owner earnings figure may be the same for every future year or on a steadily rising (or falling) trend.
Naturally, owner earnings are impossible to obtain with any degree of precision because many of the input numbers are merely educated guesses about the future. Despite this imprecision it remains an important method for thinking through valuations.
Owner earnings analysis is about future cash available for shareholders to take out of the business. But the only evidence we have available is past data. We start with that, and then use qualitative analysis to judge whether to simply project forward the past pattern or modify the previous trend for future orientated thinking.
In the following we use what the company actually invested in new working capital items and in new fixed capital items, and what they spent on marketing, R&D and staff training etc. already deducted from the P&L.
What the analysis really requires is the amount necessary to maintain the quality of the economic franchise, unit volume and invest in value generating projects.
When we move to forward-looking analysis to value the firm we need to make another bold assumption on the real amount needed to invest in new WC, fixed capital items, etc., in the future. The historical analysis helps us make that judgment.
“Owner earnings” in the past
£m 2019 2018 2017 2016 2………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
Piotroski analysis focuses on the likelihood of financial distress by examining trends or current states of nine accounting variables. I’ll examine Character Group (LSE:CCT) on both the annual figures and on the half year figures.
The first factor is profits
Character Group has not had an unprofitable year for at least ten years. It was profitable in the latest six-month period. A Piotroski point is awarded merely for showing a profit.
Does it produce positive cash flow from operations?
Total cash generated from operations was £13.9m for the year to August 2019 and £4.4m in the six months to end February. It gains a second Piotroski point on both the annual analysis and six-month analysis.
Has the return on capital employed figure improved?
For 2018 net income before extraordinary items divided by beginning of year total assets was £9.5m/£69.9m = 13.6%.
For the year to August 2019: £8.8m/£71.3m = 12.3%.
Profits were much lower in the last half year compared with the same period a year before.
The ROCE has declined for both the annual analysis and the six-month analysis, so Character does not gain a Piotroski point.
Is cash flow greater than profit?
Yes, for both the annual analysis and the six-month analysis, indicating that profit was not manufactured from accruals or other non-cash accounting, so another Piotroski point is gained.
Has the ratio of long-term debt to start-of-year total assets improved?
Character has no long-term debt and so it gains a Piotroski point in both annual analysis and six-month analysis.
Is the current asset ratio on an improving trend?………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-
In the last two newsletters we noted that Character Group (LSE:CCT) has an impressive history of earnings and dividends. Today we ask if that is built upon a shaky balance sheet and poor cash flow.
Balance sheet data
£m Feb20 Aug19 Feb 2019 Aug 2018 Aug 2017 Aug 2016
Inventories 10.6 16.4 11.2 10.9 9.0 10.3
Receivables 13.5 35.0 12.7 25.6 25.8 25.1
Cash 19.6 30.0 23.5 34.6 28.8 28.6
Investment property 1.6 1.7 1.7 1.7 1.8 1.8
Freehold land and buildings 2.5E 2.5 2.6E 2.6 2.7 2.8
Current assets plus
saleable non-current assets 47.9 85.7 51.7 75.4 68.1 68.6
Short term borrowings -1.9 -22.2 -3.7 -19.1 -17.2 -21.6
Payables -12.1 -28.8 -14.7 -24.7 -22.7 -25.4
Other liabilities (long & short) -4.7 -3.0 -3.8 -1.9 -3.1 -1.3
Current assets + saleable
N-C assets - liabilities 29.2 31.7 29.5 29.7 25.1 20.3
The market capitalisation of Character is £2.52 x 21.36m shares = £53.8m
For most of the year the company does not need to borrow or, if it does, only a small amount, hence the low borrowing level at the half year end in February 2020 (£1.9m).
But in the months running up to Christmas CCT sends out a great volume of toys to retail customers such as Argos who won’t pay for the goods until their cash flows are high in December/January.
Thus, CCT’s receivables number rises dramatically from around £13m most of the year to £25m - £35m in August, and to more in later months.
This extra burden is financed mostly by factoring (up to £15m) and invoice discounting (up to £20m) for a few weeks, and to a lesser extent by import loans.
Character also has an overdraft facility of £6m available. Interest on the overdraft factoring, invoice discounting and overdraft facilities is only 1.43% plus LIBOR or base rate.
Its Far East subsidiaries also have bank overdraft and trade finance facilities of £17.9m.
The Danish subsidiary, Proxy, has an ongoing recourse factoring facility of up to approximately £6.1 million. The interest charged on this facility is CIBOR 3 month/BOR (the Copenhagen interbank interest rate) plus 4.85% per annum. It also has a subordinated loan of £1.342 million where the interest rate is 12.8% per annum. These facilities are secured by various fixed and floating charges over the assets and undertakings of a Danish subsidiary and its subsidiaries.
So long as the retailers pay up in the winter, Character can get………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
Character Group (LSE:CCT), the toy creator and distributor has an impressive history of earnings and dividends despite recent falls. Its shares are trading at 230p – 252p and market capitalisation is £2.52 x 21.36m shares = £53.8m.
Earnings and dividends
Half year to Feb Earnings per share, p Dividends per share, p Revenue, £m Profit after tax, £m
2020H1 9.6 2 1.7 £1.8m
2019H1 21 13 58.8 £4.2m
2018H1 17 10 50.5 £3.6m
2017H1 27 8 61.5 £5.8m
Yearend 31 August
2020 my estimate 11.7 4 90 2.5
2019 43.27 25 120 8.4
2018 45.63 23 106 9.6
2017 47.46 19 115 10.0
2016 50.3 15 121 10.8
2015 48.56 11 99 10.2
2014 27.66 7.25 98 5.9
2013 3.05 6.6 67 0.7
2012 25.58 6.6 75 5.8
2011 28.47 6.0 95 6.8
Cyclically adjusted price earnings ratio
Average EPS over 10 years (including EPS estimated for 2020) = 33.1p
The CAPE, using average earnings per share over ten years in the denominator, is 252p/33.1p = 7.6. This is significantly below the market average of around 14.
Let’s be pessimistic and assume a loss of one-third of profits compared with the average over the five years to August 2019 (47p per share) because of the loss of the Peppa Pig plastic toy range and the after effects of the COVID-19 crisis.
Then the future annual earnings per share will be 31p.
That would put the shares on an earnings yield of 31p/252p = 12.3%, which is prett………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
I have bought more Character Group (LSE:CCT) shares at a price of £2.52 for my Warren Buffett-style portfolio. It specialises in designing toys, arranging for them to be manufactured in the Far East and then selling them to retailers (such as Argos), mostly in the UK and Scandinavia.
I first bought these shares in October 2019 at £3.506 per share, putting them into my Modified price earnings ratio portfolio. They were selling at a cyclically adjusted price earnings ratio of £3.506/£0.34 = 10.3.
In January I met the directors at the company’s AGM and then started to view Character as a Warren Buffett-style investment, possessing (a) strong business franchises, (b) competent and trustworthy managers, (c) good financial stability, (d) a high return on capital employed, and (d) an excellent cash flow and profits history.
I bought some more shares at £3.29 (market capitalisation was then £70m).
The details on the rationale for these purchases can be found in the following newsletters: 29 October – 5 November 2019, 20 - 28 January 2000.
Character’s shares have fallen recently as investors worry about consumers’ inability to buy toys from physical stores, which is where, prior to the lockdown, two-thirds of UK toys were obtained.
Mr Market’s pessimism on the firm’s outlook and hence the lowered price raised the question of whether to buy some more. This depended on whether the company is capable, within a 2-3 year timespan, of restoring profits to the levels achieved in 2015, 2016 and 2017, when they were over £10m after tax.
Current market capitalisation is £2.52 x 21.36m shares = £53.8m. So, if profits are restored to £10m, I would be buying at a forward price earnings ratio of just over five, or an earnings yield of 18.6.
If dividends rise again to the level of 25p paid in 2019 then my new shares would be on a dividend yield of 10 – a much better income than on a bank account.
But there are some problems for the company to overcome if it is to revert to previous levels:
Character’s ability to design and sell Peppa, etc., currently accounts for around one-quarter of Group profits. That is a big chunk to make up.
But the directors are making progress in finding replacement income streams. For example, they have already created wooden toys based on Peppa – ideal for nursery schools. Hasbro have licensed Character to make and sell these until December 2022, and word is that the license is likely to be extended. Hasbro shows no desire to move into wooden toys (or any smaller-volume toys), so Character might have this product area to itself for many years.
The production of these wooden toys has sparked the imagination at Character Group – perhaps Disney and other franchise owners might be persuaded to allow wooden toys to be licensed (a more environmentally friendly product than plastic)?
And the company is confident that it already has a pipeline of excellent new products, as described in the latest interim report covering the six months to end February:
“Our portfolio of products and ranges has performed well in the limited channels of distribution that have been available to our customers during the lockdowns (principally online) but, after the lockdowns end and market conditions normalise, we anticipate that demand for this exciting and innovative range of products will be restored in all of our markets. New product and range launches are scheduled thr………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
Prof. Glen Arnold
I'm a full-time investor running my portfolio from peaceful Leicestershire countryside. I also happen to be UK´s best selling investment book author and a Financial Times Best selling author.
Originally, I wrote all my ideas out in full on this website. Now that ADVFN publish them they are entitled to display the full version for six months – you can see them here. Thus can I only post the first few paragraphs here for anything younger than six months.
I write 2 to 3 newsletters per week - investing is about making the right decisions, not many decisions.