Not waving drowning?
This is a retail business that I’ve known for a long time, indeed in a past life I influenced one of its largest shareholdings.
At that time the company was leveraging its 90% brand awareness; increasing its return on equity every year, from 40% to ultimately more than 70%, without any debt; it was rolling out stores; it appeared to have perfected its buying strategy; and the share price had risen from $2.40 to a high of $18.60.
More than a year since I wrote that The Reject Shop shares were among the most expensive retail stocks and they touched their high, the performance has been somewhat unsurprising: declining to a closing low of $9 recently – a fall of just over 50%.
For those of you who have been fortunate enough to have been following us since 2009, you may recall in September 2009 when I wrote about the reasons why I decided to sell The Reject Shop:
“I can’t stop thinking that the value of the business just cannot rise at a fast enough clip to justify the current price. I really don’t like trading things that I have bought but I don’t think the value of the business can continue to rise indefinitely. With a share price of $13.45 (intraday today) and a valuation of $11.27, the shares are 24% above their intrinsic value. This combination of factors tells me we are safer in cash.”
Today the shares trade at about my current estimate for intrinsic value (see graph) of $9.22 and in anticipation of a possible big discount being presented, it’s worth reviewing our stance to determine whether we need to change it for this company.
Since I last wrote about the Reject Shop, a number of events have served to deliver sufficient concerns to market participants – analysts as well as investors – that they have turned their back on this once market darling.
First, the Queensland floods closed the Queensland distribution centre, seriously denting any supply chain efficiencies the company had built. Second, the company has doubled its equity base since 2006, from $26.6 million to $53 million, and this has been entirely due to the retention of earnings rather than less-desirable capital raisings. In the absence of an equivalent increase in profits, return on equity would be expected to decline. One way to stave off a decline in the all-important return on equity measure of performance is to increase leverage. The problem for the Reject Shop’s intrinsic value is that leverage has indeed increased – 34-fold – and yet return on equity next year is forecast to be lower next year than in 2006.
The Reject Shop still enjoys its high brand awareness but, as is typical in many store roll out stories, as the offer matures the later sites are less profitable than the early sites.
This doesn’t fully explain the fact that during a period in the economy where one would expect a bargain offering to shine, it hasn’t. Eighty percent of Australians still know the brand but I believe consumer experience and mismanagement has done it some damage.
According to one report, 20% of the population believe the company offers rubbish – cheap Chinese junk that quickly breaks after use and fills our tips. It’s the very reputation China itself is trying, but frequently failing, to shake off.
The other reason for damage to the brand is confusion brought on by mismanagement. Several years ago the average unit price was about $9 and basket size was $11, but over the years one cannot help but have noticed many higher-priced items creeping into the stores.
The Reject Shop was originally the place you went to for discounted seconds and end-of-line items. Under lauded retailer and merchant Barry Saunders, The Reject Shop successfully transitioned to a discount variety retailer, offering everyday lines at cheaper prices than the incumbents. Grey market (“parallel import”) Colgate toothpaste for $2 a tube and toilet paper for a few cents a roll ensured repeat business, higher inventory turnover and higher margins from consumers filling their baskets with other higher-margin items.
The company had successfully implemented the Walmart and Woolworths profit loop. Adding more expensive items, some in the $30, $40 and $50 bracket, confuses the offer and damages the brand. Simultaneously, inventory turnover falls and working capital costs increase.
Higher-priced items should at least partly explain why the company has not been performing well in the two-speed economy (I prefer to call it the one-cylinder economy) that would normally lend itself to the “bargain” offer. The other reason for the declining performance, including declining same-store sales growth, is the enthusiastic emergence of competitors. It’s really a second wave: The Reject Shop had put an end to Millers and the Warehouse Group previously. But now BIG W, Kmart, Target, Bunnings, a reinvigorated Mitre 10 and Masters will compete directly with The Reject Shop; you may have already seen some of their aggressive Christmas advertising.
If The Reject Shop’s offering had not been confused by the inclusion of higher-priced items, the company would have been in a much better position to defend its turf. The misguided product mix, however, appears to have left the gate open and the well-funded competitors have rushed in, as have Crazy Clarke’s, Sams Warehouse, Chicken Feed, GO-LO and more than 35 others. Of course these competitors will also compete for sites, potentially relegating The Reject Shop to less preferred sites or having to pay more for the best of the remaining locations.
That, and the possibility of a fall in the Australian dollar, represents the bad news. The good news is that The Reject Shop still has terrific brand awareness, many more stores to open, a reinvigorated marketing campaign and the reopening of the Queensland Distribution Centre ahead of the Christmas peak selling period.
On balance, if the company can hit its targets it could increase its intrinsic value by more than 15% per annum over the next three years and many believe the bad news and bearish case is factored into the share price. But I would like to see a decline in debt or a greater margin of safety or both, before buying its shares.
Rest assured that a rising tide (a rally in the stock market) will lift the price of the company’s shares. To be certain of a good return rather than be hopeful of an excellent one, we simply need a bigger discount, as the graph illustrates.
Posted by Roger Montgomery, Value.able author and Fund Manager, 3 December 2011.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Greg Mc
:
My comment doesn’t relate to TRS, but I like to read others’ anecdotes about businesses they frequent. So here’s my rambling anecdote about by experience as a MTU customer.
I have my home and business phone/mobile/internet with Southern Cross Telco, a subsidiary of MTU. I joined SCT when it was Orion Telecommunications back in about 2006. They used to ring around offering potential customers decent deals on these services, undercutting the normal Telstra fees. I generally find these calls annoying, especially when it’s some guy who is calling from overseas and I can’t understand a word he’s saying, and he won’t shut up and let me get a word in edgeways. Anyway, the Orion guy was polite and actually spoke English and I decided to sign up. Certainly the deal was much better than what I was on and I wasn’t locked in to anything.
Telstra took Orion to court a while after for ‘harassing’ their customers and won, during which time I would have fielded about half a dozen calls from Telstra offering inducements to return to them. They were worse than Orion had been! They had been charging me what they liked for years and when I finally walked out, they wanted to be best mates all of a sudden. Despite being able to offer me a marginally better deal, I wasn’t impressed and told them to get nicked.
Orion was taken over by MTU for scrip when my hair started turning grey in mid-2007. I was very pleased as I was also a shareholder of Orion and my first son had been born on that day (hence the grey hair subsequently) so life was good. MTU was around a dollar at the time, but they went up a bit and silly me flogged them a month or two after….if I had known then what I know now, eh?
Anyway, I’m very happy with my service from SCT. They are based in Tassie so they speak English (of a sort). If we have a problem, they get onto it straight away, and certainly give the strong impression that they actually give a stuff about it. And get this: every year or two, I get a phone call from a customer service representative speaking Tasmanian English asking me how I’m finding the service and if there is anything they could do better! They haven’t offered me anything or tried to push something else onto me with these calls (though I’m sure they’d be happy if I asked about something), they’ve just asked me how I’m getting on.
Finally I feel love from a phone company!
So I’m very happy with my MTU service. My guess is that as there are a number of resellers around who can offer essentially the same call costs etc, they view their customer service as a way they can differentiate themselves in this part of their business. My suspicion is that their customer retention rate will be quite high. This also gives me some confidence as a renewed shareholder that they are fair-dinkum about their business and want to provide a service that is desirable to customers as well as competitive.
Ooroo!
Greg Mc
Roger Montgomery
:
Great Scuttlebutt Greg. Thank you.
Ash Little
:
Nice Post Greg Mc
Thanks
Ann
:
Thanks Roger,
You need to also look hard at the management as well and where they have come from. For example taking a senior manager from a grocer and putting them in general merchandise does not work and vice versa.
Ian
:
In my area there are 2 TRS stores and both of them are in good locations. First one is in a Westfiled complex and the second one is adjacent to the next biggest shopping complex just across the car park from a Coles.
The other competitor “disocunt” shops in my area are in less prime locations a fair walk away from the major shops.
I don’t know if my area is typical for Reject Shop store locations but I find that I am more likely to walk past a Reject shop (and therfore more likely to walk into one) than for the similar competitor stores.
Store location may be one advantage TRS has over competitors if they can get their product mix right.
Roger Montgomery
:
Excellent thought Ian.
Greg
:
I own some KRM shares. I purchased in September 2010 due to the high grades which result in low costs per ounce of gold recovered (although the actual mining costs per unit of material mined are probably quite high due to the nature of the operation) and the prospectivity of the surrounding country. I am intending to continue holding at this stage.
I consider Indonesia to be a relatively stable country from the point of view of mining companies. Indonesia has a fairly long history of mining e.g Rio has mined coal there for many years. Generally, a foreign company teams up with a local company. In KRM’s case they own 85% of the Way Linggo operation.
The main problem with KRM that I can see is that they have issued many million (free) options over the past few years which have diluted shareholders equity and earnings per share quite considerably. There are many options (approx 32 million) still to be exercised. Hopefully this practice of issuing options is reducing but needs to be monitored closely.
Clint
:
I was at the Reject shop today at lunch time in the queen st mall (Brisbane). They were doing a roaring trade! Customers lined up all throughout the store!
Roger Montgomery
:
Thanks for that Clint! ANyone else care to report from other stores?
Tony C
:
Hi Rodger,
What do you consider as a fast enough growth in business value to be as you state ‘fast enough clip’.
Tony
Roger Montgomery
:
Well that ‘good clip’ has certainly come down recently to accommodate much weaker general conditions. I was running through a screen on Skaffold today and was happy to pull up a screened short list of companies that offered +8 per cent growth profiles. Last year it was much more. But that 8 per cent was designed to capture a big enough list to see if anything came up that we hadn’t investigated or a company whose management we hadn’t approached.
John C
:
And 6 with +50% IV growth predicted. Only one with +200%, and I bought some last week (late Nov) for 20.5 cents. Closed today almost 10% higher (22.5) but I’m hoping to at least double up on this one. I first became interested in HOG after a link to an interview with their MD was included in a comment published in this insights blog a few months back. I was very impressed with what I heard, and started following the company and doing a little digging. The SP has been mostly falling ever since, which is handy. When it hit 20 cents, I started buying. The forecast EPS growth (north of 500%) is also nice. There are only a couple of holdings in my portfolio that don’t pay any dividends (currently), but you can’t ignore this sort of value. Ramelius is another one (RMS) – worth a lot more than the current SP IMHO.
I’m starting to have a serious look at BigAir (BGL) now too – and they’re planning to pay a dividend (33% of EPS after NPAT of $4m achieved) in 2012 now too. BGL’s SP appears to be resuming an upwards trajectory again. I’ll keep watching them. I like the Skaffold view of BGL, and it’s too small for some other sites to follow (or have accurate data on), which is probably a good thing.
Here’s a stock idea that I haven’t seen mentioned here before – KRM – Kingsrose Mining – currently mining high grade (& very low cost) gold in Sumatra, Indonesia, and they’ve recently announced a new discovery – Talang Santo – with a maiden resource of about 400,000 ounces Au. This is in addition to their current (producing) mine – Way Linggo. They’ve also got 12 drill rigs working on their aggressive exploration program, so further discoveries are a distinct possibility. Their 6/12/11 presentation (posted to the ASX) makes interesting reading. Skaffold has KRM as having an IV below their current SP, but I think that may get revised upwards soon with their Talang Santo maiden resource announcement yesterday. They’ve got Bill Phillips as a non-executive director and he has had a large role in the development of KRM. Bill has managed or been instrumental in the successful development of 16 mines; his most recent role was overseeing development, mining and production at Medusa Mining Limited’s Co-O gold mine in the southern Philippines. He is now focused solely on Kingsrose. Something to note with KRM is they don’t spend money on Bankable Feasibility Studies, and so forth. Due to the nature and high grade of their gold deposits, they just dig it out and expand as they go. For instance, the original resource estimate grade for Way Linggo was 8.4 g/t Au and 129 g/t Ag. Mining to date has produced 14.8 g/t Au and 174 g/t Ag. An outstanding result, especially considering their gold production costs are well under US$200/ounce (after silver credits). They have almost no debt and $33m cash & bullion in the bank. KRM: A small, high grade, low cost, gold producer, focussed on Indonesia, who are getting bigger, and better. Keep an eye on them.
Have fun.
John C.
Roger Montgomery
:
Another good find. We too have been taking a close look. Indonesia?
John C
:
Yes – Indonesia. Risky? There’s a compelling risk/reward equation there though. News release today confirms maiden resource estimate for Talang Santo (amended report to remove reference to metal equivalents). I quoted the wrong figure above – it was 413,000 Oz silver (not gold) and 166,400 Oz gold – sorry. That’s just their latest find though.
The three analyst reports linked from their website – http://www.kingsrosemining.com.au/ – are comprehensive and make good reading. From the Bell Potter report: “Ore reserves are low, however this is by nature of the high grade epithermal deposit and the strategy of containing exploration and reserve drilling until it can be funded by internal cashflow”.
From Green Leader Equities Research: “Way Linggo is part of a broad epithermal vent system that has deposited high grade gold and silver bearing quartz veins over an extensive area. Experience in similar terrains elsewhere suggests exploration persistence will be richly rewarded.” and “In eight months to June 2011 Way Linggo revenues had exceeded all costs incurred since 2005, including capital, by about US$10 million.”
Not bad – finally – and most important to remember I think – “Kingsrose is one of the lowest cost gold producers listed on the ASX.” When you’re targeting US$150/Oz production costs, and getting very close to it, gold price movements around $1,600 to $1,900 /Oz aren’t going to concern you too much!
William
:
Another KRM fan here extremely impressed with management , low cost operations, lots of cash, highly successful exploration, high earnings growth.
Appears cheap as well.
John C
:
There’s a new December 5th-6th Bell Potter Report on KRM linked from KRM’s website – http://www.kingsrosemining.com.au/ – which was only produced last week obviously, and now includes a more detailed look at KRM’s Talang Santo prospect. BP now have a base-case price target of $2 (assuming a US$1500/ounce gold price) for KRM (they closed today at $1.375, so that $2 target price is around 45% above the current SP) and Bell Potter are also predicting a maiden dividend from Kingsrose of around 5 cents for this financial year, which, if it happens, will bring them to the attention of a wider group of potential investors. The new BP report is well worth reading if you’re a KRM investor already (like me) or are interested in investing in a small, good quality, low-cost, high-margin, low-debt, cheap, ASX-listed, gold exploration and mining company. Remember: $33M in cash and bullion in the bank, and self-funding their ongoing exploration activities from their current mine profits (Way Linggo) and now Talang Santo on the way. I doubt that will be the end of it either – they’ve got 12 rigs currently at work in the area according to their own latest analyst presentation. Management is excellent too. Kingsrose Mining – keep an eye on them!
Roger Montgomery
:
Be sure to conduct your own research and seek and take personal professional advice. I believe JohnC has recently disclosed he owns the stock. Is that right John?
John C
:
Yes I do Roger. I currently hold the following gold stocks: RMS, KRM, MML, and have previously held and sold NST, IGR & DRA (I like all 6, and may buy and/or sell more of any or all of them in the future).
Maybe there could be a standard disclaimer for this blog, to the effect that all comments are the personal opinions of those making them, that many contributors will own many of the stocks that they post comments about, and that everybody should conduct their own research and seek and take professional advice. Otherwise, it just gets repeated throughout most of the threads.
My post above was exactly about people conducting their own research. If anybody is interested in KRM (and at least two other people are and have posted comments above), then the fact that the Kingsrose website has in the past few days added a link to a new (and current) broker/analyst report (from Bell Potter) may be of interest.
Roger Montgomery
:
Good idea John.
Matt
:
Hi Roger,
What’s the semantics of the IV-Average line on these skaffold chart thingy’s?
Roger Montgomery
:
Hi Matt,
Easy one to answer. Just give Chris at the office a call.
Michael Horn
:
When I was still working, and hence had money to invest, I looked at retail to complement my WOW holding, and to a lesser extant my two TGA holdings (TGA is also a financial services company).
I immediately rejected JB HiFi as being too expensive, and I focused on The Reject Shop (TRS), which although expensive, was not as expensive as JB HiFi. While mulling over TRS, a walk through the Tuggeranong Shopping Centre in Canberra introduced me to the Hot Dolar Group, and l decided that TRS’s buy-cheap-truck-from-China formula that was too easily copied, and so I invested in Cash Converters (CCV) in four investments between 25/2/10 and 23/8/10 and skipped out with a 25% profit on 9/5/11, which was more serendipity than investing astuteness.
The Hot Dollar staff who I saw were all eager-to-please young people of Chinese ethnicity, so I assumed the owners were either of that background, or people with good buying-in-China skills with access to relatively cheap Chinese shop-floor staff (probably students studying in Australia). Hot Dollar started with one store in 2000, and it now has over fifty stores. I think that that TRS’s money-making formula has had its day – the market is now too crowded.
CCV is probably worth a second look. I suspect that the impact of the Banking and Consumer Credit Protection Amendment (Mobility and Flexibility) Bill 2011 has been over exaggerated by investors. As I now do not have funds to invest, I have not bothered developing financial assumptions and doing the arithmetic for CCV. CCV pretends to be a monger of 2nd-hand goods, but the substantial profit is made on the loans it makes at high interest rates – hence it is not really a retailer in the same boat as TRS.
Roger Montgomery
:
On behalf of everyone reading the blog, thanks for sharing.
Michael Horn
:
As an afterthought on my mention of CCV, the SP made large percentage increases over the last few days, and yesterday I had a peek to see if the MD, Peter Cummins had bought recently, but saw nothing to that effect. Today there were two announcements – one hinting that some of the teeth proposed via the Banking and Consumer Credit Protection Amendment (Mobility and Flexibility) Bill 2011 will be blunted, and the second stating that that Peter Cummins had bought 27,000 CCV on market for $12,690. His direct plus indirect holdings are now about 8 million.
If you look at the metrics, you will find CCV looks OK. Skaffold gives it a reasonable tick, except for its future-years IV. My hunch is that the future-years IV is based on assumed future EPS numbers that are too pessimistic. CCV has a large and burgeoning business abroad, which would not be affected by Australian legislation, so CCV could simply shift its investments in growing the business offshore, if it had to, and secondly, the mooted legislation may be much tamer than many people think, or thought when they made their forecasts.
I have very few CCV shares (less than 2,000 that were left on the table when I sold out in May), and hence CCV going up or down has negligible impact on my net wealth. If I had the funds I would probably have got in again in recent weeks, but alas, I’m fully invested. For now I only follow CCV for the amusement because I like the poverty stock theme.
Roger Montgomery
:
Hi Michael. Thanks for those thoughts. I am really impressed with the recent contributions you have all made. Regarding the future valuations, go to the EPS/DPS Evaluate Screen in Skaffold to see the factors used. If the legislative changes aren’t as harsh as previously anticipated, you may see those future valuations start to lift in Skaffold over the next few days. It all happens automatically reflecting changing expectations of those following CCV closely, which is great.
Michael Horn
:
An interesting fact is that CCV’s pay-out ratio is about 50%, and it uses spare cash to buy selected franchise stores here and in the UK, thus converting them to in-house stores. I have forgotten what they routinely pay for such businesses, but is of the order of five times EBIT, plus stock at fair value, which means the cash is being invested at a reasonable return. This also explains the decline in cash holdings, but fret not, the cash is being put to good purpose. CCV’s readiness to buy well-developed franchises probably makes selling less-developed ones easier, plus it gives management a basis to authoritatively calculate the potential of business catchment areas, and hence price franchises better.
Andrew
:
As recently back in civilisation, i have turned on the TV and saw some Reject Shop ad’s for Christmas.
All very predictable, lollies, decorations etc at really low prices and then they shocked me.
“And while your here you can pick up one of these” the ad told me, i looked at the screen to see what it is that i can pick up and was shocked with what i saw.
It was a small electric, skill tester type device that you can keep small chocolates in. The cost was $30.00.
Why on earth would they bother having these pointless devices stuck in their inventory, also why would they waste precious TV advertising time (not the cheapest form of advertising) with this item and not something that people willa ctually want.
I can see why there is some questions over their purchasing.
They don’t have the market all to themselves any more. Even the $2 shops like top dollar etc are offering similar products.
The reject Shop was a market darling, but that “was” is a big indicator of where they are now. They potentially have better scale of operations than most of its competitors but i don’t think people would cross the road to go to a Reject Shop store if there is a competitor on their own side (which more than likely would be the case).
Roger Montgomery
:
Thanks for those insights into consumer perceptions. I know a bunch of retailers who will find your insights interesting indeed.
Andrew
:
Expanding on what i said above, I think this type of market place is a good example of the whole competition side of analysing companys that Micheal Porter amongst others discuss and i think someone touched on it below.
The Reject Shop was achieving great results with a simple strategy. This attracts competitors who will copy that strategy and take some (but not all) of those attractive returns away from the reject shop. This of course makes the market place less attractive and means competitive advantage is very important.
As you mentioned in a post about JB Hi-Fi. In the retail game where you have no real control over the supply of the product, the only real advantage you can have is to offer the lowest price.
What i think TRS have done with its bigger ticket items (and i completley agree with your point about it actually damaging the brand) is to try and differentiate itself from your Sam’s Warehouse, Top Dollar etc. Woolworths and Coles can get away with differentiating whilst offering slightly more expensive but still competitive prices to a degree because of the convenience of a store always close to you, and being able to buy all you need in the one store.
The problem for TRS is that it is price that will cause it to be a success and not differentiation. As you said Roger, they already have 90% brand awareness although in that 90% i think there maybe a large percentage who also suffer from what i call “brand confusion” where the customer knows the brand but has a mistaken idea about what that brand offers (kind of like where you mentioned “offering chinese made junk that breaks). So people know the brand but won’t actually go inside because of their pre-conceived idea about the quality of the offering.
My example of the electronic skill tester for $30 is a good example of something i think will clog up inventory which will have an effect on the working capital needs of the company and the overall performance. These items will not attract customers but it will affect its financial performance.
I think what you have wrote is a good example on the risks associated with a maturing company where management need to do something to try and keep the good times coming in and the effect these moves can have on valuation. It is something that i have been working on building into my analysis and valuation process for a while which is loosley based on the BCG Growth-Share Matrix categories which i have expanded out to what it means to the company and investor.
Roger Montgomery
:
I thought the $30 skill tester should be taken by the buying team. Thanks for your insighst Andrew. Well thought through.
Michael
:
Wouldn’t a $30 skill tester make a better Christmas gift than a $2 packet of toilet paper? Or are you saying they should not sell Christmas gifts at all?
Roger Montgomery
:
Hi Michael,
Absolutely correct. But is the product and price point what buyers expect from TRS?
Uni
:
Some would not even think of buying gifts from TRS. I buy cheap stuffs for home but gifts from more branded stores. Even Ebay, where we can find lots of brand new with tag stuffs, is a better gift shop than TRS. Differentiation means TRS = cheap # gitfs = high value or good brands.
Just my 2€ words from 2$ shop near by.
Vinny
:
If I am not interpreting this wrong Roger, this piece of yours further builds on a factor you aluded to earlier in the year, where some shake up was experienced in regards to unpromising lines. Call it ‘too much adventuring’ on part of managment for lack of a better appropriation. What this tells me, maturing of the existing stores and stagnant same store sales growth, is convincigly pushing the company into more expensive categories to maintain profitability. How efficiently they are able to maintain their value proposition to their existing customer base remains to be seen, and evidence to date as you point out is not promising?
Anecdotal: Recently visited one of their another newly opened smaller scale format store. One thing stood out. Too flashy of a store to sell discounted goods. Granted that it needs to offer a refreshing environment in light of increasing competition, but this will put on increasing pressure going further on further enhancing its turnover. Rising capex on opening new stores presumably will only add little value in terms of its target market, but will definitely prove a drag when rising depreciation expense will need to be offset with more promising sales/ capital metric.
Roger Montgomery
:
Great stuff Vinny. Thanks.
Seany B
:
Thanks for the informative article Roger. As you point out in your story, this part of the retail space is becoming overcrowded with many competitors entering it. This company doesn’t seem to have a competitive advantage or stands out in the crowd as you say is important in your book. For me, I believed the company blamed the floods for a larger than expected drop off in performance. I am not convinced that the floods were all to blame for the underperformance. Added to that years of less than average returns globally due to high debt levels and hence lower consumer sentiment, and for mine this stock is still too expensive. I wouldn’t be a buyer either.
On another matter, I noticed that nearly every stockbroker loves TSM, and I know that you do too. Why so? Do they have great growth prospects, because when I use the intrinsic value formula the intrinsic value is still south of their current share price?
Many thanks for the insightful blogs, and the videos. Are they coming back soon?
Regards
Seany B
Roger Montgomery
:
Hi Seany,
Thanks for your encouraging words. There are a few possibilities to consider; 1) the brokers may have a buy and while I still own shares, they may no longer cheap, 2), 3) and 4) the possible variations of this. Of course it’s also possible we have quite different valuations as we could be using any number of different variables and or inputs.
Keith
:
Online group buying sites (eg. Groceryrun.com.au) make comparison shopping from home for low priced items very easy. Their main barrier to retail dominance is the $11-00 per order delivery fee and week long wait for delivery. Hence, impulse buying a few items at low prices still favours the discount retail store fronts.
I would add Daiso to the list. Daiso has opened at my local Westfield shopping centre and offers most items at A$2.80. Daiso is an extremely popular discount retail brand in Asia, so it has international brand recognition, which will appeal to tourists as well as locals.
It is no surprise that Crazy Clarkes, Go Lo, Sam’s Warehouse and Chicken Feed are eating TRS’s lunch.
These brands are part of Australian Discount Retail (ADR) group bought by Jan Cameron in April 2009 for A$80m from its receivers and are the main competitor to TRS in Australia.
Jan was the successful founder entrepreneur of the Katmandu adventure clothing retail chain in Australia before selling out for NZ$280 million to private equity consortium in 2006, making her Australia’s fourth richest woman.
Her astute purchase of ADR from the receivers enabled her to renegotiate leases with landlords and reengineer the businesses without the usual costs. Therefore, she could undo the previous management’s mistakes more cheaply.
Two years on, Jan’s superior entrepreneurial focus on product, positioning and costs meant TRS lack of a similar drive has ceded customers to her stores and other competitors.
I think the key to discount retail success is having an experienced, market-focused retailer like Jan Cameron at the helm of ADR.
TRS could always ask Barry Saunders to come out of retirement to get them back on track.
Roger Montgomery
:
Well articulated Keith. Thank you for sharing your insights.
Simon
:
Shares in ERA have plunged in the past year as production declines at the maturing Ranger mine ahead of its expected closure in 2021.
ERA, which is 68.4 per cent held by Rio Tinto Ltd, was forced in late January to suspend uranium processing operations at the mine for the remainder of the wet season after heavy rains filled the tailings dam to near capacity.
International mining group Rio Tinto is headquartered in London and operates the Rössing uranium mine in Namibia, in which it owns a 69% stake, and the Ranger mine in Australia through its 68% interest in Energy Resources of Australia (ERA). With annual uranium production of 6293 tU, Rio Tinto ranked fourth in the list of the world’s top uranium producers in 2010. The company already has extensive non-uranium mining, manufacturing and exploration activities in Canada.
This week Rio Tinto announced that its acquisition of Hathor for C$4.70 ($4.61) per common share has been successful after rival bidder Cameco allowed its offer for the Canadian uranium exploration company to expire.
ATM- November 30th 2011 -Mainland China has 14 nuclear power reactors in operation, more than 25 under construction, and more about to start construction soon.
Additional reactors are planned, including some of the world’s most advanced, to give a five- or six-fold increase in nuclear capacity to at least 60 GWe by 2020, then 200 GWe by 2030, and 400 GWe by 2050.
From this I believe that RIO board is convinced that Uranium production is going to be very profitable in the medium to long term and is going to provide a profitable mining opportunity even if steel production declines (along with iron ore prices). The result of a housing bubble in China deflating!
So what about ERA, with its share price falling 87% this year to prices not seen since Sep 2002. With RIO in control of Uranium production across the globe as the new No.1 producer could we see a return to the $27/share for ERA? Or is this a case of owning RIO as a safer bet on Uranium prices rising, than on buying ERA exclusivly
Roger Montgomery
:
Thank you Simon. Excellent intro to a discussion about the future of uranium, mine life’s, the politics etc. I hope to see this discussion continue….
Ash Little
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Hey Simon,
I would not own ERA……They had mine life issues but instead of putting money into expandinding the mine 18 months ago mangement decided to pay an unsustainable dividend……18 months later they raised alot of capital…….Go figure……They are on my naughty list for sure
Agree about the product but not the company.
Jusy my view
Macca McLennan
:
The Reject Shop was fabulous if you got in early on
It may have shot itself in the foot with bad decisions on product mix
But it also has had some really bad luck with the QLD warehouse
If i had my say i would change the name from the bad connoting REJECT SHOP
Quite difficult to change a name
Could “My Warehouse” or some other name work
Or simply buy “Sam’s Warehouse”
Roger Montgomery
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Yes, they were extraordinary returns. Share of mind is still very high so not sure a name change would be a fwd step.
Ray H
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Was it Buffett who said he would rather buy a wonderful company at a fair price than buy a fair company at a wonderful price?
I’m happy to stick this one in the ‘fair’ bin and spend my time looking at something more wonderful.
Roger Montgomery
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Thanks Ray.
Andrew
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I agree Ray, of all of the Buffetism i think one that should be spread around more often is his idea of an investment punch card where you can only make 20 investments for the rest of your life and how you would think a lot more before you hit buy if that was the case.
My investing method is based around that, i have no interest buying any company at a discount, i only want to buy the ones where the value is hitting me in the face.
I have reworded a previous investment quote which i think sums it up. I want to be able to walk over one foot hurdles when investing, but i want those investments to have to jump 100 foot hurdles in order to get my attention.
Roger Montgomery
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nice!
Ray H
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Thanks Andrew,
The more I learn about Buffett, the more fascinated I am by the fact that he started out as a Grahamite – buying anything undervalued – and slowly became a Mungerite, buying only quality businesses earning superior returns and exhibiting strong competitive advantages. It makes you wonder how much more successful his compounded returns would have been had he started out with the later rather than the former.
James Manning
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Hi Roger and fellow bloggers,
The article mentions “less-desirable capital raisings”. What’s your view on DCG recent capital raising?
James.
Roger Montgomery
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Thoughts anyone?
James
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Excuse the step by step layout of my response (just the way I think so easier to write this way also) but my view is:
If a company issues shares at a high price i.e. above equity/share, it is POSSIBLE that the raising can generate value (as compared with buying them at high prices, which will always erode value).
Currently 124,214,568 shares on issue at equity of $0.92 ($113,859,000 equity). They will issue a further 41,300,000 at $2.05 each (incremental $84,665,000). This will take the sum to 165,514,568 shares with equity $198,524,000 – $1.20 per share.
Thus the share raising has delivered greater equity per share to anyone who owned holdings prior to the raising – good news so far :)
With this criterion satisfied, the question then is will DCG be able to effectively use the capital it is asking for i.e. can it generate a return on the additional equity that is equivalent to its current rates of return?
All things being equal, the business is currently performing well with relatively low debt, and solid ROE (23.06%) as well as return on incremental equity (25.44%) indicating sustainability of returns (operating is cashflow slightly down on YA due largely to rapid growth in receivables as compared with moderate growth in payables).
As for whether those returns are possible on the acquisitions DCG are seeking to make, well that’s the question…margin of safety is vital
As I say sorry for the step by step – just how I think things through
Cheers
Roger Montgomery
:
Great James. Thanks, on behalf of everyone reading the Insights blog.
Luke
:
It wouldn’t make sense as a retail investor to buy in since there is a good chance the SP will drop below $2.05 (when something else spooks the market). However, with all of the information DCG has provided on how the capital will be used, it looks like the return on this equity boost will be very good in 2 years time. Of course, they haven’t provided much information about it but I think the management will succeed and get a good return on this capital.
Disc: I hold but won’t go in on the capital raising (but may buy more on market below $2).
Cheers,
Luke
John C
:
Me too. I hold DCG, won’t participate in the capital raising, but will buy more if it drops back below $2 also. RMS (Ramelius Resources) recently had a capital raising (via an SPP) priced at $1.15 after I had just bought back in the previous week at $1.27. I was going to participate in the SPP, but ended up buying the quantity I was after on-market at just below the SPP price. Their SP bounced back up quickly after they (RMS) got included in the S&P/ASX 200 last Friday (along with fellow gold miners Integra and Silverlake). I note that IMD (Imdex) was the only non-Gold-miner of the four inclusions this time around. These announcements are good if you already have your desired weighting in the stock, and are happy to see the stock being focussed on by a larger community of investors. If, on the other hand, you are still accumulating, or assessing the stock, an S&P Index inclusion is rarely helpful.