• When markets behave like a voting machine, they tend to ignore a business’ underlying fundamentals. Learn more.

What are our thoughts on MCE’s results? And Big Air?

What are our thoughts on MCE’s results? And Big Air?

What is the value of a company that wakes up to find it has sold very little or even nothing in the last six months? My very long-term outlook for the price of oil hasn’t changed, but I can make the argument that the shares of Matrix C&E cannot currently be valued as a going concern any more confidently than I can a speculative exploration company.

While its a very harsh interpretation and its not the only interpretation, there are things to be concerned about.

Before I go into what disappointed me about the result, let me make an observation about the short term share price action.  It appears that many short term investors could be overreacting to the report.  Management are very confident that they will win new business and if they do, the share price represents and opportunity.

First, cash flow. Its something I have mentioned here at the blog previously – as have others.

Submitted on 2011/07/05 at 1:08am: “The short and mid term outlook for Matrix will be dependent on them securing some contracts and their cash flow will be dependent on them getting a few deposits paid. We have put a call into the company to see if we can get an answer but they may soon be in blackout so we’ll have to wait and see.”

Submitted on 2011/06/24 at 1:46pm: “Great stuff Ash. Good to challenge and shake things up. Any opposing views, go right ahead and put them up. I know that lots of you are concerned about Matrix. Watch their cash flows…”

There were many useful insights provided here at the blog about Matrix and their cash flow.

Prior to those comments, in April in fact, I noted we had participated in the capital raising at $8.50. But our holdings were small and hadn’t exceeded 1% of our portfolio because of our concerns about cash flow.  You may also remember I demonstrated declining intrinsic values for Matrix in the future, which triggered some concerned responses.  You really do need to understand the business, and the benefits of diversification.

Many might throw their hands up and give up on the intrinsic value approach, and while I would be delighted to see fewer value investors, this is as much an overreaction as the plunging share price may be today. There are critics who suggest there’s a problem with the intrinsic value approach.  Gloating is predictable, but they do fail to understand that any shortcoming is not the approach but its application; You need to understand cash flow (heck, there’s a whole chapter in Value.able!) and you need to understand the business (it’s what Value.able is all about).

So here are some of the facts, thoughts and reasons I think the market is reacting the way it is.  Don’t forget, in the short run, the market is a voting machine.

First:

MCE missed analysts’ expectations. Thats the first reason for a negative reaction by the market.  I should point out that the share price has been declining significantly for two trading sessions prior to this blog post and has fallen 50% from its highs in April.

Second:

Profit grew 85 per cent (but not by as much on a per share basis). While the question should be if an analyst’s forecast is missed, is it the company’s fault or the analyst’s, in this case those forecasts are a function of company guidance. Guidance was $40 million at the start of the year, then $36 million. This week profit came in at $33.6 million. Earnings per share grew 56 per cent (less than the 85% growth in total NPAT) thanks to a capital raising that was used to construct a facility that hasn’t yet generated returns.

Third:

Fifty six percent growth in earnings is stunning.  Make no mistake about that.  Again, all things being equal, if such growth were to continue it would almost certainly cause intrinsic values to rise and materially.

Fourth:

The company is forecasting revenue growth of 20 per cent. This is “company guidance”. If NPAT margins can be maintained – duplication costs could be removed next year, which would be positive for margins – profit will equate to 52 cps. But in the face of few or no new contract wins in the last 12 months, are management being optimistic?  Thats probably the key to working out if the current price is an overreaction and therefore an opportunity.

To grow revenue by 20 per cent to $224m, they need $114m of new work, on top of the current order book of $110m, which declined 70m in the last six months. Note the zero balance under Deposits in the Balance Sheet too.  There’s $500 million of work in the tender pipeline.  If they win 30% of that (a figure the company suggests is reasonable) that is $150 million and if won this year, will help the company achieve its target.

Fifth:

Analysts were forecasting 2012 EPS of 66 cents in July. Using these numbers, MCE’s valuation is over $10.00. But your valuation is only as good as your inputs. Those analysts are now forecasting earnings of 61 cents per share for 2012 and my own number is now closer to 51 cents (see above). In the absence of any announcements of contract wins, expect further downgrades from analysts.

Sixth:

Significant contract wins would have the opposite impact on intrinsic value and it could rise again.

Seventh:

If they achieve 52 cents of earnings per share, my intrinsic value becomes $6.80 – still significantly higher than the current share price but well down on the previous estimates of intrinsic value. The fact that $6.80 is above the current share price is one of the reasons I am keen to talk to the company!

But don’t forget, they have to win some contracts, because at the moment the [declining] order book is just 58 per cent of last year’s revenue. More importantly, in the absence of any contract wins, that intrinsic value could fall precipitously.  As I say above; “There’s $500 million of work in the tender pipeline.  If they win 30% of that (a figure the company suggests is reasonable) that is $150 million and if won this year, will help the company achieve its target.”  Its important the company make clear (at the AGM for example) details about the length of the tendering and commissioning cycle for all shareholders.

Eighth:

Aaron Begley is confident that they will convert about 30% of the work they tender for.  With $500 million in tender work thats will satisfy their revenue growth targets.

Ninth:

In the first half of last year cash declined, despite the fact the company borrowed more money and raised more capital. In the second half, the business generated just $900,000 of cash. There is no way to dress this up though and its not impressive for a company with a market cap earlier in the year of over $700 million and $350 million now.  As mentioned in some of the posts, it could merely be a function of the long lead cycles of commissioning oil rigs, in which case there may be an opportunity worth investigating.

Tenth:

In conclusion, the results revealed this:  Order book fell from $180m in the first half to $110m now. The $70 m decline is matched by the cash receipts in the second half. Given the fact that deposits in liabilities on the balance sheet fell to zero, we can assume the company made little or no new sales in the second half. Its with this in mind that you need to consider whether the companies forecasts are bullish or not.  They need to win some business to justify the estimate of intrinsic value

As at June 30, 2011, MCE’s quality rating is A2. There is virtually zero chance of a liquidity event. But non manufacturing overheads are running at $750k a month, so the cash will be diminishing if there are no contract wins. That is what is driving the share price lower.

THEY NEED TO WIN SOME CONTRACTS OR SHAREHOLDERS NEED TO BETTER UNDERSTAND THE TENDERING CYCLE LENGTH.

Finally:

It is quite fair for critics to point out the one-eyed focus many investors have on the Value.able intrinsic value formula. The formula is a good one, but it is only as good as the inputs you feed it and they must come from an understanding of the business. I took a call from an share market investor who didn’t understand why the share price for Matrix was falling after reporting such strong profit growth. If that sounds like you, take a break and get back to the books to understand the business and its prospects. At the very least, it will help to either, 1) temper your enthusiasm for a company that is at a discount to your intrinsic value estimate, 2) change your estimate of intrinsic value or, 3) give you a better understanding of whether that intrinsic value is rising or declining.

On a separate note, there is a very real chance of a downside overreaction too, something we are always on the lookout for!

General and Educational Information only.  Not a solicitation to act or trade in any security in any way.  Always seek and take personal professional advice.

BigAir Group?

Digging in a little deeper to BigAir’s financials and you may notice a few things to be cautious about too – always important to read past what management tell you about revenue numbers climbing to the moon and do your own thinking.

These are all symptoms of a fast growing business, and a business which has grown by acquisition.

Firstly, a little cash strapped? Current Liabilities > Current Assets by 400k. This is mainly due to the $3.6m they owe on their acquisitions in the next 12 months. They have announced the acquisitions but hadn’t paid for them at June 30. Don’t forget that they also owe $1.375m, which is in non-current liabilities – a total of $5m in payments are still to be made for past acquisitions already announced. See note 18 to the accounts for more.

The next 12 months are important, and with Current Liabilities > Current Assets, its not an not an ideal position to be in, although they may be able to cover this by working their working capital. What you now need to work out is if future cash flow and of course CAPEX, which seems to run @ $2.5-$3.2m, will provide enough free cash for them to self fund their operations and liabilities. It is of course is hard to work out because maintenance CAPEX and growth CAPEX is harder to separate when a company grows quickly through acquisitions.

The university business may prove distracting, but some serious players in the industry really like fixed wireless broadband.

General and Educational Information only.  Not a solicitation to act or trade in any security in any way.  Always seek and take personal professional advice.

Posted by Roger Montgomery and his A1 team, fund managers and creators of the next-generation A1 service for stock market investors, 24 August 2011.

INVEST WITH MONTGOMERY

Roger is the Founder and Chief Investment Officer of Montgomery Investment Management. Roger brings more than two decades of investment and financial market experience, knowledge and relationships to bear in his role as Chief Investment Officer. 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.

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176 Comments

  1. Dear Roger,

    Your book is excellent! Thank you for taking the time and sharing your knowledge. I have read many books on investing and they all left me not only confused but also pretty scared hence I have not made any investments in a very, very long time. There is still a long way to go for me before I feel confident enough to make a move… I have a lot of questions about things you mentioned in your book – but before I post them in your blog hoping that someone will help – I will read your book a couple more
    times…

    I understand that it is not in your best interest to share EVERYTHING you know but if this does not hurt your strategy – would you mind sharing what you found out during the VOC briefing you attended a couple of weeks ago? I am wondering whether lacking access to this type of information can be truly crippling for individual value investors…

    NB I am terribly excited about your A1 service!

    Thank you and all the best,
    Donata

  2. I think the weakness in MCE (and doubts re the future) emphasise the importance of diversification. I previously argued for greater diversification than suggested by Roger and others and received a negative response but certainly would not like to have 5% to 10% of my super fund in this stock (if I held it I would likely have no more than 1%).

    • I very much doubt management will risk diluting prices unnecessarily. They are already unhappy about the market reaction. Separately, there is a lot of talk about the need to see a contract announcement. I have no doubt MCE will be fine in this regard but I doubt again the likelihood of seeing one so close to the final report just because it is desired by so many. Don’t expect it this month. Realistically, the only negative for MCE is a high AUD – and worse case this is offset to around zero by increased efficiency/productivity at their new plant (AUD/USD < 1.1).

  3. Roger,

    you state in your BGL post that:” Current Liabilities > Current Assets by $400k. This is mainly due to the $3.6m they owe on their acquisitions in the next 12 months”

    that is actually not correct. if you read Note 18 carefully, only $1.575mil is due for acquisitions in the next 12 months. the rest is trade payables.

    in addition there’s only $1.375mil left to pay but its in non current liabilities and therefore not due in the next 12 months.
    i hope you clarify this as you state $5mil is due on acquisitions in total which is again not correct. only $2.95mil is due in total.

    regards.

      • hi Simon,

        NWT is still not investment grade, but they are showing progress towards their goal of launching a satellite. they are just starting to show profits from their current business and they have already secured $200mil+ in contracts for the first satellite, so that should help in securing finance for the build launch. i also think they are currently tendering for contractors to build it. unfortunately it looks like they will need to borrow money and raise equity, but if the UK company is any guide, their share price should go up as more news comes along.
        keep an eye on it for the next couple of years and see how they go. cheers.

    • Ron,

      I am starting to hear the sound of a man clutching at straws. Whether it is money due for acquisitions or trade payables, it still has to be paid, and their current liabilities still exceed their current assets. You really need to stop pumping this company’s tyres.

      Brian

      • Brian no need for me to pump this company.
        i just think some readers here may act on misleading information.
        For the record – BGL is up 35% since i mentioned it here 3 months ago! – and thats in a bear market!
        good luck.

      • You just did again Ron!

        Delighted you were referring to three months ago rather than four:
        Submitted on 2011/04/18 at 7:54pm by ron shamgar
        “hi garry, its not BGL. i wouldn’t be interested in this company”.

        On a serious note, we are all aware of your stance on this company Ron and appreciate your desire to keep us up to date with important developments.

      • Ron

        You may have some industry insights some of us do not understand or haven’t delved deep enough into. I must say from my perspective that just by looking at BGL’s financials for 5 minutes it does not stand out as a company I must invest in nor look further into. Yes I understand that the financial reports are not the be all and end all; but they are a good place to start; a scorecard if you will.
        Yes it’s in the right space, no doubt. And its future prospects could be unlimited. However; just a couple of things that stand out to me at a glance:
        Double revenue FY10 to FY11, but triple cost of sales. Economies of scale anyone?
        Reduction of EPS from 1.7 to 1.2 despite this increased revenue. This is due to the massive amount of equity (shares) issued to both Clever and AccessPlus (approximately 40%) upon acquisition.
        Goodwill from these acquisitions makes up almost 1/2 of the total assets.
        Deficit of current assets to current liabilities (I have read your explanation of this)
        If I was a shareholder (I am not) I would hope that the Clever and AccessPlus acquisitions are going to significantly contribute to the future bottom line considering they were issued about 40% of the companies total equity and therefore diluting current shareholders equity at the same time by a massive amount.
        When you first mentioned it I didn’t understand the fuss; and reading the financials still don’t. But to each their own and I really wish you luck with this investment but I think we are all tiring of having it belted around our ears. True value will slap us in the face; and I’m afraid this one does not hit me like a sledgehammer.
        Am more than happy to be wrong about this one and let it continue up or down without my investment dollars.

        Cheers

      • all i can add to your comments is:

        have you noted their current run rate guidance of $9mil+ EBITDA? and thats from the first month of FY12 and during a holiday month for students.

        i wont add anymore.

        all the best Sean.

      • Lol :-)
        you got me Roger!
        but i did admit to Garry that i thought he meant a different company.
        anyway will keep you up to date and im sure those of you who bought shares in BGL prior or following my post, have a big smile on their face.
        cheers.

  4. MCE is always going to have lumpy profits. Deep sea oil rigs take a very long time to go from an idea to production. For 3 months last year the Gulf of Mexico oil spill dominated headlines, perhaps this created a temporary pause on investments in oil rigs?
    All I know is the industry has a limited capacity, and people are using more and more oil. Its just a matter of how much orders and when.

      • Plus quote book was $400M Feb 2011 now $500M and their competitors aren’t winning things either. So lots of interest bit no action. Orders will come but probably not quick enough to save 2012 results.

        Lumpy it will be for sure and this one is not for the faint hearted.

      • Before signing MCE’s death warrant let us quickly consider one very important fact.

        -Matrix have just moved from their Malaga complex to Henderson, which is from all accounts the most advanced and efficient manufacturing complex of its kind. This will have 3 main benefits. The first will be to increase the quality, safety and range of products Matrix sells, the second will be reducing costs and the third will be increasing capacity by ~double compared to its Malaga complex. Having a complex of this kind would seem a very important competitive advantage. Some of you may argue that they hardly need to increase capacity by this amount although lets try and think more than a few months ahead.

        With the exception of a very few everyone has seemed to have gone cold/luke warm on Matrix following the share price decline/Roger’s change in sentiment/ and the end of year financial report. I am not one of these people.
        This is a fantastic business which is selling great products, has management with a lot of experience and who I have great faith in and whose prospects are very bright. A tepid 6 months shouldn’t bother anyone looking 10 years ahead.

        There are many aspects to this blog which I greatly like and a few I don’t. One is a lack of independent thinking. There are too many references to Roger’s IV’s and Roger’s MQR’s which people adopt as their own and this is crazy for many reasons, perhaps the main one being any individual doing so indirectly avoids personal responsibility should things go wrong and also any type of autonomy over his investing future.

        Roger, it would be a great contribution to this blog if you were to write a piece on the importance of independent thinking, if you are too busy or not interested I will happily do so.

        Best Wishes.

      • I am very interested in seeing such a post made. I would be delighted to publish it if you would write it. I will have to reserve the right to edit if necessary of course. Go ahead….

      • Hi Nick, i echo your sentiments and would love to see more focus on independent thinking and that as great as this blog is there are some elements i don’t like. Although i have to say the usual positive ambience on this blog is a great distraction from other forums where the overall trolliness and negativitiy seems the order of the day and there for will always put this blog as the only real place for investing related matters i come to.

        Can’t say i went luke warm on MCE, i just was never warm to it at all as it didn’t fit my own criteria.

        I for one would not be dissapointed if Roger stops letting us know for free what MQR’s and values he comes up with and instead we all discuss various general and insightful information on companys, value investing principles and other related areas.

        I have my own blinkers and although i will happily take Rogers views on board (who wouldn’t take the advice of such an experienced investor) i will reserve judgement to completley disagree with him after i have listened to all views and come up with my own opinion. I also know that Roger would not care one bit and will probably encourage me to do so. Doesn’t mean one is right or one is wrong but we may just come from a different street in Graham and Doddsville.

        I also might see value in some companys that others don’t and i know i don’t see value in a lot of companys others mention here.

      • MCE only has to win (and deliver) 23% of their $500M current tendering to satisfy their projected 20% revenue growth for 2012.

      • They have painted themselves into a corner with that prediction given that the orders haven’t actually come through and unlike selling bread, it takes a fair while to go from contract award to revenue booked in the accounts. Given that, they need to get a wriggle on with contract announcements, the award of which is beyond their control – and after 6 months of few orders it is a bit of a stretch to expect.

        Hopefully, for their sake and that of their shareholders, they made that prediction with the contract award almost at their fingertips.

        While from the perspective of running the business, it matters little whether the revenue for a big contract is booked in June 2012 or August 2012, having made this prediction (and quietly directed people’s attention away from the order book and cashflow in the most recent period), failure would be a big blow to their remaining credibility. Having said that, the award of a high $ amount of work that leads to a significant order book into 2013 and improved cash flow from up front deposits might save some of that credibility provided they make it clear well in advance.

      • Hey Greg Mc.

        Accountants and the tax man draw the line at 30 June every year….But as you say the business owner does not do this.

        Lots of quotes but lets be honest the line drawn by the beanies at 30 June 2012 will not be good………….But does this make a bad investment?????

      • Not nececelery, I’d say Ash, but it does depend on your timeframe. I do think that if they win a swag of big contracts that spill over into 2013, the accounting results at the end of 2012 won’t matter so much.

        That is a critical ‘if’ mind you. Are you feeling lucky?

      • Correct Greg Mc,

        The important thing is that though they are not winning orders they are not loosing them either.

    • In a boom, the prices of capital goods rise faster than the prices of consumer goods. This leads to excess investment in the capital goods sector.

      In a recession, the prices of capital goods fall faster than the prices of consumer goods. And the sector realizes that it has overinvested in capital works during the boom.
      Hence the capital goods sector does very poorly in a recession.

      WOR fell about 80% in 2008.
      I see no reason to buy companies in the capital goods sector at today’s prices.

  5. Gday Roger.
    Although the 12 month graph for MCE is rather depressing it is up 300% since Nov.09 which is not a bad average annual return. It seems as though the only thing missing for MCE is a substantal order so if the news is released when the market is closed we will probably see a spectacular jump/gap upwards in the price.
    As this is my first post I would like to thank you for your book and your help to those of us who have found the share market a bit of a worry in the past.
    John K.

  6. If you actually read and followed the principles of value investing and Valu.able the following would have been clear:
    +Matrix was an A1 company and still is a high quality company.
    +IV was around $6 (Roger’s value somewhere) at the last annual report (I had about $6.75).
    +IV increased at half yearly report (I had around $8.15)
    +Half yearly report was released on the 18th Feb 2011
    +Share Price at that time was $8.50 (it drops shortly after to $8.06)
    +Anything related to mining should attract a large MOS (maybe 30-40% depending on your conservative nature, even hire for mining relate services).
    +Cashflow was questioned in February (If you were going to buy maybe increase MOS to 50% or wait until annual report is released)
    +If you take everything above into consideration probably the only time you would have bought shares was at the last annual report when they were priced at $3.50 to $4 or recently around the low $4 mark (again depends on your MOS). If you did this you would be sitting on a profit right now.

    Hand up if you bought above $6. I was very close but looked again at the principles I have drawn up. I will continue to refer back to these until they are second nature. My innitial thought was that I would miss the boat on a fantastic opportunity and then thought that is what every other person does (besides a small section of value investors). Like the Jedi it takes time and patients to master the art of investing. I want to be part of a group that is small in numbers but clear is the best at what they do. I personally thank Roger for showing me the light.

    • Hi Nic,

      If you check out the following post, and also consider that Roger participated in the capital raising at $8.50, I am not sure why you ask ‘hands up if you bought above $6’.

      http://rogermontgomery.com/when-to-sell-matrix-and-other-adventures-in-value-able-investing/

      However, we do need to remember that we are 100% responsible for our own decisions. What I gather from the post from Roger is that he was expecting a better result and outlook, and feels that he was misled by management in that regard. This has, for the first time, led to some emotion creeping in to his analysis, rather than only calm and considered reasoning. It is this element that has suprised me a little.

      I will continue to follow Rogers thoughts, but won’t and never have implemented anything without doing my own research, such that the decisions I make are mine, and mine alone. The events of the last few days only serve to confirm to us that this is the right approach, and indeed the approach that Roger has recommended to us all.

      I during the course of the rise in the share price wondered out loud if we were getting a little exuberant about MCE, and also whether the rise in the AUD would have an impact. My purchase of the stock in my SMSF was meant to be a 5 – 10 year investment, rather than a 6 month one – so I held on.

      I am currently conducting some thorough research to re-assess my holding, including asking management a few questions. If I unearth anything, I will post it. My feeling right now however, is that the selling is overdone and to sell here would be an emotional, rather than rational decision. No doubt the the high AUD, along with a falling oil price has made things tougher. I am also sure that management are still learning the lessons of being a listed company, and how to communicate with shareholders and analysts.

      Disclosure: I own some MCE shares, purchased an $4.62 prior to the surge in the share price. I am slightly below water, but still clinging to a buoyancy device!

      • Hi Michael,

        Because your presumption is incorrect, the conclusion is. Read the post again. And we look forward to what you uncover. Having had two conversations with Aaron this week I am interested in evidence of consistency. No emotion, just facts.

  7. Fellow graduates, from reading everyones thoughts on MCE id like to share the following thoughts. Im relatively new at investing on the stock market, im constantly learning and from what i can gather there are a lot of us in a similar situation. I think MCEs results and following drop in share price is a great learning curve for us all. There are huge lessons to be learnt like waiting for results to get some clarity so we’re not buying a dip because we perceive it as good “value”, understanding cash flow and future prospects. Patience, patience, patience. So even if you’ve lost a bit of dosh, chin up and cop it sweet, you wont make the same mistake next time. And if your new to it, you should only be investing small amounts anyway, id rather burn my fingers and learn my craft with small amounts of capital rather than pretend i know everything and go all in. I think this event is a huge blessing in disguise for us all. As my maths teacher at school said “making mistakes is an essential part of learning”.

    I did however take offence to a few people who have mentioned an obsession with some of us wanting to get our IVs”correct”. Im learning and its about the process, not the actual number, im trying to learn off people who know more than me, so ease up. Thanks Roger for this valuble, educational blog.

  8. BGL RESULTS UPDATE:

    Hi Everyone,

    Since I have mentioned BGL in the past on this blog, it is only fair I should write about their results and some of the insights I have got from management regarding their balance sheet, capex and cash flow.

    FY11 RESULTS:

    BGL delivered exceptional results combining organic growth and growth from their recent acquisitions. Their fixed wireless business added $1.4m of revenue or about 19% growth from FY10 and EBITDA was $5.4mil which beat earlier forecasts of $5.2mil. EBITDA margins slightly declined because of integration costs but are expected to improve as their synergies are realised over FY12.
    Net profit was $2mil (ignoring one off acquisition costs) on average equity of about $14mil.

    BALANCE SHEET:

    Roger has mentioned in his post a slight deficiency in current assets to current liabilities. I have spoken to management about this and they have clarified that total acquisition payments which are due are $1.375m cash in January 2012 and $1.375m cash in January 2013. If required, they have indicated that both can be paid out of cash right now (cash balance was $2.8mil). The remaining $200k is a share payment which is split $100k at the end of this month, and $100k in August 2012.
    There are no further acquisition payments for the current period and the balance of current liabilities is just normal trade payables.

    CAPEX AND CASH FLOW:

    Managements expect FY12 Capex to be no higher than FY11. Out of that around $500k can be classified as maintenance capex since it relates to upgrades to their core networks in order to support the integration work that is ongoing (improving margins in acquired subsidiaries).

    Net operating cash flows for the year were $5.0m, signifying the strong cash flow generation ability of this business. Looking ahead, Cash flow for FY12 is very strong since current run rate (see below) for Net Operating Cash Flow versus Capex is much higher.

    OUTLOOK:

    As I have indicated in my first post about BGL, the real value of this business from all its recent acquisitions and organic growth really comes together in FY12.
    The best way of looking at its growth is by examining BGL’s monthly run rates and annualising them forward.
    In April management indicated an annualised run rate of $7.5mil EBITDA for FY12 but has now upgraded this to $9million! This is in a space of only 4 months and since this run rate is using numbers from July this year, a student holiday period, this is very conservative!!
    With further cost benefits from integration and an increased focus on organic sales growth, expect an increase to this run rate as the year progresses.

    There are also other opportunities to grow its network and customer base by acquiring some of its smaller regional competitors in both the fixed wireless and community broadband market. A handful of companies with $5 – $7 mil in revenue each could contribute an additional $15m in revenue going forward. Management has indicated acquisitions could be funded out of cash flows.

    And as Roger mentioned above and recent speculation in the media, indicate that BGL remains an attractive takeover target itself. Its fixed wireless network would form a complementary product offering for several bigger telcos.

    THE VERDICT:

    By annualising the July monthly revenue and EBITDA run rate, I get revenue of $23m and EBITDA of $9.0m for FY12. If we assume modest organic growth of about 15%, then we are looking at revenue of about $25mil, EBITDA of $10mil and net profit of about $4.5-$5mil!
    This gives me an IV of 35c-40c for FY12. At today’s prices of 25c this company is STILL extremely cheap!

    FY12 free cash flow should be around $7m, leaving BGL with the option of funding bolt on acquisitions from cash flow or even paying its first dividend to shareholders.

    You must remember that regardless of what happens to China, Europe or the US, consumers, business and students will always require a fast and reliable connection to the internet and this company does not require a forward order book like some others! (MCE – OUCH)

    This is a company that in my opinion, over the next 3 yrs can generate around $50mil of revenues and at least $20mil of EBITDA or just under $10mil of net profits!! Its current market cap is $38mil. You do the maths!

    Enjoy your weekend.

    (NO ADVICE – DO YOUR OWN RESEARCH – BLAH BLAH BLAH.)

    • Here are some observations for consideration on BGL:

      – ROE is quite modest at around 11 percent
      – EPS of 1.2c, declined from 1.7c in the prior year
      – Top line is growing strongly, as would be expected given acquisitions being made
      – On page 57 of the financial statements, there are no common customers between the current and prior year. May be due to new customers from acquired entities, or churn of old customers
      – Would appear difficult for it fund any substantial acquisitions from cashflow
      – Rons valuation of 35 to 40 cents is 29 to 33 times this years earnings. Given a ROE of 11 percent and a falling EPS in 2011, this may be on the optimistic side. You also need to consider there is technology risk

      • Michael, when investing u must always look ahead rather then the rear view mirror.
        Next year BGL will earn at least 3c a share so if u prefer valuing businesses on a PE ratio, then it’s trading on a forward PE of 8.5!
        Eps had declined because shares were issued for the acquisition of clever.
        Remember that there is more technology risk for a company like telstra rather then BGL. The reason is because as a small and technology savvy company, BGL is able to adapt and make quick decisions, compared to a big company like telstra, who takes many board meetings and different layers of management to decide on any change.
        But this may not be suitable for ur investment profile. You need to do your own research. In my opinion its less risky then a contractor or a retailer. Cheers.

      • Actually, i was being quite conservative, from the increase in annualized EBITDA of $7.5M at end of March to $9M at end of July. We can extrapolate further – that’s an increase of 20% over 4 months or 4.7% compounded per month. This gives an EBITDA of $12.4M for FY12 so my organic growth assumption of 15% is quite conservative or as some would say, at the lower end of guidance. Cheers

      • Ron – the company points out that it’s business is seasonal, so you may be taking one of the best months of the year, extrapolating it out, and then adding a growth factor to that. These assumptions may turn out correct, however I would not see them as conservative.

        I would also point out that the product that earned the largest share of revenue in 2008 no longer earns any revenue. This may indicate that the business it’s in is subject to technology risks.

        My post above is mainly factual observations, and not designed to talk anyone out of investing.

        To invest in the company involves a lot of predictions of what may happen in the future. Remember predictions are difficult to make – especially when they are about the future.

      • Investing is all about predicting what a company may earn in the future. There are plenty of risks! I bet you weren’t expecting the reject shop to struggle this year or matrix not converting any orders?
        In my opinion BGL sales are more predictable going forward. But again this company may not suit everyones investment profile.
        It seems to me the market agrees with me as the share price has performed very well compared to the rest of the market.
        Cheers

      • Their business is not seasonal but only the student communities part is during the holiday periods. July is a holiday period, therefore as I indicated above, extrapolating their run rate or revenue from then, is very conservative! Cheers.

    • Ron,

      Whenever anyone starts quoting EBITDA and NPAT without “abnormals”, I put my wallet back in my pocket. I am not sure whether you are trying to convince yourself or the rest of us, but whichever way I look at BGL, they are high risk. Michael has made some good points and I would add;
      Free cash flow was negative.
      $26M of assets, and half of it is intangibles
      Operating cash flow of $5M will not support $3M capex as an ongoing trend.
      Good luck with it.

      David

      • Ok guys. We don’t need to agree. Let’s wait for next years results and see which of us got it right.

        Because the blog post above referred to their cash-flow, it’s a good idea to look at their ebitda as a true reflection of their cash-flow ability. Also don’t forget IT businesses have very high depreciations in their accounts.

        Cheers and good luck with your other investments.

  9. A man walks into a bike shop and strikes up a conversation with a handsome young 40’ish looking guy. What do you do he asks. I’m an investor and fund manager comes the reply. Oh, what do you like at the moment?

    Well there’s this company that listed a couple of years ago at around 1.50 or $2, and it’s now around $4 and if they win a bit of business this coming year then I think it worth about $7. Wow! Sounds like a great investment.

    Before getting the name of the company the man leaves.

    He walks into the pub and there is his mate drowning his sorrows. What’s the problem mate?

    Oh investing problems …………..Really?

    Yeah this company was $9.50 but in the last 6 months the price has collapsed to around $4……some people reckon it’s might be worth $7 but its had a bad 6 months and they have no orders going forward. Really……sounds like a dud……………….. best to sell I think.

  10. I bought shares in this company in 2010 with a view to holding them beyond what I believe will be the boom in offshore drilling in 2015/16 (i.e. Brazil, in particular). There are only three categories of reasons which would make me sell.

    1. Poor financial health of the company itself which could see it fail before 2015/16.
    2. The company losing its technological or marketing edge, thus losing market share to its competitors.
    3. A fundamental change in the macro factors of oil.

    None of these reasons currently exist, in my opinion. I take the point about cashflow very seriously, but I also realise that it takes years to build a rig or a drill ship. Also, don’t forget about the market for replacements which is beginning to emerge. In the medium term I think this might smooth out the erratic industry cashflows.

    What is it they say? Alert but not alarmed.

  11. Hi Roger

    I think your leading sentence re Matrix may have been tainted with some emotion, no?

    “What is the value of a company that wakes up to find it has sold very little or even nothing in the last six months? My very long-term outlook for the price of oil hasn’t changed, but I can make the argument that the shares of Matrix C&E cannot currently be valued as a going concern any more confidently than I can a speculative exploration company.”

    Like it or not Roger, you have a following that hangs off most of what you say and no liability spiels telling everyone to seek and take professional advice will stop those seeking a short cut to quick bucks; so I personally found it a bit alarming. What you say can and does have a short term effect on share prices.

    Passively investing in a company requires trust (blind or informed) in the leadership, industry insights and business acumen of those in charge. MCE is no different. Perhaps there is something sinister we are not privy to, perhaps not.

    Playing devil’s advocate for a minute might I suggest that those in charge could also be in the transitioning phase of running a successful private company with no-one else to answer to but themselves; now having to answer to all new owners and their respective interests. The management of MYER have referred to this as trying to herd cats! I want my management to concentrate 100% on the business they operate and not the day to day movements of share price.

    They could also be a victim of worldwide volatility that is the new landscape we face into the future.

    Of course cash flow is a major concern, but do we believe that the management of MCE would have pumped all that capex into a new facility at Henderson on hopes and prayers?

    If they are telling us that they will increase earnings by 20% in FY2012 then they must expect that they will turn some of those quotes into orders; otherwise lots of people selling must think they’ve been misled.

    They were obviously persuasive and believable enough to encourage institutional investors to pump $30.175M in during this years earlier SPP which they said was oversubscribed at $8.50 per share. I’m assuming these instos had a little more info to digest then us small retail investors.

    As someone who reads a few financial statements and watches with interest the effect they have on share prices; it will never cease to amaze me how some companies that may be big but are far from profitable consistently disappoint when reporting yet remain share market “darlings”. There truly is no logic when it comes to market movements.

    Isn’t that our creed as value investors: to identify extraordinary businesses that are out of favour with the crowd and wait until the lemmings eventually catch on? Take advantage when people are treating that which is temporary as permanent.

    I think it should be put into perspective that MCE did increase sales revenue by 85%, NPAT by 85% and EPS by 56%. Plenty of companies would give the world to be able to release these figures to the market.

    Disclosure: I own a small amount of MCE shares and like others will watch with interest. I do not invest in speculative exploration companies but will maintain my interest in MCE. I originally bought around current prices.

    Cheers

    • Hi Sean,

      I can make an argument it’s hard to value. Later in the post I make the argument it could be worth $10.00 and then I argue it could be worth $6.80. I thought it was balanced but perhaps it could be more so. Thanks for pointing it out and thanks for sharing your thoughts about Matrix too.

  12. its easy to allow the compliments to be posted, but its integrity that also allows the critisims

  13. I don’t normally read here. Came across this when looking up detail on BGL – a company I hold shares in.

    Negative perspectives on companies I feel are under valued are welcome as they make me re-look at the business, sometimes from a new or different perspective.

    Re BGL, however, my positive outlook is unchanged. Firstly I believe you have mis-read, or at least have incorrect, one balance sheet item. The amount they owe on acquisitions in the next 12 mths is not $3.6M. More like $1.575M. The number you have used includes standard trade items like creditors and accruals. That is all in Note 18 as you point out.

    The current asset deficit is not a huge issue to me. The good thing about a business like this is at least some aspects are simple. Most notably cash flow. Average credit days was a mere 23 days (Note 10). Even if this works over a longer term 30 days the simple fact is that they have predictable, consistent, and regular cash flow. With approx $2M cash in the bank, plus debtors, they have healthy liquidity. That is the key.

    Other would know more about CAPEX than me, however I have read similar numbers as you state. EBITDA $9M (based on a holiday month that they state is lower) would comfortably cover CAPEX and vendor finance, with change left over. But it does depend on how much investment capital is needed – with investment = new income / profit and hopefully 40% margins.

    In truth, I am not a huge fan of acquisition growth in many cases. I’ve stayed away from some business I understand as I get the impression the acquisitions are hiding core business issues. In this case, I don’t think that is the case with organic growth also taking place.

    Anyway, I could write on however is late plus don’t want to bore people. Appreciate being made to re-look at why I invest here.

    Cheers

    Mark

    • Mark good work for digging some of the answers for yourself.

      superficially looking at balance sheets and claiming a company is cash strapped is not the way to invest. i have spoken to the company and clarified all the issues raised above.

      im very excited about this company for the next 3 years! to be continued….

  14. My calculation is that MCE had orders of $25m in the last 6 months. I work this out by taking the opening order book of $180m, subtract the revenue for the previous 6 months of $95m, to arrive at $85m of orders unfilled that existed 6 months ago. With an order book of $110m now, that gives me $25m.

    I note Rogers point that to meet 2012 guidance they will need orders in the coming weeks. I agree on this point, but disagree that this is critical. A company exists on a continuous basis – not in discrete one year periods. The long term value of a company is not much different if orders come through in 6 weeks compared to it taking say 10 weeks.

    I also think the focus on cash-flow is overstated. The key issue here is does this company actually have a competitive advantage and bright prospects. If they don’t, then we are all wrong on this one. The poor cash-flow is simply the result of this error, not the cause of the error. Let’s get the telescope out again, and put the microscope away.

  15. Peter M (Mully)
    :

    Hi Roger,

    Thanks for your insightful synopsis of MCE’s FY11 report which is not too dissimilar from my I own. The commentary and feedback from fellow bloggers has, for the most part, also been very good indeed.

    Whilst it’s been an interesting few months and last few days for the MCE share price, a quick look at the the daily chart between early March and early July clearly revealed that the price of this stock was headed in a southerly direction notwithstanding its good fundamentals and cheap valuation at the time.

    I’ve said it before and I’ll say it again, combining the sound principles, techniques and methodologies contained in Value-able with technical analysis is a formidable tool in the current market environment.

    Not quite as good as Ron :), but the red technicial indicators in July provided me with suffient evidence and reason to exit part of my holding north of $7.

    If this experience doesn’t underscore the relevance and importance of undertaking thorough research on and applying an adequate margin of safety to an investment in the stock market, then nothing will.

    To Mr Begley and his Board, may I respectfully say:

    “Welcome to the real world of public company management. If you fail to keep the market adequately informed, treat your shareholders like mushrooms, take them for granted, fail to manage or meet expectations which you create or surprise the market in any way, you will find that it is a very unforgiving and unrewarding place.”

    That said, I remain optimistic about the company’s future prospects and (hopefully) look forward to hearing some positive news on progress towards meeting and exceeding their FY12 forecasts

  16. As a doctor of 30+ years I realize that the not everything is assured. The man at the top of the ladder can rapidly be on his way to intensive care with one small change.

    It is very helpful having the guiding influence of you Roger and also the expert panel of bloggers to help create a more meaningful context for Mr Market for those of us who are inexperienced in this challenge of looking after our hard earned future. For each of us our decision is fully our responsibility. The more intelligent input the better for we novices.
    Thank you all

    • Have to say i always saw the focus being on quality and not price. I know a lot of others didn’t necessarily feel that way here over the recent past.

      Give me a quality company at 20% MOS or an average company at 250% MOS i will choose the quality one every single time.

  17. Pat Fitzgerald
    :

    Hi Roger

    Their revenue beat some analysts forecasts, so maybe we can believe the revenue forecasts. Maybe Henderson commissioning taking longer than expected has had a impact on NPAT.

    • No doubt about Henderson, Pat, it contributed virtually nothing but cost plenty to build. On that front, things will be much different this year.

      Munger’s observation that there is a genius on one side of a trade and a dolt on the other but it is not clear which is which until much later is particularly apt for MCE at present. *IF* they win the contracts they expect, then the current price will look ridiculously cheap. If they don’t, well…

      My general thoughts are these:

      – MCE has been around for a number of years and has a good market share. I feel that that is unlikely to deteriorate signficantly for various reasons. If you regard the recent lack of contract awards as permanent rather than temporary, you are effectively saying that the 40% odd market share the company has been able to achieve over a number of years has and will remain greatly reduced, given the favourable medium/long term environment. My personal view is that this is unlikely.

      – Cost of production and transport at the Henderson facility will be much less than Malaga. Though the higher AUD has a net negative impact, reduced cost of production may allow some more wiggle room to offer more competitive prices. If the company’s products of such high quality that buyers are prepared to pay up for better floaties then margins will be better and there will be a nice confluence of increasing revenue and margins (provided contracts are forthcoming).

      – More varied product offering over time should help to even out some of the current bumps in cashflow.

      – Rapidly growing companies have more things that can go wrong (cost blowouts) and that combined with lumpy income can present problems.

      – Management need to realise that publicly listed companies need to provide greater public clarity for their new owners compared to private companies. Attempting to hide weaknesses in reports is more damaging than fessing up in the first place, the cover-up being worse than the sin. I hope that they have received this message from the market’s response.

      I still hold MCE.

      • Pat Fitzgerald
        :

        Hi Roger

        You obviously want people to sell their MCE shares, so OK I’ll sell, $13 per share and you can have them. I don’t have that many so a slither from a gold bar will be fine. Of the 20 stocks that I own, I think you may own three and they make up about 15% of my portfolio. I am learning from you but I am not following you into and out of stocks.

  18. Roger, this is just a gentle reminder of how the market and shares can react. I have only been in a little over 12months now and have witnessed things that i never expected, and thankfully to your book and a big MOS have not entered the red as yet. I am very grateful for you sharing this information and will be even more keen to follow this method as you have taught and given so much in such a short time. I dread to think what i would have left if i just hit the top six Blue Chips on offer.
    When i completed the book and started investing in companies such as the above i invested for the long haul, this may not have been the best result that we could have expected but i am confident contracts will come. I am confident this is a well managed company with a good future. Thanks again for all you hard work and sharing with us.

    • Thanks Grant,

      I have been asked to write something of portfolio construction too. WIth a portfolio approach, you don’t bet the farm on any one stock (we have identified 20 in our portfolio) and there are plenty of players on the field if one is injured. Over time, a team of A1 players will beat other teams more often even if one or two (rarely) hit the bench.

  19. I think what Alex said was exactly what questions I had as well for the company. I wont talk about the numbers here because they are bad and others have commented on them already.

    With this result looking back at some of managements decisions in the past year, seems like they help themselves more than the shareholders.

    In the half yearly report they mentioned they had 40M of contract wins between November and February, had the rate of contract win maintained at this level, I think they would have been on target more or less.

    However the capital raising was in April, Aaron Begley himself sold 350,000 shares in April. Coincidentally the share price was hitting its highs around this time so it must have been a godsend for them. I would put forward at that point in time they would have known their FY results would be below expectations and once released their share price will be punished no matter at what price. So they decided to go ahead while the getting was still good.

    This is very underhanded especially for the investors that took it up at $8.50, in 4 months time it has descreased by more than 50%. Also the intrinsic value has been roughly reduced by 20% – 30% from just 6 months ago depending on your valuations and that is only if they hit their (companys not analyst) forecasts for this new year.

    So the other concern I have is the new facility which they got shareholders to pay for, its all well and good to increase margins thru automation and efficiency, but you need to make sure you have work to be efficient on. The savings from the facility in the short term is a minor positive point. The cost of building and investing in this could not really have come at a worst time.
    Just like a person cannot thrift their way to become a millionaire, you need to increase cashflow and net profit. This point Roger has emphasised in his article and I hope he hammers that into Aarons head when he meets up with him.

    Regarding the $500M quotation on the books, does anyone know what the value of the quotation books were this time last year? That would be the ratio you can assume will be converted from the current $500M as a guess. In Februrary they said it was $400M.

    This was an organic growth story, which became a we need extra funding to accelerate growth story to now a turn around story. Isnt buying into a turn around story speculative then?

    If I could ask one question to Aaron is “You havent sold anything in the last 6 months, what makes you think the next 6 – 12 months will be any different as the Macro environment would seem unlikely to be much better in US and Europe?”

  20. i had a made a significant profit on this stock, and am now well behind. It just goes to show that when a stock enters a major downtrend you are much better off selling and taking a profit.

    • I disagree, the biggest amount of money i have made on a sale was because is at down and bought more during the downtrend and sooner or later the price went back up to abouts where it should be based on value.

      This company was Qantas which i saw rise to around $60 then hit as low as $26.00 during the GFC. We all know where it is today.

    • Rowan. What do you mean by a “major downtrend”..you can only say what you have said with the benefit of hindsight. By the time you have identified such a trend..it is too late…you cannot predict the future on past prices. This is fundamental. How could looking at the chart trends predict the MCE result the other day? How did ANYONE know what MCE management were going to say?

      This was a rooster losing his head on thanks giving day event. The chart for the rooster’s life all looks fine, until the farmer want’s dinner! There were no announcements in the preceding months. If you think that you can make good investment decisions using technical analysis, then can I be so bold as to say, you are on the wrong blog…Good luck!

      • Peter M (Mully)
        :

        Sorry to disagree Alex but fundamental analysis is all about understanding the business, it’s competitive advantages, future prospects and financial metrics.

        Technical analysis is about understanding market sentiment, price action with little, if any, regard to the stock’s business and fundamentals. Neither one is exclusive to the other and, in my view, can and should be used to compliment one another.

        Trend lines on the MCE weekly and daily charts between early March and early July revealed that the share price was in a downtrend trend and making new lower highs without any signs of basing and forming a support level.

        Until the share price creates a sustainable support level and shows signs of reversing its downward trend, market sentiment, notwitstanding sound fundamentals, suggested that the share price is likely to continue on its southerly trajectory. Indeed, this tend is still evident as I write.

        With this in mind and, with the benefit of the fundamental analysis, it is thus possible to anticipate the stock’s future price action and take a short term investment decision without compromising on one’s long term investment strategy in the company – provided, of course, the fundamentals of the business do not adversely change it’s investment quality and intrinsic valuation.

        To suggest that investors who use technical analysis to make good investment decisions are on the wrong blog is indeed a bold statement. On the contrary, when combined with fundamental analysis, it can be a formiddable tool.

        As an investor, I have an open mind on all investing tools and techniques available to me and will continue to embrace those that have the potential to increase my investment skills and returns.

  21. G’day Roger,

    Don’t worry about the knockers, I have learnt more about investing from you in the last 2 years than in a the previous 10 years, so keep on coming to your blog and helping investors think about which companies are A1 and why…. I know now that when I look at my portfolio all I see is quality and during the last few weeks of panic I was cool as a cucumber.
    cheers.
    p.s: even Buffett and Munger can take a hammering, look at BYD.

  22. G’day Roger,
    I do get nervous when I hear companies talking up their tendering pipeline…….. MCE is starting to remind me of the small cap former market darling Neptune Marine Services (NMS).
    Cheers.

  23. I think this event reminds us how important it is to come up with a system that works and is appropriate for yourself. By all means soak up the generous education and insights Roger provides and conduct research into the stocks mentioned. But it’s also important to consider other sources and methodologies and only take actions you are comfortable with.

    With this in mind, I am pleased I sold half my holding of MCE at $7.50 even though this was more of a ‘technical’ decision and not really the value.able way. I knew that I just wouldn’t be happy losing all of the gains made over the past year with this company. So I set a target of $7.50 and if the stock dropped to this level I would sell half.

    While I did purchase a number of value.able top quality stocks, I also decided to keep some of my other stocks that don’t quite make the value.able grade. These have all continued to do well and are paying dividends etc. I think this combination will work well for me.

    I will continue to follow Roger and all of his excellent insights and services but will also keep in mind information from other sources and experts (as well as do my own research) and make decisions that I am comfortable with

  24. I have feared for a few peopel on here if MCE had a mixed result. I remember around the December period where this blog was getting about 300 comments to every post, mostly just asking what is the MQR or what is the value of XXX, MCE covered 90% of the discussion.

    I got the feeling many went in blind and bought up shares because they were hyped up here instead of really trying to understand the company etc.

    It appears from some responses that this is the case and i am sure there have been some we cannot see which also might be considered a C5 comment and very unfair.

    May i also stress as i did, Roger has and many others have numerous times, do not buy a company simply because it is talked about here. Do your own research and understand the company first.

    The valuations i think are still seen as a type of holy grail (remember some people read only that chapter of value.able initally) by a lot of people when in effect it is the least important and is biased towards the inputs you enter as Roger says.

    The MCE cash flow problems ahve been mentioned here a lot previously and a past post of rogers caused a stir when he forecasted a decline in intrinsic value. If you rely on just getting data to perform calculations from comsec you are missing a lot of important information.

    I have saved down the QAN report to study as it is a good example of a poor economic business, i might do the same with MCE as it looks like an interesting one from a learning point of view.

    If you don’t understand something on this report than ask on here and some will be able to help you and if not there is always Dr google.

  25. gee that Mr Market’s charms are seductive, but the future’s always uncertain – you pay a very high price in the stockmarket for a cheery consensus

    WB – again!

    Also, aussie investors, have to remember we just don’t have the consumer products companies Buffet has cleaned up on (read, Tiffany’s, P&G, Gillette, Coke, Kraft, Disney, Amex etc). ORL is one exception to this.

    These types of busineses have big brand moats, consistent earnings, growth and high ROE.

    One competitive advantage we do have as a nation is, IMHO, in resources – we’re the best in the world at it.

  26. Hi Roger,

    Thanks as always for the informative/thought provoking write up.
    For what it’s worth I’m personally hoping MCE gets cheaper as I still feel their prospects are bright. Buy when prices are on sale, isn’t that how it goes.

    Anyway keep up the good work, look forward to hearing about the A1 service.
    Cheers

  27. That was a very informative and timely post Roger.

    All the points you made are extremely valid and go to the heart of the matter. The Value.able approach is not just a ‘magic formula’ for kicking out the right price to purchase a share but a whole approach to investment thinking that must all be taken together. Simply punching in numbers and then buying based on the outputs is ludicrous. The entire business must be assessed as if you were looking to purchase the whole company not just some shares for a while.

    The issues raised above with MCE have been well flagged on this blog. The cashflow issue was discussed at length around the time of the half year report.

    Please also remember that Roger generously wrote the book, and maintains this blog, to be used as an educational tool to introduce and school people in the art of value investing. He did not, I believe, intend it to become a place of ‘easy money’ where share tips would be doled out providing ‘guaranteed’ easy returns.

    It also been flagged in the book and here, many times, that the short term vagaries of the market must be ignored in favour of the longer term view. It has been 1 year since MCE had a big run up and has now come back down. As mentioned above, the longer term future is bright provided the well identified issues are dealt with. The company is obviously aware of these issues as well and, with a large part of their wealth tied up, will move to take the necessary steps. The 3-5 year view must be taken (telescope, not microscope).

    As to a comment about Roger changing his mind on stocks I refer you to the quote from John Maynard Keynes (I think!). “When the facts change, I change my mind. What do you do sir?”. If a company’s releases to the markets cause a shift in the IV or the fundamental view of the company then changing ones mind is the right course of action.

    Please take Rogers advice and reread the book. Think about what you want out of investing. Think about your investment time horizon. If you cannot stand seeing stock prices shift around then don’t invest in the stock market. If you need the money for something next month then don’t use the stockmarket to stash your cash. And reread the book!

    PS. Reread the book

  28. How extraordinary that so many people who claim to have read and understood Value.Able seem to have chased the share price up and now seem happy to abandon it with the share price down.

    Were you just following Roger’s sentiment, and as such really speculating based on emotional response to that sentiment?

    Did you ever understand the business?

    Do you really think the intrinsic value of this business has suddenly halved?

    Interesting.

    I’m not complaining, I love taking advantage of these irrational movements to acquire more of the business at advantageous prices. Please carry on.

    Disclosure: I own MCE and added to my position today.

  29. i bought matrix at 4 i doubled my holding stake at 6 started to sell when they anounced capital raising started to sell hard when they broke 8
    i admit i did not research mce enough when i bought them
    but they looked cheap and share price was moving fast
    i made alot of money i bought back 30% of old holding at 6 before report
    Roger said on tv and on blog wait for the report before you buy
    and the first time he recomended matrix when shares were much lower he said he bought smal portion so dont run out and buy do your own research he also said something like he bought small portion so he can buy more if share price falls you should be able to find it on you tube this blog is awsome i learnt so much from rogers book and from you guys on this blog never really been good at nr so i still struggle a bit with value investing but i am getting better
    thx

  30. Hello all. First post. It may betray my general lack of business acumen but my comments are as follows. I have money in matrix (probably more than is prudent) but I have a long life ahead of me to make back anything that I lose.

    Whilst I accept that there being no new orders on the books is certainly a catalyst for serious eyebrow raising, it isn’t the be all and end all yet. I think everyone needs to overcome the principle of recency bias in making decisions. Even Roger’s appraisal in noting the hard fact that in essence no sales have been made for 6 months must be interpreted carefully by not giving undue weight to the last 6 months as an indicator of the next 6.

    Ultimately, we all accepted that the management knew what they were doing last year, it isn’t particularly parsimonious to assume that that they’ve suddenly become worse.

    Given the apparently “granular” nature of this industry, perhaps the analysits should have known that the $180m in orders ought to have been interpreted as a glut that should be averaged over 18 months. If such gluts are indeed typical (and I have no idea whether they are) there is very little reason to doubt that within the next 6-12 months another one won’t arrive on the books.

    In my view this is my question for the management. If orders come in fits and starts are we overdue? What is the average frequency? When is the next one due? How variable are they?

    etc etc.

    Take home point. Let’s not be too quick to write off the order book’s future based upon it’s present stagnation It’s size 12 months ago is proof of how big it can become in a short time. I won’t be surprised if at some point in the future it has a similar bounce. Given the reaction of the market to the stagnation – it will evidently be astonished and respond to a new glut just as irrationally in the other direction. (My hope as a holder is of course that such a bounce happens within around 6 months but there are no guarantees)

    • Good perspective, I agree that the choppiness of business needs to be endured at times to successfully invest in some industries. Having said that, we also need to be careful about commitment bias. I think the trick is to go back to our original assumptions about what we expected an measure who reality compares. If there’s a big difference, we need to be able to admit we could be wrong.

      • I am not overly concerned about the medium term prospects of MCE. My MOS is I think sufficient to allow Mr Market to provide me with a safe exit point at some stage in the next year or so. Ive taken the opportunity over the last couple of days to drag my average entry price down. It has been an excellent case study for me to watch a share slide and incrementally tip money in with each 30-40c drop. Also a nice chance to watch Mr Market in full flight and gauge how I respond to those herd emotions. I’ve certainly felt them in full force but it seems my mind manages to stay in charge of my decisions rather than my amygdala :)

        The real lesson for me is about diversification. I’ve only just started my investment journey (I retired a 25K HECS debt over the last 12 months). To some extent a portfolio has to start out somewhat overcommitted and diversify over time. But I went in 66% to Matrix and 33% to Woolies (for a song on 9/8). But I have cash pouring in from my job so I don’t have to wait too long before I’m able to grab something else if the Market co-operates.

        I’ll use any safe exit point to trim my position in Matrix rather than abandon it and allocate some of the money to another good company.

        I kicked off as a bit of a hare but this experience has pushed me back towards the surer if somewhat slower path of the tortise. I’ve also picked up my copy of “Financal Statement Analysis” again and picking up where I left off at chapter 2. :)

        In any event I’ve learned a value.able lesson with Matrix. Value.able has also ensured (for the most part at least) that long term this lesson won’t be a very costly one.

  31. Some of the comments here are reflective of the broader investor approach that is seeking some level of ‘certainty’ to their method. I have been a fan of Roger’s ever since the ABC Learning debacle, when the only (yes – only one!) professional fund manager (Roger) stood up and told the truth about this company when all others were riding the gravy train, collecting fees (Insto. Banks) and managed funds pushing the stock due to their holding etc. We all know how that story unfolded. Roger’s method is based on a number of valuation techniques that date back over the last 70 years and Roger is the first to admit this fact, including applying his own philosophies and ideals (correct me if I’m wrong). One stock (MCE) that everyone on this blog has been following is merely being priced in the short term for what has now been disclosed, however this is usual and indicative of the sharemarket’s reaction following recent news, given the irregularity of MCE’s cashflow. I urge all followers of this blog to take a deep breath, and keep learning (TRS is another recent good example about falling IV and due to it’s more reliable cashflow, meant that investors had more time to exit). Another MCE experience is about the only certainty to investing in shares so ‘keep calm & carry on’.
    Regards
    MarkAb

  32. Roger. This looks like a great company to me, that has stumbled on a few crucial things…so this is what I would ask management

    1/ Why the cash burn? Are you becoming uncompetitive (labour cost too high etc…)
    2/ Why did you have few ( if any contracts) awarded in the last 6 months. Crucially..was it simply that you have become too expensive due to the rising AUD?
    3/ Why did you go ahead with the capital raising in April at $8.50, when (perhaps) you knew already you had a problem with the contracts. And why didn’t you announce this to market?
    4/ Why not pay down debt instead of increasing dividends?

    As you say cash flow is crucial in this sort of operation, and the company admitted to the market a cash position yesterday of 26 million, yet a debt of 35 Million….

    So, as you say it’s management that is the problem here, or the perception by the market that management has perhaps taking shareholders a little too much for granted…?

    This is a dark spot on management for me (in the best of markets) but poison in a bear market like this one..particularly in such a company with such a heavy industry base to it’s revenue in our country (which is suffering from high labour costs, a rising dollar and falls in productivity.)

    I’d love to invest in this company, but would need the answers to the above questions first. Can you put them to management for me, and report back to your blog.

    Tanks

    Alex

  33. At the beginning of “Security Analysis” Ben Graham quotes from Horace’s “Ars Poetica”,

    “Many shall be restored that now are fallen, and many shall fall that are now in honor.”

    And to me this perfectly describes the position Matrix now finds itself in as the lemming like participants of the stock market rush to overtake each other on their way to the cliff face .

    Investing as I understand it is a generational exercise and accurate results and performance can only be measured over many years and this goes for company’s as well as investors.

    ‘The reports of my death are greatly exaggerated.’

    I continue to hold Matrix and believe the company and its prospects to be first class.

  34. Russell Robinson
    :

    Posted this elsewhere on the blog, but it might get seen and respond to here….

    RE: Cash profit for MCE

    I just updated my numbers for MCE’s cash profit.

    It looks bad….

    -$46 million for 2011
    -$15.5 million if you add back in payments for PP&E (compared with +$25.8 million for 2010)

    Can someone please let me know if they have similar numbers?

    Thanks,
    Russell

    • Russell, I too have updated my models for Matrix. NPAT 33.608 add back provisions 0.608 and 0.544 and depreciation 4.673, I get $39.
      I also get Net movement in Finance loans and P&E $17k diff from cashflow, perhaps leases??

      Any ideas?
      Faye

  35. Everyone here who holds or held MCE must realise that our friend and Leader, WB, who many look to emulate in any small way, would never have purchased any of this company – it simply had no track record.

    • Kim,

      So we will ignore Buffett’s purchase of BDY? Or his early purchases where he adopted the Ben Graham strategy?

      Many people appear to think that Buffett does what Buffett says. Buffett is a man that learns well and also has adapted his strategy over his investing life.

      The best approach to Buffett is to study his actions over the past 50 years and see what has changed.

      regards
      Steve

  36. Hi Roger

    I have been following your blog for about 12 months now and have been taking a slow approach to my Value.able education in Investing. After reading some of the comments on this blog and doing my own research I purchased a parcel of Matrix shares about 7 months ago.

    I have watched in the last few days as MCE’s share price has tumbled and rather than being stressed and worried and cursing my misfortune, I have slept soundly. While I will take this time and information to review my IV for Matrix I am doing it calmly and without panic.

    I just wanted to take this opportunity to thank you for turning me into a Value.able investor rather than a panicked trader. (My wife thanks you too!) I wonder how many people who rode the MCE wave up have forgotten this lesson over the last few days?

  37. Randolph Duke: Exactly why do you think the price of Matrix is going to keep going down, William?
    Billy Ray Valentine: Okay, Matrix prices have been dropping all morning, which means that everybody is waiting for it to hit rock bottom, so they can buy low. Which means that the people who own Matrix shares are saying, “Hey, we’re losing all our damn money, and Christmas is around the corner, and I ain’t gonna have no money to buy my son the G.I. Joe with the kung-fu grip! And my wife ain’t gonna f… my wife ain’t gonna make love to me if I got no money!” So they’re panicking right now, they’re screaming “SELL! SELL!” to get out before the price keeps dropping. They’re panicking out there right now, I can feel it.
    [on the ticker machine, the price keeps dropping]

    • Great quote Nic – love it

      I’m showing my (lack of) age when I say I wasn’t born when this one was first said

  38. Many companies have bad years and you need to look beyond that. During the GFC the big 4 banks and BHP had their profits smashed and down went their share prices. 2 years later they were setting record profits. You have to believe in a sustainable competitive advantage which will eventually lead to profits growing in the future even if there are a few bumps every now and then due to the cyclical nature of the economy.

  39. To those who blindly follow the valua.ble formula, obviously they don’t understand how the business works, the true meaning of margin of safety and downward risk.
    if you don’t understand the business, how would you know how much margin of safety is required? or the worst scenario that will be happen?
    Valua.ble formula is one of the closest method to capture intrinsic value.Although I admit that I do change major part of the formula,still I think Roger is generous enough to give us the basic idea of how the formula works.
    The funny thing is some of the people here expect roger to spoon fed them everything.
    Sorry for my bad english, and no offence here.
    Looking forward your A1 service Roger.

  40. Roger,
    I have always had the highest respect for your knowledge and your ability to teach. Does this example not teach us the dangers of investing in commodity based business with uneven and unpredictable cash flow. I think your valuation method still stands up and I will continue to use it, but I do not invest in commodity based business. In terms of your judgement with this stock, I do remind others that you were warning for a while now that you would not be recommending the stock until the earnings release. Keep up the good work.
    Es

  41. Hi Roger,

    Never been a fan of MCE because of their cashflow, and don’t really understand their business so haven’t invested. On a very superficial level, I see the offshore oil rig business to be tough due to the enormous potential of shale, and the inherent low risk of shale compared to offshore oil. Add in the large number of exploration failures (dusters) recently, and if I owned an oil company I would certainly be looking for the low-risk yield. The large acquisitions in Haynesville (gas), Bakken (liquids), Eagle Ford (liquids) and Permian (liquids) by the majors clearly demonstrate this change. Consequently, I think there are major macro risks in this field.

    That said, I have to applaud your honesty and insights when it comes to your investment methodology. You have been open and accountable on this forum, and even though I use similar guiding principles but don’t use your method, I really appreciate what you have done here. No one gets it right 100% of the time, and a lot of very profitable investors make money with success rates of greater than 30% with the caveat of good money management.
    I am very impressed by your attitude and approach, thank you.

  42. Roger has done a fantastic job in educating us through his blog and book. To judge him over 1 year performance on MCE is too harsh. Even Buffet could not get everything perfect all the time. It’s impossible…Value Investing needs to be assessed over a far longer period of performance across many stocks. For those after a quick buck then head to the casino. We will all make good & bad decisions when we invest using the value.able method. The aim is to have a portfolio which will outperform over the long run. Prices can go down 50% below IV even with an A1 business. CBA, JBH, BHP this happened to during the GFC. We all need to be patient and the rewards will follow us.

  43. Ron, good piece on your call with Aaron, well done

    I emailed the CFO yesterday but am yet to hear back – you must have a hotline!

  44. Trelleborg are the main competition, as far as riser buoyancy products go, and it seems the slow down in sales is not limited to Matrix.

    These excerpts are from the Trelleborg AB Interim Report for April – June 2011. They are listed on the Stockholm Stock Exchange:

    The Group

    Page 2 – “The Group’s sales to the segments general industry, light vehicles, transport, aerospace, agriculture and infrastructure segments exceeded sales during the 2nd qtr of 2010. Sales in the Offshore oil/gas segment were lower than in the year-earlier period.
    Compared with the 1st qtr of 2011, sales to the segments general industry…blah blah blah…were higher. Sales to the light vehicles segment were in line with those of the 1st qtr 2011, while sales to the oil/gas segment were lower.”

    Engineered Systems

    Page 7 – Market trend. Demand for components for general industry during the period was higher than during the year-earlier period.
    In the project-related segments of infrastructure and offshore oil/gas, activity and order bookings increased gradually.”

    Operating profit and cash flow. “Operating profit and operating margin during the qtr declined from the year-earlier period. Operating profit was affected negatively by start-up costs following an acquisition and a new presence in Brazil and lower sales in offshore oil/gas, which were significantly stronger during the 2nd qtr of 2010.
    Cash Flow was lower during the qtr compared with 2010, mainly as a result of slightly lower earnings and higher tied-up working capital.”

    Onward!

    • Thanks Craig,

      Very informative. I think we will see some orders coming through for MCE very soon.

  45. Great post Roger, excellent education to us all.

    I don’t believe huge factories get built on just hope and prayer, they are built to expand production capability based on market knowledge, product demand and future capacity projections. I strongly believe MCE is in the right space and on the right path.

    The only regret I have is I did not balance my portfolio by reducing my exposure to MCE at the time where the price was at a higher premium. The lack of announcements from the company was the main reason for this, I took the view that no news is good news and waited for the FY report to flush out any of my concerns.

    Lesson learnt !

    Regardless, I still consider your book. this blog,and your investment methodology as the most valuable tools I have used for identifying great businesses at a great price.

    Keep up the good work in educating us all. My loyalty will not waiver.

    ps. any feedback on VOC results ?

    Cheers,
    PK

    • Hi paul,

      We went to a VOC briefing today and may write something up in the next few days. Suffice today we didn’t see any surprises. Be sure to do your own research and seek and take personal professional advice.

  46. I think these last few days prove the importance of portfolio management, which I regard as another ‘margin of safety’. I suspect a lot of people focused too much on the potential upside (discount to IV) while neglecting the potential downside, i.e. how much of an impact would a 25% drop in IV in MCE for instance do to your overall portfolio or if unforeseen events derail a comany’s ability (not saying MCE’s was unforeseen) to increase profitability.

    Even though I own shares in MCE, I didn’t let it become too big a part of my portfolio, no matter how bright I thought about the company’s prospects.

    Roger, perhaps it would be worth an extra chapter in Value.able about that (or expand on the topic in the last chapter), even though everybody’s risk tolerance and financial circumstances differ etc. Suggesting a conservative style couldn’t hurt. Although I guess it’s easy to read about being patient, but when something happens which requires it, we do the opposite!

    • You are spot on Phuong,

      Portfolio management and diversification are a large part of our process. By way of example only, and while its only one day, our benchmark index fell 0.57% however our portfolio went up a little today. Don’t ever put any weight on a one day move…please!

      • Roger, this is something I’m very much interested in. How do you develop a strategy for your portfolio in the first place?
        “Patience” is one virtue a value investor must have but it seems to me “restraint” is certainly another.
        Not long ago you mentioned your fund was 10% invested in the stock market and more recently it has increased to 30%. Most investors follow the practice of fund managers who tend to be fully invested (have every dollar working for them). Of course this means they will choose less than exemplary stocks risking the capital invested in them.
        Roger, could you do a blog hinting at a strategy to develop a portfolio using both patience and restraint. I’d love to have only the best stocks and plenty of cash to buy more. But there’s the rub, do you have a formula that prevents your becoming fully invested.
        Cheers. Great work Roger.
        Rob
        and to fellow posters I watched my portfolio get cut by 2/3rds during the GFC. MCE’s report was not a Black Swan event. As Ron posted earlier “Keep the Faith” and as Charlie Munger was quoted if you can’t handle seeing a stock halve in price then you should not invest in shares.

  47. Great post Roger with a good follow up from Ron. Now, I’m not trying to time the market here but I am thinking of catalysts that will mark a change in direction of the share price and foreshadow a good opportunity to add to holdings (noting that a useful MOS already exists). A positive announcement on the award of a contract, for example might be one. Others might include the Begley family upping their holdings (already 40% but has been declining), another company becoming a substantial holder or the inclusion in a higher share index (ASX200 – unlikely at present prices) or simply a change in the direction of the rest of the ASX (lifting tide). One of the issues with investing in smaller, less liquid companies is that market reactions can be more severe but this may well provide a good opportunity. In 12 months time, I wonder if the media will describe buyers at these levels as savvy investors or mug punters?

  48. As the saying goes, “one swallow doesn’t make a summer”!

    If anyone is surprised my the market’s reaction to MCE’s result or say CCP’s result (which I thought was terrific), they should take a Random walk down Wall (or Collins) street.

    MCE’s growth over the next 5 – 10 years should be more than satisfactory.

    To quote the great man “the lower it goes, the more I like it”.

  49. Hi Roger,

    Thanks very much for this detailed article – and for putting it up within such a reasonable time frame. Much appreciated.

    I must say I am a little conflicted about this idea that value investing is about buying good quality businesses for the long term considering some of your seemingly quick exits out of the top stocks you have mentioned in recent times. The changes in the prospects of these businesses seem to be fast and dramatic, leaving little hope for the average investor to keep up.

    If understanding the business is far more important than intrinsic value – will the A1 service really be of such benefit? Perhaps an updated recommendation component would add value. Also, will the A1 service provide a simple cashflow overview of each company to help quickly identify issues such as we have seen with MCE?

    • Hi Steve,

      Interesting thought. Its what we use and its a huge help. Its because we can see changes to intrinsic values based on updated data that we are able to make the decisions we do. I couldn’t do without it. If I was spending all my time trying to work out which companies to focus on, I wouldn’t have any time to focus on them!

      • I’m a little confused with the value.able method right now. Ben Graham said if you purchase well, you do not need to watch the company like a hawk. I also could not imagine Warren Buffett changing his assessment of a company so quickly.

        It seems we are watching like hawks. I would have thought if the company has a competitive advantage, this leads to contracts, which leads to cash being generated. If short term conditions impact a business, it really should be irrelevant to value investors.

      • I think it depends on where you are watching. Are you watching the price to see how much money you are making/losing or are you watching the company and its operating environment to see if something changes in this landscape which is the more important part to successful value investing.

    • I have learnt some very valuable lessons from recent occurences. Assesing future prospects is paramount. IV ROE Cashflow are meaningless measures on their own. So is competitive advantage.

      won etc etc. Ala Monedelphous who had concrete foward order books that already exceeded or matched the prior year as at 1/7XX. for the last 7 8 years.

      I speculated that MCE would grow would be a much bigger business in 5 to 10 years. A new state of the art facility comp. adv high barriers etc etc. But this was subjective on my behalf. What is needed is a more objective measure for bright future prospects just like measuring roe!!!!!

      Warren B said something along the lines that he only valued companies that he could be sure of what there future earnings would be. A companies that looked like bonds with predictable coupons.!!!!!

  50. Kent Bermingham
    :

    When to sell? Buy when all those are running in fear!
    This is what we have now Fear, It was good to see that Ron had the ability to pick up the phone and talk to the MD.
    Good on you Ron, what we want now are some facts and that with 500K of quotes in the system and MCE being the dominant player of 4 players one would wxpect that they may be successful in at least 30% of these, that is $150 mill ,
    Add this to there first half sales and yes you get the 20% increase in Sales.
    We were all lead to believe this was an A1 Company and subject to Roger picking up the phone and talking to the MD to reaffirm Ron’s comments now remains an A2 company, yes investment grade.
    As Value Investors we need to get the facts first and as Roger says we are in for the long term so why such a huge over reaction – just shows who needs to go back and read the book again.

    • Hi Kent,
      I agree with you.
      The selling is not a problem. Mr Market is a voting machine and an irrational one at times.
      The market’s reaction and the contents of the report is time for us to assess whether this is a buying, selling or holding opportunity.
      If bloggers here can’t turn the market off, choose to be lazy and not do their own research, then they aren’t value investors.
      BTW, I think there is a lot of truth in what Doug says in the following post. Well said, Doug.
      Cheers
      Rob

  51. Hi Roger; The reaction to the MCE fall seems akin to those who buy an”infallible racing system” because they can’t be bothered to do their own form [research].When easy riches fail to materialise it’s”not their fault”.It must be galling for a man who has given so freely of his expertise to have those who cannot or will not put in the hard yards criticize a way of thinking about investment that has been of immeasurable benefit to so many.
    I bought in to MCE today as I believe the price fall has been overdone.I hit the sell button within 5 minutes of reading the BGL report;all the bluster about EBITDA and a very charitable I/V by my rudimentary methods of 24cents was enough to lock in a big profit.

    Regards Doug.

    • The BGL reported profit was flat on the prior period. It gives a good indication of the honesty of management when they do not even mention this in the media release. Or maybe it’s me, I should use the underlying profit, and then add back the interest, and then add back the tax, and then any other item that only occurred because they made a mistake. I don’t have an opinion on the future prospects on the business, but out of principle I would not touch it.

  52. Hi Roger,
    I do own MCE shares
    I think this goes to show ,how quickly things can change,That people panic when they lose confidence and that Value investing is about understanding the company, watching for new developments and understanding cashflow statements not just plucking 5 nos. into a formula to get i.v.
    Also that analyst forecasts are just that forecasts.. and they do not necessarily come true- Is “20% guidance ” realistic ?
    Let ‘s not forget that there are $500million quotations on the books and hopefully some of them will turn into firm orders…..We live in hope. I still think Mce is a good company.
    Thanks for your explanations Roger and for being so candid.Looking forward to your A1 service when it comes out
    Gina

    • Hi Gina,

      I think MCE is an extraordinary company because of its massive opportunity, market share and what many believe is a very positive macro picture supporting oil rig construction, maintenance and usage. It simply needs to win some new business to meet its targets.

      • “It simply needs to win some new business to meet its targets”
        David Jones also needs the same, and every other single business that has been smashed down with this second round of GFC.
        As I said before, this is a cyclical business; you can’t value it using a “one size fits all” formula.

    • Hi Gina,
      I read earlier in the year that MCE has on average converted 38% of quotes into firm orders both before and since listing on the ASX, so while this statistic is not within the bounds of what may constitute a Value-able input, all things being equal they certainly know and have shown in the past how to win new business. I still think the Henderson plant will bring an added competitive advantage in comparison to their main competitors in the US, not just providing a lower cost base which will increase margins, it’s also already attracted some key personnel from those competitors who are now employed within MCE and who will drive a lot of new business in the US.
      Cheers,
      PaulS.

      • Hi Paul/ Roger,
        I agree with you both. All the facts that are coming out just highlight that the market is being irrational and punishing the company at the first sign of any bad news.That is why blogs like this are great.
        Gina

  53. Hi Roger,

    Please do not be discouraged in teaching us about value investing due to the people who come on this blog to get stock market tips looking for a sure thing right now. These are the people who have completely missed the methodology of value investing and are terrified by the short term movements of the market. I suspect the current sell-off is mainly due to these “scared” previous value investors.

    The obsession with the intrinsic value calculation (which is the last consideration in purchasing) and the short term view I think is the flaw that most people have yet to overcome. Value investing is all about the buisness and its future prospects not a personal calculation or a few months worth of market moves.

    Keep up the good work Roger, there are people here who do appreciate your real value insights on great businesses not just your current intrinsic value. Although I am still looking forward to the A1 service.

    Cheers,
    Luke

  54. Thankyou everyone for their blog on MCE. Only thing i need to add is that as investors we often dont really understand the industry that we invest in.
    Like floatation devices, is it really necessary? If so why so few orders in the last 6 months. At the same time who are the competitors for the same products or competing products. Did management really think that a stagnent order book was not price sensitive information until now?
    I like the notion that you are betting on good management, and if the trust is broken, should you really stick with them irrespective of IV? Somehow I dont think so….

    Cheers

    Mark

  55. Why is MCE still listed as an A2 stock given your stated concerns?

    You generally say a1 -a3 and b1-b3 are investment qualitly.

    Are the ratings a purely calculated value ?

    • G’Day Rod,

      Its an A2 now. Do you think the business is going bust? I don’t. I think they need to win contracts. Thats what their results suggest. They simply need to win contracts and management say they will. As I say in the very last line, the reaction in the share market could be an overreaction and therefore represent an opportunity. We may end up buying a significant amount because these prices are cheaper than intrinsic value. I will meet the company later in the week.

      • MCE A2 ????

        Thanks Roger
        I had it as A3 and bought today at $4.55 and then again at $4.20
        Am seller at $6.25
        Zoran

  56. MCE UPDATE:

    Hi everyone,

    I have gone through MCE results and have spoken directly to Aaron Begley about them.

    Roger’s post above is one way of looking at the situation. I have a slightly more positive view of what’s been happening.

    Before I disclose what I have found out, everyone on this blog needs to understand that when you invest in a business like matrix, in its nature it is a lumpy business. Orders are based on purchasing cycles and payments are paid accordingly by upfront deposits etc.

    If you want a steady type revenue business then don’t invest in matrix, forge or others but instead buy Woolies shares!

    Higher risk higher return!

    Back to Aaron, obviously he is not happy with the market reactions but he is very certain that they will convert about 30% of their current open quote book. He indicated about $160mil in orders to come through and together with $110mil already confirmed, 20% revenue growth seems conservative!

    Of course the market will not believe this until it sees these orders coming through and therefore Aaron has indicated to me that they will announce new orders from now on!

    The oil and gas industry has a purchasing cycle and therefore matrix is bound by that. But rest assured that unless the world stops using oil, rigs will need to be built and deployed and therefore buoyancy risers are expected to be in demand. There are 4 companies who supply these around the world and Matrix is the leader both in market share and technology.

    In terms of their debt it is a 10 year loan they have borrowed prior to Henderson being built.

    I, along with Roger, have consistently emphasized that you need to be realistic when valuing these types of businesses with high ROE and low payout ratios as it implies unsustainable growth rates. Roger writes about implied growth rates in Value.able.

    Also buying on BIG MOS is the most important rule when investing! I did not participate in the capital raising for that reason.

    The other lesson to learn from the matrix experience is that taking profits is a good idea when shares run up too quickly. I owned a lot of MCE shares but I sold half of my holding at $9. The other half I am not planning to sell as I believe the orders will come through and the share price will follow.

    KEEP THE FAITH!!

      • I have not seen matrix announce a contract with a dollar value attached, and a quick check through the asx website back to 2009 didn’t turn up anything. It wouldn’t hurt for them to communicate relevant business details to their owners a bit more regularly.

    • Hi Ron /Roger,

      Many here do own shares in MCE. Thank you both for taking the time to share your detailed insights. These mid tier businesses can change quickly and i think many including myself have placed to much attention on IV figures and not enough attention to cash flow which is the life blood of business.

      • My feeling is that for retail shareholders in particular, the most attention has to be paid to portfolio balancing, with IV and cashflow growth prospects being more a case of yes/no as to whether to retain the holding. Don’t adjust your bet to suit your predictions and vice versa (think Nassim Taleb’s Black Swan argument). Ron gave an example of reducing his holdings at the higher price – while the run-up was “obvious” in hindsight, the clearest indicator to sell should be when price changes in any 1 stock in your portfolio exceeds your risk tolerance – down OR up. It’s not di-worsification to new stocks, it’s about re-distribution to your other quality selections (some of which are hopefully declining in share price even as prospects remain healthy).

    • Ron and Roger

      I deeply respect and value your considerations in regards to MCE and many other businesses.

      You are both menschs’.

      Keep up the outstanding insights.

      Yes, Keep the Faith!

      Jeff Burnett

  57. Thanks Roger,

    For taking the time to write this article and your blog. This article was very helpful and your blog has helped me continue to learn. This is a great bonus for those who have purchased your book.

    I thank you for putting in the time to write each week.

    Bret

  58. HI Roger

    Great post again.

    In the reporting season what areas should i be looking at in the annual report to give me an impression of how the company is travelling? Whether it be good or bad.

    cheers

    darrin

    • Can be anywhere between Page 1 through to the last page, there are interesting facts in most areas whether it be firstly understanding the company or how it is performing or the health.

      As for the financial reports i go-
      1-Balance Sheet + notes
      2-Cash Flow Statement + notes
      3-Profit and Loss + notes

  59. Well this should come as something of a shock to many contributors to this blog. Since the time I started reading it, MCE has attracted almost nothing but praise and had quite a stellar run up to $9.95. I bought some at $4.06 a year ago, and happily held them. Today they have virtually gone back to that price. I expect to see them go down further at this rate. Perhaps it was just me, but I do not recall reading about these issues when the $8.50 capital raising was in the offing. I doubt whether anyone at that time would have dreamed we would be looking at a price of about $4.20 today.

    In the current market conditions, which seem to be increasingly unpredictable, one cannot help but think that this puts the general “buy & hold” theory into serious question for almost all companies. So as an investor who is still trying to grapple with the whole Valueable intrinsic calculation formula, it leaves me at a loss to know where to from here. I do not doubt it’s integrity or the historical theories it is based on, but until the world’s markets begin to get themselves properly on track, it seems as if literally anything is possible.

    • Hey Martin,

      You must understand the business. The chapter on cash flow is as important as the chapter on Intrinsic value. The share price now is starting to look very interesting to us but I will wait to speak to the company about their order book.

  60. Was never an analyst nor pretending to be. Either way clear that intrinsic value is AWESOME if you get to have lunch with the boys or a professional. STOP selling it to the masses as will not have the experience or savy to see a sledgehammer coming such as this one and with your disclaimer about not having to tell anyone when you escape a share, well WHATEVER.

    My fault either way have your book back stop pretending technical analysis is gambling when you don’t see a 50% reduction in intrinsic value as in this case.

    • Hi Jon,

      1) Haven’t said the company is going bust.
      2) You must do your own research.
      3) You must understand the business.
      4) You must understand cash flow
      5) We always say “Seek and take personal professional advice”. Advisors will help you understand the significance of diversification.
      6) Diversification will help defray the impact of any single error.
      7) Short term, the market is a voting machine.
      8) The share price reaction today and yesterday could be an opportunity. I am going to be speaking to the company this week to try and establish that for myself.

      • Roger,

        I agree entirely with your list. I know you have said it 1000 times before, but you might also add to your list:
        9) Buy at a BIG discount to IV.
        I imgaine that those who paid $4-$5 may not be so worried about this short term price movement.

        Jon, CBA dropped from $62 to $24 in 2007/8. A drop in share price does not necessarily mean an exact corresponding drop in IV. Similarly, whilst MCE’s share price has dropped significantly, this does not equate to a drop in IV.

        Adam W

      • Hi Adam

        I would argue the point that this is a short term price drop. The price peaked on 4th March 2011. That leaves close to 6 months of overall decline up until now. The capital raising was announced on the 4th April 2011. Having bought at just over $4 on 20th August 2010, I have watched an investment of about 20k go to about 50k, and then back to 20k. I did not participate in the CR but bought more shares around $7.50. Suddenly, there are a number of question marks going forwards and the real possibility of further declines. I can safely say I am somewhat concerned now, but I think a better word would be jaded. It is hard not to be after watching such an impressive rise in my investment evaporate into nothing, leaving me 12 months later with a total of 5cps from dividends. Whilst I have read the recent reports and still have much faith in the future of MCE, I’m sure that is little comfort to many people who have had a similar experience to me. And there are a number of other highly regarded companies which, for whatever reason, have had similarly harsh backslides and re-ratings.

        I am questioning the wisdom of “buy and hold” in the current market climates. And anyone such is myself who is actively attempting to create wealth by investing in shares (which would be most people) must surely now be jittery. Because I feel it is unlikely that there are too many people who buy shares with the intent of holding them for 10-50 years. Perhaps I was being naive but I honestly did not imagine that I would be back to square one 12 months later. What a shock.

      • Hi Martin

        If you go back and read Value.Able, Roger never advocated a “buy and hold” approach. Rather, Roger advocates an investment philosophy of buying a well-run company at a substantial discount to its intrinsic value and then holding the company until it exceeds the intrinsic value.

        I have not held MCE (I invested in MLD instead and made a nice profit out of it), but I would have reviewed my holding when MCE peaked at ~$9/share.

        Although you have lost (on paper) substantial profit on your MCE holding, you have at least gained experience of what to consider when a company you hold substantially increases in its share price (but not necessarily its intrinsic value).

      • MCE

        Chin up,old chap.
        Maybe this price drop was needed to “shake out” weak holders.
        MCE is still going long way,there will be bumps on the road.

        Zoran

      • Thanks for the reply. But after giving you so many compliments i think i am allowed some questions.
        1) You’re a good bloke
        2) The reduction in MCE price has not been met with corresponding discussion on reduction of cash flow and jobs
        3) the market has sold off but clearly some have been aware of these circumstances and sold out earlier as once the report was out it was clear for blind freddy that cash flow was an issue, only now its trading at fair value on the report hardly favourable to the normal investor who reacts to the information made available by the company.
        4) Recent reporting was the first i knew about any cash flow issues, was this the same for you and if you did know, then why wouldn’t you hint for the rest of us who clearly don’t have the same knowledge of the business, HENCE your fund, tv following and successful BLOG.
        5) I knew there was issues when you were on foxtel and told of Forge and other companies you bought at depressed prices but no love for old MCE.
        6) not really having a crack at you, you’re clearly intelligent and have done well for yourself and creating your own brand. Only i asked you a long time ago why you went to all this trouble but now my skeptical mind suggests book sales and to build a brand for your fund and tv appearances etc. This is FINE and nothing wrong with it but it appears to me that my advice was correct, anyone in this game is only really in for the money. Fair enough, fair play but you came across different and i just don’t like your do your own research clause. I do my own research, CLEARLY not well enough ha ha. ALL i would say is that a lot of your followers probably don’t and if you have insight or foreknowledge give them a heads up in future. AND YES I ACCEPT ITS MY OWN FAULT and NOT YOURS. However do have an insight into human behaviour and your brand will only improve by taking my comment for what its worth.

        all the best mate and i wish you well in the future
        jon

      • Well, no one knew that MCE has cash flow issues. I was under the impression that IV is around $11 for 2011 and $10 for 2012, untill the results.

        I dont remember anybody discussing the cash flow issue in this blog for MCE. Everybody was talking about how good MCE was in the past and how good its going to do well in future and how good the value is, till the share price crash.

        First of all, MCE management doesnt communicate with the shareholders. It doesnt give updates on company’s progression.

        Did company directors not see this comming? They redused holdings at $9. Whoever else knew company has issues soldoff / reduced their holdings (see the share price fall for six months) (Rogger has less than 1%, but that doesnt necessarily means he knew that company have some issues)
        Rest of us was left to beleive company doing good and hold most of our holdings.

        Thats not Rogger’s fault. It just tells me company management might need to re-earn trust. They dont give regular updates. Very similar to LEI management.

        Will I ever buy MCE again..only if share price fall bellow $3. Thats what it is worth concidering management’s attitude.

      • Hi Siva,

        Thanks for sharing your thoughts. To your first point:

        Submitted on 2011/07/05 at 1:08am: “The short and mid term outlook for Matrix will be dependent on them securing some contracts and their cash flow will be dependent on them getting a few deposits paid. We have put a call into the company to see if we can get an answer but they may soon be in blackout so we’ll have to wait and see.”

        Submitted on 2011/06/24 at 1:46pm: “Great stuff Ash. Good to challenge and shake things up. Any opposing views, go right ahead and put them up. I know that lots of you are concerned about Matrix. Watch their cash flows…”

    • Hi Jon,

      As for the comment about having lunch with the boys or a professional. I am neither but i didn’t need to have access to some insider to forecast that the sales from JB Hi-Fi’s music, software and DVD department will have declining sales growth, computers, laptops etc would have a pretty decent increase in sales and stores that have been opened for a year or more will see declining sales. I could see this because i understood the business, the market and could see it for myself inside the sotres.

      I stay away from MCE because i don’t know how many oil rigs are going to be built that will need some floaties and how many etc. I don’t understand the market so despite the hype here aboutt his company i stayed away. A lot of the other companys here that various commentators have hyped i stayed away from as well as i just don’t have the knowledge to make informed decisions.

      The cashflow issues have been documented here numerous times so people who understood the company probably saw it coming.

      • Indeed, Andrew, the most prolific blogger here who is regularly asked for his opinion on lots of stocks and issues stated quite clearly that he would not be surprised to see MCE cashflow negative.

        And a very good evening to you, Mr Little!

  61. Hi Roger,

    Nice post, both companys i am not really interested in so have nothing to add in regards to their results.

    I echo your thoughts though on how important it is to understand the business. The valuations are a general guide as to when to buy a share in a particular company.

    The real thing that guides my investing is not necessarily how much of a discount it is trading at but the business itself. I need to be able to answer questions like the below if i want to consider it as an investment:
    -What is this companys target maket?
    -Does the target market want this product and what issues would they use in coming up with a decision to buy this companys profit?
    -What does the company need to provide its product?
    -Who are the competitors?

    I also do a SWOT analysis for my companys as well as thinking a bit more in the Micheal Porter approach to come up with a good picture of the company. Only then do i worry about whether it is at a discount or how much it is worth etc.

  62. i am not a holder of big air or MCE so have no vested interest, but I would like to agree with Roger about those dissing the IV concept. I read with interest the comments from bloggers almost obsessing with getting the IV “correct” whatever that means. (as RM says the IV is only as good as the inputs)I think it means they don’t understand the value investing process.

    Re read valu-able. it will be worth it.

    Stay strong Roger!

    jeff

  63. Thanks for your post Roger, I’ll consider my recent purchase in MCE an investment in my education!
    Cheers,

    • I wouldn’t hold Roger’s feet too close to the fire Zohan, his purchase of MCE shares @$8.50 will in time still produce a return that outperforms the market if you are willing to hold them over the next three to five years.

      • Hi Simon

        I agree,we love Roger when things are on the up,so why complain when circumstances change.

        Cheers

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