Stockwatch: A sound growth company for ISAs and SIPPs

Having bounced off a medium-term chart support line, is AIM-listed maker of personal care/beauty products Swallowfield (SWL) poised for further upside now the £54 million company has declared robust interims?

These are discretionary spending items and UK consumer credit may have peaked now the Bank of England is mooting interest rate rises; yet demand for personal care has kept rising – men now spend more on grooming products – thus, with adept marketing, a smaller company can continue to thrive.

Recent years’ progress affirms cluster buying

In November 2013, I drew attention to three directors buying £95,600 shares at 78p, noting this came at the low end of a five-year chart; also how only 11.3 million shares in issue meant profit improvements would quickly boost earnings.

Indeed, the table shows earnings per share (EPS) soaring into a 20p range for the current year to end-June 2018 onwards, assuming normalised pre-tax profit rises over £5 million. Shares issued have risen 50% to 16.9 million after a June 2016 placing at 155p raised £8.6 million to acquire The Brand Architekts, a portfolio of mid-premium beauty and personal care products sold in UK high street retailers and through export.

That was heralded as “a transformational opportunity”, adding critical mass and an experienced London-based brand management team. This bolstered the figures, although a turnaround was already manifest, and the stock ended 2015 at over 200p.

Edmond Jackson’s Stockwatch: Swallowfield

Having reached a high of 418p mid last year, putting the shares on about 17 times forward earnings, the stock turned volatile and quite looked as if forming an ominous “double-top”. It fell as low as 282p this year albeit currently sits at 317.5p.

To an extent, the last two years’ trend may reflect classic enthusiasm for small caps in a mature bull market, then a re-think of risk appetite, especially when the US market plunged last month.

Interims affirm sound overall growth

At first sight it looks as if cost-cutting has kept financial growth on track to meet forecasts. Revenue in the 28 weeks to 6 January 2018 is up only £0.3 million to £40 million, while the income statement shows cost of sales and administrative costs marginally trimmed, enabling operating profit to rise 18% to just shy of £3 million.

Note 3 clarifies a £25k exceptional cost in respect of consolidating a 2015 acquisition, then more significantly this time a £343k charge for costs linked to The Brands Architekts acquisition. Thus, reported interim profit is up 35.3%.

Management cites a strong like-for-like revenue comparator in 2016, also that 25% revenue growth is being achieved by owned brands that now represent 31% of group total.

Manufacturing sales comparisons were also not helped by their comparator, and eased 6%. Strong Christmas gifting and retail distribution gains in the UK and Western Europe, also “several successful new product launches”, is a resilient narrative, although management could do a better job explaining its brands beyond a series of pictures on the “brandarchitekts” website. They cover e.g. bath & body, facial skincare, cosmetics, fragrance and haircare.

Frankly, it’s impossible to glean exactly what is their competitive position; I’d defy even a marketing specialist to. But repeated studies suggest this whole area enjoys keen consumer support.

Also, it’s surprising, online sales have not been grasped more determinedly like we have seen from Innovaderma (IDP) which is similarly AIM-listed and in personal care (tanning and hair loss products). Swallowfield’s operational highlights cite e-commerce sales having “continued to grow significantly, albeit from a relatively small base.”

Five-year table asserts a growth company

Although a material acquisition has helped boost sales, there’s a sound record of cash flow often well in excess of earnings, versus moderate capital expenditure needs. The disappointing ratio being sub-5% annual operating margins, where the latest results show 7.5% in the first half, versus 7% like-for-like, but where the full-year 2017 numbers show 4.9% pre-exceptionals, according to the accounts.

The REFS table’s citing 4.7% doesn’t make sense as the accounts show the post-exceptionals’ margin is 4.5%. Not to split hairs, just that a higher margin would be preferable.

For example, what if Britain fails to get a satisfactory trade deal with the EU? A fatter margin would help insulate against the effect of tariffs on sales/margins. Swallowfield’s annual revenue profile is 60% UK, 31% “other European Union countries” and 9% rest-of-world.

The PEG ratio – i.e. price/earnings (PE) multiple divided by the annual EPS growth rate, a classic measure of growth stocks – is highly attractive at 0.3 moderating to 0.9 (where sub 1.0 implies value), but mind this ratio can vary massively in the short run. If offered the relative choice of a stock on a PEG of 1.5 and say a 15% operating margin, that might be preferable.

If a consumer slowdown emanates and personal care doesn’t prove as resilient like the various surveys imply, a circa 2% prospective yield is no prop; even if the stock dropped to 200p the yield would only be 3.25%. Despite earnings cover of about four times, management is pursuing a capital growth type strategy than “shareholder returns” in a mature industry. So, this stock’s destiny really depends on their continuing to deliver growth.

Not surprisingly then, another acquisition

Twenty months has been adequate time to engage/integrate the last acquisition, and revenue needs to perk up. Thus, alongside the interims came news of buying the “Fish” mens’ grooming brand via £2.7 million cash up-front, and a £300k 12-month earn-out.

Last year, Fish made about £400k operating profit on £1.7 million revenue, which seems modest considering Fish hair styling items were launched over 15 years ago and retail in Boots, Superdrug, Tesco (TSCO) and Waitrose. An objective is to accelerate growth with innovative new products and wider distribution, and Fish certainly complements The Real Shaving Company, a premium brand acquired in 2015 from Creightons for £1.15 million.

The deal is being financed by a new term loan that implicitly takes net debt close to £10 million, inferred by the interim results highlights citing £7 million net debt. While this doesn’t accord with the balance sheet showing debt constituting £0.5 million short-term and £1.2 million longer-term, versus £0.4 million cash, under “net debt and cash flow” the narrative says working capital demands related to The Brand Architekts acquisition, have pushed up debt. If so, then it’s quite a sizable post balance sheet event and all this needs better presentation.

New chief executive

With the incumbent CEO seemingly retiring to a non-executive portfolio career, the current brand director of PZ Cussons (PZC) will become chief executive from 1 July, with a six-month handover process. While apparently costly for a small cap, it ought to smooth change, and a new boss of this background may bring improvements.

Thus, on consideration of its products, valuation and management, Swallowfield adds up to a sound tuck-away for ISAs and SIPPs. The chief risk I envisage is what tariffs may arise from the EU. So, if you are a pessimist on this, then watch and wait.

Eventually, the group itself could end up acquired by a larger company, to augment performance. On a 2-3-year view management should be able to build EPS to 30p and higher, and a PE multiple in the mid-teens implies a share price target towards 450p. Accumulate.

Swallowfield – financial summary           Broker estimates year ended 30 Jun 2013 2014 2015 2016 2017 2018 2019             Turnover (£ million) 48.6 50.0 49.9 54.5 74.3 IFRS3 pre-tax profit (£m) -1.3 0.1 0.8 2.3 3.1 Normalised pre-tax profit (£m) -0.8 0.4 0.8 1.7 3.5 5.1 5.8 Operating margin (%) -1.4 1.1 1.8 3.2 4.7 IFRS3 earnings/share (p) -8.1 1.4 6.5 17.4 14.7 Normalised earnings/share (p) -3.7 4.0 6.6 12.4 16.8 23.8 27.2 Earnings per share growth (%)     66.5 86.8 36.1 41.6 14.1 Price/earnings multiple (x)         18.9 13.3 11.7 Price/earnings-to-growth (x)         0.5 0.3 0.8 Historic annual average P/E (x) 392 22.9 22.4 23.7 19.6 Cash flow/share (p) -0.5 11.2 20.9 22.9 23.5 Capex/share (p) 7.0 6.0 23.9 10.7 8.2 Dividend per share (p) 6.3     2.8 4.0 6.2 7.1 Dividend yield (%)         1.3 2 2.2 Covered by earnings (x)       4.5 4.3 3.8 3.8 Net tangible assets per share (p) 105 110 104 103 76.5    

Source: Company REFS      

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