vendredi 30 mai 2014

GEA HY14 results

1) Intro

Note that the article is not self-supporting and will not make sense to a new reader (see my previous articles here 2012 , 2013).

GEA has published it's 2013 annual report and its 1stHY report:
- in the annual report the CEO warns clearly about a marked slowdown of sales in France, the need to focus on export markets, albeit at the cost of significant commercial investments and financial risks
- the CEO warns that it may impact profit margins
- 1stHY sales are down 25% compared to last year; down 50% in France, exports up 38%
- order book sharply down

I want to build a "worst case" scenario to decide what to do.
Besides, I previously compared GEA to Kapsch but Q-Free is maybe a better match (same size; Kapsch is much bigger, and builds but also operates whole/nationwide toll collection systems, a different business).
Q-Free 2013 revenue is the same as GEA.

2) What are GEA fixed costs ?

My current understanding of GEA business and financial situation is as follows:
- GEA designs the toll system (~100 engineers)
- I think it uses largely standard, off-the-shelf components (PLC, printers, card readers, audio and video systems, network components; fabrication of toll steel boxes is subcontracted, maybe they direcly manufacture some dedicated electronic cards) ; it's mainly integration and assembly, so no heavy equipment is needed (see below fixed assets). I wish I had the time to visit their plant near Grenoble.
 - ~100 people directly involved in production
- factory tests
- on-site installation
- maintenance and services

I think that if a downturn comes, GEA will be reluctant to significantly downsize its personnel (temporary staff aside) because:
- it would jeopardize future growth; GEA says in its annual report that the competence and stability of its people is important
- (supposition) not the style of this family-owned small company that thinks long term and not next year stock-options
- anyway long and costly (France labor market).

My main hypothesis is therefore that GEA has mainly variable costs, but that personnel expenses can be regarded as fixed costs, and it's a big part of expenses.

3) 2014 estimates

I've built the estimates with the preceding paragraph in mind and the following hypothesis:

- salaries: fixed cost
- all the rest: variable cost (not true of course)

- 1st hypothesis of 2014 sales~59 m€ (roughly double HY sales)
- 2nd hypothesis of 2014 sales~47 m€ (current order backlog)
- hypothesis that they will not needlessly build up their inventory and other costs
- I neglected amortization+depreciation in this simplified table, it's acceptable because it's generally low (see below)

Here is a table with data taken from the annual reports with my estimates.
Mat1ere = shorthand for "raw materials" expenses (in this case rather parts, components,...)
Autres achats = other expenses (go figure....)
Salaires = salaries
ROP = Operational result

I get a 2014 EBIT ~9-10 m€ in the (worst-case ?) scenario, a spectacular decrease compared to 2013.

But it would then trade at ~4 to 5x EBIT (for a quote of 87€), still a compelling valuation (because of the large net cash 60m€ for a 100 m€ market cap).

3) GEA competitive advantage
I've recently read this book The Little Book That Builds Wealth: The Knockout Formula for Finding Great Investments and liked it a lot; I will try to apply its concepts/ideas to the current situation.

GEA fixed assets are only ~ 1.2 m€ almost fully depreciated.
Much lower than Q-Free fixed assets though (see below). I have no explication for this.

It rents its buildings to another company...that belongs to the founding family/main shareholder, for what seems to me a reasonable price (see annual report).

Working capital is also very low; GEA pays its suppliers 30/60 days and negotiates payment terms with the customer (highway companies).

I've kept the actual denominations of the annual report (French version) for easy later reference.
Mat. 1ere = raw materials
en cours = inventory
creances clients = accounts receivable
dettes fournisseurs = accounts payable
dettes fiscales = fiscal debt
produits constates d'avance = prepaid income
BFR = working capital requirement

The capital employed (fixed assets + working capital) is thus very low.
About 5% of salaries can be considered as R&D costs, but are fully expended (R&D is not capitalized).
If I take assets at acquisition cost, add  5 years of R&D costs (arbritrary), ROCE is still very high.
Why is it not competed away ?

My understanding is that "local" actors (GEA in France, Q-Free in Norway, Kapsch in Austria,...) started early and small and ended dominating their national market (niche market).
I suspect that some kind of switching cost effect is at work there; for the highway company these actors provide a vital service, strongly integrated in the highway company process.
(Imagine the toll collection system down during summer vacations in southern France when half of Europe is en route from Netherlands/Germany/... to Italy/Spain/France...)

Besides from what I've read electronic toll collection investment pays for itself in less than 1 year.

So it makes probably little sense for a highway company to switch its ETC system from one to supplier to a cheaper competitor, unless there's a large price difference. Given the (small) size of the market, it's not just worth it for a competitor (again, a supposition). Additionally there is maybe (supposition) some notion of staff training (highway employees trained to do some basic maintenance on the toll machines) that reinforces this.

GEA benefited from this competitive advantage and an expanding market in France for structural reasons (highways companies going private investment cycle, see my previous article) but it is now apparently nearing saturation.

On the export markets, for new highways, I think that GEA has no clear competitive advantage (GEA "moat" is not scalable, lots of buzzwords here). Their strategy seems to accompany French construction companies (Bouygues, Vinci,...) on export contracts for new highways (see annual reports and also the red corner blog comments on GEA), but its unclear to me if it gives them some kind of commercial advantage on these markets.

5) Conclusion
I don't want to fool myself, and I'm the easiest person to fool.
I like GEA and I have invested some time (and  money) in this investment, but I want to remain cold and rational about this.
I'm certaintly not selling GEA at the current price.
I think a downturn is possible, but I think GEA is still an interesting investment with good long term prospects and favorable economics.
The stock is quite illiquid, and we may (or not) witness a spectular plunge if there's a knee-jerk reaction to weak HY results, maybe a buying opportunity.
I'd appreciate a reality check from outside investors.

4 commentaires:

  1. Are the 60m really excess cash?
    As long as they don't use cash this seems to be a situation where 1€ in the company is worth less than 1€ market cap, because ex-cash the company would be too cheap. Aditionally as a foreign, private investor it's burdensome to get the French withholding tax back in the case of a special dividend. A share buyback can be ruled out due to illiquidity.

  2. Hello Caque,
    merci beaucoup pour cette très belle analyse! A mon avis (mais je peux me tromper!), GEA est cheap grâce à cette position de trésorerie nette qui va peut-être dépassée le CA 2014! Tout le problème est que l'on sait que GEA n'utilise pas de manière optimale son cash et je me demande si il ne faudrait pas lui appliquer une décote pour cause de "mauvaise utilisation". Je patate également ont point de vue que je ne les vois pas réduire les effectifs si le CA baisse (ce n'est clairement pas leur style) et que cela impactera leur marge si le ralentissement se confirme.
    Une aure quesiton importante à mon avis est: est ce que l'effet Mr Beaulé va continuer (on peut penser que c'est grâce à lui que le dividende a fortement progressé cette année).

  3. I have just spent 3 days on GEA and ended up on your blog. Excellent analysis, here are a few points worth mentioning:
    1) Margins and ROCE are stratospheric compared to Kapsch (50% lower) and Q Free (barely profitable). GEA is in a highly profitable niche?
    2) I made the exact same analysis on fixed costs, but am I still a buyer at 5xEbit?
    3) The Cash is a real worry. Maybe GEA has to emit performance or garantee bonds, but so do Kapsch and Q Free and they have debt. In addition, the cash yields a whooping 0.71% after tax, so on a P/E basis, GEA is not cheap, certainly not with the coming decrease in financial performance
    4) International seems to be brutal, and a source of problems (South Africa for Kapsch, Jakarta for Q Free). I will spend more time understanding how they compete internationaly (not sure about following French players)
    5) Do you have any idea why they did not buy CS ITS? This seems the perfect match and an excellent use of their cash?
    6) I agree with Jeremy that Eximium will have more influence over time, in particular when their shares get double voting rights.

  4. GEA recently proposed to buy the toll & ITS business from Tecsidel (Spain). Seems like the cash is finally going to be used.
    On another note, I would really like to have revenues presented by technology, it would shed some light on the reason for the spectacular order decrease in France (52%).

    My opinion: Due to high operating leverage I expect the stock to suffer in the short-run, maybe with a better entry point. I am waiting to see whether GEA can meaningfully increase its share of revenues from exports (stayed relatively stable @ c.a. 30% of total revenues since 2007).
    I am also waiting to see how the acquisition turns out.