Category: Management

The Productivity Puzzle and Fixing the Energy Crisis

There was an interesting article by Arthur Sants in last weeks Investors Chronicle. He highlighted the productivity problem in the big tech companies such as Apple, Meta, Alphabet and Microsoft. Part of the reason is that their workforces have been increasing and revenue per employee has been falling.

It is suggested that part of the problem is that to develop new products and services requires a lot of staff hacking code. Automation of manufacturing processes is relatively simple in comparison with developing programs that can write other programs – they are an order of magnitude more difficult to create.

This has been the Achilles heel of the software industry for the last 50 years. It remains a very labour-intensive industry when it need not be. The technology of software development has changed little since my era when I was involved in it – there are still too many people writing code.

Is this one reason why productivity in the UK and other developed countries has not been improving as it should have been? It’s been too easy to hire bright young things to write code because labour has been cheap. We need to make it more expensive to ensure tools to automate their work are developed with a concentration on the development of standards to assist. Teaching children to write code in schools is not the answer.

Richard Tice on the Energy Crisis

I watched a webinar presented by Richard Tice of the Reform Party this morning. He pointed out the energy crisis the country is facing and what his Party would do about it. He argues that this is not a short-term problem but that we face a long-term global energy war so vigorous action is required – in effect putting our energy economy on a wartime basis.

He presented some interesting data to support his arguments and made more sense than many politicians on the issue in my view.

You can watch in on the Reform Party’s Facebook page: https://www.facebook.com/TheReformPartyUK

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Selling Technology, Intercede at Mello, and Sir Frank Whittle

I have just listened to a recording of the Mello event which took place on Monday evening. In the “Bash” section one of the companies presented was Intercede Group (IGP). This company sells security software and is based in Lutterworth, which is in Leicestershire in case you have never been there. Bearing in mind the company’s client list of banks, US Government bodies and companies such as Boeing and Wells Fargo you might think the location a bit odd.

I first purchased the shares in 2010 and I still hold them. But it became clear to me very quickly that this was a typical example of a company with great technology but unable to convert it to profits. The company was founded by Richard Parris who remained Executive Chairman for a very long time – until 2018 in fact when a new CEO took over. Losses have been turned into profits although revenue is still not great (£10 million last year).

I did visit the company’s AGM in Lutterworth a few times and at one meeting I discovered that the company’s operations director was actually Richard’s wife under a different surname. It’s always interesting what you can learn from attending AGMs! The problem was the dominance of the company by someone with a technology background rather than a sales or marketing background. At least that was what I perceived. The culture was I suspect a negative.

Oddly enough there was another company based in Lutterworth which I only recently learned about which had an analogous history. Great technology which became a world beater but where the owners never made much money out of it. This company was Power Jets Ltd which was the baby of Sir Frank Whittle – the inventor of the jet engine.

A recent biography of Whittle is called Jet Man. Its author is Duncan Campbell-Smith and it’s well worth reading. Whittle lost control of the invention and associated patents (being a serving RAF officer did not help) and his company was eventually nationalised. Rolls-Royce acquired some of the technology and it was also given to the USA for nothing. What should have been a great money-spinner for the UK and for Whittle after the war years was lost due to commercial incompetence.

There is apparently a memorial to Frank Whittle and a small museum in Lutterworth if you ever visit Intercede.

Will Intercede ever make real money? It’s a bit early to tell I think but I am certainly more confident in the new management than the old. A slight downside is the recent announcement that they are rewriting the LTIP to reduce the share price targets. I never like to see options rewritten but there may be some justification in this case and certainly the CEO, Klaas van der Leest, has achieved a remarkable turnaround. I’m even finally showing a decent return on my investment in the company.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Economic Trends, Audit Quality and the Importance of Management

The news on the epidemic and its impact on financial news continues to be consistently bad. GDP rebounded in May to be up 1.8% but that’s a lot less than forecast. It fell 20.3% in April but as many businesses did not reopen until June perhaps the May figures are not that surprising.

Masks now have to be worn in shops. This will be enforced by the police with possible fines of £100. That will surely discourage some people from shopping on the High Streets.

The BBC ran a story today that said that scientists forecast a second wave of the virus in Winter with up to 120,000 deaths. But that is a “worse case” scenario. The claim is that the colder weather enables the virus to survive longer and with more people spending time indoors, it may spread more. I think this is being pessimistic but it’s certainly not having a positive effect on the stock market.

The London Evening Standard ran a lengthy and very negative article yesterday on the impact of the virus on London with a headline describing it as “an economic meltdown”. It suggested 50,000 jobs will go in the West End alone due to a decline in retail, tourism and hospitality sectors. Commuters are still reluctant to get on public transport – trains, underground or buses. In Canary Wharf only 7,000 of the 120,000 people who normally work there are at their desks it is reported. One problem apparently is that with numbers able to enter lifts being restricted it can take a very long time to get all the normal staff at work in high rise buildings. Hotels, clubs and casinos have been particularly hard hit with the extension of the Congestion Charge (a.k.a. tax) discouraging visits. 

Audit Quality

The Financial Reporting Council (FRC) has confirmed what we probably already knew from the number of problems with company accounts – that audit quality has declined in the last year. Following reviews of audits by the major audit firms including PwC, Deloitte, EY, KPMG, BDO and Grant Thornton there were a number of criticisms made by the FRC. The firms PwC, KPMG and Grant Thornton were particularly singled out. The last firm was judged to require improvement in 45% of its audits.

We were promised a tougher stance from the FRC but it is clearly not having the required impact. Published accounts are still clearly not to be relied upon which is a great shame and undermines confidence in public companies.

There were a couple of interesting articles in last week’s Investors Chronicle (IC). One was on the investment approach of Harry Nimmo of Aberdeen Standard. He is quoted as saying: “We do measure prospective and future valuations – it’s not completely ignored. But it doesn’t lead our stock selection, and we don’t have price or valuation targets”. Perhaps he does not trust the accounts either? He does apparently screen for 13 factors though including some related to momentum and growth.

Management Competence

The other good article in IC was by Phil Oakley headlined “How important is management”. If you don’t trust the accounts of a company, it’s all the other factors that help you to judge the quality of a business and the prospects for long-term returns which are important. Phil says that “management does matter” but he thinks some investors overemphasise it’s importance.

How do you judge the quality of the management? One can of course look at the results in the financial numbers over past years but that can suffer from a major time lag. In addition management can change so past results may not be the result of work by the current CEO but their predecessor. This is what I said in one of my books: “Incompetent or inexperienced management can screw up a good business in no time at all, although the bigger the company, the less likely it is that one person will have an immediate impact. But Fred Goodwin allegedly managed to turn the Royal Bank of Scotland (RBS), at one time the largest bank in the world, into a basket case that required a major Government bail-out in just a few years”.

RBS was also a case where the company’s financial results were improved by increasing the risk profile of the business – the return on capital was improved but the capital base was eroded. Management can sometimes improve short term results to the disadvantage of the long-term health of the business.

Is it worth talking to management, say at AGMs or other opportunities? Some people think not because you can easily be misled by glib speakers. But I suggest it is so long as you ask the right questions and don’t let them talk solely about what they want to discuss. Even if you let them ramble, you can sometimes pick up useful tips on their approach to running the business. Are they concerned about their return on capital, or even know what it is, can be a good question for example. I recall one conversation with an AIM company CEO where he bragged about misleading the auditors of a previous company about the level of stock they held, or another case where a CEO disclosed he was suffering from a brain tumour which had not been disclosed to shareholders. Unfortunately in the current epidemic we only get Zoom conversations rather than private, off-the-record chats.

Talking to competitors of a business can tell you a lot, as is talking to former employees who frequently attend AGMs. Everything you learn can help to build up a picture of the personality and competence of the management, and the culture that they are building in the company. The articles being published on Wirecard and Boohoo in the last few days tell us a great deal about the problems in those companies but you could have figured them out earlier by some due diligence activity on the management.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Jack Welch Obituary and Coronavirus Impact

Jack Welch, the former CEO of General Electric (GE) has died at the age of 84. He turned the company around from a slumbering US corporate giant into a much more profitable business that awarded shareholders handsomely. His management style was of the “slash and burn” variety with jobs being reduced and anyone rated as underperforming being fired. This was similar to the management style of Fred Goodwin at Royal Bank of Scotland and with what they might consider tough but required decisions being made. In both cases their legacies proved to be toxic with successors facing difficulties.

Both had a large media presence and big egos. But is that what you want in a CEO? And do the ends always justify the means? Certainly Jack Welch showed that the ability of management is probably the key factor in the success of a business but the cult of personality that surrounds such leaders and the decisions they make often makes for difficulties in management succession. For investors, such managers tend to make good short-term returns but you need to know when to bail out while humble and more sensitive managers can be better long-term bets.

As I write this stock markets are zooming up after large falls in the last week. Your portfolio is probably down substantially like mine, but is this recovery a “dead cat bounce” or a realisation that the Covid-19 virus impact might be lower than anticipated?  I have no more great wisdom to impart than others on the future impact nationally or worldwide but it does seem to me that we might well see a major pandemic. Some industries such as travel and entertainment venues might see much reduced revenue for a short period of time and supply chains will be disrupted in many markets. I don’t think it will really hit home in the UK as it has done in China until people you know start dying. The fact that it may be mostly fatal to the elderly or those with poor immune systems (like me incidentally) may be little comfort. As with the 1918 flu pandemic, the long-term economic impact may be small but there may be short term disruption.

It was interesting reading the announcement this morning from 4Imprint (FOUR) whose shares I hold. Their final results were very good and the share price is up 20% at the time of writing. But this is a company that sells promotional products and most of the manufacturing takes place in China. This is what the company had to say: “Impact on the business has so far been minimal, reflecting the timing of the inventory cycle of our domestic suppliers. However, the situation is very fluid and if production restrictions in China persist, the potential for disruption of our supply chain increases”. They go into a lot more detail in their operational review which is quite helpful. But they have not estimated the possible impact on reduce sales volumes if there is a general impact on the economy of the USA which is their major sales market.

In essence I think it is way too soon to judge the likely impact so having sold some shares (not those of 4Imprint though) in the face of the declining markets I don’t plan to rush back into the markets in a big way and particularly I will be avoiding shares that may be vulnerable. Companies with longer term or recurring revenues are a better bet as usual because they should be able to survive short-term economic disruption. Property companies may be a good bet as they mostly have long-term leases spanning multiple years when the virus impact may only last a few months before everyone has survived it or died even if there is a global pandemic.

On that positive note, I think it’s best to close before I get seduced into giving share tips.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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De La Rue, Excessive Debt, Victoria and Link’s Debt Monitor

Link Asset Services have issued a note pointing out that De La Rue (DLAR) has net debt that now exceeds its market cap. The high debt in the company and recent falling revenue no doubt accounts for much of the recent fall in the share price, although the report of an investigation by the Serious Fraud Office (SFO) cannot have helped. But if you read the last interim report which was issued a couple of days ago, there are lots of other points that might put you off investing in the company. For example, it declares the business is in “turnaround” mode so restructuring is being accelerated, and that all of the Chairman, CEO, senior independent director and most of the executive team have left or resigned in the period.

How do you judge whether a company has excessive debt? There are two simple ratios which I look at for companies. The Current Ratio (current assets divided by current liabilities) and the interest cover (operating profits divided by net interest paid). For operating businesses I prefer to see a current ratio higher than 1.4 and interest cover of several times.

Why because companies go bust, or have to come to some accommodation with their bankers or raise urgent equity finance – all of which can be very damaging for equity shareholders, when they run out of cash. A low current ratio or low interest cover means that any sudden or unexpected decline in revenue and profitability can mean they get into financial difficulties. They simply have no buffer against unexpected adversity.

De La Rue’s Current Ratio is only 0.63 according to Stockopedia and as there were negative profits (i.e. losses) in the half year the Interest Cover is zero.

There are some exceptions to the Current Ratio rule so sometimes it is necessary to look more closely at the reasons for a low figure, but De La Rue just looks like a business in some difficulty.

Link Asset Services’ note also points readers to their Debt Monitor (see https://www.linkassetservices.com/our-thinking/uk-plc-debt-monitor ) which gives a comprehensive overview of the indebtedness of UK listed companies. They point out that it has risen by 5.8% to a new record of £433 billion. For comparison that’s only just higher than the Labour Party proposes to borrow for its “Infrastructure Fund”! But it’s worth pointing out that the FTSE is dominated by relatively few very large and traditional companies. They have probably been using financial engineering to enable them to maintain dividends and the result is higher debts. Or they are dedicated to the mantra of having an “efficient” balance sheet where there is significant debt so as to maximise shareholder returns, and have been buying back shares using debt.

Debt has become easier to obtain after the financial crisis of 2008/09 when banks were reluctant to lend at all. Interest rates have also come down making debt very cheap for those with good credit ratings and good security. It’s worth reading the Link Asset report to see which major companies and sectors have the most debt.

In smaller companies, particularly technology companies, there tends to be much less debt partly because they have few fixed assets against which to secure cheap debt. So they find equity less costly and more readily available. Or perhaps they just have more sense in realising that business is essentially uncertain so equity is preferable to debt.

There is relatively little debt in the companies in which I am invested (De La Rue is definitely not one of them) with one exception which is Victoria (VCP). If you wish to be convinced of the wonders of debt financing read the comments of Victoria’s CEO Geoff Wilding in their last Annual Report. In such companies one has to have faith in the management that they can control the risks that come with high debt levels. But most investors get very nervous in such circumstances which is probably why it’s only on a p/e of 10 (and my personal holding is relatively small). That’s so even though it has a Current Ratio of 1.8 and Interest Cover of 1.2 – the latter is too low for comfort in my view.

Of course it depends whether this is a temporary position (say after an acquisition) and how soon the debt is likely to be repaid. So you need to look at the cash flows. In the case of De La Rue it was minus £42 million in the half-year before investing/financing activities which is yet another negative sign, but it was a positive £38 million at Victoria in their half-year results announced on the same day. Clearly two very different businesses!

Note that there are some other financial ratios that you can look at to see the risk profile of a company but as always, a few simple things that you actually pay attention to plus getting an understanding of the business trends are to my mind more important.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Speedy Hire Presentation, Burford Analysis and Treatt Trading Statement

On Tuesday the 1st October I attended a company seminar organised by ShareSoc in Birmingham, mainly to present my new book. But there was an interesting presentation given there by Speedy Hire (SDY). This is not a company I have looked at before because it seemed to be in a sector driven by construction activity which tends to be cyclical and in a fragmented market with few barriers to entry. This is probably why other listed companies in the sector such as HSS and VP are on low valuations (typically P/Es of less than 10). Speedy Hire is on a prospective P/E of 9.5 and a dividend yield of 4.2% according to Stockopedia.

So why was the company interesting? Firstly Speedy Hire seems to be somewhat of a turnaround situation from dire 2016 results. The presenter, Chris Morgan, explained how the company has a new focus on improving the proportion of services in the revenue mix which have better margins and there is a new focus on SME customers which they consider a significant opportunity. They are also undertaking a “digital transformation” to reduce costs and improve service. That includes a new “app” that enables customers to order items whereas most orders are taken over the phone at present. This is currently in essence a very labour intensive business – for example they have over 50 people on credit control alone.

There are clearly opportunities to improve efficiencies in the business by investing in technology which small local hire companies would be unable to match. There is also a focus on improving the return on capital employed (ROCE) which I always like to see – it’s now about 12.8% excluding the recent Lifterz acquisition so is moving in the right direction. On the 3rd October the company issued a positive trading statement with revenue up 6% and higher growth in the sectors focused upon mentioned above.

In summary a company that may be worth a closer look as management seem to be improving the business substantially.

After the Speedy Hire presentation I covered my book “Business Perspective Investing” (see https://www.roliscon.com/business-perspective-investing.html ) which explains the important things that you should look at when choosing companies in which to invest. It suggests ignoring the typical approach of looking for “cheap” shares based on low P/Es and high dividend yields but focusing on the business model and other attributes.

As Burford Capital (BUR) is a company in the news after the shorting attack by Muddy Waters, I chose to run through why I would never have invested in the company based on the check lists given in the book. In essence it fails too many of them, no doubt to the consternation of some in the audience who held the stock. Here are just some of the problems:

  1. High barriers to entry? None I am aware of – I suspect anyone could set up a litigation funding company given enough capital.
  2. Economies of scale? I doubt there are any as legal claims are labour intensive.
  3. Differentiated product/service? I am not clear that they differ much from other litigation funding businesses.
  4. Low capital required? Absolutely the contrary as they have to fund legal cases for years at enormous cost before they get any payback.
  5. Proprietary technology or IP? There is none.
  6. Smaller transactions? The opposite. Burford’s profits depend on a few large legal cases.
  7. Repeat business? I question whether there is any. Legal cases tend to be one-offs.
  8. Short term contracts? The opposite. The cases they take on can run for years.
  9. No major business risks obvious? Significant risks of losing major cases.
  10. Low debt? The contrary as they use debt to finance their legal cases.
  11. Appropriate corporate structure? Odd to say the least until recently with the CFO being the wife of the CEO and no executive directors on the board.
  12. UK or US domicile? No they are registered in Guernsey.
  13. Adhere to UK Corporate Governance Code? No.
  14. AGMs at convenient time and place? No, they are in Guernsey.
  15. No big legal disputes? Apart from participating in the legal actions they fund, they also have received a claim from their founder and former Chairman recently.
  16. Accounts prudent and consistent? Is recognition of the value of current legal claims prudent (upon which the reported profits rely) and the accounts conservative? It’s very difficult to determine from the published information but I have serious doubts about them.
  17. Do profits turn into cash? Not in the short term. They are effectively recognising what they consider to be the likely chance of success in current profits. But winning legal claims is always in essence uncertain. I have been involved in several big cases and your lawyer always tells you that you have a very good chance of winning as they wish to collect their fees, but even if you win collecting any award can be uncertain.

I could go on further but the above negatives are sufficient to rule it out as a “high quality” business so far as I am concerned. That’s ignoring the allegations of Muddy Waters and the counter allegations by Burford of share price manipulation (i.e. market abuse).

Treatt (TET) issued a trading statement today (4th October). This is a company that specialises in natural ingredients for the flavour and fragrance markets, particularly in the beverage sector. I hold a few shares in it.

The statement says that there has been “a significant fall in certain key citrus raw material prices…..”. This is impacting revenue growth although they have been diversifying into other product areas. Profit before tax and exceptional items is still expected to be in line with expectations – which was for a fall in EPS for 2019 based on consensus broker forecasts.

Now when a company says its input prices are coming down by more than 50% as in this case, you would expect the company to be making bumper profits as a result. But clearly this is not so. It would seem that their customers expect to pay less which suggests this is a “commodity price” driven business where competitors track the prices of the raw material downwards.

This might be a well-managed business in a growth sector for natural ingredients but there may well be low barriers to entry and an undifferentiated product in essence. So it may well fail the checklists in my book.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Intercede AGM and Tech Stock Valuations

Yesterday I attended the Annual General Meeting of Intercede Group Plc (IGP) at their offices in Lutterworth. I have held a very few shares in this company since 2010 in the hope that it would be able to turn its identity software solution into a profitable and growing business. Although they have some great major account customers, revenue has been static at around £10 million for the last 5 years and in 2017/18 they reported substantial losses. It always looked to me a typical example of a common failure in technology driven companies – great technology but inability to sell it. There was a revolution in the management in 2018 though with founder Richard Parris who was Executive Chairman departing in March 2018. Last year (year end March 2019), revenue was £10.1 million, a slight increase, and a small profit was reported after substantial reductions in costs.

New Chairman Chuck Pol introduced the board including the new CEO Klaas van der Leest and they have also appointed a new non-executive director, Rob Chandok. The other two non-executive directors have been there since 2002 and 2006 which is too long but they were not up for re-election.

There was no trading statement or other announcement on the day, so we went straight into questions. I asked about the “distractions” referred to on page 9 of the Annual Report and Klaas covered the management changes. It seems quite a number of staff left and new hires were made including sales staff, pre-sales and new developers, but the situation was now stable.

I asked about the status on development of channel partnerships which is what they are now clearly focusing on rather than direct sales. In response it was stated that 2 new channel managers had been appointed – one for the USA and one for the rest of the world. But it takes time to develop channel sales. The previous 4 offices have been cut to 2 in Lutterworth. Is it difficult to recruit staff bearing in mind the Lutterworth location? Not an issue it seems as remote working is now practical – Klaas lives in Surrey for example and visits the office a few days per week.

I also asked about the comment about development of a more standard variant of MyID (see page 6 of the Annual Report). Klaas said when he arrived the product had not been standardised – they were more selling a toolkit with “lots of arms and legs” so significant implementation expertise and effort was required. Comment: this explains why sales were not easy in the past because from my experience in the software industry this adds to costs substantially and slows sales.

I later asked whether the development effort put into before the management changes were made was of any use, but it seems that has been “mothballed” and they are concentrating on sales of MyID.

Another shareholder asked about the £1.45 million of receivables that are “past due” (see page 40) – have they been received? The answer from the CFO was in the main yes. The reason for the long payment times were because they are involved in large projects, often acting as sub-contractor. But he was somewhat evasive about whether they were now all collected and refused to disclose the current outstanding position. But he did say that with the type of clients they have, collection is not usually a problem.

I asked about the convertible loan note they have which is quite expensive – £4.7 million outstanding at 8% p.a. interest and repayable by December 2021. Could they be redeemed early? Answer was no but the board is considering that issue. As one shareholder commented, all they need to do is get the share price above the conversion price to remove the problem, although there would be some dilution as a result of course.

I chatted to Klaas after the formal meeting closed, and it’s good to have the company led by an experienced sales person. The changes he has been making look altogether positive but it seems to be taking some time to produce better results – but that might simply be the long lead times on major account sales and the time it takes to develop the partnerships. But it would have been preferable to have a trading statement of some kind at this meeting. I think we will have to wait and see on this company.

Technology Stock Valuations – Bango and Boku

Intercede is an example of a company which has minimal profits at present so valuing it is not easy. Based on broker’s forecasts of some increase in revenue this year it’s valued by the market at 1.4 times revenue approximately. That simply reflects the slow growth and the convertible debt issue. The large number of shares still held by Richard Parris may not help either. If the sales and profits can be ramped up, that may appear cheap in due course.

It’s interesting to compare this company with other technology stocks which have announced figures recently, which I also hold (none in a big way as they are all somewhat immature businesses to my mind with no proven profit or positive cash flow record).

Bango (BGO) issued interim results on the 17th September. It operates in the mobile phone payment and identity verification markets. It has forecast revenue for this year about the same as Intercede’s at £12 million and may break even after substantial historic losses. Its valuation is over £100 million, i.e. about 10 times revenue. The big difference from Intercede is that it is seen as a high growth business in terms of revenue! Another similar business is Boku (BOKU) which is also rapidly growing but historically loss making. They issued an interim statement on the 10th September. Revenue was up 39% and they appear to be on target to meet full year forecasts of revenue of $52 million. Their market cap valuation is £280 million at about 7 times revenue. Both companies have volatile share prices and tend to talk about EDITDA as profits are ephemeral.

You can see how important revenue growth is to technology stocks and why Intercede’s valuation is so low at present. If growth disappears as it did at Intercede then valuations quickly fall. You can see why it is necessary to look at the business dynamics, the management and the future prospects for the company to be able to understand the valuations.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Standard Life UK Smaller Companies Trust, The Merchants Trust and Management Longevity

Today I received the Annual Report of Standard Life UK Smaller Companies Trust (SLS) which I have held for many years. Performance last year was disappointing – NAV total return of -1.1% but that was considerably better than their index benchmark.

I attended a presentation by The Merchants Trust (MRCH) at the ShareSoc seminar in Manchester. Merchants have a very different market focus which is on UK large cap companies predominantly. They offer a dividend yield of 5.7% which is of course much higher than SLS and higher than most other similar trusts. It’s interesting to compare their performance to SLS using AIC figures. Merchants produced a share price total return of 144.9% over ten years, while SLS produced a comparable return of 417.8% over the same period.

I know which trust I would prefer to invest in. I suspect Merchants’ problem is basically trying to buy cheap stocks on high dividend yields which I do not think is a sound investment strategy longer term even if some investors like the high dividend they can generate as a result. But what really matters is total return. Merchants probably appeals to a different type of investor than me though as it may be less volatile than a smaller companies trust.

One interesting comment in the SLS Annual Report is under a page entitled “Investment Process”. Under “qualitative factors” is says “Founders retaining positions of authority within the companies after flotation, along with longevity of tenure for CEOs are a positive signal. Four of the top ten holdings in the portfolio are still run by the company’s founder”.

That actually conflicts with what I said in my recent book “Business Perspective Investing” where I said: “Founders can remain at the helm of companies long after they should have given way to others. This is even so in public companies even if the board or shareholders have in theory the power to remove them – the fact that they still often own a large proportion of the shares and have often appointed “yes men (or women)” to the board who are unlikely to challenge them thwarts any change. One question to ask for investors is: Is a founder still in charge and does that create a risk?”. I also reported academic research that suggests that founder CEOs are the worst type.

This issue is clearly more complex than my comments have suggested and I may need to revise those in a future edition. There are examples of very successful founders but other ones of failures. Perhaps smaller companies are helped by longevity in CEOs whereas larger companies are not. I would welcome readers’ views on this subject.

But SLS clearly believes in the principle of longevity as Harry Nimmo has been the lead fund manager of the trust since 2003.

They also say “valuation is secondary” which is very much the theme of my book.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Burford Capital, Goals Soccer Centres, Carillion, and Why Numbers Are Not Important

To follow on from my previous comments this morning on Burford Capital (BUR), this is a typical “shorting” attack where the shorter (Muddy Waters) and their supporters make a lot of allegations which investors are unable to verify in any useful time frame. I certainly questioned the accounting approach used by Burford and other litigation finance firms as I commented on it back in June, but disentangling the factual accusations in the Muddy Waters dossier from innuendo and comment is not easy.

It is surely wrong for anyone to make such allegations and publicize them with the objective of making money from shorting the stock without first asking the company concerned to verify that what they are alleging is true – at least as far as the facts they report are concerned rather than just their opinions.

The company may threaten legal action for libel where misleading or inaccurate information is published but in practice such law suits take so long to conclude, with major practical problems of pursuing those who are resident overseas while actually worsening the reputational damage rather than improve it that few companies take that route.

This is an area of financial regulation that does need reform. In the meantime the damage to Burford is probably likely to persist for many months if it ever recovers.

What is the real moral of this story so far as investors are concerned? Simply that trusting the financial accounts of companies when picking investments is a very poor approach. This was reinforced by more news about the accounting problems at Goals Soccer Centres (GOAL) which I also commented on previously. Apparently a report to the board by forensic accountants suggests that the former CEO corroborated with the former CFO to create fictitious documents including invoices (see FT report on 3/8/2019). Clearly the audits over some years failed to pick up the problems. In addition it looks like the demise of Carillion is going to be the subject of a legal action against their former auditors (KPMG) by the official receivers. Financial accounts, even of large companies such as Carillion, simply cannot be trusted it seems.

This is not just about poor audits though. The flexibility in IFRS as regards recognition of future revenues is one of the major issues that is the cause of concerns about the accounts of Burford, as it was with Quindell – another case where some investors lost a lot of money because they believed the profit statements.

This seems an opportune moment to mention a new book which is in the process of being published. It’s called “Business Perspective Investing” with a subtitle of “Why Financial Numbers Are Not Important When Picking Shares”. It’s written by me and it argues that financial ratios are not the most important aspects to look at when selecting shares for investment. Heresy you may say, but I hope to convince you otherwise. More information on the book is available here: https://www.roliscon.com/business-perspective-investing.html

There are some principles explained in that book that helped me to avoid investing in Burford, in Quindell, in Carillion, in Silverdell and many of the other businesses with dubious accounts or ones that were simple frauds. These are often companies that appear to be very profitable and hence generate high investor enthusiasm among the inexperienced or gullible. It may not be a totally foolproof system but it does mean you can avoid most of the dogs.

With so many public companies available for investment why take risks where the accounts may be suspect or the management untrustworthy? One criticism of Neil Woodford is that his second biggest investment in his Equity Income Fund was in Burford. If you look at his other investments in that and his Patient Capital Trust fund they look to be big bets on risky propositions. He might argue that investment returns are gained by taking on risk which is the conventional mantra of investment professionals. But that is way too simplistic. Risks of some kinds such as dubious accounts are to be avoided. It’s the management of risk that is important and size positioning. The news on Burford is going to make it very difficult for Woodford’s reputation as a fund manager to survive this latest news.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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All Change at Superdry and Intercede – Perhaps

Readers are probably aware that founder Julian Dunkerton managed to win the votes yesterday at the EGM that he requisitioned at Superdry (SDRY). The votes to appoint him and Peter Williams were won by the narrowest of margins despite proxy advisors such as ISS recommending opposition. My previous comments on events at Superdry are here: https://roliscon.blog/2019/03/12/superdry-does-it-need-a-revolution/ . It did not seem clear cut to me how shareholders should vote, but I did suggest there was a need for change.

There will certainly be that because the incumbent directors (including the CEO and CFO although that does not necessarily mean they have quit their executive positions) have all resigned from the board although some of the non-executive directors are serving out their notice. Dunkerton has been appointed interim CEO.

Perhaps the most apposite comment on the outcome was by Paul Scott in his Stockopedia blog. He said “To my mind, the suits have made a mess of running this company, so bringing back the founder seems eminently sensible to me”. However, I suggest there is still some uncertainty as to whether the Superdry fashion brand can be revived – perhaps the world has moved on and it has gone out of fashion. But Dunkerton should be able to fix some of the operational problems at least. Retailing is still a difficult sector at present so I won’t personally be rushing in to buy the stock.

Another momentous change took place at Intercede (IGP) yesterday. This company provides secure digital identities and has some very interesting technology. But for many years it has failed to turn that into profits and revenue has been also remained flat. But yesterday the company announced a large US Government order and hence they expect a “return to profitability”. This certainly surprised the market as another loss was forecast. The share price jumped 60% yesterday after it had been in long decline for several years.

I have held a small holding in the stock since 2010 (very small prior to yesterday) but I was never convinced that the company knew how to sell its technology – a common failing in UK IT companies. The former CEO and founder Richard Parris who was there for 26 years was surely part of the problem but he departed in 2018. Has the company actually learned how to make money under the new management? Perhaps, but one deal does not totally convince. One swallow does not make a spring as the old saying goes.

Even after the jump yesterday, the market cap is still not much more than one times revenue which is a lowly valuation for such a company. But investors need to be aware that the company has £4.6 million of convertible loan notes which would substantially dilute shareholders if they were converted. A company to keep an eye on I suggest, to see if it has really changed its spots.

Another surprising change yesterday was the abrupt departure of Richard Kellett-Clarke from the boards of both DotDigital (DOTD) and IDOX (IDOX) “due to private matters in his other directorships” according to the announcement from DOTD. DOTD is looking for a new Chairman. I wonder what that is about? We may find out in due course.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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