Psst, company XYZ is going great guns, it’s shooting for the moon, get in before it is too late!!! In today’s article, Richard uses SharePad to evaluate Clipper Logistics, a tip he received anonymously on the Internet.
Tips passed online are sometimes little more than ramps, invitations to boost the tipster’s wealth by buying shares he already owns, but there are exceptions to every rule. In August I received an anonymous tip by direct message on Twitter, and ever since it has been gnawing away at me like an idea worm.
A tip worth following up
My correspondent messaged: “Top of the morning, Richard. I think you may find it interesting to look at Clipper Logistics.”
He added: “Clipper looks… to be a lovely solutions business, very much like Expeditors International in the mid 1990’s… Big Brexit risk so I don’t think there is any rush… The theme then was globalisation. The theme here is obvs [obviously] online shopping.”
He concluded that he rates management, the directors own a large financial stake, the business is asset light and close to “mission critical”.
Although I don’t know his name, I am sure my correspondent’s motives are pure. we have messaged and emailed each other many times over many years and he has helped me understand some complex situations. He knows I would form my own opinion on the firm.
I like the tip too. What could be duller than vans and warehouses, the picks and shovels powering oh-so fashionable online retailers? Clipper distributes products, and manages returns for an A-Z of retailers, literally ASOS to Zara.
I’d like to learn more about this sector, not so much because it is both dull and hot (revenue and profit are growing fast), but because I am already interested financially. I own shares in Solid State, which is supplying battery packs for warehouse robots, and fashion retailer Next, which has upgraded its warehouses so it can supply other fashion firms’ products more efficiently through its websites. Distribution is the fastest growing bit of Next.
Trust but verify
Though I trust my correspondent, he is a trickier investor than me. He likes special situations like new issues and turnarounds, which I find difficult to fathom. Our objectives may be different so I need to verify Clipper Logistics is a suitable investment for me, starting with what it does:
The summary information says Clipper earns most revenue in the UK, so the Brexit risk my correspondent refers to probably relates to the possibility of recession as the UK withdraws from the EU, maybe import frictions, and also the potential restriction of migration as Clipper employs migrants in its warehouses. Most of Clipper’s revenue, about £300m in the most recent financial year, comes from storing and moving stuff around but Clipper operates six rather traditional sounding Iveco and Fiat commercial vehicle dealerships too.
Storing and moving stuff around is a demeaning description of the logistics activities described in the summary. These days, retailers’ reputations and profit margins may depend on how efficiently they process deliveries and returns, activities that are becoming ever more automated. This may be where Clipper Logistics can add most value, what makes it a “lovely solutions business” and perhaps even “mission critical”. The profit from the commercial vehicle segment is less impressive, and I wonder if it is primarily a channel for buying, selling and repairing Clipper’s own vehicles.
These are just theories. To refine them I will need to seek clarification from the annual report and the Clipper Logistics website. Before we leave SharePad though we can verify some of my correspondent’s other claims, and also check whether there are any bogies he may have missed.
Steve Parkin, Clipper’s founder and executive chairman, and chief financial officer, David Hodkin, are both very experienced. They’ve held their roles for 23 years and 15 years respectively. Tony Mannix had worked at Clipper for eight years before he was appointed chief executive in 2014:
And the chairman is a major shareholder, he owns 25% of the shares, which means he has a serious amount of money at stake in the business:
Hidden debt
But jumping around SharePad’s screens, I’ve noticed an inconsistency that may call into question my correspondent’s assertion that Clipper Logistics is ‘asset light’, and some of the rosy looking financial ratios reported in the summary page:
Do you see the discrepancy between Return on Capital Employed in the DuPont Analysis chart of about 12% and the ROCE of 25.7% reported in the Summary Dashboard? That’s because the historical figures in the chart are lease-adjusted. Twelve percent return on capital is fine, but 26% is tremendous.
To adjust for leases, rental payments are added back to profit (EBIT) less an amount representing annual depreciation, and an amount representing the value of the leased assets is added to the balance sheet. The calculation restates the figures as though the company owned the assets outright.
While technically the lessor, not Clipper, owns leased warehouses and vehicles, Clipper couldn’t do without these assets and it owns the right to use them for a period of time. The standard accounting treatment means companies keep these leased assets off their balance sheets, which can make businesses look more profitable and less indebted than they are. The accounting rules are changing to close this loophole but for now we must make the adjustment ourselves, or ask SharePad to do it.
We can see the impact of the calculations on a range of financial ratios by clicking on Investor Tools in the main menu bar of SharePad:
As you might expect, since we’ve added back rental payments less depreciation to profit, the numerator of the ROCE calculation, EBIT is almost twice as high once adjusted at £32.9m, so why is ROCE lower? The answer is in the denominator of the ROCE calculation. Those rental payments, capitalised and added to the balance sheet, mean capital employed has swelled nearly four times from £78.2m to to £297.2m. The lease adjusted ROCE calculation is therefore:
As I said, the lower ROCE figure doesn’t worry me too much, but Clipper Logistics’ reliance on outside capital, lessors and lenders, to finance its operations could be a concern.
In fact SharePad calls lease obligations “hidden debt”, and Clipper Logistics” hidden debt has been on the march since it floated on the stock market in 2014. The estimated value of leased assets, and the matching liability in terms of lease obligations, have more than doubled from about £100m to about £220m, probably as Clipper has added more warehouses and vehicles:
It wouldn’t take much of a fall in profit for Clipper’s capacity to pay its interest and rental bills (fixed charge cover) to become stretched. SharePad suggests profit should be at least 1.5 times as much as rent and income combined, a benchmark which the company flirts with:
This doesn’t necessarily scupper the investment case, but should make us pause for thought. High levels of debt and hidden debt are sustainable, but only if profits and low interest rates can be relied on.
Clipper says the majority of its contracts are long-term and guarantee minimum volumes, so cash flows are stable and predictable.
Perhaps it can take on financial obligations with confidence, but since Clipper only floated four years ago we have have a limited amount of historical information to go on.
I think Clipper is a very interesting business, but I will need to follow it for for longer to share in its confidence.
To find out more about lease adjustments, see: How to analyse companies with hidden debts.
Richard Beddard
