When it comes to the area of value investments, one undoubted prerequisite for me and no doubt others, is the solid balance sheet that provides for a firm footing of the business. To this end, Headlam Group, Europe’s leading distributor of flooring products very much fits the bill, not least, as it has the added attraction of a substantial amount of freehold property on the books.
Following the announcing of its full year 2020 results yesterday, I was able to speak with the CEO Steve Wilson and CFO Chris Payne, who provided me with some further insight into the business. Headlam is a new company for me to home in on though, where having taken a first close look last week and subsequently speaking with the Directors, I bought into the story yesterday as a medium to longer term investment. There are certainly a number of key positives to warm to here, not least, the freehold property’s I referred to at the outset, which although on the book at £100m are - according to the CEO - likely to be nicely ahead of that if they were valued today.
Whilst that revelation provides for a very nice level of underpinning and comfort, it is the highly cash generative nature of this business and its strength and resilience that is a real attraction.
Headlam has been established close to thirty years now where it buys floorcoverings across a broad spectrum in bulk, which are then stored in its own warehouses before being shipped onto end customers.
Expanding, CEO Wilson says, “it’s very much a traditional business where until recently the primary customer end has been the High St operator. Within that, two thirds of the business is residential related with the remainder being commercial end customers”.
In recent times though, in a fast moving and ever changing landscape, the board has been reassessing its business model and as a result, the CEO says that they found it somewhat lacking for where they want to be.
This has resulted in some streamlining, which has seen a firm emphasis and concentration on making its network more efficient, where bringing end users with them is key.
This also sees the company embracing the interaction of today, which has evolved from the times of a total reliance on the likes of sales reps travelling around the country.
In relation to its roots and expansion, back in the 1990’s having consolidated across the UK, the then management decided to extend its footprint beyond these shores. That saw Headlam embracing Europe, where it subsequently became firmly established following the same UK model.
Wilson says, “as a result of that, we now have operations in the Netherlands, Switzerland and France and the Netherlands has been quite successful”. France, according to the CEO, has been less so, whilst Switzerland is a somewhat different picture altogether, with the market being more specification led. Wilson gives an open and honest appraisal of the overseas venture where he states that when compared to the UK business and performance, it has been less successful. He also adds that they are currently working through their strategic options regarding the European operations and what they will do there going forward, so it looks like a spot that is open for changes ahead to perhaps concentrate on those providing the best margins.
Such attention and any new business initiatives should be welcomed by investors, as Headlam has an impressive track record and remains extremely well placed for further progress as the wider economy once more opens up.
The shares, before a sharp dip encountered as a result of Covid had been a solid and reliable performer, moving from around £2.70p back in 2012 to a peak of more than £6.00p a few years back and where it has paid some welcome dividends over time.
From an investment perspective, the extremely strong cash generation is a major attraction on offer here, alongside a return to growth following an understandably difficult 2020 that has just been reported. Although revenues for the full year reduced to £609m from the previous £719m, the adjusted pre-tax profit figure of £15.5m and a free cash flow yield of 6.8% were good numbers, given the harsh economic backdrop.
Looking ahead, the slow but welcome resumption of a more normal landscape should see the company bouncing back towards its historic level of performance which should also be boosted by the initiatives that have recently been put in place.
Payne says that there is now going to be a firm emphasis on the concentration of business to improve margins, which amongst other options, will include the combining of deliveries and the number of drops vehicles make.
Overall, the company boasts some 23 distribution hubs and centres with 53 trade counters which also sees it operating a commercial fleet numbering 363.
The CFO says that they are going to be leveraging their own infrastructure across the UK, along with also becoming even more relevant to customers by simplifying the way orders can be placed.
There is also as part of the strategy an identification of growing in other markets that are currently less well served. “We are very strong across the High St space with the smaller operators” says Payne, “but less so with the big multiples such as B&Q or Homebase as we haven’t really focused on that area in the past. Now though, we have elected a team to go and target that kind of group, as we have the distribution centres and the delivery vehicles, so if we can put more revenue on top, that then drops through to operational margin improvement”.
Payne also adds that in essence they are looking to target top line targeted growth on the back of making themselves easy to do business with, providing a fast and reliable service.
The renewed focus and moves outlined look positive and has Headlam in a strong position to not only maintain existing customer concentration, but to win new and potentially larger ones with big volume growth too.
Speaking of their extensive infrastructure Wilson adds that in the fullness of time they will probably be able to reshape that, which will result in the business being even more efficient than it currently is.
An example of this process can perhaps be seen by the company’s new and extensive 190k sqft Ipswich based distribution centre that is close to Felixstowe docks. It became fully operational in July of last year as some other smaller and poorer aged centres have been closed.
As it moves forward, the company expects to make cost savings by 2022 of some £8m, whilst there is an expectation that by 2023 there should be a run rate margin of circa 7.5%. Dividends are also firmly back on the agenda which following Covid sees a current historically smaller payment being announced, but which should, in time, resume the previous progressive nature.
Wilson says that 2021 is really about getting dividends back on the agenda with 2022 seeing payments equating to 2x cover, which would result in improving and attractive dividends ahead providing for a decent yield.
Recorded net cash for the full year 2020 was £51.6m although it is worth factoring in that there is a deferred £12m VAT payment that will at some point flow out.
Nevertheless, Headlam is residing over a sound balance sheet with ample and comfortable borrowing headroom with a strong and seemingly conservatively valued asset base.
Taking a look at Broker Peel Hunt’s forecasts numbers for full year 2021/2022, these look conservative, although the stance is understandable given the 2020 disruption. However, given the vaccine roll out and the desire for life to normalise there looks to be scope for a potential upgrade in due course, not least, as despite circumstances the current year has started well.
For now, the broker has pencilled in full year 2021 revenue of £667m with EBITDA at £37.3m and adjusted pre-tax profits of £28m.
The EPS figure is 26.8p rising to 30.9p in 2022 which puts the stock at today’s share price of £4.15p on a PER of 15 falling to 13, which looks decent value.
However, those numbers could well be revisited if the economy bounces back as hoped for, along with the company gaining further through its strategy thus highlighting the value on offer.
https://www.piworld.co.uk/2021/03/09/headlam-group-head-full-year-2020-results-presentation/