Communisis (CMS)


Stockwatch: Intrigued by this share's potential

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Stockwatch: Intrigued by this share's potential

Is there further upside for near-£150 million UK/European support services stock Communisis (CMS) in customer communications for major brands?

Or, given it currently appears challenged to rise above my price objective of 70p, with the March prelims showing only 3-4% growth rates, is it time to lock in gains?

The outlook statement was kept rather vague - "looking forward to another positive year" -although management has launched a three-year plan to leverage profit and the latest AGM statement says trading expectations "remain unchanged". So, will patience be a virtue?

Mixed views on this aspect of business services

Communisis pitches itself as "a leading provider of personalised customer communication services", helping financial services and fast-moving consumer goods organisations especially: to manage billing, statements, marketing campaigns and the like, directly and digitally.

To an extent, this reflects a structural shift i.e. should be quite resilient to cyclical pressures, although it's all part of marketing services thus potentially exposed if the business cycle is late-stage.

At 67p, the historic price/earnings (PE) is sub-11 times and the yield is 4%, with no real broker coverage as to forecasts, although that can be a positive if the company delivers on its aims.

Management contends it has quality clients with average contracts of five years, which fosters medium-term visibility; indeed, what helped the stock turn up from a 35p low in December 2016 was an initial three-year contract with HMRC (with a two-year extension) for all outbound communications to taxpayers. Mind the top five clients account for 48% of sales (if down on 56% in 2016), thus a jolt from any could compromise near-term profits.

I drew attention in March 2017 at 52.5p after the chairman bought 100,000 shares at 49.9p and Richard Griffiths, a Monaco-based investor, raised his stake over 21% - implying strong conviction about prospects, given it would be tricky to offload if things went awry.

The chart has trended volatile-upwards, testing 70p early 2018 then trading sideways, affirming my sense how "a modest rating means further contract wins can drive upside into a 60-70p range".

Griffiths managed his exposure somewhat late last year: down to 16.8% then back up to 19.6%; also Majedie Asset Management reduced from 5.1% to 4.4% in March; more positively, on 3 May, Otus Capital Management declared a 6.1% stake from sub 3.0% or owning none at all.

Communisis - financial summary          
year ended 31 Dec 2013 2014 2015 2016 2017
Turnover (£ million) 270 343 354 362 376
IFRS3 pre-tax profit (£m) 6.3 -13.3 17.3 11.6 14.4
Normalised pre-tax profit (£m) 9.6 11.3 19.9 16.7 17.2
Operating margin (%) 4.1 4.0 6.3 4 4.9
IFRS3 earnings/share (p) 2.6 -7.5 7.0 4.1 6.1
Normalised earnings/share (p) 4.3 4.7 8.2 6.1 6.4
Earnings per share growth (%) -8.9 8.8 75.9 -25.6 4.9
Price/earnings multiple (x)         10.6
Annual average historic P/E (x) 11.4 14.4 11.1 4.9 7.8
Cash flow/share (p) 1.5 8.8 9.8 8.9  
Capex/share (p) 10.9 7.3 5.3 3.3  
Dividend per share (p) 1.7 1.9 2.1 2.4 2.7
Dividend growth (%) 9.7 10.0 10.2 10.7 14.0
Yield (%)         4.0
Covered by earnings (x) 2.5 2.6 2.6 2.5 2.4
Net tangible assets per share (p) -20.9 -30.1 -31.3 -33.3 -22.4

Source: Company REFS            Past performance is not a guide to future performance

Fair progress if yet to establish a "growth company"

The 2017 results show normalised pre-tax profit up just 3.3% to £17.2 million on revenue up 3.8% to £375.9 million, with finance costs clipping some 20% of operating profit.

A year ago, a consensus had existed for £17.8 million profit, making the outcome a tad shy. A modest split between headline and normalised profit is due to £1.6 million employee benefits, £0.5 million "other" operating expenses and £0.7 million depreciation/amortisation.

Sceptics might say the first two are genuine costs and "see-through" performance is effectively flat, hence it's unsurprising how management has launched a three-year improvement programme to offer jam tomorrow. Yet with some refinement to operations the numbers could indeed improve.

Services broadly divide between "customer experience" and "brand deployment". The former show 2017 gross revenue edging up 2.3% to £189 million amid varying operational performance, with adjusted operating profit rising 12.6% to £22.4 million.

I'd previously noted to watch the development of a New York office which appears to be thriving e.g. via content marketing for LinkedIn and gaining some large financial services clients. Closing a Glasgow operation and restructuring London-based teams is said to make this side of the group "leaner and more focused on core services/clients".

Time will tell whether such actions were needed to maintain competitiveness or can genuinely boost results.

Over at brand deployment, gross revenue rose 5.5% to £187 million, benefiting from strong growth across Germany, Poland, France, Spain, Italy and Dubai (which saw its first full year of operations). Adjusted operating profit was barely ahead though at £16.5 million, said due to investment in new countries and that margin improvement will be a focus going forward.

Comparing a "very successful year" for a campaign fulfillment operation from Newcastle and two others having their "most profitable year since acquisition" certainly implies loss leaders abroad, but which could do better in future unless the eurozone sputters.

Overseas sales rose from 26% to 30% of group total, principally in continental Europe, though an office has just recently opened in Hong Kong.

Chairman entertains 5-10% annual EPS growth

Appointed in May 2017, he now says at prelims that performance confirms his initial views about business strengths and cash generation (see the table generally showing cash flow exceeding earnings per share).

"We are differentiated in many ways...our long-term client retention levels are sector-leading....the one key priority is to raise profits, sustainably."

I interpret the essence of this "value enhancement programme" as enabling clients to drive higher returns from employing Communisis, thus convincing them to pay more for the services, with targets linked to management remuneration policy.

There has also been investment in a platform for international marketing, going live currently. So Communisis is taking actions to get lucky, if remaining to be seen whether price rises can stick.

Mind how the chief executive's narrative includes some caution. Financial services overall are said to offer lower headline growth due to "saturation" (presumably both of financial service firms, and marketers to them), hence the objective is mainly to help clients retain market share; while fast-moving consumer goods have seen marketing budgets pressured by currency fluctuations, though a general drive for standardisation and efficiency is also said to present opportunity.

Balance sheet isn't ideal but nor is it high-risk

Not surprisingly for a listed plc, there's debt linked to past acquisitions and investment, also an intangibles-heavy balance sheet, being a services group. As of end-2017, total debt was 39.2% of net assets - of which 134% comprises intangibles - or 17.5% on the basis of £22.8 million net debt, amply within £70 million facilities which have been renewed to August 2022.

While robust, operational cash flow measures are slightly down for 2017, with repayment of borrowings behind a 21.2% reduction in year-end cash to £30.2 million. The pension deficit is material at £38.2 million albeit trending down from £55.5 million at end-2016.

Altogether it's a stock that's good-in-parts, whose rating is undemanding if management can deliver higher margins and revenues like it targets.

Pricing the shares for a 4% yield shows the market is wary if economic growth is topping out - e.g. lower money supply figures in Europe earlier this year look already followed by softer GDP numbers appearing.

Cautious investors may prefer to watch, but I'm intrigued by potential for the three-year plan to build on recent streamlining. Keep fingers crossed, the stock drifts a bit more. Buy on weakness.

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