Interactive Investor

Stockwatch: a small-cap with a gravity-defying outlook

14th February 2023 11:34

by Edmond Jackson from interactive investor

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With predictions of a long UK downturn, our companies analyst considers whether this AIM firm has a place in a long-term portfolio. 

Defying gravity 600

Should you be suspicious if a company is fond of EBITDA as its prime reporting measure? 

“Earnings before interest, tax, depreciation and amortisation” is similar to operating profit, albeit favoured by acquisitive companies which otherwise are required by modern accounting rules to write off amounts to the income statement, what was paid in excess of net tangible assets.  

Where “people businesses” are involved, this would otherwise distort a fair view of earning power, but a dilemma is the tendency to add back various other amounts – such as share-based remuneration – that some would say are genuine costs. Acquirers and their advisers would reply that these are non-cash items and accounts’ users need to see through to how the business is performing. 

Interim and full-year reporting reconciles any EBITDA perspective with regular accounting, but it tests my patience when companies such as Brickability Group (LSE:BRCK) issue a pre-close update in respect of 2022 trading, exclusively on EBITDA terms.  

Such a profitability focus has been an ingrained habit since the supplier of bricks and other building products listed in September 2019; and its updates towards the end of its full year to 31 March omit revenue. 

Management says instead that “all the business divisions have continued to deliver a strong performance”, which is quite a stand-out relative to three other listed building material groups, whose 2022 pre-close updates cited weakness creeping into the fourth quarter. Moreover, housebuilders have cited a fall in demand since mortgage rates rose from last October, hence a fair guess that this will feed through to building activity. 

Not to lose sight how, at 75p to buy currently, the stock is back near its September 2019 listing price of 65p – yet revenue and net earnings have at least trebled.

Comparisons are useful versus a rose-tinted EBITDA view 

Brickability cites its “diverse multi-business strategy” as “once again enabling the group to navigate pressures”. Yet the last interims to 30 September cited around three-quarters of group revenue as bricks and building materials-related; and while the group is diversifying, for example, into clay tiles, it will continue essentially to dial into demand from construction. 

The company does look a bit unique, at least relative to what other materials companies have said since mid-January. 

Forterra (LSE:FORT), a £464 million masonry manufacturer (compared with Brickability as a £225 million distributor) declared its 2022 annual outcome would be slightly ahead of management’s expectations, also pre-pandemic comparators. Revenue rose 21% to £450 million albeit “brick and block products broadly in line with 2021...production capacity and low inventories being the primary constraint on sales...” Fourth-quarter 2022 sales were behind 2021.  

“We did see signs of softening demand towards the end of 2022 and await how customers’ spring new house selling season develops...likely a key determinant of demand for our products during 2023.” 

Ibstock (LSE:IBST), “a leading UK manufacturer of clay and concrete building products”, has cited 2022 revenue up 25% to £510 million, albeit lower fourth-quarter sales across new build and repairs. Like Brickability, “adjusted EBITDA is modestly ahead of expectations”, although 2023 is expected to be more challenging. 

Marshalls (LSE:MSLH) has cited revenue only 1% better in 2022, while the acquisition of Marley roofing products boosted the total by 22%. Its dilemma is exposure to landscape products, where demand is more discretionary; hence a 12% contraction followed 16% in the third quarter. Building products saw “some slowing of activity in the final quarter with poor weather disrupting construction sites in December”. 

Looking ahead, in terms of housebuilders’ need for materials, Persimmon (LSE:PSN) has reported “notably weaker customer demand in the second half of the year...the biggest impact on sales in our southern regions...a particularly sharp fall in demand on those sites where Help to Buy was more widely used...elevated cancellations in the second half...” 

And Taylor Wimpey (LSE:TW.). has cited “sales significantly below levels seen prior to the rise in mortgage rates in the third quarter of 2022...we enter 2023 with a lower private order book and expect volumes to reduce...” 

Might housebuilder and materials supplier equity now be finely balanced? 

Yesterday, house-building equities fell in response to Deutsche Bank mostly downgrading from “buy” to “hold” – in a sense that there has been a due recovery after late-2022 negativity in response to mortgage rate increases. 

Indeed, last November I turned positive on Brickability with a “buy” stance at 69p, on a prospective yield near 5% - covered possibly thrice by earnings. I respected a well-executed acquisitions strategy and although 10 insiders sold nearly £40 million worth of equity in June 2021, one of those sellers bought back £100,000 worth at 81p last July. Octopus Investments, a leading manager of venture capital trusts, had raised its stake from 16% to 17%, implying conviction to hold a quite illiquid small cap through any downturn. 

A sense of long-term value was then supported by Brickability’s CEO buying a total of 300,000 shares just below 67p last December, although the price continued to fall – briefly below 60p on 2 February. Unlike various other cyclicals rebounding in January, Brickability appeared to get left behind, hence a 5% recovery to 75p on yesterday’s update can be seen as overdue. 

But deciphering for truth in numbers, it bothers me how at least one early market report yesterday cited Brickability achieving “full-year adjusted underlying earnings of at least £47 million”. EBITDA is not net profit.  

Consensus – or guidance – is for net profit to more than double to £31 million in this current year to 31 March, partly helped by the near-£5 million acquisition of Modular Clay Products last May, which made normalised EBITDA of £1.3 million in 2021. Also, ET Clay Products bought last September for £11.6 million, which made adjusted EBITDA of £3 million on £44.3 million revenue in its year to 30 July 2022.  

This focus on EBITDA means it will take time to see in published accounts, how reported versus normalised earnings compare. While the historic table shows scant disparity between reported and normalised EPS, the last adjusted interim net profit of £17.9 million was 54% greater than reported profit. For example, £3.8 million amortisation was added back, also a £2.2 million earn-out (classed as remuneration under IFRS3). 

The historic summary also shows operational cash flow per share consistently exceeding both reported and normalised earnings per share (EPS), typically a healthy sign contra earnings manipulation. 

Brickability Group - financial summary
Year end 31 Mar

Turnover (£ million)11.7163187181520
Operating margin (%)
Operating profit (£m)0.114.715.212.023.1
Net profit (£m)-
EPS - reported (p)-
EPS - normalised (p)-
Operating cashflow/share (p)
Capital expenditure/share (p)
Free cashflow/share (p)-
Dividend/share (p)
Covered by earnings (x)
Return on total capital (%)
Cash (£m)5.417.027.38.625.0
Net debt (£m)
Net assets (£m)8.116.480.185.4155
Net assets per share (p)

Source: company accounts.

While consensus for March 2023 normalised EPS towards 10.5p implies a single-figure price to earnings (PE) multiple, it would be around 11 times, say, if taking a more rigorous view of costs, such that EPS is nearer 8p. 

Mind that net asset value near 54p a share, constitutes 99% intangibles. The acquisitive drive means financial debt more than doubled over 12 months to end-September, near £34 million, while cash fell from £18.4 million to £6.7 million. The net finance charge thus nearly doubled to £921,000.

More likely, long-term value remains   

Not to lose sight, it will pay to accumulate housebuilders and materials suppliers given the UK’s fundamental shortage of housing.  

Yet recalling a few acquisitive, construction-oriented firms that hit trouble in the early 1990s recession, I am alert to Brickability apparently defying a downturn under way, while also emphasising EBITDA. 

I therefore adjust to a “hold” stance until, say, management hopefully gives better insight at its pre-close update later in April.  

Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.

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