SCT - Scott Tech

[Southern Lad]

You appear to have overlooked a more logical (and less sinister) explanation Snoopy!

STL early adopted NZ IFRS 16 (Leases) for the 2019 year and as a consequence has interest expense in respect of lease liabilities. Note C5 to the 2019 financial statements details that there is $518,000 of interest expense hitting the P&L in 2019 on total year end lease liabilities of $17,392,000.

[Snoopy]

Indicative Net Debt Over FY2019 = ( $5.064m- $12.578m - $16.404m) / 3 = -$7.996m {B}

The net interest paid over FY2019 was: $0.020m - $1.715m = -$1.695m {A}

So the net indicative interest rate paid was {A}/{B}:

$1.695m / $7.996m = 21.2%

That seems very high. Have I made a mistake?

You appear to have overlooked a more logical (and less sinister) explanation Snoopy!

SCT early adopted NZ IFRS 16 (Leases) for the 2019 year and as a consequence has interest expense in respect of lease liabilities. Note C5 to the 2019 financial statements details that there is $518,000 of interest expense hitting the P&L in 2019 on total year end lease liabilities of $17,392,000.

Hi 'Southern Lad' and welcome to the forum.

I have looked at section C5. Leases of under a years duration are 'operating expenses'. Yet leases of over a year require 'interest payments' on lease liabilities. Can that be right? Those interest payments are not really 'interest payments' the way I see it, as they reduce the lease liability. They are more like 'lease capital repayments'. But if 'interest payments; is the accounting standard lingo for this, then I will have to go for your explanation.

The 21.5% interest rate I calculated certainly alerted me that something was wrong. If I take that lease interest expense away from the 'finance expenses' my interest rate calculation changes:

Indicative Net Debt Over FY2019 = ( $5.064m- $12.578m - $16.404m) / 3 = -$7.996m {B}

The net interest paid over FY2019 was: $0.020m - ($1.715m - $0.518m)= -$1.177m (A)

So the net indicative interest rate paid was {A}/{B}:

$1.177m / $7.996m = 14.7% (still high though, but more believable!)

SNOOPY

[Snoopy]

From the ird website:

https://www.classic.ird.govt.nz/rese...incentive.html

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The key features of the R&D tax credit include:

• A 15% tax credit available from the beginning of a business' 2020 tax year
• A minimum R&D expenditure threshold of $50,000 per year
• A $120 million cap on eligible expenditure
• A definition of R&D intended to ensure accessibility across all sectors
• A limited form of refunds in the first year. This will allow some firms with a tax loss to receive a refund of the tax credit.

-------

Scott's declared R&D spending (admittedly spread between Australia and NZ) of $14m over FY2019. So there is little doubt they qualify for the $50,000 minimum threshold spend.

We can work out the dollar cap of any payment:

15% of $120m is: 0.15 x $120m = $18m.

That is quite a lift from the maximum 'payout' under the old scheme of $5m. I put 'payout' in quotation marks. That is because, under the old system, the payment was made up front with the ability to claw back payments when any approved R&D project is not completed.

A 'tax credit' has the connotation that profits must be earned and a tax bill incurred before a credit can be given. Weirdly this interpretation doesn't tie into the fifth IRD bullet point above, whereby some firms with a tax loss can receive a tax credit. I have to admit I am baffled by this. I wonder if it means there is relief from provisional tax in the ensuing year? But of course if the company is making a loss there shouldn't be any requirement to pay provisional tax!

What is clear is that this change is bad for cashflow. The R&D expenditure must be paid for up front by the company up front before any tax relief is forthcoming.

Have been looking at the R&D tax guide to unravel the emboldened mystery above.

https://www.classic.ird.govt.nz/reso...e-guidance.pdf

If I read p3 correctly, a tax credit equal to 15% of approved R&D expenditure, regardless of any profit or loss earned that year - will be issued, just as long as an income tax return is filed - by any qualifying company. So the amount of the tax credit earned is not dependent on the income earned in any particular year. I guess if the company makes a loss, and is granted a tax credit, an amount of pre-paid tax, equal to the tax credit, will appear on the balance sheet as a 'prepaid tax asset'?

I see one of the restrictions on getting the tax credit is that you cannot receive one, while banking grants from the outgoing 'Callaghan Growth Grants' scheme, in the same year.

Furthermore:

"Once the scientific or technological uncertainty has been resolved, eligibility for the tax credit ends"

That is clear enough in spirit, although it may provide a little wriggle room in practice. Scotts were on record saying that they had accelerated the amount of R&D over FY2019 to take advantage of the last year of the grant scheme. Could the amount of R&D spend reduce this year? According to Slide 6 of the Moelis November 2019 presentation, Scott's see themselves spending between 5-10% of total revenues on R&D going forwards. In FY2019 they spent 6%. So they can only drop one percentage point to remain within their guidance range. Yet Scotts is now a global business. So we may find that R&D in NZ goes down, but R&D in Australia the Americas and Europe goes up, so that overall R&D expenditure remains 'within guidance'. If that is Scott's plan, then the R&D tax credit applying to NZ will certainly be less in "dollar terms of tax relief" than "the grant" was up front.

I suspect that if less tax is paid as a result, then in NZ we can progressively kiss good-bye to imputation credits for shareholders dividends with each R&D tax credit banked. But how much eligible R&D will be done in NZ over FY2020?

SNOOPY

[Snoopy]

Alvey’s last year’s annual revenue was $56.5m. That price represented an EBITDA multiple of approximately 4.5 times. So EBITDA for Alvey’s most recent year must have been:

$56.5m / 4.5 = $12.5m

To calculate the NPAT of the acquisition under Scott’s ownership, we need to subtract the ‘ITDA’ bits from this. Let’s do that.

‘I’ (Interest payable): Because the Alvey purchase was made by cash, the ongoing interest bill associated with the purchase is zero
There is no information on Alvey’s depreciation or amortisation bills. But because the business looks like a smaller version of Scott’s, (combining intellectual property and spread international manufacturing facilities), I have decided to treat it as a small version of Scott’s and work out the depreciation and amortisation by scaling the Scott figures in proportion to the revenue of both companies before the merger.

‘D’ (Depreciation ) for Scott’s was $1.694m. Scaling according to company revenue, I estimate the annual depreciation at Alvey to be:

$1.694m x ($56.5m/$132.5m) = $0.722m

‘A’ (Amortisation) for Scott’s was $1.293m. However, on closer inspection, almost all of this ($1.261m) was a result of amortizing the recently acquired ‘Bladestop’ technology. IMO it is not reasonable to assume that Alvey has similarly spent a large amount of money on externally acquired intellectual property which must be similarly amortised. If I remove the ‘bladestop adjustments‘ from Scott’s accounts, I get a representative amortisation for Alvey of :

($1.293m - $1.261m) x ($56.5m/$132.5m) = $0.014m

So now we have enough information to calculate EBT for Alvey.

EBT = EBITDA –I –D –A = $12.5m - $0m - $0.722m - $0.014m = $11.764m

Assuming a New Zealand tax rate of 28% (Note: this is likely a wrong assumption, but I don’t want to make an uninformed guess about EU tax rates and tax subsidies that may exist), I get an incremental NPAT for the soon to be Scott owned Alvey of:

$11.764m x 0.72 = $8.470m

This is the kind of gain in net profit after tax I would expect once it is bedded in, and I must say it looks very juicy!

If we add to this the underlying profitability of Scott Technology today, I get an underlying profitability for the combined ‘Scott’ and ‘Alvey’ group of:

$8.959m - $0.502m(Change in Interest Earnings) + $8.470m = $16.927m

This projection assumes no profit growth or decline from either company.

I do not expect the Scott Technology result for FY2018 to be this high, because Alvey will have only been owned for part of FY2018. Nevertheless I believe this figure is representative of the ongoing profitability of the group and should be used to assess value ahead of whatever the actual FY2018 result turns out to be.

Note that this projection does not include the expected future ramp up of Meat Industry Robotics work to be done in association with major shareholder JBS.

I have managed to top up my Scott Technology holding over the last week at $2.20. At first glance this seems an unlikely decision for me to make. Even on my corrected profit base for FY2019 of $9.464m (notably higher than the declared figure of $8.604m). Based on the number of shares on issue at EOFY2019 the backward looking earnings per share figure was:

$9.464m / 77.545m = 12.2cps

At $2.20 this represents a PER of 220 / 12.2 = 18

On the surface this purchase does not look particularly cheap. Furthermore, as Percy has pointed out, the gross dividend yield is nothing to write home about (latest half year was only 18.41% imputed):

[ (4c+1.55c) + (4c+0.29c) ] / 220 = 4.5%

However when you stack up 2019's $9.464m against my calculated underlying profitability $16.927m post the Alvey acquisition, you can see there would be a huge improvement in profit if only we were able to wind things back to how things were in 2018. There are significant hurdles to doing this, a few that I can think of being :

1/ The slowdown in Alvey's European market mostly as a result of the uncertainty of Brexit and the shadow that event casts over all of Europe.
2/ The much lower meat industry sales due to the low hanging fruit of the obvious automated lamb line sales being done. Adapting this fully automated technology to handle beef carcases is the technical break through that Scotts have not yet achieved. Consequently meat industry sales could be subdued in the medium term.
3/ The apparent downgrading of the Scott Milktech semi-automated milking project which wasn't even mentioned in the latest presentations. I wonder if this has been written off?
4/ The closure of DC Ross toolmakers, and the incurrence of any concomitant write off costs.
5/ The huge goodwill write off at HTS-110, Scott's superconductive technology arm, over the last few years. This division entered the books with $271m of goodwill on the books and at EOFY 2019 this had shrunk to a net value of just $26m. This indicates the sales performance today of HTS-110 has fallen well short of expectations.

But as the project potential of Scott Milktech and HTS-110 fades away, new growth engines are on the horizon to replace them.

1/ Transbotics, Scott's acquisition in the Automated Guided Vehicle market which Scotts are looking to grow at 30% per year.
2/ The King Salmon bone removal project for Mt Cook Alpine Salmon and Seafood Innovations.
2/ The adoption of 'Bladestop' Band Saw safety technology outside of the core meat industry market.

I am expecting a downbeat first half as the new CEO Kippenberger 'clears the decks' of any Chris Hopkins era skeletons. Yet I am prepared to look through all of this near term turmoil, to the underlying potential of what is still there at Scott Technology. In short I still 'believe the story'. And while I am waiting for that happier ending, I am still being fed an above bank investment dividend return. The adequate dividend return coupled with a few potential 'free' Lotto style big winners as prospects is enough to keep this mutt in the Scott Technology kennel.

SNOOPY

[percy]

Now this is going to be interesting, as the indicators I use before buying,charts,fundamentals, such as growth,PE and dividend yield, together with the company's history of not doing as they say they will do,tells me to avoid SCT.

[BeeBop]

I have been a buyer of SCT (but only on a very small scale). History says to avoid, but my X-tal ball gazing tells me they could be interesting. That same gazing has led to some interesting buy-outs or growth improvements in the past for other shares....even property purchases is "horrible" areas of Auckland. I also remember Lehmann Brothers who had a risk assessment unit (historical) which totally supported further investment into property assets. Methinks I will need to be incredibly patient, and of course, I may very well be quite wrong.

[HITMAN]

I have enjoyed SCT, was lucky to sell out in Jan 2018 after enjoying a great ride. Prices below $2.20 look tempting to step back on board.

[Snoopy]

Now this is going to be interesting, as the indicators I use before buying,charts,fundamentals, such as growth,PE and dividend yield, together with the company's history of not doing as they say they will do, tells me to avoid SCT.

I have been a buyer of SCT (but only on a very small scale). History says to avoid, but my X-tal ball gazing tells me they could be interesting. Methinks I will need to be incredibly patient, and of course, I may very well be quite wrong.

I have enjoyed SCT, was lucky to sell out in Jan 2018 after enjoying a great ride. Prices below $2.20 look tempting to step back on board.

I have bumped up my SCT holding on the potential for recovery. As Percy has noted there is no 'market signal' that this will happen. As a rule of thumb the market tends to think 6 to 12 months down the track. I would not be surprised if you can still pick up SCT shares for $2.20 or so in 6 to 12 months time. My time frame is a lot longer than 6-12 months, which is why I tend not to follow market signals with my buys. This buy I made on the potential for recovery eventually and is a pure 'growth value' play. The share price peaked at $3.70 which IMO is a share price level we will never see again. But I do think $3 is a possibility if some of the ducks line up. This would be a 36% gain from today which if you add in a few modest dividends on the way would make a 40% gain. A 40% gain is always my target for my 'growth' investments, even if it takes a few years to get there.

Beebop, I had been an SCT holder for close to 20 years. I had a 'mid Scott shareholder life crisis' a while ago when I realised it would be difficult to liquidate my not tiny but not large position in SCT in a hurry. There are many days when you cannot even trade what in the old days (pre Sharesies) was a minimum marketable parcel! However, my crisis was resolved when I realised I probably would never want to completely sell out because I was comfortable with the long term story. So I changed my strategy to partially sell down when things got overheated and top up again when SCT was unloved. By doing this I have lowered my average entry price to just 60c (and that is after my recent purchase). My point here is that SCT is a share for 'the small guy'. An institution would never be able to do what you and I can do because they can't trade a meaningful amount of shares (for them). This is one share where the 'small scale' buyer is at an advantage.

Congratulations Hitman. You must have got out at near the peak. Whether $2.20 is a medium term bottom I don't know. I am hedging my bets. I will buy more shares if the share price goes lower from here.

SNOOPY

[percy]

All I can say to holders is a hope I am wrong.

[Biscuit]

Now this is going to be interesting, as the indicators I use before buying,charts,fundamentals, such as growth,PE and dividend yield, together with the company's history of not doing as they say they will do,tells me to avoid SCT.

Also, I like to see a torrent of operating cashflow not a sad trickle