Skellerup (SKL) Fundamentals

[winner69]

...............

Taking account of valuations a/ and c/, I think an SKL share price of 6 bucks is looking 'in the ball park'. Mr Market getting it right?

SNOOPY

Don't forget most of the 6 bucks has come from the market re-rating SKL to the extent it has (rather than SKL actual performance)

Invariably Phaedrus's sage advice come true --- teh market giveth but the market also taketh away

We can revisit that when SKL share price is 8 bucks

[Biscuit]

Like I have said before, the 'Buffett Methodology' is a mechanical process feeding in numbers generated largely without human input operator judgement. It is then up to you to make sense of what comes out at the end. Refer back to my post 1073:

https://www.sharetrader.co.nz/showth...l=1#post927468

I see actual earnings in FY2021 of 20.5cps, 'rising all the way' (sic) to modelled earnings of 20.7cps in 2032. How does that look to you (virtually zero growth for ten years)? No, I don't believe it either.

This modelling works on historical averages. The main factor that has produced such modest growth is the historical ROE average that I have used of 15.7%. Over FY2021 actual ROE was 20%. If I had used this figure then the compounding growth over ten years would have produced a much higher valuation. There is something to be said for using historical averages, because we know such figures have been achieved in the past. There is no 'wish factor' in using those figures for future forecasts. However, in this instance, the average is a substantial drop from the recent past. How realistic is that? Like all forecasts, believing the numbers does come down to a judgement call in the end. If I was a betting mutt, I would pick some 'reversion to the mean', because I know ROE numbers won't go up forever. But my gut feeling is that ROE won't reduce back to 15.7%.

So to answer your question, yes I do trust the Buffett Methodology in process. But I think in this instance, the ROE input factor in particular, has a question mark over it. If everything does 'revert to the mean' though, the Buffett Methodology as presented is a future prediction of what will happen.

SNOOPY

I think the short version is that extrapolation is questionable for companies that have undergone some kind of transformation and particularly dangerous where a company is facing adverse changes, leading to over-valuation. Haven't you just proven that your model isn't valid, that perhaps we can't mathematically determine the value of a company?

[Snoopy]

I think the short version is that extrapolation is questionable for companies that have undergone some kind of transformation and particularly dangerous where a company is facing adverse changes, leading to over-valuation. Haven't you just proven that your model isn't valid, that perhaps we can't mathematically determine the value of a company?

A few points to respond to here.

a/ The Buffetology Valuation Method is not extrapolation. It is using real data, from reported results the company has actually achieved. The company has 'done the numbers' already, so there is no 'whistling in the wind' plucking out fancy forecasts on dubious assumptions. Buffettology type forecasts are the result of the continuation of existing behaviour, already documented and known.

b/ If a company has undergone some sort of 'transformation', then you are right. Existing performance metrics become historical and are of little relevance. I wouldn't say that has happened at Skellerup though. As Winner's post 1095 shows, 69% of returns over the last two years have come from a change in market sentiment. Just 22% from a change in earnings.

To rephrase that in Winnerspeak, 69% percent of shareholder 'rewards' have come from 'ewards'. That means investors sitting back in their computer chairs pushing buy buttons, and letting the share price rise go their heads. Or as Dire Straits might put it, "Money for nothing".

Rather than seeing 'money for nothing' as a transformation, I see it as an increasing risk of 'share price reversion to the mean'.

c/ On the subject of 'adverse events', these can of course make or break a company. But that is the point of the Buffett screening tests that I do: BT1/, BT2. BT3/ and BT4/. Those tests are there to check that if an adverse event were to occur, it will be very likely to cause a blip in company reporting, not be the start of a terminal decline. IOW those Buffett tests are to measure company resilience in the wake of an adverse event. Another measure of resilience relates to how aggressively or conservatively a company is financed, which is where the MDRT statistic comes in. I regard an 'adverse event', in an investment context, as an opportunity to purchase a quality share at a bargain price - not a risk. Alternatively if the market did not react to long term 'adverse changes', that might be a signal to 'lighten up' your shareholding.

d/ I am not suggesting that a company valuation should be done entirely by mathematical means. Any mathematical model is subject to falling into a GIGO rabbit hole. GIGO means 'Garbage In', 'Garbage Out'. IOW a mathematical model is only as good as the information you feed it. So after your mathematical model spits out a valuation you should stand back and think, does in make sense? Or put another way, are those inputs really representative of what is happening? You may not be able to definitively answer those questions. You might seek solace from looking at alternative valuation techniques as highlighted by BP (post 1089). Looking at the same problem from different angles can provide useful insights.

Summary Answer

If your mathematical model doesn't provide the answers you want, that doesn't mean you should throw it away.

SNOOPY

[Biscuit]

A few points to respond to here.

a/ .... Buffettology type forecasts are the result of the continuation of existing behaviour....

aka extrapolation

b/ ..... Or as Dire Straits might put it, "Money for nothing".

Mark Knofler, best musician of all time, ever.

Rather than seeing 'money for nothing' as a transformation, I see it as an increasing risk of 'share price reversion to the mean'.

I think reversion to the mean is perhaps the central thesis of the model and the assumption is that neither the market nor the company will ever substantially change in any "permanent" way. But companies and markets can transform and ideally the assumption of the model would be tested before applying it. SKL ROE is (almost) statistically higher now than it was a few years ago. That might be the business cycle or it might be an underlying change, but which is it?

c/ On the subject of 'adverse events', these can of course make or break a company. But that is the point of the Buffett screening tests that I do: BT1/, BT2. BT3/ and BT4/. Those tests are there to check that if an adverse event were to occur, it will be very likely to cause a blip in company reporting, not be the start of a terminal decline. IOW those Buffett tests are to measure company resilience in the wake of an adverse event. Another measure of resilience relates to how aggressively or conservatively a company is financed, which is where the MDRT statistic comes in. In this context I regard an 'adverse event' as an opportunity to purchase a quality share at a bargain price - not a risk. Alternatively if the market did not react to long term 'adverse changes', that might be a signal to 'lighten up' your shareholding.

d/ I am not suggesting that a company valuation should be done entirely by mathematical means. Any mathematical model is subject to falling into a GIGO rabbit hole. GIGO means 'Garbage In', 'Garbage Out'. IOW a mathematical model is only as good as the information you feed it. So after your mathematical model spits out a valuation you should stand back and think, does in make sense? Or put another way, are those inputs really representative of what is happening? You may not be able to definitively answer those questions. You might seek solace from looking at alternative valuation techniques as highlighted by BP. Looking at the same problem from different angles can provide useful insights.

I don't necessarily disagree. To me though, the calculation seems to provide a precise answer without any information about its accuracy so you are always left with a subjective assessment anyway. My subjective assessment of SKL is overall positive so I've bought into it over many years and have a substantial holding. The extent of my mathematical analysis is that the PE seems a bit high these days so I probably won't add any more now.

Summary Answer

If your mathematical model doesn't provide the answers you want, that doesn't mean you should throw it away.



SNOOPY

As I used to tell my students: there is no answer that you want, there is just the answer.

[winner69]

F21 financially was indeed a stellar year ….significantly higher NPBT growth than normal, big changes in R0E and ROIC etc etc..

If the new level of performance is the new ‘norm’ then SKL deserve to be rerated even further …..maybe to levels that FPH are achieving (some ratios that good)

If F21 was a ‘onc off’ and the the ‘norm’ is more like F19/F20 then this thing called reversion to the mean might play out.

Last update said F22 going well …..but I note share price is back to where it was just before that announcement …..the enthusiasm that pushed it up to about 6.50 has waned.

[Snoopy]

A few points to respond to here.

a/ .... Buffettology type forecasts are the result of the continuation of existing behaviour....

aka extrapolation

Only in the sense that if you have a time period between A and B, then all forecasts outside of that time period have been extrapolated. But by that definition all forecasts of the future are extrapolation by definition, even if no trends in data are identified or implied. Saying a forecast is 'extrapolation' in this sense is just a meaningless piece of tautology. It adds nothing to the debate.

The extrapolation I was talking to, in an opposite sense. was to look at (say) sales going up by 10% per year over the last five years, and then assume sales will go up by 10% per year over the next five years as well. IOW extrapolation being the continuation of a mathematical pattern. The Buffettology workbook method is not doing that kind of extrapolation. The Buffettology workbook method instead uses historical constants in the modelling mechanics, with no inputs from the future needed to be forecast.

I think reversion to the mean is perhaps the central thesis of the model and the assumption is that neither the market nor the company will ever substantially change in any "permanent" way.

You are dead right. That is a verbally expressive description of what taking five years of data, taking some averages of different metrics from that data, and then using those derived averages in a forecasting model, looks like.

But companies and markets can transform and ideally the assumption of the model would be tested before applying it.

If a company is obviously 'transforming' as you put it, then you cannot use the Buffettology modelling technique. That is correct. But I don't see any transformation of that kind at Skellerup. The business model was and remains:

a/ Get alongside the customer at the design stage to optimise the form and material of a solution.
b/ Once optimised, keep manufacturing that solution.
c/ Incrementally acquire businesses so you can better carry out roles a/ and b/.

I would argue that FY2021 could mark an optimisation of the execution of the business plan. But a transformation? Not in the sense of making the Buffetology methodology irrelevant.

SKL ROE is (almost) statistically higher now than it was a few years ago. That might be the business cycle, or it might be an underlying change, but which is it?

Worked out from your statistical sample of one year you mean? The ROE jump from around 15-16% of the previous three years, to 20%? I don't know whether that improvement is 'business cycle related' or 'underlying change'. But I do know you should model it as a business cycle effect. Because if you start modelling things by changing inputs, because you believe there has been an underlying step change, then what you are doing is changing the inputs to get the result you want to see. And if you start feeding your mathematical model information like that, you will soon find that you can 'prove' any future business scenario that you care to dream up.

To me though, the calculation seems to provide a precise answer without any information about its accuracy so you are always left with a subjective assessment anyway.

Well any answer is only as good as the information you put in to feeding that answer. But the whole purpose is to highlight the investment opportunity available - not necessarily be ultimately accurate. What that Buffettology modelling is telling me is that IF the Return on Equity continues at 15.7% and IF 68% of earnings are retained each year and IF the PE ratio is re-rated down to an historical norm, then we investors will likely be poorer in ten years time. These are three pretty big 'IFs' and right now that is not how I see things playing out. Maybe I am just star struck by the FY2021 result?
Maybe you are star struck by the FY2021 result? Alternative valuation techniques have shown that if the company continues to grow profits at 10% per year for five years, a share price of just over $6 today could be 'fair value'.

My subjective assessment of SKL is overall positive so I've bought into it over many years and have a substantial holding. The extent of my mathematical analysis is that the PE seems a bit high these days so I probably won't add any more now.

Summary Answer

If your mathematical model doesn't provide the answers you want, that doesn't mean you should throw it away.

As I used to tell my students: there is no answer that you want, there is just the answer.

On the contrary, that may be how it works in pure mathematics, but it isn't how things work in business analysis. Give me the answer you want, and I will adjust the input information to provide it!

SNOOPY

[Muse]

The Buffettology workbook method is not doing that kind of extrapolation. The Buffettology workbook method instead uses historical constants in the modelling mechanics....Not in the sense of making the Buffetology methodology irrelevant.....if you start feeding your mathematical model information like that, you will soon find that you can 'prove' any future business scenario that you care to dream up....What that Buffettology modelling is telling me is ....that may be how it works in pure mathmatics
SNOOPY

There's a lot going on in your posts Snoppy. I think everyone here agrees with you that the company is highly valued and potentially overvalued. I think more or less we all agree that when assessing a company or its financial profile you need to consider the maintainability of it (it's revenue, it's margins, industry conditions, its valuation multiple)...you do so using historical averages, others will do so in other situations by making qualative & quantative assessments on (say) if there was a blip in demand, a price spike driving up margins or raw materials driving down margins, one off events - and often looking to history as a guide or making bespoke calculations or assumptions. I think both are routed in the same intent and are both subjective assumptions, despite the mathmatical piousness you refer to. Anything about the future is inheriantly an assumption, it will always be subjective, it will always be off, and the best path is for the individual forecaster to use the best tools they have to make the highest quality assumptions they can with the available factset at hand. And if the Buffetology Workbook is that to you then all the power to you. Many will just use their gut based on how they feel about the business and its characteristics, how rational the industry is and how it is evolving, how they perceive value, etc.

I think we are getting a bit off track from Skellerup now as you seemed very smitten with The Buffetology Workbook and keen to impress upon us its stature as a mathmatical model and your knowledge of it use. I know you will realise the author is Mary Buffett - the divorced former daugher in law of Warren's son Peter, which she maintains reflects Warren's financial process. Does that not seem a little sniffy to you? That Mary, an individual without any particular financial background or experience, as a daughter in law would be able to get so close & spend so much time with Warren to be able to fully understand it herself and then transcribe it in a way may that made sense to the rest of us mortals? So I'll just call it as I see it - Mary openly trades on the Buffett name. She kept it after the divorce, she runs the Buffett Online School, wrote this book, is a motivational speaker and career adviser, and blogger and wannabe TV expert. I'm sure she had plenty of help from her side author and ghost writer expertise, and was able to glean lots of sage investment anecdotes and get them in the book in the same way we all love to read his annual letters etc. I'm sure the help she had in getting the financial framework probably has a good dose of his general investment phillosphy and her helpers used their experience in forming the useful financial frameworks. I'll place Mary's The Buffet Online School above Trump University, but in the same category.

Just because it uses some 5 year averages and a couple formulas with basic addition, multiplication, the odd compounding, certainly doesn't make it some advanced mathmatical model that suddenly it is beyond reproach (its a few worksheets), and same goes with breathly repearting that it is the Buffetology Workbook (should be the Mary Buffet Workbook) as if it cements its position as the holy grail of corporate finance theory.

Finally, on the SKL relevant point of your post:
"The business model was and remains:

a/ Get alongside the customer at the design stage to optimise the form and material of a solution.
b/ Once optimised, keep manufacturing that solution.
c/ Incrementally acquire businesses so you can better carry out roles a/ and b/."

That is factually incorrect as I referred to in my post on the evoluation of SKL's business model. Skellerup with a bloody contract manufacturer not that long ago and its business is dramatically different now. That has filtered through its financial profile like a waterfall each year for the last 5 or 6 years. That's the problem with spreadsheets - people get some fixated on them that they think through sheer spreadsheeting will they will arive at some devine answer and lose their commercial nouse. Financials are just numerical outputs from what happen in the real world, where sometimes the status quo prevails and other times come years after strategic decisions are made that fundamentally change a business model. For some of us more than others (I am including myself in this) it' important to get your head out of the spreadsheets and ask yourself if you have a good commercial understanding of what it is happening in a business and its industry, before you try to put it in a spreadsheet.

[Snoopy]

F21 financially was indeed a stellar year ….significantly higher NPBT growth than normal, big changes in R0E and ROIC etc etc..

If the new level of performance is the new ‘norm’ then SKL deserve to be rerated even further …..maybe to levels that FPH are achieving (some ratios that good)

If F21 was a ‘onc off’ and the the ‘norm’ is more like F19/F20 then this thing called reversion to the mean might play out.

Last update said F22 going well …..but I note share price is back to where it was just before that announcement …..the enthusiasm that pushed it up to about 6.50 has waned.

I see things like this.

We have all done well out of our Skellerup shares, maybe too well. We are all figuratively sitting at the top table with exquisite crystal glasses drinking 'Chateau de Chateau'. We are all one button away from 'cashing up'. But we know we are onto a winner (not you Winner!), so the instinct is to let our winner ride. We have that little bit of nervousness creeping in, in an 'edgy' way. We are looking sideways imagining what could go wrong.

The problem is I quite like sitting at the top table drinking 'Chateau de Chateau'. Sitting here those other tables don't look so attractive. If I cash out, where do I move to?

I don't buy the idea of Skellerup being re-rated even further. A trading range of $5.50 to $6.50 over the next twelve months is where I see things moving. I think we are at a sweet spot with dairy farmers riding high, and demand for high end boats (and Skellerup's associated rubberised decking) near a peak. But I think we have learned through Covid-19 that we are not only on to a good thing with SKL shares, but a resilient thing. So when things do turn down, they may not turn down that much - for us.

Liz did take some money off the table, 200,000 shares to be exact to build that new deck in April (at $4.35!). But she still has 720,000 shares left. So it was hardly an 'abandon ship' event. I am thinking that if somewhere around 6 bucks is fair value( in a 'toppy' way) and albeit with some of those ducks continuing to line up, then $6.50 might be a good price at which to rebalance. Yet conversely at $5.50, I would think twice about buying more shares, because I don't think the 'reversion to the mean' scenario is a total fantasy.

Right now I think I will continue to sit at the top table, sipping 'Chateau de Chateau', and will await and observe -with interest (pun intended, gross divie yield 3.3% still better than the bank)- the behaviour of those shareholder reef fish when the storm-water tanks open on Monday morning.

SNOOPY

[Snoopy]

I think we are getting a bit off track from Skellerup now as you seemed very smitten with The Buffetology Workbook and keen to impress upon us its stature as a mathmatical model and your knowledge of it use. I know you will realise the author is Mary Buffett - the divorced former daugher in law of Warren's son Peter, which she maintains reflects Warren's financial process. Does that not seem a little sniffy to you? That Mary, an individual without any particular financial background or experience, as a daughter in law would be able to get so close & spend so much time with Warren to be able to fully understand it herself and then transcribe it in a way may that made sense to the rest of us mortals? So I'll just call it as I see it - Mary openly trades on the Buffett name. She kept it after the divorce, she runs the Buffett Online School, wrote this book, is a motivational speaker and career adviser, and blogger and wannabe TV expert. I'm sure she had plenty of help from her side author and ghost writer expertise, and was able to glean lots of sage investment anecdotes and get them in the book in the same way we all love to read his annual letters etc. I'm sure the help she had in getting the financial framework probably has a good dose of his general investment phillosphy and her helpers used their experience in forming the useful financial frameworks. I'll place Mary's The Buffet Online School above Trump University, but in the same category.

I think you are masquerading under a misapprehension that the techniques of Buffett are esoteric and difficult for a mere mortal to understand. The basic principle is actually very simple. Buffett identifies a good business with good 'bones', including a sustainable competitive advantage and one that can be bought at a reasonable price. Buffett then allows that business to continually reinvest in itself through the power of retained earnings. Shareholders benefit by the compounding effect of those retained earnings that spit out higher and higher returns as that reinvested capital compounds. I think that if I can explain the principles of investing like Buffett in one paragraph, it really isn't that difficult a concept to grasp, even for the likes of an unqualified undereducated drongo like Mary Buffett ;-P.

For the record, another author I follow, Brian McNiven, wrote to Buffett asking whether he did actually use the spreadsheet type approach of Mary Buffett and others claiming to follow the Buffett approach. Buffett replied that

"he had never used the specific valuation formulas attributed to him."

Nevertheless, that does not mean the methods of Mary Buffett are a crock. Mary's method is one direct mathematical representation of the ideas of Buffett. I would imagine Warren Buffett follows a similar thought pattern without sitting down at the spreadsheet and grinding through the numbers, because he can in effect get the same result as these Mary Buffett calculations give, in his head. Plus Warren gets to meet the people involved in his businesses in person, whereas we plebs have to make do with a mug shot in an annual report or, at best a quick chat at an AGM.

The original version of Mary's method, published in the book titled simple 'Buffettology' contained an error, something to do with counting dividends twice IIRC. However this was corrected in "The Buffettology Workbook" which came later, and this is why I specifically referred to that book. I then further tweaked that method myself, to take into account the different way dividends are treated in NZ for tax purposes as compared to the USA.

In summary, I am very satisfied that Mary Buffett's methods reflect Warren's principles, even if the methods do not represent a carbon copy of how Warren himself sorts out potential investments. But like all modelling, the quality of the result is only as good as the quality of the input, and there is judgement involved at some point in the process. However, when all is said and done, this is only one modelling technique, which does not invalidate other methods for determining the value of a business. So it should not be followed slavishly. I hope you can see that by not acting on the result of Mary Buffetts calculations right now (I have not sold my 'overvalued' SKL shares) that I am not slavishly following the 'Mary Buffett Formula'.

SNOOPY

[Snoopy]

Lets take a step back. Over the last decade skl has dramatically changed its business model with its financial profile rapidly changing each year over the last 3-4 years. Skellerup has wrapped its business model around blue chip OEMs with long term macros driving their own growth. In the past SKL was more akin to a contract manufacturer prone to price & competitive pressures in less attractive more cyclical sectors. SKL has had extraordinary success in pushing up the value chain through its engineering capabilities to where it can offer whole of life technical solutions allowing it to better cross sell & upsell higher margin products & services. SKL has executed well at new product development getting it in the door and then capturing aftermarket sales with secondary products and services. SKLs customers are all undergoing lifting standards (over 50% of SKL revenues are from water or food products) growing faster than their ability to drive down prices. The segment also has higher switching costs as SKL products are critical technical components that the OEM cannot do without - particularly when SKL has gotten established providing secondary product sales and services.

Finally, on the SKL relevant point of your post:
"The business model was and remains:

a/ Get alongside the customer at the design stage to optimise the form and material of a solution.
b/ Once optimised, keep manufacturing that solution.
c/ Incrementally acquire businesses so you can better carry out roles a/ and b/."

That is factually incorrect as I referred to in my post on the evoluation of SKL's business model. Skellerup with a bloody contract manufacturer not that long ago and its business is dramatically different now. That has filtered through its financial profile like a waterfall each year for the last 5 or 6 years.

Financials are just numerical outputs from what happen in the real world, where sometimes the status quo prevails and other times come years after strategic decisions are made that fundamentally change a business model. For some of us more than others (I am including myself in this) it' important to get your head out of the spreadsheets and ask yourself if you have a good commercial understanding of what it is happening in a business and its industry, before you try to put it in a spreadsheet.

Here are some quotes from the annual report p6

"Skellerup has focussed on identifying markets that offer us the best potential for growth, and on putting in place the people and the structures to capitalise on that potential in a cost-effective and strategic way."

"Identifying where to allocate our resources in order to achieve the best results for the business and for our shareholders involves continually reviewing our operations across both our Industrial and Agri divisions and assessing individual markets to see where the best margins and most sustainable growth prospects can be found. We do that by working closely with our existing customers so that we understand their businesses and how they work and also through very capable people who are focussed on seeking out new opportunities and gaps in the market we can fill."

"Over recent years we have invested a great deal of time and energy in developing capability in the US and in executing a growth strategy in our Masport, Gulf Rubber, Deks and Ultralon businesses. Also we have proven our strategy is working , an example of this being selected as Partner of the Year to Moen, the number one tapware brand in North America and one of the most demanding customers."

"Our facility in Christchurch remains very important to us. It is where key people involved in our research manufacturing and sales teams for our Agni-business are housed. Having these key people on one site provides us with our most effective competitive advantage. We can react swiftly to changes in customer requirements , thereby ensuring customer product development is customer driven. While we emphasis innovation and quality, we also devote considerable time and attention both to continuous process improvement and careful investment in capital equipment."

This is all very positive stuff, showing Skellerup's changing face from the "contract manufacturer" of old to "wrapping its business model around blue chip OEMs with long term macros driving their own growth." - except - all of those quotes are from the FY2015 annual report six years ago!

Basically I am calling BS on your claim (or maybe your parroted cut and paste from the Jarden report) that Skellerup has really transformed themselves over the last five or six years. They are good today and they were good back then, through executing the a/, b/ c/ strategy that I have previously described, (but which you labelled as 'factually incorrect').

Re-rating surely boosts shareholder returns

Say bought SKL 1/7/19 for $2.37 one has made $4.06 total shareholder returns (172% over just over 2 years)

The total return of $4.06 is made up of-

$0.88 from increased earnings or 22% of returns
$2.80 from being re-rated (higher PE ratio) or 69% of returns
$0.38% from dividends or 9% of total returns

Skellerup done well in growing earnings and paying decent dividends but 69% of shareholder returns has come from favourable market sentiment (reward for finally achieving some consistent results)

Classic case of what value investors look for ....... and eventually such investors have to decide when enough is enough from a value perspective and cash up

As Winner has calculated, the most important element of shareholder returns (69%) over the last couple of years was hype (a re-rated PE ratio). Business execution has been good, but that is not where the bulk of the return for shareholders has come from. Thus I am very wary of the 'this time it is different' transformation thesis for investing in Skellerup.

SNOOPY