Very impressive result on all four Buffett tests over FY2022. The idea that Skellerup is a great company gains fewer and fewer dissenters as the years roll by. However, this is reflected in the market PE for Skellerup on adjusted earnings soaring to over 29, by 30th September 2021, even if one year later that PE figure has dropped to a more conservative but still high 22. It is very important potential investors bear in mind the value equation:
'Good Company' + 'Paying too much for Shares' = 'A Poor Investment'
.... and so it proved over the year. Despite earnings per share jumping by 17%, the share price declined by 10% over the September year as FY2022s bumper result was digested. This shows the folly of buying a good company with no regard to the share price, in the short term at least. In the case of SKL this was well signalled by me as well.
An alternative way to price growth is to create a 'no growth' valuation. The difference between the share price and the 'no growth' valuation is therefore the market priced 'growth premium'. The 30-09-2022 Capitalised Gross Yield for SKL (post 1014) is 7.7c / $2.80 = 2.75%.
Share Priceequals
Capitalised Dividend Valueplus
Implied Growth Premium
30-09-2021
$5.96
$2.25
$3.71 (+165%)
30.09-2022
$5.38
$2.57
$2.81 (+109%)
The share price is lower than last year, and the market growth premium has decreased (which is what we might expect as a consequence).
But what is the investment case for new investors from here? This is the next task for me to investigate.
Very impressive result with a pass on all four Buffett tests over FY2023. This is particularly notable as companies that are manufacturers and require a lot of cap[ital equipment to operate, in general, find it very difficult to clear the very demanding Buffett investment goalposts. Yet Skellerup have not only done so but 'done it again'. But if Skellerup is doing so well, why has the share price been declining over recent years?
The market PE for Skellerup on adjusted earnings soared to over 29, by 30th September 2021 (share price $5.96). One year later, and despite growing earnings, that PE figure has dropped to a more conservative but still high 22 (share price $5.38). By 30th September 2023, despite earnings growing yet again, the share price had come down to $4.65, for a PE of 17.
What is interesting about this is that although the share market as a whole has been weak over the year, my 30th September eight year average historical PE for Skellerup is 18.4, not too far above the Skellerup PER of 17 at 30th September 2023. So what we shareholders are seeing here in terms of share price is 'reversion to the mean', nothing more.
It is very important potential investors bear in mind the value equation:
'Good Company' + 'Paying too much for Shares' = 'A Poor Investment'
.... and so it proved over the year. Despite earnings per share jumping by 13%, the share price declined by 13% over the September year as FY2023s bumper result was digested. This shows, for the second year in a row, the folly of buying a good company with no regard to the share price, in the short term at least. For long term investors with a time frame greater than two years such share price movements make little difference. Dividends have continued to increase over the year and I personally have had no need to sell. If I had been in a position where I was short of capital for investment opportunities that may emerge I may well have sold down my position a couple of years back. But if anything I am in the opposite position with my fixed interest portfolio, bank term deposits, at its highest ever level and good equity investment opportunities scarce.
An alternative way to price growth is to create a 'no growth' valuation. The difference between the share price and the 'no growth' valuation is therefore the market priced 'growth premium'. The 30-09-2023 Capitalised Gross Dividend Yield, a no growth metric, for SKL (post 1236) is $3.38
Share Priceequals
Capitalised Dividend Valueplus
Implied Growth Premium
30-09-2021
$5.96
$2.25
$3.71 (+165%)
30.09-2022
$5.38
$2.57
$2.81 (+109%)
30.09-2023
$4.65
$3.38
$1.27 (+37.6%)
The share price is lower than last year, and the market growth premium has decreased (which is what we might expect as a consequence).
But what is the investment case for new investors from here? This is the next task for me to investigate.
SNOOPY
Last edited by Snoopy; 13-11-2023 at 10:14 AM.
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You’ve probably noticed I like using returns on capital (including debt) to monitor company performance. Preferred one is Economic Profit (EP) which is company’s excessive profits over and above its cost of capital…ie is it a value creator. (Surprising how many companies don’t achieve this)
Below is how Skellerup have performed recently. Pretty impressive growth in EP eh.
Of interest is the breakdown between ‘growth’ and ‘productivity’
A valuation metric often used by finance gurus is Market Value Added (MVA) = Market Cap less Equity = NPV of future EP
For Skellerup MVA is $720m ($945m- $225m). All that value creation rewarded with $225m equity now worth $945 on the market.
So the NPV of future EP is $720m. This implies future EP growth of 4%/5% pa….forever
I’m sure this value creation is an important discussion point within Skellerup powers to be
Whatever you might interesting
Last edited by winner69; 13-11-2023 at 11:59 AM.
At the top of every bubble, everyone is convinced it's not yet a bubble.
Interesting little table winner. A bit more sophisticated than some of the stats I bring to the forum. A couple of questions if you don't mind.
'Economic Profit' is based on the difference between the 'underlying asset value of the company' and 'market value of the shares' or:
Market Cap less Equity = NPV of future EP
as you put it. Now imagine I stepped in and bought a whole lot of SKL shares, forcing the share price up in the process. Then EP would go up, right? So therefore the implied perpetual growth rate, that you calculate at 4-5% would go up too. Then I could congratulate myself for buying into a company with a 'rising perpetual growth rate'. But wouldn't I really be cashing in, on paper, on my own ego in doing this? I like the company - so it becomes worth more courtesy of my own buy in process, - so I pat myself on the back. A self fulfilling circular argument? I think Carmel Fisher used to do this buying into small caps in the early days of Fisher Funds. Jeez, am I allowed to say that?!?
At first I got alarmed when I saw the EP growth slowing right down in your table to just 0.1% in FY2023. But then I realised that is merely a reflection of a reverse argument similar to what I have just outlined. Namely if the share price goes down then the implied EP growth rate goes down. But if productivity continues to improve, then no worries?
Originally Posted by winner69
Of interest is the breakdown between ‘growth’ and ‘productivity’
A valuation metric often used by finance gurus is Market Value Added (MVA) = Market Cap less Equity = NPV of future EP
For Skellerup MVA is $720m ($945m- $225m). All that value creation rewarded with $225m equity now worth $945 on the market.
So the NPV of future EP is $720m. This implies future EP growth of 4%/5% pa….forever
I wonder if you could clarify what you mean by 'growth' and 'productivity'. If EP growth is measured by 'market value' - "asset value', then growth is determined by share price growth. Whereas by productivity you are referring to growth in earnings(?). So when you say "Of interest is the breakdown between ‘growth’ and ‘productivity’", what you are talking about here goes under the technical accounting term of 'hype'?
SNOOPY
Last edited by Snoopy; 13-11-2023 at 01:54 PM.
Watch out for the most persistent and dangerous version of Covid-19: B.S.24/7
At first I got alarmed when I saw the EP growth slowing right down in your table to just 0.1% in FY2023. But then I realised that is merely a reflection of a reverse argument similar to what I have just outlined. Namely if the share price goes down then the implied EP growth rate goes down. But if productivity continues to improve, then no worries?
EP is not affected by market cap (share price).
Simple form EP formula is EBIT less Tax (at company tax rate) less a Capital Charge (capital used times WACC) ……WACC being Weighted Average Cost of Capital employed (equity plus debt)
EP growth slowed in F23 v F22 mainly because of a higher WACC used from previous year resulting a higher Capital Charge.
And yes if market cap falls MVA falls and implied EP growth rate falls
Last edited by winner69; 13-11-2023 at 02:49 PM.
At the top of every bubble, everyone is convinced it's not yet a bubble.
'Economic Profit' is based on the difference between the 'underlying asset value of the company' and 'market value of the shares' or:
Market Cap less Equity = NPV of future EP
as you put it.
Formula for Economic profit is as previous post ………simple form EP formula is
EBIT less Tax (at company tax rate) less a Capital Charge (capital used times WACC)
So not dependent on market cap
The Market Cap less Equity is that thing called Market Value Added. This not Economic Profit
And this MVA equals the NPV of future EP so from current EP number you can come to an implied future growth rate (although as you know that depends on what discount rate you use)
Your scenario of buying an increasing the market cap would increase implied growth rate ……..but no doubt this would adjust in the future ….bearing in mind that the implied EP growth rate is basically a test of current share reasonable, nothing more or anything else.
I’m sorry I don’t always make things clear …….and I’ll have a go at the growth / productivity query later
At the top of every bubble, everyone is convinced it's not yet a bubble.
One way to 'cheat' at the Buffett tests is to leverage up your business to such an extent that your ROE looks fantastic, but the debt taken on puts your business at unacceptable risk. How do we know if debts at a business are out of control? One way is to look at the 'Minimum Debt Repayment Time' or MDRT.
'MDRT' is the answer to the question:
"If all profits for the year were put towards paying off the company's debts, how long would that take?"
My rule of thumb for the answer in years is:
years < 2: Company has low debt
2< years <5: Company has medium debt
5< years <10: Company has high debt
years >10: Company debt is cause for concern
FY2018
FY2019
FY2020
FY2021
FY2022
Bolt on Acquisitions
Nexus Foams (NZ) & 35% of SimLim (USA)
Silclear (UK)
Projects Vanilla & Tika IT upgrades
Talbot Technologies Ltd (NZ)
Cash & Cash Equivalents: {A}
$9.681m
$9.639m
$13.617m
$15.673m
$14.796m
Non Current Borrowings:
$40.400m
$46.215m
$41.300m
$24.000m
$40.000m
add Current Borrowings:
$0.0m
$0.0m
$0.830m
$0.409m
$0.0m
equals Total Borrowings: {B}
$40.400m
$46.215m
$42.130m
$24.409m
$40.000m
Total Net Borrowings: {B} - {A}
$30.719m
$36.576m
$28.513m
$8.734m
$25.204m
Net profit declared {C}
$27.277m
$29.063m
$29.064m
$40.175m
$47.813m
MDRT ({B} - {A}) / (C}
1.1 years
1.3 years
1.0 years
0.22 years
0.53 years
In the case of MDRT it is really only the latest figure that matters. But historical figures do give a feel for how conservatively (or not) the business has been run in recent years. Skellerup are in the second most conservative position they have been in for five years. Yet over the period Skellerup has made serious capital investment and bought some useful bolt on acquisitions along the way. Growth is being pursued while debt has almost disappeared. There is a lot to like in this picture. I have no qualms about giving Skellerup a 'pass' on the MDRT front.
Now having reassured ourselves that the Buffett growth model is relevant to apply in this case. let's see what happens when we apply it.
One way to 'cheat' at the Buffett tests is to leverage up your business to such an extent that your ROE looks fantastic, but the debt taken on puts your business at unacceptable risk. How do we know if debts at a business are out of control? One way is to look at the 'Minimum Debt Repayment Time' or MDRT.
'MDRT' is the answer to the question:
"If all profits for the year were put towards paying off the company's debts, how long would that take?"
My rule of thumb for the answer in years is:
years < 2: Company has low debt
2< years <5: Company has medium debt
5< years <10: Company has high debt
years >10: Company debt is cause for concern
FY2019
FY2020
FY2021
FY2022
FY2023
Bolt on Acquisitions
Nexus Foams (NZ) & 35% of SimLim (USA)
Silclear (UK)
Projects Vanilla & Tika IT upgrades
Talbot Technologies Ltd (NZ)
Sim Lim (USA) (majority ownership)
Cash & Cash Equivalents: {A}
$9.639m
$13.617m
$15.673m
$14.796m
$17.094m
Non Current Borrowings:
$46.215m
$41.300m
$24.000m
$40.000m
$42.300m
add Current Borrowings:
$0.0m
$0.830m
$0.409m
$0.0m
$1.624m
equals Total Borrowings: {B}
$46.215m
$42.130m
$24.409m
$40.000m
$43.924m
Total Net Borrowings: {B} - {A}
$36.576m
$28.513m
$8.734m
$25.204m
$26.830m
Net profit declared {C}
$29.063m
$29.064m
$40.175m
$47.813m
$50.941m
MDRT ({B} - {A}) / (C}
1.3 years
1.0 years
0.22 years
0.53 years
0.53 years
In the case of MDRT it is really only the latest figure that matters. But historical figures do give a feel for how conservatively (or not) the business has been run in recent years. Skellerup are in the second (equal) most conservative position they have been in for five years. Yet over the period Skellerup has made serious capital investment and bought some useful bolt on acquisitions along the way. Growth is being pursued while debt has almost disappeared. There is a lot to like in this picture. I have no qualms about giving Skellerup a 'pass' on the MDRT front.
Now having reassured ourselves that the Buffett growth model is relevant to apply in this case. let's see what happens when we apply it.
SNOOPY
Last edited by Snoopy; 15-11-2023 at 08:15 AM.
Watch out for the most persistent and dangerous version of Covid-19: B.S.24/7
PE, ROE & Payout ratio for the Buffett Growth Model: FY2023 Perspective
Originally Posted by Snoopy
I wasn't very happy with the numbers that came out of my Buffett analysis (Iteration A). Tending to it day to day on my share farm, my SKL shares are akin to a 'healthy growing porker'. But take it to market and it looks like I am sitting on an overpriced SKL pig.
For the FY2022 edition 'second iteration' of the Buffett growth model, I will change my assumptions to assume that the last five years of company results represent the 'new paradigm' in which SKL operates I have recalculated our three essential parameters as below:
FY2018
FY2019
FY2020
FY2021
FY2022
Average
Return on Shareholder Equity
15.2%
16.4%
15.7%
20.5%
22.4%
18.0%
Dividend Payout Ratio
71%
83%
87%
68%
75%
77%
PE Ratio at 30th September
15.7
15.2
19.9
29.1
22.3
20.4
The dividend payout ratio is based on the dividends actually paid out in the financial year under question - normally the final dividend for the previous year and the interim dividend for the current year, (not the dividends declared relating to the results of that year).
The number of previous years that I use to generate my data is a judgement call. The more years of data that you use, the better longer term picture you get. But over time a business evolves. So the longer series of data may be less representative of the business today, and going forwards. This iteration B uses just the last five years of results.
For the FY2023 edition of the Buffett growth model, I will assume that the last five years of company results represent the 'new paradigm' in which SKL operates I have recalculated our three essential parameters as below at my 30th September reference dates:
FY2019
FY2020
FY2021
FY2022
FY2023
Average
Return on Shareholder Equity
16.4%
15.7%
20.5%
22.4%
23.7%
19.7%
Dividend Payout Ratio
83%
87%
68%
75%
77%
78%
PE Ratio at 30th September
15.2
19.9
29.1
22.3
17.0
20.7
The dividend payout ratio is based on the dividends actually paid out in the financial year under question - normally the final dividend for the previous year and the interim dividend for the current year, (not the dividends declared relating to the results of that year).
The number of previous years that I use to generate my data is a judgement call. The more years of data that you use, the better longer term picture you get. But over time a business evolves. So the longer series of data may be less representative of the business today, and going forwards. This exercise uses just the last five years of results.
SNOOPY
Last edited by Snoopy; 15-11-2023 at 09:55 AM.
Watch out for the most persistent and dangerous version of Covid-19: B.S.24/7
A excellent company can still be a lousy investment if the price you pay for access is too high. So is the price for Skellerup today on the market too high? My first iteration A says 'yes'. But I have changed my input parameters to reflect a more 'forward looking view' of the company.
What will happen when I put the revised inputs (below) into the Buffett style ten year growth model?
Key Model Inputs
Average over Five Years
Return on Shareholder Equity
18.0%
Dividend Payout Ratio
77%
PE Ratio at 30th September
20.4
I have noted that the dividend going forwards is likely to be no more than 50% imputed. The reason why the Skellerup dividend is only 50% imputed today is that around 50% of profits (and 75% of revenues) are now generated overseas. This tax matter has no real bearing on the operational performance of Skellerup. But from an investor perspective, this means extra tax (at a rate of 28%) must be deducted from half of all future dividends (compared to if an equivalent fully imputed dividend was to be paid). I have adjusted for this in my calculation table by including an extra 'unimputed dividend tax' deduction column (assuming all dividends going forwards are 50% imputed, 50% non-imputed).
With FY2033 projected earnings of 29.2cps, and using a PE ratio of 20.4 (actual average over the last 5 years), the modelled share price for Skellerup in ten years time is:
20.4 x 0.292 = $5.96
The net dividend return for shareholders over that time is $1.810 - $0.255 = $1.555 (refer above table)
Using a market share price today of $5.65, the expected compounding annual return 'i' over 10 years can be calculated from the following equation:
$5.65(1+i)^10 = ($5.96 +$1.56) => i= 1.0290
This represents a projected return of 2.90% per year, for the next ten years.
To understand this result, you have to realise that this is a mathematical model that will faithfully spit out a result from the data you feed it. So how good is the data the model is being fed? Notice that the projected earnings for FY2033 are 29.2cps, verses actual earnings for FY2022 of 24.5cps. This is modelling earnings to increase by 19.1% over 10 years or: (1+i)^10 = 1.191 => i=1.8% compounding per year. That doesn't sound too demanding.
But wait. We are coming off a $28.969m (14.8cps) to $47.205m (24.1cps) -or 62%- profit lift over just two years to EOFY2022. So if we assess 'eps' share growth over 12 years from FY2020 to FY2033, we get: 14.8(1+i)^12=29.2 => i=5.83% compounding (after tax). That is a good growth rate over 12 years from a company that isn't making substantial acquisitions. Would it be realistic to expect a 'boring rubber and foam component company' to make any more progress? And, even better, most of that growth is already 'baked in' (from EOFY2020 to EOFY2022). We know that much of the success of Skellerup over the last two years has come from buoyant dairy prices (Wigram factory NZ) and oil prices (via Masport USA). If profit margins on these commodities stall 'some time this decade', then some of the last two years of stellar growth could unwind. It is easy to imagine that boom times will continue when you are in a boom. But I don't think my 'Buffett Modelling', in iteration B form, is too far removed from what shareholders might expect, taking a realistic expectation of SKL's development.
On the issue of 'Price earnings ratio' thinking that today's PER of 22.3, will reduce to a PE ratio of 20.4 in 2032 is not unreasonable, particularly if growth rates slow over the next ten years .
With those changed 'Iteration B' parameters, what Skellerup share price (P) would Warren need to buy Skellerup at to get his much touted 15% compounding return per year over the coming decade?
P(1+0.15)^10 = ($5.96 +$1.56) => P= $1.86c
Skellerup is currently my largest NZX holding and have surprised on the upside in the recent past. But given the Buffett modelling calculations as I have laid them out, I would now seriously consider reducing that holding on any significant share price appreciation.
A excellent company can still be a lousy investment if the price you pay for access is too high. So is the price for Skellerup today on the market too high? Let's see.
What will happen when I put the revised inputs (below) into the Buffett style ten year growth model?
Key Model Inputs
Average over Five Years
Return on Shareholder Equity
19.7%
Dividend Payout Ratio
78%
PE Ratio at 30th September
20.7
I have noted that the dividend going forwards is likely to be no more than 50% imputed. The reason why the Skellerup dividend is only 50% imputed today is that around 50% of profits (and 75% of revenues) are now generated overseas. This tax matter has no real bearing on the operational performance of Skellerup. But from an investor perspective, this means extra tax (at a rate of 28%) must be deducted from half of all future dividends (compared to if an equivalent fully imputed dividend was to be paid). I have adjusted for this in my calculation table by including an extra 'unimputed dividend tax' deduction column (assuming all dividends going forwards are 50% imputed, 50% non-imputed).
With FY2034 projected earnings of 34.4cps, and using a PE ratio of 20.7 (actual average over the last 5 years), the modelled share price for Skellerup in ten years time is:
20.7 x 0.344 = $7.12
The net dividend return for shareholders over that time is $2.150 - $0.302 = $1.848 (refer above table)
Using a market share price today of $4.96, the expected compounding annual return 'i' over 10 years can be calculated from the following equation:
This represents a projected compounding after tax return of 6.10% per year, for the next ten years.
To understand this result, you have to realise that this is a mathematical model that will faithfully spit out a result from the data you feed it. So how good is the data the model is being fed? Notice that the projected earnings for FY2034 are 34.4cps, verses actual earnings for FY2023 of 26.0cps. This is modelling earnings to increase by 32.3% over 10 years or: (1+i)^10 = 1.191 => i=2.8% compounding per year. That doesn't sound too demanding.
But wait. Using my adjusted profits (see post 1238, 1239), we are coming off a $28.969m (14.8cps) to $53.501m (27.3cps) -or 85%- profit lift over just three years to EOFY2023. So if we assess 'eps' share growth over 13 years from FY2020 to FY2034, we get: 14.8(1+i)^13=34.4 => i=6.70% compounding (after tax). That would be a good growth rate over 13 years from a company that isn't making substantial acquisitions. Would it be realistic to expect a 'boring rubber and foam component company' to make any more progress? Even better, most of that growth is already 'baked in' (over the period EOFY2020 to EOFY2023). I say the growth is 'built in' because, in the tabulated model, I am not forecasting an eps increase until 2028. We know that much of the success of Skellerup over the last three years has come from buoyant dairy prices (Wigram factory NZ) and oil prices (via Masport USA). If profit margins on these commodities stall 'some time this decade', then some of the last three years of stellar growth could unwind. It is easy to deceive yourself and imagine that boom times will continue when you are in a boom. That means I don't think my 'Buffett Modelling' today is too far removed from what shareholders might expect, taking a detached and realistic expectation of SKL's development.
On the issue of 'Price earnings ratio' thinking that today's 'depressed market' PER of 17.0, will increase to a PE ratio of 20.7 in 2033 is not unreasonable, particularly if the growth rates of the last two years is more indicative of growth over the next ten years .
As a theoretical exercise, what Skellerup share price (P) would Warren need to buy Skellerup at to get his much touted 15% compounding return per year over the coming decade?
P(1+0.15)^10 = ($7.12 +$1.85) => P= $2.22c
I think that means we won't see Warren on the SKL share register any time soon.
Skellerup is currently my largest NZX holding and managment have surprised on the upside in the recent past. But given the Buffett modelling calculations as I have laid them out, I think Mr Market is pricing this share very close to fair value. A 6.1% total return after tax is a 'good' but not a 'great' return per year. I would class SKL as a HOLD at $4.96, and that is what I intend to do with my own shareholding in this company.
SNOOPY
Last edited by Snoopy; 15-11-2023 at 09:15 PM.
Watch out for the most persistent and dangerous version of Covid-19: B.S.24/7
Buffett Test: OVERALL TESTS CONCLUSION FY2023 perspective
Originally Posted by Snoopy
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