This small cap shouldn't have been viewed as a value play in the first place.
I'm not easily surprised by anything in investment at my age, having seen it all over the years, but just occasionally something occurs that makes me wonder what is going on. And that's just what has happened over the last few days on the Value Board regarding a discussion thread about a company called Public Service Properties Investments Ltd (LSE: PSPI).
For those unaware, this is a small-cap property share specialising in care homes. It's not one that had appeared in my trawls or caught my attention in the past, and we'll see why shortly. On 2 April, the company issued a trading update with some bad news and the share price collapsed. Because it had been discussed on the boards as a value play a while back, with many investors apparently going in -- plus I understand that some writers here had reviewed it in articles as an attractive high yielder trading below tangible book -- naturally, the collapse attracted attention on the Value Board. And someone asked -- to my later surprise, it was a reader whose views I respect -- whether there were any lessons to be learned from the loss so as to maybe avoid such events in future.
Looking under the hood
So I gave it a proper once over, never having given it one before, to see if I could identify anything questionable in its past merits as a value play. Let me say first of all, though, that the most ostensibly attractive value plays can, and do, go wrong at times. This strategy is not a guarantee of winning every play because that is not possible in a risk game -- it is, though, one where on balance investors expect to come out comfortably ahead over all their trades.
So upon researching PSPI, I most definitely was not looking for some minor quibble with which to gloat and smugly berate those who went wrong in it. That's not me. I have gone wrong many times myself in both my personal trades and those I write up on Fool.co.uk, and that can happen to anyone, as I say above. But what I was looking for was anything big enough that might have caused me to avoid it, had I ever considered the share, which I hadn't.
So I looked up the last couple of accounts, exactly as if I was considering investing in it. I found that PSPI had traded well below net tangible asset value and had a high yield over the last year or two. So far, so good.
Finding fault
But then I looked at net debt. At 30/06/11 this totalled £137.7m, and at 31/12/10 £130.9m. Net assets, even before deducting goodwill, were £121.3m and £122.9m, making gearing of over 100% in each case. And that, for me, would have been the end of the story, and I would not have invested in it.
I don't care what business it's in -- as a small cap, in my view, it demands the tightest possible value criteria to minimise the downside. With net debt being so important to me, and especially crucial in a small-cap play like this, I would not have looked any further. I would have sought net cash, or maybe would have accepted a low level of gearing in view of the big asset discount, but over 100% is outrageous for a value share, even though that sort of level may be quite common in property companies. Of course, if a measure is quite common, by definition it can't be a value rating because value seeks the uncommonly cheap.
A couple of minor points caught my eye, too. Note the company name with the "Limited" tag. That's not the description of a UK-listed company, which are known as PLC, and it tells me immediately that it must be registered abroad somewhere. So I checked it out and, sure enough, the address is in the British Virgin Islands. I don't like that, but on its own this is a minor point.
Then I discovered that a significant proportion of their property portfolio, 31%, is based abroad in Bongo Bongo Land -- including places like Germany, Switzerland and the US, wherever they are. That is not good news for a very small cap like this. Again, though, like the above, it's a minor point on its own since most of their properties are in the UK.
Sharing the results
I posted my comments about the debt on the Value Board, but not the minor points, as a response to the query asking whether anything could be learned. To my surprise, back came some readers claiming more or less that this was not relevant and that the real reason the company was in difficulties was due to dodgy valuation methods. To me, it seemed odd for anyone on the Value Board to claim that the company's high gearing was not important when it would have caused me and many other value players to steer well clear.
Even if the valuation problem was the reason for the collapse, these readers miss the point. Which is that this share, in my view, was too risky in the first place because of its debt and should have been avoided. It doesn't then matter why it later went wrong; the lesson to be learned is that the debt should have put off value investors.
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