VALUE INVESTING
Fenner – A Value Share?

By Stephen Bland (TMFPyad)
December 15, 2000

Fenner (LSE: FENR) is a Yorkshire-located company, engaged in the manufacture and distribution of reinforced polymer products. I do not have the faintest idea what that means, unless it is something to do with Polyfilla, but it sounds kinda macho. You don't mess with reinforced polymer, nowotimean? Incidentally, is it possible to manufacture wimpish polymers instead of the reinforced kind? No doubt the chemical engineers out there will put me right.

In the search for value, the figures come first, the business second. Here are the fundamentals on Fenner:

• Share price 93p
• High/low this year 98/76
• High/low five years 216/76
• Market capitalisation £96m
• Normalised earnings per share year ended 31/08/00 8.1p
• Lowest forecast EPS year ending 31/08/01 12.2p; 31/08/02 14.4p
• P/E ratio historical 11.5; on 2001 EPS forecast 7.6
• Yield on historical dividend 6.1%; on 2001 forecast 6.3%
• Price/Tangible Book 1.5 (no intangibles)
• Net cash 11.7%
• One year relative strength +13%
• Directors own 0.5%; other majors 34.0%

As with all small caps, few brokers are forecasting. There are two recent ones, both in November.

So what is the attraction? Well this is one of those reorganisation, turnaround sort of plays. Earnings per share was fairly static for 1996 to 1998 at around 12 to 14p normalised, but in 1999 took a dive to around 9p and a further hit to 8p in 2000. Look at the forecast recovery in 2001 though to 12.2: an increase of over 50%.

Now let's examine what news there is to support the view that something interesting is going on with reinforced polymers. And there is, in a serious way. Back in March 2000 the company announced the disposal of a division for £40m cash. Massive in relation to the capitalisation and no doubt the reason that net cash appears in the balance sheet as at 31 August 2000. The disposal consisted partly of a US operation, perhaps a demonstration of the old rule that the US is frequently a graveyard for UK companies. I do not know if Fenner will have any US capacity following the disposal but in any event, for small companies like this, it is often bad for the wallet to have US interests in general. Negative fiscal karma, in too many cases.

I get the distinct feeling that someone is doing something right here, and it may well have been a response to the EPS hits of the last couple of years. Listen to this directorspeak made in November with the annual report:

"All our markets have continued to improve through the early part of the new financial year and we look forward with confidence to a period of profitable growth... we expect to make progress this year and will continue to invest in chosen areas."

A major change in business strategy following a period of decline is often, but not always, what marks out a good value play. The "outer", as we call it – that is, the reason that will precipitate a change in market perception towards the company – is in nearly every case rising EPS. Without an outer, there is little reason for the market to grant the necessary rerating to the share. The trick is to catch the share when the reorganisation has been carried out, yet before the market has recognised the rising EPS and accorded the share price a higher rating. The risk is that the rising EPS does not materialise. A risk, I should add, because it is relevant here, that is much higher with small caps.

In turnaround cases, a share may previously have traded at a much higher P/E, pre-fall. In Fenner's case, during the good years of 1997 and 1998, it traded on P/Es of up to 15. When EPS was hit, this fell to around 9. The company has done something radical by disposing of a major division and now EPS looks set to rise dramatically, assuming forecasts are met.

Sounds good to me, but do be prepared to accept the risks of smaller caps that I have mentioned often. Fenner is not a pyad share though, primarily because it is not trading below its book value.

Where Next?

Value Investing discussion board
What is a pyad share?