[Nick Hargrave]

Much of the following is available in ‘real-time’ on the MHM discussion board updates but given the markets in recent weeks I thought it would be helpful to share a summary of watchlist company progress at the end of a bruising quarter across the board. As I discussed in my recent podcast interview with Michael Taylor (which you can listen to here) the one advantage that individual investors have is behaviour, and recognising the difference between share price and value. With nothing original to offer on politics, inflation, currencies or interest rates, and with all of them out of our control, I’ll focus on our thoughts on individual company performance and share price movements in the context of indiscriminate share price declines across all capitalisations and sectors.
 
Taking the watchlist in order:
 
Befesa
As a German headquartered business, the price has been particularly impacted by ongoing concerns over energy supply, as well as recessionary fears. There is certainly concern not be ignored around energy inflations costs in the European operations, but the company has been able to increase pricing and maintained guidance, though noted it trending towards the lower end of the range (where our forecasts lie). However, there seems to be little appreciation for the group’s global operations. There is a significant presence in the US (translating into greater Euros in recent weeks), operations in Turkey and Korea, and growing operations in China, which mean that just 30% of the group’s EAFD recycling capacity will be in the Europe by the end of this year. The company is well hedged into 2025 to offset metal pricing volatility and while there is some debt, at <2x net debt/EBITDA, a first maturity in July 2026 and with a record level of cash on hand at the end of H1 22, this should not be of great concern. We remain confident about the long-term prospects for the business from which the share price has become even more dislocated.
 
Duke Royalty
It has been relatively quiet on the news front for Duke following their quarterly update in August. Another record quarter was announced, with its diversified portfolio operating ‘business as usual’ in the current environment. It has just announced it latest quarterly dividend, continuing to flow as expected, but the market remains oddly unexcited in the face of a company with diversified investments providing a dividend yield in line with inflation. The current environment should make Duke’s financing solution even more attractive, and we look forward to news on further capital deployments.
 
Forterra
The share price had been appreciating nicely in line with its ongoing strong performance as it passed on inflationary price increases while maintaining growth investments and continuing its share buybacks. It has not escaped the overall decline in the UK market in the last couple of weeks as fears have mounted across the board. However, the currency ‘crisis’ now ensures that imported bricks are even more expensive, maintaining a c.19% margin of safety for the UK manufacturers before their own volumes are really at risk. While there is fear of mortgage rates and house price declines impacting the overall housing market, we look to the long-term UK housing shortage, structural advantages and oligopolistic pricing power to remain confident in the company’s prospects.
 
Manolete
The price had begun to reflect the company’s undervaluation until the announcement of a single case going against them and they had asked for permission (now granted) to pursue their first ever appeal in over 10 years and thousands of cases, and prudently reduced the carrying value of some other cases (a non-cash item). We believe the share price over-reacted, but with the current fear in the market, any small negative gets punished. In the meantime, the company’s case enquiries are trending positively, and they are expecting September to be the all-time record month for new case enquiries (as the business experiences ‘catch-up’ from COVID where the government protected businesses from insolvency), the carrying values of the large cartel case valuations were not reduced at all (with the ruling on the BT and Royal Mail cases due in the next month or so, they are watching with interest and obviously retain their confidence in the current valuations) and they expect the bounce back loans to be a significant source of business and have partnered with a large financial institution (not named due to NDA). As the economy continues into uncertainty, this unique insolvency litigation financer appears to be well positioned.
 
Renold
The company provided a very encouraging update with positive business momentum in a difficult market environment, providing further confidence that management is planning effectively and executing with agility. The company reported record order books and the acquisition of YUK in Spain during the quarter provides opportunities for synergies and further growth. While the price began to reflect the undervaluation earlier in the quarter, it has recently fallen back in line with the overall market due to recessionary fears despite the positive progress being made.
 
Somero
As the latest published idea, there is little more to add other than a brief reminder that the company announced strong interim results, re-affirmed guidance for the year and announced an 11% increase in its interim dividend. We look forward to following progress alongside a long-term management team with an excellent capital allocation track record.
 
WestRock
The share price has taken a double-digit decline on the back of a single broker issuing negative commentary on two of WRK’s competitors (International Paper and Packaging Corp of America) shortly after Fedex’s results spooked the market. We have not seen the note, but the summary appears to be that there’s a recession on the way so there will be less demand for containerboard while inventories are currently high and will lead to de-stocking. Without any great additional insight, just a negative headline in the current market environment is punished indiscriminately, and makes the valuation look even more incomprehensible to us than it already appeared. The major US operators have proven their oligopolistic behaviour which should protect pricing even with some reduction of volumes, and any US volume decline opens the opportunity for exports to Europe where costs are increasing and have been constrained by a tight US market in recent years. WestRock also has a lower mix of e-commerce related containerboard in its revenues than its peers and is focused on margin improvement opportunities to ensure profitability is at least maintained. While there is some leverage in the business, at <2.5x net debt/EBITDA this is not unmanageable given a predominance of long-dated, fixed coupon debt. There is, however, no ignoring that the recent US$:£ exchange rate increased the cost of shares for UK members.
 
Bidstack
The share price was starting to make consistently positive progress until the Board managed to snatch defeat from the jaws of victory a couple of weeks ago. I cover what happened in detail in our blog (https://mhmembers.com/bidstack-a-case-study-on-fear-and-frustration/), so I won’t repeat it here, and continue in my attempts to engage constructively with the Board to improve their investor communications. The business appears to be going from strength to strength (please see the blog for a summary), but investors remain in fear of a Board that seems unwilling to clarify or address potential funding needs in an accretive manner.
 
Tirupati Graphite
It’s so rare to see a business run by a real owner-operator and the benefits of a CEO with significant skin-in-the-game have been apparent in the operational progress the business has made, as well as the company’s unwillingness to dilute shareholders at a low price and take the easy route to throwing money at a problem. Over a short period, with rumours and then an announcement that particularly poor weather had resulted in a 3-month delay in production from its current capacity upgrade that required additional construction and remedial costs, the market knocked c.65% off the company’s market value.  The company later clarified much lower remedial work costs that investors had mis-interpreted as being much higher, has re-engineered its mining operations to make it less susceptible to inclement weather, and has taken the opportunity to optimise operating efficiencies across its mines. It is disappointing that the approval delay for the Mozambique acquisition has just led to a renegotiation of the issue price of share consideration in the face of potentially competing bids, but it does increase the likelihood of the acquisition now completing this year and the transaction remains compelling. As the company turns profitable over the coming months and with the closing of the Mozambique acquisition that continues to await ministerial approval, we hope that market will start to appreciate this even more materially undervalued asset.
 
Avacta
While there are a number of therapeutic platforms and the diagnostic division all capable of being valuable in their own right, the share price is currently driven solely by the result of their lead asset AVA6000 phase 1a trials, due in the coming weeks. If this trial proves that the preCISION platform works and the company can indeed provide chemotherapy with the side-effects and limited toxicity, this really could be a monster in the making. At this stage, that continues to be a binary bet. Cash levels ensure the company is funded into mid-2023, providing the runway to complete phase 1a of the AVA6000 trial and potentially license AVA3996, its second preCISION prodrug, to ensure no further equity funding is required.
 
Mkango Resources
Having announced a positive definitive feasibility study for the Songwe Hill project and negotiations for short term financing via convertibles with a conversion price of 27p, the company looked set to quickly progress its plans. However, the share price has been steadily falling on small volumes with investors either liquidating riskier assets in the current environment or having their conviction wane as time passes while we await the signing of the Mining Development Agreement (where this is a risk that the government negotiates greater commercial returns) and progress on financing (where the market has obviously gotten trickier). The company remains confident of signing the MDA, but while its strategic investor CoTec has remained supportive, there is now the real risk that they will use the falling share price to renegotiate the terms of their funding. For those with the risk appetite for this kind of business, its price now highlights an even greater discount to the fair value of what we believe is a highly strategic asset for critical materials with ever-increasing demand. Frustratingly, in the absence of funding confirmation and any market demand for riskier assets, the market makers simply continue to walk the price down and acquire shares from sellers at lower and lower prices.
 
Supply@Me Capital
The company announced their inaugural IM after an extremely long wait, finally achieving the proof of concept that we expect so many potential inventory funders were waiting for. Numerous workstreams continue to build on the progress of the inaugural IM, but while there remains great potential, there is still much validation of the business model to be achieved and we hope that their funding arrangements can be simplified to incur less shareholder dilution. We are currently organising a discussion with the CEO about improving their communication around the capital structure to alleviate rumours that continue to circulate about loan stock arrangements and progressing some ideas that we shared on possible inventory funding options.

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