Thesis
De la Rue is simple to understand, highly profitable and available at a meaningful discount to the price it would bring if sold to a private buyer. For Americans, there’s an ADR.
The company
1860 de la Rue prints Mauritius ÂŁ5, ÂŁ1 and ÂŁ10 banknotes.
1946, IPO in London.
1994, de la Rue acquires the paper mill of the Bank of England (Portals). The company now produces the paper it prints its banknotes on.
1999 Sells Card business to Oberthur for ÂŁ200m.
2002 Acquires the Bank of England’s printing works. De la Rue produces all sterling notes thereafter.
2005, an example of de la Rue’s unique ability to quickly handle complex, and sensitive projects is the fact that they were commissioned by the IMF to supply the new Iraqi Dinar after the fall of Saddam Hussein.
2008 de la Rue sells its Cash Systems division to the Carlisle group for ÂŁ350m. A relatively low margin, cyclical business. The proceeds are returned to shareholders.
2010; De la Rue has four remaining divisions:
The business
Banknote production is perceived to be a no-growth business due to the widespread adoption of “plastic”. In reality, banknote usage grows steadily in developed economies. It’s even better in developing countries. Growth is driven by GDP and the adoption and changing requirements of modern cash handling hardware.
Importantly, commercial printers are taking share from government works. De la Rue has increased banknote print volume from 5B to 8B notes in five years.
About 6B Euro bills are printed by European governments annually. A portion will be tendered to private printers in 2012. That’s an opportunity for de la Rue with its 2010 volume of 8B notes. As it is, the majority of clients of de la Rue are emerging economies with higher than average GDP growth and low penetration of cash automation systems.
Number two, after de la Rue, is a private German company; Giesecke & Devrient. Private French company, Oberthur is a distant third with 10% market share.
The business of printing banknotes has economics of scale and barriers to entry. It’s impossible to compete at a lower cost with a product that’s similar in quality. This is a mature market with a limited number of participants.
Divide de la Rue’s £ 410m currency revenue by the 8B banknotes it prints and you get a cost to customer of $ 0.09 per note. The U.S. Bureau of Engraving & Printing charges the treasury $ 0.07 per note. Imagine you’re say….. Ghana or Belize; what are your options ?
De la Rue and G&D are the only major commercial players with integrated paper making ability. This allows them to react to highly profitable “emergency” customer orders. Another important advantage of this integration is the ability to coordinate and develop the security features embedded in the paper with the printing features.
Remember Iraq ? De la Rue was kind enough to install the hardware needed to handle the new banknotes….. courtesy of that insignificant cash-processing division…. Razor/blade strategy with economics of scale in an old-fashioned business….. ever evolving but never revolutionary….. Gillette !
Arman Kline (Sequoia fund, 2009):
De La Rue is the world’s largest private printer of money. Most of the bigeconomies in the world — the United States,China, Russia — print their own money. But the smaller countries in the world don’t. They have to outsource it. They can’t justify spending the money and the capital to do it. There’s a trend now where even some larger countries are outsourcing it. It is a very nice way to play an inflation hedge. It’s not one for one, but currency in circulation grows. The nice thing about it is that De La Rue’s clients tend to be in more emerging markets and exposed to commodities. So if you think that commodities are going to be more expensive going forward and drive inflation, the economies that are exposed to that should circulate more currency.
Management.
Well respected CEO Leo Quinn went to head QinetiQ last year handing over the role to the managing director for security paper and print, James Hussey. Mr. Hussey left within a year after de la Rue announced "quality and production irregularities" at the division mr. Hussey used to lead.
The company started 2011 with a new CEO; Tim Cobbold. Tim spent the last three years at secure power firm Chloride. Chloride was taken over by Emerson Electric.
Tim Cobbold has a good track record but is new to this game. The COO too, Colin Child, is new.
Why is this cheap ?
1) In 2010, the company suspended shipments of a banknote for two months claiming employees had falsified paper specification test certificates at a plant in Overton, Hampshire. According to management, volume for 2010 will be down 20%. Such volume along with the UK denying any problems, is an indication key client India is affected.
It happens. Last time (± 1990) it was Giesecke & Devrient with the German government. This incident is not going to make Giesecke & Devrient king of the hill. Yes it's embarrassing, but will de central banks of Kenya or Kuwait leave ?
2) The board rejected a ÂŁ 900m bid. Short term investors are dumping their shares now that Oberthur has indicated it's not willing to up the offer.
This is irrelevant to the thesis.
Specific Risk
1) Diworsification. Should de la Rue choose to acquire something, it’s almost certain to be a case of diworsification. Spending cash generated by a high quality franchise on a not so good acquisition. This happened to de la Rue in the seventies.
2) Political risk. In general, political instability is a plus for this business. However, party politics in India or elsewhere could force government to “blacklist” de la Rue.
3) Privatisation. Demand is robust and it’s unlikely anyone will start a competitor from scratch.... but what happens if say…. the US decides to privatize (not sell) the Bureau of Engraving & Printing ?
One of the 284768 other risks I haven’t thought of yet.
Value
I don’t like calculators so I use rough numbers.
1) In December, aware of the production problems, Oberthur bid $ 1.4B; ÂŁ 900 m for de la Rue. The bid was rejected. Importantly, three private equity houses were willing to support the bid in exchange for a stake in the new company.
2) Since 2006 and excluding the sale of cash systems, the company has spent roughly £ 500m paying dividends, buying back shares and/or retiring debt. That’s about $ 160m per annum. A 10x multiple on that is $ 1.6B.
3) The Cash Processing Solutions Division of de la Rue was sold to the Carlyle Group for £350 in 2008. At the time, Cash Systems reported revenue of £285m and operating profit of £35m. Assets were £125m. That’s the non-core division selling cash systems… in 2008 ! generating about 10% of revenue. Let’s say the rest is worth 4 x £350m => $ 2B
Mr. Market offers us the shares for 670 GBp apiece. The company is a bargain at ÂŁ 660m => $ 1B.
Links
http://books.google.nl/books?id=GB4DzrjgkxsC&pg=PA146&lpg=PA146&dq=Giesecke+bid&source=bl&ots=nc6BKBq1Hh&sig=Pg7UMbYiA1FT6Y-xePDIgc0lHNY&hl=nl&ei=zb5GTbjNHsGeOvy3zN8B&sa=X&oi=book_result&ct=result&resnum=7&ved=0CEYQ6AEwBjgK#v=onepage&q=Giesecke%20bid&f=false
http://www.telegraph.co.uk/finance/newsbysector/epic/dlar/7986964/De-La-Rue-staff-deliberately-falsified-banknote-tests.html
Disclosure
No position in any of the companies mentioned.
Any and all questions and comments welcome as usual.
De la Rue is simple to understand, highly profitable and available at a meaningful discount to the price it would bring if sold to a private buyer. For Americans, there’s an ADR.
The company
1860 de la Rue prints Mauritius ÂŁ5, ÂŁ1 and ÂŁ10 banknotes.
1946, IPO in London.
1994, de la Rue acquires the paper mill of the Bank of England (Portals). The company now produces the paper it prints its banknotes on.
1999 Sells Card business to Oberthur for ÂŁ200m.
2002 Acquires the Bank of England’s printing works. De la Rue produces all sterling notes thereafter.
2005, an example of de la Rue’s unique ability to quickly handle complex, and sensitive projects is the fact that they were commissioned by the IMF to supply the new Iraqi Dinar after the fall of Saddam Hussein.
2008 de la Rue sells its Cash Systems division to the Carlisle group for ÂŁ350m. A relatively low margin, cyclical business. The proceeds are returned to shareholders.
2010; De la Rue has four remaining divisions:
- Currency (85% of operating income; ±50% market share)
- Cash Processing Systems
- Security Products (12% of operating income; product stickers for MSFT)
- Identity Systems (UK passports and drivers licenses)
The business
Banknote production is perceived to be a no-growth business due to the widespread adoption of “plastic”. In reality, banknote usage grows steadily in developed economies. It’s even better in developing countries. Growth is driven by GDP and the adoption and changing requirements of modern cash handling hardware.
Importantly, commercial printers are taking share from government works. De la Rue has increased banknote print volume from 5B to 8B notes in five years.
About 6B Euro bills are printed by European governments annually. A portion will be tendered to private printers in 2012. That’s an opportunity for de la Rue with its 2010 volume of 8B notes. As it is, the majority of clients of de la Rue are emerging economies with higher than average GDP growth and low penetration of cash automation systems.
Number two, after de la Rue, is a private German company; Giesecke & Devrient. Private French company, Oberthur is a distant third with 10% market share.
The business of printing banknotes has economics of scale and barriers to entry. It’s impossible to compete at a lower cost with a product that’s similar in quality. This is a mature market with a limited number of participants.
Divide de la Rue’s £ 410m currency revenue by the 8B banknotes it prints and you get a cost to customer of $ 0.09 per note. The U.S. Bureau of Engraving & Printing charges the treasury $ 0.07 per note. Imagine you’re say….. Ghana or Belize; what are your options ?
De la Rue and G&D are the only major commercial players with integrated paper making ability. This allows them to react to highly profitable “emergency” customer orders. Another important advantage of this integration is the ability to coordinate and develop the security features embedded in the paper with the printing features.
Remember Iraq ? De la Rue was kind enough to install the hardware needed to handle the new banknotes….. courtesy of that insignificant cash-processing division…. Razor/blade strategy with economics of scale in an old-fashioned business….. ever evolving but never revolutionary….. Gillette !
Arman Kline (Sequoia fund, 2009):
De La Rue is the world’s largest private printer of money. Most of the bigeconomies in the world — the United States,China, Russia — print their own money. But the smaller countries in the world don’t. They have to outsource it. They can’t justify spending the money and the capital to do it. There’s a trend now where even some larger countries are outsourcing it. It is a very nice way to play an inflation hedge. It’s not one for one, but currency in circulation grows. The nice thing about it is that De La Rue’s clients tend to be in more emerging markets and exposed to commodities. So if you think that commodities are going to be more expensive going forward and drive inflation, the economies that are exposed to that should circulate more currency.
Management.
Well respected CEO Leo Quinn went to head QinetiQ last year handing over the role to the managing director for security paper and print, James Hussey. Mr. Hussey left within a year after de la Rue announced "quality and production irregularities" at the division mr. Hussey used to lead.
The company started 2011 with a new CEO; Tim Cobbold. Tim spent the last three years at secure power firm Chloride. Chloride was taken over by Emerson Electric.
Tim Cobbold has a good track record but is new to this game. The COO too, Colin Child, is new.
Why is this cheap ?
1) In 2010, the company suspended shipments of a banknote for two months claiming employees had falsified paper specification test certificates at a plant in Overton, Hampshire. According to management, volume for 2010 will be down 20%. Such volume along with the UK denying any problems, is an indication key client India is affected.
It happens. Last time (± 1990) it was Giesecke & Devrient with the German government. This incident is not going to make Giesecke & Devrient king of the hill. Yes it's embarrassing, but will de central banks of Kenya or Kuwait leave ?
2) The board rejected a ÂŁ 900m bid. Short term investors are dumping their shares now that Oberthur has indicated it's not willing to up the offer.
This is irrelevant to the thesis.
Specific Risk
1) Diworsification. Should de la Rue choose to acquire something, it’s almost certain to be a case of diworsification. Spending cash generated by a high quality franchise on a not so good acquisition. This happened to de la Rue in the seventies.
2) Political risk. In general, political instability is a plus for this business. However, party politics in India or elsewhere could force government to “blacklist” de la Rue.
3) Privatisation. Demand is robust and it’s unlikely anyone will start a competitor from scratch.... but what happens if say…. the US decides to privatize (not sell) the Bureau of Engraving & Printing ?
One of the 284768 other risks I haven’t thought of yet.
Value
I don’t like calculators so I use rough numbers.
1) In December, aware of the production problems, Oberthur bid $ 1.4B; ÂŁ 900 m for de la Rue. The bid was rejected. Importantly, three private equity houses were willing to support the bid in exchange for a stake in the new company.
2) Since 2006 and excluding the sale of cash systems, the company has spent roughly £ 500m paying dividends, buying back shares and/or retiring debt. That’s about $ 160m per annum. A 10x multiple on that is $ 1.6B.
3) The Cash Processing Solutions Division of de la Rue was sold to the Carlyle Group for £350 in 2008. At the time, Cash Systems reported revenue of £285m and operating profit of £35m. Assets were £125m. That’s the non-core division selling cash systems… in 2008 ! generating about 10% of revenue. Let’s say the rest is worth 4 x £350m => $ 2B
Mr. Market offers us the shares for 670 GBp apiece. The company is a bargain at ÂŁ 660m => $ 1B.
Links
http://books.google.nl/books?id=GB4DzrjgkxsC&pg=PA146&lpg=PA146&dq=Giesecke+bid&source=bl&ots=nc6BKBq1Hh&sig=Pg7UMbYiA1FT6Y-xePDIgc0lHNY&hl=nl&ei=zb5GTbjNHsGeOvy3zN8B&sa=X&oi=book_result&ct=result&resnum=7&ved=0CEYQ6AEwBjgK#v=onepage&q=Giesecke%20bid&f=false
http://www.telegraph.co.uk/finance/newsbysector/epic/dlar/7986964/De-La-Rue-staff-deliberately-falsified-banknote-tests.html
Disclosure
No position in any of the companies mentioned.
Any and all questions and comments welcome as usual.
