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Don has worked as an investment and finance professional in Europe for the past 15 years and spent the last 8 years identifying, analyzing and managing portfolios of undervalued securities in the European equity and distressed debt markets. Prior to that he spent seven years in corporate and investment banking. He has worked in Dublin, London, Frankfurt and Paris. He completed the CFA program in 2006 and graduated from Trinity College Dublin with a first class honurs degree in business studies and German in 1996.
Don co-manages the Tocqueville Value Europe fund. The fund’s multi-capitalization investment strategy is contrarian and value-oriented and stock selection is bottom-up, based upon intensive proprietary research and a disciplined investment process. Don is rated A by Citywire for risk-adjusted returns and the fund ranks among the top-performing European equity mutual funds over the past decade with five out of five ratings from Lipper in all categories and a five-star Morningstar rating.
Tocqueville Finance is a Paris-based value house with €1.8 billion in assets under management. The company has followed a value investing philosophy since its foundation in 1991.
Title of the speech was "Solid Cash Flows Despite Turbulence". The basic thesis is that this is a reasonable business with very solid cash flows that is modestly valued even before you normalize the earnings power.
It is listed in Zurich with a Market Cap: CHF 950m & 100% free float
Gate-Group has several lines of business: They do airline catering, and also operate airport hospitality like executive lounges, and on-board retail solutions for the Low Cost Carriers in order to help them squeeze extra earnings out of their passengers whilst trapped in the seats. However, the logistics and provisioning to get the food on board on time is the main value added of Gate-Group.
54% of revenue comes from Europe and 27% from North America, and 13% from Asia-Pacific.
Behind Lufthansa Sky chefs, Gate-group is the leader.
Largest cost is raw materials and staff.
Economics are okay: 5% ebit margin, 15% ROIC.
3-7 years contracts give reasonable visibility: For example, 90% 2010 sales was generated from contracts valid through 2012
Overall there is 75% renewal upon contract expiry, and among the major hubs served by the company the renewal rate is higher. Roughly half of the contracts are hub contracts and the other half relating to outstations or the “spokes”.
Fee structure: Company gets paid 3 ways
1. Fixed costs recovery – paid even when planes are grounded
2. Handling Fee - Each time a plane takes off regardless of number of passengers on board.
And 3 a consumption fee per customer on board.
The contracts are structured in such a way that the revenues should cover the fixed costs of the business and the variable revenues determine the degree of profitability.
What is the moat of the company?
Contracts at the hub are sticky, because they have local economies of scale at the major airport hub stations.
They also have switching costs moat, which prevents carriers from dumping them and using another provider.
They have a great reputation and a strong global network.
The company does not have the widest or deepest moat in the world, but they are not so easy to displace on the hub contracts.
For example, Gategroup retained the Swissair (part of Lufthansa group) contract at Zurich airport when it expired a year ago despite the fact that it was bidding against Swissair sister company Lufthansa Skychefs.
Is it a growth business or business in decline?
Passenger volume grows over time (more than GDP), from 1970-2011.
However, de-contenting like the move from meals to sandwiches to peanuts on the airline is a headwind that the company faced in the past 10 years but we feel that the decontenting trend has largely played out. For example,in North America, the spend by the airlines per passenger dramatically fell from 2000 to 2005 but has largely flat lined since then.
Low cost airlines are growing quickly and that is a lower revenue opportunity / negative mix effect for Gate-Group
The strong points of the business is the customer stickiness, the long term contracts and flexible cost structure.
However, the business is cyclical since it is tied to the airline industry and oil prices. However, due to fixed cost recovery charges, which the company receives even if the plane is grounded, the company is much less cyclical than the industry it serves.
45% of sales go to five clients.
Tragic events like terrorist attacks can affect revenues in any given year.
They could lose clients, which make up a significant amount of revenue.
They have a lot of cash that could be wasted on poor capital allocation. Management own about 2 to 3% of the company and are rewarded on Cash generation & ROCE.
So far though, their recent acquisitions have been at fair prices. They bought a company in Canada at book value, and an ariline caterer in India, which is so far proving harder to integrate at 5x EBIT. However, the acquisition in India should over time work out nicely as the economy and airline industry grows there.
The company should pay a dividend in 2012. As airlines invest in better capacity and service, especially in business classes that would be good for Gate-Group.
Company was traded over the counter for a few years before a real listing in Zurich in 2009. We built our position around then with an average purchase price of ca CHF 20 as the company was undiscovered, under researched, without a peer group as the previous shareholders (ca 200 ) began to exit as the stock was much more liquid on the regulated market than OTC
Then the company became well known by the investor community after the company did a lot of IR activities. The company was able to raise cash near the top in November 2010; we were able to exit our position before it topped out above CHF 50.
Then Japan tragedy happened, oil went up, and the CEO resigned, and the stock crashed. We have been , buying back into the company again in recent weeks.
At the bottom of the cycle the company was earning 110m in 09 in FCF, it did 155 in 10 in FCF, The reported EBIT number is lower due to:
Ca. 25m p.a. Share-based payments in 09 / 10 (since vested) & unlikely to be repeated for several years
Ca. 15m p.a. non-cash Amortization of customer relationships
Business benefits from mModest operating working capital requirements and a low cash Tax rate due to the - Swiss HQ & ; CHF 600m tax loss carry-forwards
Maintenance Capex is only 1.5% of sales
The strong Swiss Franc has held back the reported earnings, given that cash flow is generated in USD and Euros. However, the large cash balance is mostly in Swiss Francs, while the debt load is in US dollars and the Euro.
It is trading at EV of ca. 7x FCF 2011E, EV/ EBITDA of 5.2x , and 7.1x current EV/EBIT. These multiples should look cheaper next year as earnings normalize and the EV reduces with prodigious cash flow.
We think that that Gate-Group is still under-earning and normalized earnings are well above these levels.
It is a better business than it looks at first sight, a cash machine, the reported earnings understate the economics and in recent years earnings have been hit by several exceptional events (volcano ash, japan quake, an employee fraud etc) that should not be repeated year in year out. In time iIt should pay out a substantial dividend, which it currently does not do and can , create value with astute bolt on acquisitions.
Disclosure: None
http://www.valuewalk.com/
About the author:
I am VP of Business Development for Sum Zero (http://sumzero.com), the largest community of buy-side analysts; consisting of over 5,900 hf and mf analysts, and over 3,600 extensive investment write-ups. I have prior experience in a value based pe firm focused on PIPE transactions in micro-caps, and at a value based research firm, which focused on smid caps. In my personal portfolio I have outperformed the market by a cumulative ~48% since 3/2008 (inception date). I can be contacted at jacob(at)sumzero.com for sumzero related inquires. My website is http://www.valuewalk.com/ Visit Jacob Wolinsky's Website
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