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Clayton Young
Clayton Young
Articles (12)  | Author's Website |

At 89% NCAV, Clip Corp Is a Classic Graham Stock

Classic value investors might like Clip, but modern value investors may want more

October 04, 2017 | About:

Introduction

Headquartered in Nagoya, Japan, Clip Corp. (TSE:4705) primarily runs cram schools and sports clubs for children. Additionally, the company operates restaurants and sells used golf clubs.

Clip got its start in 1982 when the company’s current CEO, Kenji Inoue, was named CEO of Central Japan Yuasa Education System. The grandparent organization was Yuasa Trading (TSE:8074), a company with a rich 350-year history. Yuasa Trading set up eight different sales organizations to sell “Yaruki,” an expensive (200,000 yen, which is equivalent to $1,7740.20) computer-based education system. Central Japan Yuasa Education System was one of the eight organizations.

Yaruki did not exactly fly off the shelves. Most of the sales organizations were forced to withdraw from the Yaruki business because of sluggish sales. Kenji took a different angle. Instead of trying to sell Yaruki, he decided to open an office, set up the Yaruki education systems and teach students how to use it for a monthly fee. This was the beginning of Clip's cram school business.

Clip today

Today, Clip operates cram schools, sports clubs and restaurants, sells used golf clubs, delivers lunch and teaches farming to children, among miscellaneous other things.

At first glance, it is a confusing mixture of business areas. The governing business approach is rather simple, however. In its most recent business update (Japanese), the company provides a five-step outline for its future business endeavors. The business must have the following characteristics:

  1. Cash business.

  2. Membership business.

  3. End-user facing business.

  4. Capital light business.

  5. Operator must understand how Clip Corp. operates.

With this context, Clip’s melting pot of business areas makes more sense. I think an interpretation of the above characteristics could be something like:

  1. Immediate cash flow.

  2. Recurring business.

  3. Low capital requirements.

Business performance

What caught my eye with Clip was its cheap price, strong balance sheet and high return on invested capital. In Japan, there are plenty of companies trading below book value; Clip trades below net cash:

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Clip trades at 94% net cash, or 89% net current asset value (NCAV). To be sure, top-line figures have been dwindling down over the past five years:

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This should not surprise many given Japan has a shrinking pool of children. Inevitably, cram schools are fighting for a bigger piece of a smaller pie, which means increased competition.

The company is in the middle of closing down unprofitable locations and opening new locations, for both cram schools and sports clubs. According to the most recent business update, Clip is losing more students than it expected in its cram school and sport club businesses. At the end of fiscal 2016, Clip had 6,297 cram school students and 12,594 sport club students. By the end of fiscal 2017, that figure dropped to 6,261 students and 9,284 students respectively.

Clip management adjusted down guidance back in October 2016. The renewed guidance was adjusted down again in May. Guidance for fiscal 2018 looks positive on the top line, with a 2.9% improvement. Operating income is expected to decline a further 8.5% compared to fiscal 2017. The brief explanation offered by management is centered around two things:

  1. 4.7% student head count increase in cram school business.

  2. Fewer startup expenses for restaurant and used golf club business.

With that said, Clip's management has a recent history of making downward adjustments to guidance. They were pretty optimistic about fiscal 2017, which did not go too well overall:

dcFQfTCyKmQvrG3iXLJLUq7fSvHmaPF7wn6csAGF

Interestingly, Greenblatt ROIC went from over 300% down to a still respectable and spectacular 42% over the past five years.

The bottom line

Clip trades at a negative EV/EBIT multiple. Thankfully, EBIT is still positive and the negative multiple is a result of the current enterprise value, which sits at negative 862 million yen. I suppose investors ought to know management is guiding a 40 yen per share dividend payout for fiscal 2018, which equates to a 4.4% dividend yield at today’s 910 yen share price. That is an 80-plus percent payout based on management’s fiscal 2018 net income projection, or a 273% payout based on fiscal 2017 net income.

The company sits somewhere between a classic Benjamin Graham cigar-butt stock (less than NCAV) and Mohnish Pabrai (Trades, Portfolio)'s “Heads, I win. Tails, I don’t lose much” stock (capital light/limited downside). Best-case scenario is one of Clip’s newer business areas grows into a key capital-light profit center and operating income grows explosively. The worst-case scenario is the company takes a while before finding its footing and the stock goes nowhere for years.

While I am not suggesting Clip's management is incompetent, I do not see a clear direction or value proposition. Focusing on cash business, recurring revenue model and low capital intensity is all good, but it is everybody’s ideal business model. Beyond having an attractive business model, a company needs a strong value proposition in order to maintain a certain level of quality in revenues and earnings over the long term. I am not sure I see a strong value proposition in Clip.

For investors comfortable with the old-school Graham approach, Clip might be a compelling play. Personally, I will not be investing in the stock at this time.

Disclosure: I do not own shares in companies mentioned in this article.

About the author:

Clayton Young
I grew up in Japan and completed an MBA in the U.S., but learned more from reading Howard Marks. I apply an American value investing approach to Japanese companies that are often inscrutable to outsiders who lack fluency in the unique cultural context.

Visit Clayton Young's Website


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