The Tekmar share price (LON:TGP) fell by more than 30% today as the subsea cable specialist warned that the recent coronavirus epidemic in China would affect its business this year, and delay visibility for the next:
Notably, this is one of the first companies that we’ve seen that have given out a profit warning based on Covid-19. The standard line from most reports so far is that it is too early to tell. Or that manufacturing has restarted, albeit with some delays. The warning today paints a slightly different picture.
Tekmar are a relatively new listing, coming to the market in 2018, however the company dates back to 1985 as a support service for the oil and gas sector. Since then they have gone on to specialise in polyurethane with the specific purpose of protecting cables underwater. The stock market flotation followed a pattern followed by many: the company was heavily indebted from a management buy-out, and the £50m raised allowed it to repay this debt and leave it with a small net cash balance. Some of this was used in 2018 to acquire two new companies.
What’s gone wrong at Tekmar Group?
The commentary comes in a fascinating RNS which addresses the impact of the coronavirus in some detail. We know from the previous update that things were in line, but then the virus struck.
China’s necessary and prudent response to the outbreak of the coronavirus, including the restriction of travel in the country, is affecting the Group’s performance materially in a number of ways. The Board now expects that the Group’s earnings in FY20 will be broadly in line with those achieved in FY19, as a result of the following factors
Looking at some forecasts on Stockopedia, this fall is vast: 2020E reads as £4.90m net profit vs £2.39m the year before.
The factors are given as:
all of the Group’s projects scheduled for shipment to China have been delayed and there is little visibility as to when travel restrictions will be lifted;
the supply of components from China has ceased pending further notice. The Group has the ability to source replacement components from Europe and any resulting delay will not affect contractual delivery schedules for clients, but does affect the timing of revenue recognition and margins on affected projects; and
the Group’s office in Shanghai, which services the whole of APAC, has been placed on official shutdown, as have many of our clients’ and suppliers’ offices in the region.
Helpfully, we also can see the exposure:
China accounted for circa 10% of our revenue forecast in FY20 and represented 20% of our outstanding supply-chain commitments.
Is this a good day to hide news?
Increased costs relating to one project within Subsea Innovation, which have arisen since December, are also affecting the Group’s performance in FY20 to a lesser extent. Mitigating measures are being implemented to minimise the impact of these additional costs.
Given the magnitude of the Chinese news a ‘lesser extent’ could still be a very large figure in the context of the business.
Tekmar Group: Rapidly Growing
We only have the one annual report to go off, but it is clear that there are a few things to like about Tekmar. The company is growing its revenues fast, from £10m in FY15 to a estimated £45m for FY20 (although this may be in a little doubt due to today’s warning).
The key driver of this appears to be the Subsea segment, which has grown rapidly in the past couple of years to account for almost a third of revenues.
Operating margins are healthy in this segment, in a broad range of 10-17%. Some of the reasons may be alluded to in the annual report: Tekmar describe themselves as the market leaders, and have over 75% of the market in offshore cable protection. Even still, the company is heavily concentrated in and around the UK and Scandinavia. Further opportunities are being pursued in the Middle East and APAC regions.
And it is clear that on other metrics the pace of growth is really fast: the number of employees almost doubled to 180, and the number of products went from 20 to 47.
Evidence of this growth spurt is apparent on the balance sheet: intangibles in the form of goodwill account for £21.8m of it’s £53m assets. It’s working capital position is good, with a ratio of 2.67, but as a result of expansion customer receivables have exploded upwards to £20.0m. To be fair the company report this as exceptional and expect this to unwind as projects progress.
In terms of balance sheet strength, it looks good. There are no debts as these were paid off as a result of the IPO. Finance costs were a significant millstone here, eating up over £4m in costs and dragging the group from an operating profit to net loss position. Even in the current year the charge was over £1m which should drop off and improve the net results. The effect of this was plain to see in its other years:
With £4m in cash and a small amount of debt (only relating to leases) it appears that Tekmar can ride this out pretty easily.
As with other smaller companies of this nature, there is some customer concentration risks: the top 3 customers represented £11m of the £28m revenues – a sizeable sum. This is still an improvement on the previous year, where they accounted for £18m and almost all revenues.
Are Tekmar shares good value?
Research Tree do not give us any updated broker notes, so we don’t have else to go on here apart from what the company says. The 10% of revenues may still be recoverable, as projects may still end up going ahead albeit with some delays. Supply chain commitments are a more serious issue and it seems that from the forecasts this will hit profits hard with some projects being delayed and others facing a cut in margins due to increased expense.
Interestingly enough, the Tekmar share price has seen some huge growth in the last year after almost halving since IPO: todays price drop takes us back to levels seen in April, but not the all-time lows seen in February 2019. Back then, the price was looking to test the 75p region.
Value may depend upon the views of future revenues: if coronavirus turns out to be something that passes quickly this may prove to be a good buying point. The market capitalisation has dropped to £50m, and on 2019 profits that is a hefty rating, but if the 2021 forecasts can be met, not particularly so.
Expansion may be interesting to watch. The Group are keen to develop its interests in the US, but whether they have the assets to do so or whether products speak for themselves is not known yet. Certainly there are other companies such as Somero who supposedly have a world-class product in one region but struggle to transfer this to other markets.
So at the moment I feel that the company are executing well, coronavirus is largely out of their hands, and the Tekmar share price is still pricing in a fair amount of growth here, some of which is uncertain. Whilst I don’t see a bargain overall, the impression of the company is still positive. 4/5.