Good Morning and today I will be covering System1 Group, aka Brainjuicer PLC. Before that let’s summarise today other companies’ updates and results.
1). Dragonfly Investment (DRG.L) is a small investment company that is looking for an investment.
2). SYMPHONY ENVIRONMENTAL TECHNOLOGIES PLC (SYM), a global specialist in products and technologies to “make plastic smarter” is expected to report revenue of £8m, up from £6.8m. Also, profits are likely to beat market expectation and not less than £350k. Market Cap. is £22m.
3). Royal Bank of Scotland Group plc (RBS) has made an attributable profit of £1,331 million for the year to date, including a Q3 profit of £392 million. But all this would be for nothing if US persecutors were to fine them heavily for mis-selling mortgages.
System1Group (FORMERLY BRAINJUICER PLC)
Share price: £4 (down 23%)
As mentioned in their trading update, System1 Group has previously said that trading was disappointing.
Today, management reiterated their statement by saying these results were “unexpected as they were disappointing.”
Also, System1 has identified three factors causing them operational problems.
Factor 1: several significant FMCG (fast-moving consumer goods, aka retailers) clients have cut or deferred market research budgets.
Factor 2: clients moving research spend towards automated lower cost research data. (aka. Clients cutting back on quality research to save money).
Factor 3: due to rebranding, the company has too much time addressing internal issues and less time on clients, compared to normal.
Another alarmingly honest admission is: “we have little revenue visibility and significant variability in revenues from month-to-month and client-to-client.”
As you well know their financials don’t make pretty reading. H1 profit before tax has fallen to £846k from £2.8m. Then, management has warned investors to expect up to 60% fall in PBT for the full-year. Meaning that 2017’s PBT could come in at £2.8m-£3m, compared to £6.2m.
The biggest notable change in their net cash flow from operations. It saw a cash outflow of half a million, compared to net cash profit of £3.52m.
System1 continues to be a capex-light business with spending at £62k.
It looks like their main drag is Innovation Testing, which accounts for 44% of gross profit, but saw a decline of 27%.
Their Ad Testing and Brand Tracking, collectively comprising 43% of their business last year, grew by 17% and 53% respectively, which whilst less than the growth achieved last year, was still strong.
Other ad hoc Research services declined significantly but this is now only around 10% of the business.
Investors should keep an eye on System1 Group cash level because cash position is down to £3.5m, even though it paid £4m dividends to shareholders. That is the past!
With future results dragging the company’s finances, it is good to keep an eye on cash burn, than in previous years.
Were there tell-tale signs back when they reported their full-year results?
Back when System1 Group reported their full-year results, there were one people forgot about, that is: “Number of clients.”
People were busy eying increasing revenue growth of 27% and 25% rise in profits and were excited about their special dividend of 26.1 pence per share, as well as doubling of dividends to 6.1 pence.
So, it’s no wonder investors have missed the change in this metric:
The loss of 10 clients may not be a big concern for investors at the time. However, we shouldn’t discount 2012, 2013 and 2014’s client numbers.
Here is a table showing System1 revenue and the importance of small change in their client numbers:
The level of sales ranges from £21m to £32m and the range in client numbers is a maximum of 25. So, you have something of a ripple effect when a decline in client numbers means the rest of their clients are cutting their marketing budget.
An indicator to pay attention to!
When it comes to pre-tax profits, the % change is greater as this range from £1.5m to £6.2m.
Overall, investors should in hindsight sold System1 because it was trading around £9 per share and that little research could have saved them a lot of money because the shares are trading around £3.90. Those recent shareholders are licking their wounds.
Management continues to believe that if they provide high value, distinctive services, revenue will follow.
They also stated: “With our new product launches providing a more scalable configuration, we are also optimistic about the potential for profit margin uplift.”
They also stated that Q3 trading has not picked up. If this continues then expect profit before tax (reported) for the full year would decline by 50% to 60% (2016/17: £6.3m). Normalised profit before tax will also decline by a similar percentage.
Indicators that changes System1 Group share price
As mentioned, the big indicator is by far their client numbers. If momentum turns negative, there is a possibility that things will spiral out of control. That leads to lower budget spending causing lower recurring sales and vastly lower profits. All this result in a declining share price.
A secondary indicator is to watch their net profit because a drop of 50%-60% has been pencilled in by management, which is a similar drop in the share price.
The shares have fallen by 60% and the market value is £50m. Management has stated in their outlook of a 60% fall in profits, then net profit could decrease to £1.8m. Leaving it with a forward-PE of 30 times.
Despite, 8m out of 12m shares are freely floated, the volume level is extremely low with a few thousands changing hands daily. On days when they release their results and updates, volume could reach 300,000 shares.
The clarity and honesty from management are worrying.
With the share price in negative momentum, there could further declines. Also, if we look back to historical data to find the last time was between £1.8m and £2m, you need to go back to 2013. Back then the share price was ranging around £2 to £3 and had positive momentum going forward.
Now, the shares are at a tailwind with added uncertainty.
Don’t surprised if the shares end the year at around £3. At the meantime, there could be value in the shares if a quick recovery, but further research is needed. (i.e. I would look at their client lists and identify which of these businesses are struggling.)
For me, System1 is a risky investment even at this level.
Thanks for reading this short update, I could only one stock today.
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The above analysis is based on my opinion and nobody else. It does not constitute professional investment advice. Data is correct on at the time of availability. I don’t hold the company’s shares unless stated.