Adcorp – “no holy cows” approach is working

Adcorp has shed 90% of its market value in the past 5 years. The recruitment and training company suffered an ailment that has plagued many industry consolidators: an incoherent strategy combined with an unsustainable balance sheet.

There was a time on the JSE when people believed that if you buy five companies on a P/E (Price / Earnings ratio) of 5x, the combined basket will magically be worth 10x. It’s like thinking that a fruit basket full of siffy bananas and apples is suddenly a tasty proposition when viewed collectively.

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For a fruit salad to taste good, the ingredients need to be fresh.

With a market cap of just R370m, anchor shareholder Value Capital Partners (VCP) will be thrilled with the latest trading statement. VCP holds over a quarter of the shares in Adcorp and isn’t afraid to have a punt at a company on the brink of disaster, evidenced by the presence of PPC in its portfolio.

There’s a new sheriff at Adcorp

The choice of Chief Executive to fix this mess is interesting. Phil Roux previously served as CEO of Pioneer Foods as well as in senior roles at Tiger Brands and Coca Cola. He’s a FMCG man (fast-moving consumer goods), which means he would’ve previously been the type of client that Adcorp would target with staffing solutions.

It’s easier to sell to people in your peer group. Roux brings the right perspective to things and could do a terrific job repositioning Adcorp for a genuine recovery.

He joined the group at either the worst-possible time or the best-possible time, depending how you look at it. Roux was appointed in April, so he’s a Lockdown CEO who joined a group in crisis at a time of crisis.

The positive spin on this is that there are “no holy cows” as corporates like to say i.e. if major changes need to be made, they will be supported.

I particularly enjoy it when CEOs are straight shooters. In an interview in July with Giulietta Talevi of Financial Mail, Roux commented:

“I’ve identified eight value drivers and I’m going to manage the hell out of those over the next 12 months. It’s unfortunate that we’ll do all of this in a very, very difficult environment.”

Clearly an action man, the latest trading statement and other recent newsflow suggests that there has indeed been some action to get excited about, ranging from cost cutting to disposing of one of the Australian subsidiaries.

Adcorp has a debt problem and a cost problem and some other problems…

It’s not a small task that Roux has taken on, but there are many ways to improve Adcorp. The company desperately needed a rethink of its costs in order to manage the debt burden.

Adcorp Group reported a loss of -R604m in the year ended February 2020, down from a profit of R262m previously. Impairments of R560m didn’t help things, although even stripping that out reveals a business in disarray. The debt balance at February 2020 of R683m didn’t help shareholders sleep better at night either.

Sales of businesses were on the table from the start of his tenure, with the company successfully getting rid of one of its Australian businesses for over R40m, announced in September. Unfortunately, Adcorp originally paid R280m for this asset in 2015. Ouch.

If they could, Adcorp would sell the entire Australian business despite the fact that it contributes around 35% of group revenue. It’s yet another example of a South African company that ventured down under and sent its share price down under along the way, although much of Adcorp’s pain has also happened right under its nose in South Africa.

Adcorp did have some bad luck along the way, with natural disasters in Australia affecting the agricultural sector and hurting Adcorp’s business. Things are starting to look up in the land of kangaroos, which should help Adcorp achieve a better price if the group does go ahead and sell the entire Australian operation.

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A trading update of hope

Operating profit is expected to increase to between R102.1m and R112.9m in the six months to end-August. That’s an increase of between 18% and 31%.

The percentage increase at headline earnings level becomes ridiculous to even consider, up between 712% and 732%. That’s what happens when you barely broke even in the comparable period.

Alongside this, the debt balance has been slashed to R365m from the February balance of R683m.

The company has R382m net cash on hand, which is an admirable effort after the economic horrors of this year. Accounts receivable somehow dropped by just under R500m. Perhaps Adcorp should start a debt collection business because there’s clearly a key competency there.

The joy didn’t come from top-line growth unfortunately.

Revenue has dropped by between 10% and 12% as classroom-based training wasn’t possible in a lockdown environment. Naturally, clients retrenching rather than hiring doesn’t do any favours for recruitment companies either.

The company spent R65.7m on “initiatives aimed at building a lean operating model and increasing efficiencies” which I fear may be a nice way to say “we retrenched a lot of people” although no mention is made in the SENS announcement.

South Africa – staffing and training businesses suffered in lockdown

Revenue in the industrial services portfolio decreased by between 22% and 24%, primarily due to Temporary Employment Services which operates in the hospitality, automotive and industrial sectors. There weren’t many sectors that did well in lockdown, but hospitality is clearly the worst.

The pain was offset to some extent by a good performance in Functional Outsourcing which operates in essential services industries, as well as Paracon which operates in the IT space, one of the few sectors that did ok over lockdown. Revenues in that business were stable over the lockdown period.

Industrial Services still managed an increase in EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortisation – a proxy for operating profit) despite the fall in revenue. This points once-again to severe action that may have been taken in staff costs.

These challenges pale in comparison to the training business in South Africa which saw revenue drop over 40%. The business made an effort to shift to virtual training, but uptake was slower than expected due to a general cut in learning and development spend by companies who were just trying to survive the lockdown period.

These businesses could make a significant recovery next year, supported by a vastly improved balance sheet at Adcorp.

Australia- a more resilient performance

Revenue dropped 6% to 8% in AUD, but EBITDA is higher than the comparable period because of the reduction in operating costs and the benefit of government relief income.

Debt in Australia was reduced by 45%, a significant achievement and great news for shareholders in terms of de-risking the business.

Looking ahead

Detailed interim results will be released in late November. There shouldn’t be any nasty surprises after a great trading statement like this.

With around 110 million shares in issue and expected Headline Earnings Per Share around 42c, Headline Earnings should come in around R46m. With a market cap of R370m, Adcorp isn’t a bargain anymore after the 133.33% share price jump and probably isn’t going to pay meaningful dividends anytime soon either,

I’ll watch the new CEO’s progress with great interest, but I’m not rushing to invest my own money in Adcorp. I fear that a jobs recovery in South Africa will be a long road and the training space is highly competitive.

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  • Peter

    The labour broking industry in SA is dead in the water and it’s still the biggest part of adcorp so after selling Australia there won’t be anything left….

  • Peter

    The labour broking industry in SA is dead in the water and it’s still the biggest part of adcorp so after selling Australia there won’t be anything left….

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