CAFOM: Growing Electronics and Furniture retailer @ 6x P/E (excluding problems)

CAFOM is a furniture, electronics and home decoration product retailer operating in French overseas departments, Europe, Africa and Asia.

The investment case is traditional “good-part/bad-part” sum of parts value.

The good parts include:

1) Outre-mer: The furniture and electronic white goods retail businesses in French over-seas territories mainly under the Darty and BUT brands through master-franchise (or similar) contracts.

1920px-France_in_the_World_(+Antarctica_claims)

There are 23 stores in Martinique, Guyane, Guadeloupe, Saint-Martin, Réunion and Nouvelle-Calédonie.

The population in the territories average 370k with 865k max in Reunion and 36k min in Saint-Martin, so the places are quite small.

CAFOM has been doing the BUT furniture business in the territories since 1985 and in the original IPO documents in 2005 claims some first mover advantages against competitors.

There might be some truth to the claim given the profitability of the segment:

Outre-Mer

The electronics retail business in the overseas territories with Darty-brand started in 2014 with goal to reach 120 meur revenues by 2020.

Since then, the segments revenues and profits have been growing nicely.

If the 120 meur revenue goal is added to the 160 meur revenues in 2014, the total segment revenues in 2020 could be about 280 meur or about 40 % more than last year.

With quick look, the business seems to have good competitive position and good growth prospects in the “niche” geographic region, although the business is quite cyclical and there is few mentions of political and hurricanes related instability.

2) E-Commerce: Mainly the growing pure-play online furniture retailer “Vente-Unique” operating in Europe.

Vente-Unique markets

The business was started in 2006 from scratch and has had excellent track record ever since:

Vente-Unique

Vente-Unique IPOed recently and the documents indicate 150 meur revenue target for 2022.

CAFOM sold about 33 % of its shares in the IPO (for about 100 meur valuation).

CAFOM’s current market cap is about 93 meur and, adjusted for the change in Vente-Unique ownership, Outre-Mer and E-commerce segments’ total earnings about 16 meur.

Thus, the P/E-ratio before accounting for CAFOM’s problems is 5,9x and adjusted for convertible loan dilution 6,5x:

Goodparts 3

The next question is of course what the problems are and whether they will get solved, for the upside looks too good otherwise.

Habitat

The main problem is Habitat which is international home furnishing and decoration brand with focus on design and affordability (once owned by the legendary IKEA founder Ingvar Kamprad).

It has 46 own stores in France, Monaco, Spain, Germany and Norway and 46 franchised stores in Europe, Asia and Africa.

CAFOM bought the business in 2012 from bankruptcy. The downhill seems to have started pretty much immediately after the check cleared:

Habita

Good managers stop failing projects quickly but for some reason CAFOM seems to believe in Habitat despite 67 meur cumulative losses since the acquisition.

The management is restructuring logistics, closing unprofitable locations and opening new ones.

In the end of last year, CAFOM also bought SIA Home Fashion, which is “international leader in the sale of artificial flowers and decorative items for the home: scented candles, tableware, gifts, wall decorations, lighting, textiles, etc.”.

The business has 20 meur revenues.

Apparently, CAFOM sees synergies with Habitat as they plan to offer SIA’s distributors (500 world-wide) opportunity to sell Habitat’s products.

There is some positive developments in Habitat as revenue decline stopped in the first quarter (Google translation from French):

“The Group thus managed to stabilize Habitat’s commercial activity and even confirmed the return to growth in France, with growth of + 2.7% at comparable stores.”

While the revenues might have stabilised I doubt they are yet breaking even (no information of the quarterly profits).

I don’t have insight into probability that the management’s turnaround strategy succeeds but it seems reasonable to assume that the losses wont continue forever.

Either the business turns or it will be sold or closed down.

If so, CAFOM’s valuation seems pretty interesting.

Valuation

Valuation

Depending of how much negative value attribution is given to Habitat (I modelled 0-3 years losses), the upside is 57-89 % and adjusted for the dilution from convertible loans 42-72 %.

The sum of parts valuation table above shows the static situation but I always like to stress test my thinking by examining the potential cash flow dynamics in through time with simple forecasts.

I modelled the slow recovery scenario and the cash flow, debt and IRR dynamics look good, with following assumptions:

  1. Stable profits for the core Outre-Mer operations, which on the one hand assumes growing earnings from the growing Darty-operations started in 2014 and on the other hand declining margins in the current operations (profitability was historically high in 2017)
  2. E-commerce segment grows to the 150 meur target revenues with historical 4% net margins
  3. Habitat losses slow down to 10 meur (2017 had 3 meur logistics restructuring costs that management deemed one-offs) and continue for three years

Forecast.png

The forecast highlights the earnings capacity of the core operations and how they are currently absorbing the Habitat losses and that there is capacity to absorb them in significant scale in the future (cumulative earnings from the profitable core during the forecast period is 85 meur, slightly less than current market cap).

With the assumptions, CAFOM’s concern earnings would be positive, net debt would turn to net cash and the dividend would be resumed in 2021 (after the losses in the habitat segment ends).

With the assumptions, which are always debatable but which don’t seem unreasonable to me, the IRR would be 18 % (adj. for convertible dilution):

IRR

Management & owners

CAFOM was found in 1985 by five founding partners that own 74 % of the company today:

Owners

Concentrated ownership is problematic if the main owner doesn’t respect minorities. With CAFOM, the situation seems to be under control.

The CEO and COO rakes in about 400 keur each (through their own holding company), which is high but probably reasonable for managing a company with 400 meur revenues.

The rest three of the founding partners are in various management roles and have 80-190 keur salaries, which doesn’t seem outrageous.

Internal transactions include 2,4 meur rents for office premises located in center of Paris, which is slightly worrying as the premises are owned by a company owned by the founding partners.

Given that all CAFOM’s operations seems to be conducted from there and the location seemed pretty good, for the whole office building the rental level is probably OK. I didn’t investigate it other than checking the location from Google maps though.

Positive is that CAFOM paid dividends in 2011, 2010, 2007, 2006 and 2005, so the management is seemingly willing to share fruits of the business with minorities, when there are fruits to share.

Last time the dividend payment was stopped when Habitat’s problems began and before that in height of the financial crisis.

The Company mentioned in last annual report that it breached debt covenants, which the banks waived, which probably prevents dividend payments until the financial situation improves.

Debt was 78 meur and net debt 60 meur, which were on elevated level relative to the 120 meur equity.

After the Vente-Unique IPO, CAFOM has about 26 meur higher cash, which will reduce the net debt to significantly lower level (34 meur) and which helps in resuming the dividends in the future.

If Habitat turns around, or gets stopped, there is plenty of room in the earnings and balance sheet for dividend payment (as shown in the IRR forecast earlier), but I wouldn’t expect it before the situation gets solved.

In addition to history of dividend payment and acceptable salaries and internal transactions, I also get some comfort from that there is some “smart money” involved.

Amiral Gestion owned CAFOM at least in February and Financiere Abrevel is owner currently according to FT. Both are small cap value funds in France.

Also, Pleiade Investissement, a private French investment company, owns 9 % of the company and some convertible bonds.

Pleiade became involved in CAFOM to finance the Habitat acquisition in 2011 in middle of PIGS crisis.

Interestingly, the five founding partners are currently about 67 years old and probably approaching retirement, so I wouldn’t rule M&A action out in the coming years.

Conclusion

CAFOM seems to have strong competitive position and highly profitable furniture and white goods electronics retail operation French overseas territories. It also owns majority stake in growing and profitable online furniture retailer Vente-Unique.

Both have historically been consistently profitable and for a long time absorbed the losses in the Habitat business.

The thesis is that eventually the Habitat problems will get solved one way or the other.

With the Vente-Unique IPO proceeds the net debt is now manageable and within covenants, and with the profitable core operations providing consistent cash flows, CAFOM now has plenty of room to maneuver through the Habitat problems.

If the profitable cores hold their positions, the IRR from the situation is more or less defined by the speed of resolving the Habitat problem.

If fast, the returns could be very good (say 20 %+) and if slow, still more than satisfactory (say 15 %+).

The big loss scenarios would seem to require the profitable cores to break up, Habitat going completely haywire or management starting to behave badly.

So far there is no sign of any of them.

Disclosure: Long CAFOM with 2,7 % position

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