Ann: Tyres4U Acquisition Pro Forma Balance Sheet, page-4

Based on the raw reported figures (and let's look at the EBIT line, in order to understand the operating performance of the business), EBIT in the June half appeared to be $3.0m, a 34% reduction on pcp:

Half-Yearly EBIT ($m) [Change on pcp], As Reported
DH2018: 5.5 [+290%... IPO-related items in pcp]
JH2019:  4.6 [-43%]
DH2019: 4.1 [-27%]
JH2020: 3.0 [-34%]


But, adjusting for the $2.2m writedown (to zero) of the Intangibles relating to the South African subsidiary and the $1.07m in government subsidies, yields "normalised" EBIT for JH2020 of $4.2m:

Half-Yearly EBIT ($m) [Change on pcp], Adjusted for One-Off Items
DH2018: 5.5 [+58%]
JH2019:  4.6 [-43%]
DH2019: 4.1 [-27%]
JH2020: 4.2 [-9%]



So, while the result (and the second half, in particular) is not as bad as it appears, it is still a case of earnings being under pressure - some of that pressure being due to cyclical factors (eg. weaker A$ over the past 12-18 months), but a large part of it due to what sounds like fierce competitive pressures.

This can be seen by the adverse trends in Revenue over the past 12 months years, as well as Gross Margin over the past 3 years:




The effect of the toxic combination of declining top line and gross margin (down a full 500bp over the past 3 years), can be seen in the Gross Profit line, down a quarter over the past 18 months:




It is very hard to run a business when faced with that kind of Gross Profit pressure.  

NTD management has done a very good job at partially insulating the bottom line over this period, by reducing fixed cost overheads, but the cost lemon can only be squeezed so much before its juice runs out.

But NTD won't be alone in this experience; all industry players are sure to be experiencing similar pain.
At some point to point of maximum tolerable pain is reached and someone - usually the weakest industry player - can't continue.

That's what I strongly suspect has happened with T4U; they couldn't stand the heat any longer and waved the white flag.

Which is the essence of the investment thesis for NTD: one of industry rationalisation in order to introduce a semblance of pricing discipline - and thereby restore some of the gross margin - across the industry.

To that end, it should not be lost on followers of this story that each 50bp of GP Margin that can be recovered (so recouping just one-tenth of the Gross Margin foregone over the past three years) translates into around $2.3m in additional PBT, based on the expanded $450m Revenue base.

That additional $2.3m is a 30% increase to the current level of PBT.

And if 200bp out of the 500bp of last GP Margin is recovered (not inconceivable), the resultant boost to PBT would be more than a doubling of it.

And none of this makes any provision for how many millions of dollars of duplicated fixed costs will be removed from the much enlarged company.

So conceptually, we have:

-  a $450m Revenue company
-  making $100m in Gross Profits (@ a modest 22% GP Margin),
-  supported by $70m in Fixed Overheads (so post-merger Cost of Doing Business- to-Sales between 15% and 16%, cf. NTD's FY2020 of 17.5%),

which yields a business generating the follows:

~$30m in EBITDA,
~ $20m in EBIT (assuming depreciation based on depreciate-able asset base per pro forma merged balance sheet), and
~PBT close to $20m.

Those financial parameters belong to a business with a much larger market value than NTD's current $65m (and EV of less than $90m).

More like double that market value, I think, if the integration of T4U is executed to plan.

.