As part of getting to a valuation I did promise adeep dive into the financials. While the 4E provides good information, it isfar from complete. We either need an investor presentation or the annualreport, which will be out in a month. That will probably be when I step through how I get to a valuation of MWR and you can take what you want from that to get your own implied val.
So I can’t do as much as I’d like but I will focuson window dressing, which is prevalent across a lot of businesses from small tolarge caps - this is not illegal btw. If you know what to look for it can help you enormously as therecan be a lot of misdirection from reporting corporate entities.
Anyway, there are three major ways that MWR windowdress their numbers. Again, lots of companies do this – I’m just pointing thisout as I know there are a few of you interested in this sort of stuff.
1. R&D expenses are capitalised and not expensed.Net R&D expenses (after tax concessions) for MWR were 23% of sales in 2020. This ismaterial and is absolutely appropriate. We need the business to bere-investing. But, by capitalising these costs, they get amortised over time.That means that any time the company mentions an EBITDA figure just roll youreyes as it is meaningless and actually understates the true EBITDA figure. Thisis actually quite common for smaller companies that are trying to show thatthey are EBITDA profitable, which could lead to a re-rate. However, the devilis always in the detail. As I’ve mentioned before there is nothing wrong withdoing it the way they are, just be aware of how it impacts profit
2. Options expense for MWR is significant. $2.5m in2020 and $3.4m in 2019. For 2020, this expense was roughly 25% of sales!!! Forall those saying, this is a non-cash expense, please do yourself a favour andgo over MWR’s announcements including today. The share count keeps increasing as employeeshares vest etc. For MWR, to save on cash expenses, they are giving out shares.Now that is actually pretty smart and can reward outperformance for employees,but it needs to be taken ‘above the line’ and not ‘below the line.’ Again, thiswill not fall in MWR’s definition of EBITDA as they exclude this cost, but it isclear that it is a substitute for employee and management remuneration and thatto me is an operating expense
3. Working capital. Hats off toanyone that picked this up. But in FY2020, MWR ran a negative cash conversioncycle. What that means is that their working capital was a source of funds andnot a use of funds. But was it? If you look at the balance sheet and work itout the old fashioned way you would see receivables days of 36.5, inventorydays of 117 and payables days of 191 – yes on average, the financial statementssay that MWR pay their suppliers on terms of 191 days, or call it 6 months. Butis that true? Well of course not! MWR in the 2019 annual report even state thataverage payment terms are 22 days and not 191 days. So clearly there is eithera fortunate or deliberate timing mismatch here that makes the balance sheetlook a lot better on the 30th June (see below).
And as always, GLTAH
