Godfreys (GFY) – Great Investment, Garbage, or pure Gamble?

Back in my earlier days of investing, this is exactly the kind of stock I used to be attracted to. A previously successful business that is on the brink, investors having all but given up hope, but with the potential to offer huge returns if it somehow pulls out of its nosedive.

These days, I prefer to lean towards quality companies – and I’m not sure Godfreys fits the bill. However, my ‘value investor’ ears still prick up when I hear a company suffering so much. I can’t help but be curious to investigate whether the market is over-reacting in the short term, and is overlooking the longer-term potential value, as often happens when bad news appears.

A good company and a good investment can be two completely different things. Let’s see whether you think Godfreys has any potential as either

16 pound bowling balls!

For any Australian who have purchased a vacuum in their lifetime, you’ll probably have been to a Godfreys store. If not from your own shopping experiences, then surely from the famous TV commercials – the vacuums that can pick up a 16 pound bowling ball!

The company has been around since 1930, and many year later in 2006 was sold to private equity. Another 8 years later in December 2014, the company was listed on the ASX at a share price of $2.87, reaching a peak of $3.61 shortly after.

The prospectus offered the opportunity to be part of a growing business, with 209 stores at December 2014 (222 by late 2017) and an extensive range of company owned and 3rd party branded vacuums.

It also talked about new product development, supply chain efficiencies, and other Fancy corporate initiatives.

So how has the company fared since listing just over 3 years ago?

Today, Godfrey’s shares trade at around… um… $0.30.

Oh dear.

I guess it could be worse for shareholders who bought in on listing – losing 90% of their money to date, instead of 100%…

But let’s focus on the situation today. First – how did things get so bad??

Missing the Stick Craze

On 13 January 2016, just over 2 years ago, Godfreys made a painful announcement to the market. The company’s sales and earnings had started going backwards, driven by – in the company’s words – “poor execution of Company’s response to a key market trend. In particular, a failure to adequately capitalise on the significant market shift away from barrel vacuum cleaners to stickvacs”.

The market for ‘stickvacs’ had grown a whopping 60% in that year, but Godfreys were too slow to catch on and missed riding this wave.

The share price had already started a major slide since September 2015 at around $3.00, and bottomed out around $0.80 around 3 months later. Unfortunately, since this pretty major slip-up, they’ve been trying to play catch-up ever since…

Amazon!

Competition between other retailers hasn’t made things any easier for Godfreys. Other Aussie retailers have been sucking up a bigger share of the vacuum cleaner market.

Compounding this, the retail industry overall has been struggling.

And things seemed to go from bad to worse late last year, when the beast of the retailing jungle announced its entry in to the Australian market – AMAZON!

So will anyone still buy vacuums from Godfreys a few years from now? They do have one potential advantage over the online retail giants – you can walk into a store, and the friendly staff will actually dump some dirt on the floor and demonstrate the vacuums picking up real dirt! (or maybe even a 16 pound bowling ball!)

Is that a compelling enough value proposition?

Drowning in Debt

A business doesn’t often disappear because of a few less customers – more often than not, it’s DEBT that crushes the company and ends its existence.

Debt has been a big issue for Godfreys recently, especially as it’s struggling to generate enough cash from its business to pay down its debt.

Its other ingenious strategy for generating cash has been converting company owned stores to franchises. It collects a few hundred thousand dollars cash upfront from every new franchisee that buys in, as well as receiving ongoing franchise payments. In the 2017 financial year, it converted 22 stores, and received $5.3 million in upfront payments.

But this has come to a screeching halt in 2018. The company stated that it’s because they’re being more ‘careful’ in assessing prospective new franchisees. But I just wonder whether those potential franchisees are starting to be more careful themselves, and stay away from a business that’s in decline? The recent media coverage of Retail Food Group, with the allegations from its franchisees of the terrible treatment they receive, probably hasn’t helped encourage anyone to join a franchise model business in recent months.

The company’s largest shareholder (and previous founder) came to the rescue with a debt refinancing package, with a 3 year term to 2020. Surely this major shareholder doesn’t want to see the company go under?

Value

OK – so it’s bad news all round.

But the big question from an investment perspective is whether the potential value of the business or its assets is more than the current share price. Let’s take a glance at our 4 standard key stats:

1) Dividends

At a glance, that dividend yield of nearly 17% might knock your socks off! But like all things in life, if it looks too good to be true, it probably is.

Dividends have been declining as the company has struggled with cash, and who knows what, if any, dividend the company will choose to pay in 2018. I wouldn’t be betting on a 17% dividend yield 6 months from now….

2) Value

If that dividend yield didn’t knock your socks off, then the implied valuation surely will! Only 2x earnings? That’s as dirt cheap as a stock gets!

But just like the dividend yield, this is based on last years earnings, which was $0.148 per share. If Godfreys only manages to squeeze out earnings of say $0.05 per share, then that P/E ratio will be 6x – and still not cheap enough if earnings keep deteriorating.

3) Assets

The stock is currently trading at an incredible 86% discount to the asset values recorded on its balance sheet.

However, almost all of this value is ‘intangible’ – things like Brands, Franchise Systems, Software and other ‘Goodwill’. And the bad news from Godfreys announcement on 1 February is that around $75 million of this intangible asset value is expected to be ‘impaired’ – i.e. wiped off the balance sheet. Just like that!

Once that happens, Godfreys net assets will be around $7 million – and the price you’re paying for those assets no longer looks so compelling…

4) Debt

No surprise that the debt relative to equity value has sky-rocketed, as Godfreys struggles to cope with repaying this.

So on the surface you might think Godfreys has some potential value – but more likely it’s a classic value trap once you look a little more closely.

Any Potential Positives?

Godfreys has still been squeezing out a positive operating free cash flow, unlike a few other Aussie retailers like Oroton that went bankrupt recently. This is helping it to survive, and slowly pay down its debt. But it’s skating on some pretty thin ice – it won’t take much more bad news for that operating cash flow to dry up.

Directors of the company also bought some shares last year, so perhaps they still have faith in the company. Brendan Fleiter bought 230,000 shares on 5 December 2017 at around $0.44 each, with John Hardy having bought 400,000 earlier last year at around $0.88.

Frankie Fund-worthy?

There seems to be a few elements here that might make it worth a punt – but I think that’s exactly what it is. If Godfreys survives, its stock price could go gangbusters.

For me, this sits firmly in the speculative category, and so unfortunately won’t make the cut into Frankie’s Fund.

However, there are a couple of other businesses in the retail industry that might be compelling enough – one might even make it into the Fund over the next few days…

 

What do you think of Godfreys? Any first-hand experience with the business and its products? Do you think it has a chance at survival? Would this sort of investment make the cut in your portfolio?

 

And remember – nothing on this site reflects a recommendation or any form of investment advice! These are simply considerations for Frankie’s own Fund, which hopefully provide some educational and entertainment value. Please re-read the Disclaimer on the home page if you’re not sure what I mean!

4 Comments

  1. Frankie,
    Agree with your conclusion. I try to stick with more essential goods and services companies for consistent dividend performance. The vac’s look cool, but the stock looks a little sketchy. Tom

    • Frankie

      Hi Tom – yes I don’t think this one will suit your criteria of a steady dividend payer, but I’ll be very interested to see how it plays out… (and yes, those new stick vacs are pretty cool)…

  2. That’s a pass for me too. Definitely doesn’t fit the bill of stable and growing earnings/dividends. Seems more likely to be in structural decline, becoming less relevant over time.

    How’s the liquidity down there at $12m market cap – I’d expect it’s pretty thin. Another risk is being able to get out of an investment if desired.

    • Frankie

      Liquidity is surprisingly not as bad as you might think! The bid-ask spread is usually $0.005 or $0.01, and not too much trouble trading if you’re looking at relatively small parcels.

      In saying that, a Mexican ‘deep value’ fund (with a decent track record) has been building up a decent holding in this stock too – that’s another factor that had me interested…

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