Collector's Universe (CLCT) provides authentication and grading services for rare and modern coins, trading cards, and autographed memorabilia. The company's experts examine and assign a grade to items ("PCGS" for coins, "PSA" for trading cards, and "PSA/DNA" for autographs). This grade allows the item to be sold or auctioned with its authenticity and quality assured by professional and respected experts - allowing even on-line, "site unseen" transactions to be executed with confidence. In return, Collector's Universe receives a fee for their services. In 2012, the average fee per item was $11.64, although fees can range from $5 to $600 depending on the type of item and the turnaround time required by the customer.
Last year, roughly 60% of CLCT's graded items were coins, 30% were trading cards (mostly baseball cards), and 10% were autographed memorabilia. Coins alone account for 66% of revenue.
The company has handled some pretty cool items, ranging from Mark McGwire's 70th home run ball, to Babe Ruth's bat used to hit the first home run at (old) Yankee Stadium, to a 1794 Flowing Hair Silver Dollar, which sold for a record $7.9 million at auction!
Certainly there are some intriguing investment aspects of this tiny ($90 million) company. First, this is a pure niche play, something I love in mini-cap stocks. Collectibles authentication is a very small market - CLCT faces no more than 1 or 2 competitors in each of its 3 item categories. Additionally, its grade marks are widely recognized and accepted as trusted and consistent brands. Finally, there are some barriers to entry here, as experienced graders are in short supply. Overall, I would characterize competitive advantages as better-than-average, especially for such a small firm.
There is some growth potential. CLCT is expanding operations into Asia, aiming to grade Asian collectibles, primarily coins. The company attended its first Asian trade show in Hong Kong this past year. E-commerce solutions, primarily the management of Certified Coin Exchange, an online trading and information portal for collectibles, is another initiative.
Financial performance has also been strong. Since (now former) CEO Mike McConnell took over in 2009, CLCT's margins improved from under 10% to nearly 20%, on top of steady 10% compound annual increases in revenue from 2010-12. This led to a more-than-tripling of operating profits. Free cash flows have scaled closely along. The balance sheet is a rock, with over $20 million in cash and no debt.
All of this makes the stock's primary attraction - a 11.3% dividend yield - a good proposition. This yield does strain free cash flows, representing a 100% payout ratio. As a result, I don't expect it to be raised soon, but the balance sheet gives enough support to prevent it from being cut, also.
At present, the stock is selling at a EBIT/EV earnings yield of 12.5%, far above its five year average of 8.5%. What gives?
A few things. First and foremost, modern coin submissions - about a quarter of revenue - have been dropping precipitously for the past 2 quarters. They dropped 31% in Q4 (ended June), andpreliminary Q1 results indicate another 11% year-over-year drop in revenue. These drops strain the firm's mostly fixed cost structure, eating into margins. Collectibles volume, including modern coins, is dependent on overall economic strength, as well as ebbs and flows in interest. If this weakness continues, CLCT could see operating income fall 30% in fiscal 2013.
The second headline risk is management turnover. The company recently hired new CEO Bob Deuster. He has no particular experience in the field of collectibles, although he was successful during a CEO stint at Newport (NEWP). We have little idea as of yet how well Deuster will fit into the role.
MagicDiligence's opinion on Collector's Universe is a bit nuanced. I believe it makes a decent choice, especially for income investors. The 11% yield should be stable. Coin volumes will always be lumpy, and the company has already moved to cut some cost to protect margins. Revenue performance will largely be a function of U.S. economic confidence, although the Asian initiative could show some legs, especially if Deuster goes after it hard.
On the other hand, my model shows that the company is likely only worth something in the $12-15 range. While that does represent some upside from current, mid-$11 prices, it is not a substantial margin of safety. While I'll give it the "positive" rating, there still look like other opportunities with more upside in the Magic Formula® screens, at present.