Off-The-Beaten-Track Investing: French Micro-Caps (Sapmer, Envea, DLSI)

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About: DLSI, Forbach (DLSIF)
by: Silver Coast Research
Summary

Despite the strong run-up in equity prices around the world, there are still pockets of value.

Micro-cap stocks tend to fly under the radar, but some of them can be very profitable in their niche markets.

In this article, I discuss three French companies that I hold in my personal portfolio: Sapmer, Envea and DLSI.

The stock-market rally in 2019 has made it more difficult to find attractive value propositions. However, for investors willing to venture off the beaten path, I believe opportunities can be found in international small-cap and micro-cap stocks. Since they are not included in major indexes, many of these stocks are yet to fully rebound after a tough 2018 which saw their share price plummet. Among the babies thrown out with the bathwater were some solid businesses now trading at attractive valuations.

The three stocks we will discuss here, as an illustration, are French companies that trade primarily on the Euronext Paris stock-exchange. Investors interested in these names should place limit orders only as there is very little liquidity.

Sapmer

Ticker: ALMER:FP (Euronext Paris)

Market cap: €77m ($86m)

Activity

Sapmer (website HERE) is a fishing operator based on the French island of La Réunion. It operates in the Indian Ocean where it fishes for Yellowfin and Skipjack tuna, and in the cold waters of the French Antarctic Territories, where the focus is on premium products such as Patagonian toothfish and rock lobster.

SAPMER rock lobster Sapmer's rock lobster with parsley. Source: Sapmer's website

Though fishing remains the main activity, Sapmer has been developing the downstream part of the business, producing its own brand of canned tuna and various value-added products. According to the FY 2018 press release, Asia accounted for 47% of Sapmer's sales last year, the Indian Ocean region was next with 27%, and Europe was third with 19%. The growing weight of Asia, where demand for fine seafood is on the rise, bodes well for the company's prospects (see below).

Investment thesis

Although it might sound audacious to compare toothfish and rock lobster with cosmetics and haute couture, I consider that Sapmer's prospects are underpinned by the same macro trends that support the likes of L'Oreal (OTCPK:LRLCF, OTCPK:LRLCY), LVMH (OTCPK:LVMHF, OTCPK:LVMUY) and Kering (OTCPK:PPRUF, OTCPK:PPRUY). The emerging middle class, in China in particular, is a new source of demand for quality seafood, and Sapmer is poised to capitalize thanks to its distribution network in the likes of Shanghai and Hong Kong. Add to that the growing appetite worldwide for healthy food and sushi, and you get a rather positive outlook on the demand side.

Meanwhile, the supply side is constrained by diminishing fish and seafood stocks as years of intensive fishing take their toll on the world's oceans. All of Sapmer's fisheries operate under quotas, be it tuna, Patagonian toothfish or rock lobster. Though it does cap the volumes that Sapmer can sell, it also keeps competitors at bay, especially in the French Antarctic territories where Sapmer is one of only a handful of fishing companies allowed to operate. This is a solid barrier to entry that protects the company's business.

Valuation

What also makes Sapmer attractive, of course, is its very cheap valuation, especially in light of the prospects discussed above. In 2018, Sapmer achieved Net income of €12.2m ($13.7m) and EBITDA of €26.5m ($29.7m). At the current market cap of €77m, and with €61.5m ($68.9m) in net debt as of Dec '18, Sapmer's P/E ratio is around 6x, and its EV/EBITDA ratio is in the region of 5x. Book value is €82.5m ($92.4m), meaning that Sapmer trades slightly below book value at this point.

Why this undervaluation? Sapmer grew its fleet too quickly in the past, and found itself under financial stress in 2014 and 2015, owing to a high debt load and a scissors effect of low tuna prices and high oil prices at the time. The company has since brought its debt ratios to a much more manageable level (see table below), and is less dependent on raw tuna prices thanks to the value-added segment of the business.

Sapmer debt ratios Source: 2018 annual report (only available in French at this stage, figures in EUR)

Envea

Ticker: ALTEV:FP (Euronext Paris)

Market cap: €108m ($121m)

Activity

Envea (previously Environnement SA, website HERE) develops and sells analyzers and sampling systems for ambient air quality control. Its instruments measure pollutants, dust, exhaust gas etc, and the company also provides its expertise (in 2018, services accounted for 28.3% of turnover as per the company's financial report). Customers include public authorities, industries, laboratories, research centers. The breakdown of sales shows the weight of Asia in the group's sales, with China and India showing strong momentum.

Envea sales breakdown (Source: 2018 financial report)

Investment thesis

Envea benefits from the tailwinds of increased environmental regulations, not only in developed markets, but also in emerging countries. China has made the war on pollution in its cities a new priority, and others like India and Malaysia are getting increasingly aware of the need to improve air quality. This macro trend will only intensify, in my opinion, requiring more and more measurement instruments such as Envea's.

The company has been doing a great job asserting its presence in growth markets like China and India, while also adding to its range of products through bolt-on acquisitions. In 2018, Envea acquired a German company, Mercury Instruments Analytical Technologies GmbH, which - as the name suggests - provides mercury monitoring solutions.

Valuation

Envea has been showing steady top line growth over the past few years, and, despite a somewhat weaker 2017, net income has shown good progress as well.

Envea financials (Source: Morningstar, figures in EUR)

As per the FY 2018 results announcement, the company ended 2018 with a record order book, which all but guarantees further top line growth in 2019. Given the solid ROIC exhibited by Envea (see below), that growth should translate into a record Net income in 2019. One area to monitor will be working capital, which was a drag on cash flow in 2015 and 2016.

Envea profitability

(Source: Morningstar)

Market cap is currently €108m ($121m), which equates to a P/E ratio of 11x, arguably a very low ratio for a growing company in a supportive industry. The balance sheet is rock-solid with a Net cash position of €3.9m ($4.4m) as of end Dec '18, leaving plenty of room for future bolt-on acquisition. Also of note: Insiders, who already own approximately one third of the company, bought more shares during the market trough in Dec '18 - Jan '19.

DLSI

Ticker: ALDLS:FP (Euronext Paris)

Market cap: €44m ($49m)

Note: the OTC ticker (OTC:DLSIF) has basically no liquidity.

Activity

DLSI Group ("DLSI") is a staffing company with a network of about 70 agencies located in France (for the most part), Luxembourg, Germany, Switzerland and Poland. DLSI offers employment solutions ranging from indefinite-term contracts to fixed-term contracts and temporary employment.

Investment thesis

There's nothing spectacular about DLSI's business, but it is a well-run company which has been growing steadily over the years. The CEO and founder, Raymond Doudot, and his family have significant skin in the game as they own about two thirds of the company.

Due to fears of a European recession, DLSI lost more than a third of its market cap in 2018. While there's no denying that the staffing industry is cyclical, DLSI has established itself in several niches such as nuclear power in France, which are not that sensitive to the state of the economy. At its current valuation (see below), DLSI is priced for a severe recession, and I consider the risk/reward setup very attractive at this stage. The company started 2019 on the right foot, with a solid Q1 '19 marked by a 3.8% increase in revenue.

Small acquisitions are also being contemplated, as in previous years: "The Group is confident about its prospects for growth in 2019 and is ready to look at opportunities for external growth" (FY 2018 earnings release). With a gearing of only 18%, DLSI has the financial flexibility to fund such acquisitions. At some point, there's also a chance that DLSI itself could become an acquisition target for larger players such as Groupe CRIT and Synergie.

Valuation

DLSI's steady growth over the past few years culminated in €7.2m ($8.1m) in Net income in 2018. Given the current market cap of €44m ($49m), this translates into a 6.1x P/E ratio. With EBITDA of €8.2m ($9.2m) and only €8.5m ($9.5m) in net debt, the EV/EBITDA ratio was 6.5x. The current market cap is slightly below the book value of €47.4m ($53.1m).

DLSI financials (Source: Morningstar, figures in EUR)

DLSI has guided for consolidated revenue of €240M for FY 2019, an increase of 4.3% on 2018. The stock market could remain skeptical (or asleep) for a long time, but with stocks like DLSI, I'm not so much after quick share price appreciation. An earnings yield in excess of 15% and a dividend yield of close to 6% (€1/share) are fine with me for the time being.

Takeaway

I am well aware that international micro-cap stocks may not be for everyone, but I am also firmly convinced that investors can boost their returns by venturing off the beaten track. The key is to pick companies that are reasonably valued, conservatively managed, preferably by executives that have skin in the game, and located in jurisdictions where the risk of accounting fraud is low (which is the case of these French companies).

Don't hesitate to share your thoughts, and, possibly, your own international micro-cap ideas in the comments section. If you enjoyed this article and wish to receive updates and coverage of other micro-cap stocks (among other things), you can click "Follow" next to my name at the top of this article.

Disclosure: I am/we are long DLSI, SAPMER, ENVEA, LVMH. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The opinions and views expressed in this article are for information purposes only and should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation to buy, sell or hold any security, investment strategy or market sector.