WPP - HYP candidate evaluation

[EssDeeAitch]

EssDeeAitch

AP889 wrote:

"I don’t want to teach anyone to suck eggs here, but WPP has effectively no asset-backing for the share price, it is a cattle built in the air: look here:"

Has that left you on the horns of a dilemma?

I now realise that it's a cow of a share

[Bouleversee]

He could be talking b...…., of course

[Gengulphus]

WPP fails the most basic test of a sound balance sheet: huge negative NTAV.
...

You raise a very serious point and one that I had missed and it seems, others who responded to my OP, or, they did not consider this to be a problem. Well, the stock has been added to my HYP so no use crying over spilt milk now, if any has indeed been spilt. But thanks for the note as intangibles is something else to add to the screening process.

Before you do that, take a look at the other companies you have in your HYP, the others that you're considering, and any other particularly popular shares around here to see what their NTAVs are. To name one, Imperial Brands' 2017 annual report gives NAV = £6,226m, intangibles = £19,763m, resulting in NTAV = -£13,537m... This is nothing new - for instance, the corresponding figures from the 2006 annual report (the furthest back I've got)were NAV = £598m, intangibles = £3,910m, NTAV = -£3,312m.

Also take a look at other classes of asset. Some (particularly cash and property) are fairly-to-very certain to be worth their book values; others (e.g. plant & equipment) are pretty unlikely to have a sale value that's anything like as much as book value - indeed, some might find no buyers and cost more to take away than their scrap is worth, making their 'sale value' effectively negative. I.e. goodwill and other intangibles are by no means the only 'mad cows' on balance sheets... :-)

Then basically think about how important you regard net (tangible) asset value checks as being in your HYP criteria. I personally regard them as being of some relevance, but a minor factor rather than a major one. In particular, net (tangible) asset value is a not-very-good (and generally over-optimistic, though there are exceptions) estimate of what the company would be worth if wound up. But for an LTBH strategy like HYP, the company being wound up means that the holding has basically already failed at its main objective of providing me with a growing income - so the major factors are those that indicate (comparative) safety from having to be wound up. So for instance, I regard checks on a company's net debt as a lot more important than checks on its net (tangible) asset value - which doesn't mean that I regard the latter as totally unimportant, just that they'll rarely (if ever) be enough on their own to tell me that I'm not interested.

Not saying that my answer is the right one for you - just that it's worth thinking about. In particular, the fact that a failed company like Carillion had a particular combination of features in its accounts doesn't on its own say that that combination is a danger signal: one needs to look at a good sized sample of companies to see whether each has that combination, and whether on average the ones that do have the combination do appreciably worse than the ones that don't.

Gengulphus

[Walrus]

WPP fails the most basic test of a sound balance sheet: huge negative NTAV.
...

You raise a very serious point and one that I had missed and it seems, others who responded to my OP, or, they did not consider this to be a problem. Well, the stock has been added to my HYP so no use crying over spilt milk now, if any has indeed been spilt. But thanks for the note as intangibles is something else to add to the screening process.

Before you do that, take a look at the other companies you have in your HYP, the others that you're considering, and any other particularly popular shares around here to see what their NTAVs are. To name one, Imperial Brands' 2017 annual report gives NAV = £6,226m, intangibles = £19,763m, resulting in NTAV = -£13,537m... This is nothing new - for instance, the corresponding figures from the 2006 annual report (the furthest back I've got)were NAV = £598m, intangibles = £3,910m, NTAV = -£3,312m.

Also take a look at other classes of asset. Some (particularly cash and property) are fairly-to-very certain to be worth their book values; others (e.g. plant & equipment) are pretty unlikely to have a sale value that's anything like as much as book value - indeed, some might find no buyers and cost more to take away than their scrap is worth, making their 'sale value' effectively negative. I.e. goodwill and other intangibles are by no means the only 'mad cows' on balance sheets... :-)

Then basically think about how important you regard net (tangible) asset value checks as being in your HYP criteria. I personally regard them as being of some relevance, but a minor factor rather than a major one. In particular, net (tangible) asset value is a not-very-good (and generally over-optimistic, though there are exceptions) estimate of what the company would be worth if wound up. But for an LTBH strategy like HYP, the company being wound up means that the holding has basically already failed at its main objective of providing me with a growing income - so the major factors are those that indicate (comparative) safety from having to be wound up. So for instance, I regard checks on a company's net debt as a lot more important than checks on its net (tangible) asset value - which doesn't mean that I regard the latter as totally unimportant, just that they'll rarely (if ever) be enough on their own to tell me that I'm not interested.

Not saying that my answer is the right one for you - just that it's worth thinking about. In particular, the fact that a failed company like Carillion had a particular combination of features in its accounts doesn't on its own say that that combination is a danger signal: one needs to look at a good sized sample of companies to see whether each has that combination, and whether on average the ones that do have the combination do appreciably worse than the ones that don't.

Gengulphus

Whilst a lot of what you say makes sense, I guess for me the real question would be what intangibles do I think WPP have. I personally struggle to see what moat it has, I guess it's relationships and expertise is what you are left with?

The tobbacco shares clearly have brands and supply chains, I see nothing that would make me think WPP will survive in it's present form 10 years from now.

For instance if Sorrell set up a competitor what would happen then. Struggle to see how this is a Doris share I really do

[Bouleversee]

I agree with Geng. to an extent and I should think that those NTAV limitations apply to most if not all advertising agencies but I thought Sorrell had already set up in competition and was wondering how many of those relationships and how much of that expertise might transfer over. Am not quite a Doris but find balance sheets very difficult to understand. On the whole, I'd pass on WPP till things become clearer as to customer and staff loyalties.

Having said that, I am finding it very difficult to come up with any company which doesn't have some sort of question mark over it at the moment in the HYP class.

[Walrus]

I agree with Geng. to an extent and I should think that those NTAV limitations apply to most if not all advertising agencies but I thought Sorrell had already set up in competition and was wondering how many of those relationships and how much of that expertise might transfer over. Am not quite a Doris but find balance sheets very difficult to understand. On the whole, I'd pass on WPP till things become clearer as to customer and staff loyalties.

Having said that, I am finding it very difficult to come up with any company which doesn't have some sort of question mark over it at the moment in the HYP class.

I'd be interested to know what type of yields were available historically on HYP shares above the risk free rate. Surely yields of 6-8 percent and single digit pes in a low yield environment is telling us that these shares are indeed 'higher risk' and we are gambling on the market being wrong.....

[monabri]

S4 Capital ( MS' new venture) are not exactly ' flying' ....dropping 8% in s.p. in less than a month. The market cap of S4 is listed as £320m ....which I find difficult to believe ( how do you value a new company with no pedigree other than MS in charge?)

If (if!) S4 look to be a threat, WPP might go hostile and make a bid. I believe they are maintaining a watching brief ( well, that'd be natural as they are a competitor).

I would question though, after a lifetime in the business and at 73, has he got the drive and stamina of his youth?

[IanTHughes]

Is that what Doris wants?

Doris might have owned this from year's ago. Then what would she do now?

Collect the dividends?


Ian

[Bouleversee]

Is that what Doris wants?

Doris might have owned this from year's ago. Then what would she do now?

Collect the dividends?


Ian

Quite so. How I envy Doris. She had the right idea: "Apres moi le deluge".

[tjh290633]

I'd be interested to know what type of yields were available historically on HYP shares above the risk free rate. Surely yields of 6-8 percent and single digit pes in a low yield environment is telling us that these shares are indeed 'higher risk' and we are gambling on the market being wrong.....

Name your date and the "risk free rate" at that date.

TJH

[Walrus]

I'd be interested to know what type of yields were available historically on HYP shares above the risk free rate. Surely yields of 6-8 percent and single digit pes in a low yield environment is telling us that these shares are indeed 'higher risk' and we are gambling on the market being wrong.....

Name your date and the "risk free rate" at that date.

TJH

I would have said 10 years but coincides with the banking crash. let's go 15 years. Somewhere between 3 and 5 percent wiuld appear fair.

[Wizard]

...I would question though, after a lifetime in the business and at 73, has he got the drive and stamina of his youth?

Given the rumours about why he quit it would seem he may have

[Gengulphus]

Whilst a lot of what you say makes sense, I guess for me the real question would be what intangibles do I think WPP have. I personally struggle to see what moat it has, I guess it's relationships and expertise is what you are left with?

The tobbacco shares clearly have brands and supply chains, I see nothing that would make me think WPP will survive in it's present form 10 years from now.

For instance if Sorrell set up a competitor what would happen then. Struggle to see how this is a Doris share I really do

To clarify: What I said was in response to the comment of EssDeeAitch's that I've emboldened in the quote below:

You raise a very serious point and one that I had missed and it seems, others who responded to my OP, or, they did not consider this to be a problem. Well, the stock has been added to my HYP so no use crying over spilt milk now, if any has indeed been spilt. But thanks for the note as intangibles is something else to add to the screening process.

Before you do that, take a look ...

I.e. it was mostly about the general idea of making intangibles part of the screening process. Taken literally, I certainly wouldn't do that - i.e. I wouldn't make them part of the computer screening I use to identify the shares I'll even look at. In the more general sense of whether I would make them part of my subsequent selection of shares to buy from the screening results, maybe - but if so, I'd make it part of a more general look at asset sale values compared with their book values, and I wouldn't make it a major part of it: it's relevant to how well the company can survive getting into trouble (having sellable assets such as property and subsidiaries that are still doing well is very useful!), but it's more important to find companies that won't get into trouble in the first place.

What it wasn't was a look specifically at the sale value of WPP's assets. Goodwill in the general non-accounting sense (i.e. the excess of the value of a subsidiary as a going concern over the value of its identifiable assets) is particularly awkward, not just because if the company is in trouble, some or all of it may be gone, but also because it depends on how interlinked the various subsidiaries and the parent company are financially (the basic principle is that they are protected against each other's liabilities, so a subsidiary may still have considerable value even if its parent is in deep trouble or vice versa, but that can be overridden by inter-company guarantees, and often is) and because accounting goodwill is not even supposed to reflect goodwill in that general sense well. As a result, people who look at the sale value of assets often ignore goodwill, but that's not a "goodwill has no value" judgement. Rather, it's a "valuing goodwill is too hard, so to be conservative, I'll assume it has no sale value" judgement.

I.e. in essence, having a lot of goodwill on the balance sheet as WPP does (*) basically says that the sale value of the assets is very uncertain rather than that it is non-existent. Given that the future of any company is very uncertain, especially in the longer term, I don't regard that as enough of a reason to automatically filter a company out of consideration - just something to take into account when considering buying it.

(*) And Imperial Brands does as well, by the way. The breakdown of its intangibles in its 2017 annual report shows £12,266m goodwill out of £19,763m total intangibles, with the rest mainly in intellectual property (which presumably includes brands) and bits in supply agreements and software. So even taking into account the fact that (as you say) it has brands and supply chains, its net asset value excluding only goodwill is still strongly negative.

Gengulphus

[ayshfm1]

Am not quite a Doris but find balance sheets very difficult to understand..

Indeed, even when they appear OK and you think you understand the position it doesn't always follow you do. I had a look at Patisserie Valerie accounts after it went boom, hoping to learn something and I didn't see anything wrong with them.

[EssDeeAitch]

Whilst a lot of what you say makes sense, I guess for me the real question would be what intangibles do I think WPP have. I personally struggle to see what moat it has, I guess it's relationships and expertise is what you are left with?

The tobbacco shares clearly have brands and supply chains, I see nothing that would make me think WPP will survive in it's present form 10 years from now.

For instance if Sorrell set up a competitor what would happen then. Struggle to see how this is a Doris share I really do

To clarify: What I said was in response to the comment of EssDeeAitch's that I've emboldened in the quote below:

You raise a very serious point and one that I had missed and it seems, others who responded to my OP, or, they did not consider this to be a problem. Well, the stock has been added to my HYP so no use crying over spilt milk now, if any has indeed been spilt. But thanks for the note as intangibles is something else to add to the screening process.

Before you do that, take a look ...

I.e. it was mostly about the general idea of making intangibles part of the screening process. Taken literally, I certainly wouldn't do that - i.e. I wouldn't make them part of the computer screening I use to identify the shares I'll even look at......................

Gengulphus

I used the word "screening" loosly and "evaluation" would have been a better choice or word. Once past the screening process (size, yield, divi growth etc) then one needs to evaluate the general state of the business and I am sure that the value and nature of "intangibles" should be in that mix.

A difficult question to answer is "what weight do I attribute to various screening and evaluation criteria?". Is yield worth double that of EPS growth? What value does Price/Book have compared to ROC (or any number of measures)? Man, this is complicated stuff

[Arborbridge]

(*) And Imperial Brands does as well, by the way. The breakdown of its intangibles in its 2017 annual report shows £12,266m goodwill out of £19,763m total intangibles, with the rest mainly in intellectual property (which presumably includes brands) and bits in supply agreements and software. So even taking into account the fact that (as you say) it has brands and supply chains, its net asset value excluding only goodwill is still strongly negative.

Gengulphus

A startling and interesting point. I seemed to remember someone else on here worrying about several, if not most, of our shares because when viewed through a certain lens they could all be regarded as virtually "bankrupt".

We can over-analyse and rule out almost any share. If one is of that state of mind, it would be wise to vacate the kitchen.


Arb.

[Bouleversee]

Gengulphus wrote:

(*) And Imperial Brands does as well, by the way. The breakdown of its intangibles in its 2017 annual report shows £12,266m goodwill out of £19,763m total intangibles, with the rest mainly in intellectual property (which presumably includes brands) and bits in supply agreements and software. So even taking into account the fact that (as you say) it has brands and supply chains, its net asset value excluding only goodwill is still strongly negative."

I've just submitted a post about this which has disappeared into the ether. Most annoying. I wanted to ask Geng. and others how important that was in the context of their whole accounts and the present climate and share price. I avoided tobacco shares for many years on principle but last Nov. I topped up a small holding I had inherited, rather than selling it, influenced by the yield which has become more important. Not the best time to buy it turned out so am debating whether to add more now; my SKY proceeds are still looking for a home. I see that TMF have just published an article recommending it as a buy and mentioning it is Woodford's largest holding, not that that necessarily means anything. However, logic tells me that it is (rightly) a declining industry. At what point would it make more sense to get out than add?

[tjh290633]

I'd be interested to know what type of yields were available historically on HYP shares above the risk free rate. Surely yields of 6-8 percent and single digit pes in a low yield environment is telling us that these shares are indeed 'higher risk' and we are gambling on the market being wrong.....

Name your date and the "risk free rate" at that date.

TJH

I would have said 10 years but coincides with the banking crash. let's go 15 years. Somewhere between 3 and 5 percent wiuld appear fair.

OK, let's look at 2003. I'll take 09-Apr-2003 as the start of the financial year but I have weekly data through the year. Note that the market was depressed after the dot-com boom of 1999-2000..

I had 9 shares in my PEP with yields in that range, and 8 with yields above 5%.

The nine were:

HBOS 4.68%
NGT 4.40% (National Grid Transco)
BP. 4.22%
MKS 3.95%
CBRY 3.74%
BT.A 3.59%
WTB 3.53%
TSCO 3.45%
IMT 3.41%

the 8 above 5% were:

LLOY 10.33%
PILK 10.01%
BA. 8.36%
SPW 8.06%
PRU 8.02%
ICI 7.73%
BOC 5.29%
HNS 5.16% (Hanson)

There were 3 below 3%:

AZN 2.08%
BG. 1.34%
THUS 0.00%

Looking at 20-Oct-2003, almost exactly 15 years ago, only 4 were above 5%:

LLOY 8.93%
SPW 6.78%
PILK 5.99%
BA. 5.50%

Now 11 lay in your range but now 5 were below 3%:

WTB 2.92%
TSCO 2.68%
AZN 1.83%
BG. 1.25%
THUS 0.00%

The remainder, from NGT at 4.96% to CBRY at 3.35% were in your risk free rate range.

Subsequently SPW, PILK, BOC, ICI, HNS and THUS would be taken over, HBOS was sold to avoid a rights issue, PRU, WTB and BG. were sold because of low yield and CBRY was sold to avoid Dr Pepper. The rest I still hold.

TJH

[Walrus]

Name your date and the "risk free rate" at that date.

TJH

I would have said 10 years but coincides with the banking crash. let's go 15 years. Somewhere between 3 and 5 percent wiuld appear fair.

OK, let's look at 2003. I'll take 09-Apr-2003 as the start of the financial year but I have weekly data through the year. Note that the market was depressed after the dot-com boom of 1999-2000..

I had 9 shares in my PEP with yields in that range, and 8 with yields above 5%.

The nine were:

HBOS 4.68%
NGT 4.40% (National Grid Transco)
BP. 4.22%
MKS 3.95%
CBRY 3.74%
BT.A 3.59%
WTB 3.53%
TSCO 3.45%
IMT 3.41%

the 8 above 5% were:

LLOY 10.33%
PILK 10.01%
BA. 8.36%
SPW 8.06%
PRU 8.02%
ICI 7.73%
BOC 5.29%
HNS 5.16% (Hanson)

There were 3 below 3%:

AZN 2.08%
BG. 1.34%
THUS 0.00%

Looking at 20-Oct-2003, almost exactly 15 years ago, only 4 were above 5%:

LLOY 8.93%
SPW 6.78%
PILK 5.99%
BA. 5.50%

Now 11 lay in your range but now 5 were below 3%:

WTB 2.92%
TSCO 2.68%
AZN 1.83%
BG. 1.25%
THUS 0.00%

The remainder, from NGT at 4.96% to CBRY at 3.35% were in your risk free rate range.

Subsequently SPW, PILK, BOC, ICI, HNS and THUS would be taken over, HBOS was sold to avoid a rights issue, PRU, WTB and BG. were sold because of low yield and CBRY was sold to avoid Dr Pepper. The rest I still hold.

TJH

I find this very interesting. Thank you for going to the effort of pulling the data. I will digest and relay my thoughts later.

[bluedonkey]

WPP is one of those shares of which it can be said that its assets walk out the door every evening.