All that glitters

 

The electrical appliance retailler AO has just completed its first year as a listed company. At the time of its stock market debut the company was worth £1.2 billion.

 

A year later underlying earnings of £16.5 million compared to predictions of £18.6 to £21 million saw the share price fall to 192 pence half the value of the float euphoria.

 

It is obvious that any company about to float must by definition be bullish about its prospects. There is a growing trend of companies coming to the market whose history suggests that there is no basis for concluding that they will ever make money.

 

That’s the stock in trade for a company about to float whilst losing money. If it were making a profit before its IPO, it would be harder to make bullish forecasts about how much profit the company will generate in the future.

 

Ironically for a company losing money, the sky’s the limit when it comes to predicting how bright its future revenues will be.

 

In tandem with the ability to forecast a spectacularly profitable future is the functioning of one of the market’s most basic laws: momentum. In other words powered by its own performance a stock that is gaining value up will continue to appreciate in value just because it is going up.

 

More specifically, when there is no real positive cash flows on which to value a stock, its price will rise because investors who do not own the shares will want to climb aboard the bandwagon rather than miss out.

 

This wave of “new buying” can help to drive up the shares further, which will attract a new investment creating a dangerous bubble.

 

It would probably be a more prudent strategy to avoid the money-losing IPOs and invest in companies who are making a profit before they try and float their shares. 

 

However forecasting the price of stocks remains an inexact science and unfortunately for the investor there is as yet no failsafe basis on which to explain why stocks go up and down.

 

The real price of cheap food

In a market where prices are squeezed to the absolute and in order to protect margins suspect practices and questionable ethics will inevitably come to the fore.

 

The current economic reality will continue to underpin the demand for cheap food but in satisfying this demand there is a price to pay.

 

The combined effect of the recession, the growth in online retailing and the increased market share of discounters such as LIDL and ALDI has shaken the likes of Tesco, Sainsbury and Morrison’s. For supermarkets focussing on market share food prices must be kept down, at all costs.

 

But in the case of farming it is such a long cycle and there is little account taken of retrospective costs for the producer.

 

The latest casualty is the UK dairy industry. Global milk prices have fallen 50% in the past year to an 8 year low. The NFU said in December that the number of UK dairy farmers had dipped below 10,000 for the first time - a 50% fall since 2001.This reflects the worsening conditions for producers some of whom are currently faced with accepting a price of 22 pence per litre of milk versus a production cost of 28 pence.

Looking back 25 years ago, British people spent about 22% of their disposable income on food .In 2015 the spend is roughly between 4 and 8%, so food has actually become cheaper.

 

The reality is that the 'bog-offs' - the buy-one-get-one-free deals are not actually sponsored by supermarkets. They are paid for by the producer who has to agree to them under tight terms and conditions. It has recently been reported that LIDL has introduced payment terms of 120 days for its UK suppliers.

 

With margins of the big supermarkets falling from 5% to nearer 3% producers will be expected to absorb more of the pain.

 

 

Don’t say you weren’t warned

 

Monitoring counter party risk is the key to maintaining a healthy business.

In the majority of failing companies the distress signals were plainly visible for some time before the flame out.

Any analysis of a company’s published accounts or even monthly management accounts are by definition “out of date”.

It is vitally important that all counter parties are monitored closely and “real time”.

In the case of customers look out for unusual ordering patterns, repeated delays in payments – these are early indicators of more serious problems ahead.

For any organisation facing mounting problems it is obvious that the solutions will of necessity be painful. However, radical and decisive surgery is often the only way to ensure a patient’s survival.

Many companies adopt the Mr Micawber attitude that “something will turn up”.  For many of these organisations the only people likely to turn up are the administrators/liquidators.

Be it merely inertia or fear of addressing the issue, the outcome will remain the same.

 

Keeping ahead of the game

 

Managing a business is a complex affair – it has been likened to playing 3 D chess.



Particularly for the owners of SME’s it has never been harder to keep track of the various elements which are buffeting the business.



Now might be an appropriate time to run a check over those areas of the business most likely to cause problems in the coming months.

 

Is the company’s business model relevant and fit for purpose? Is stock turn satisfactory? Is the debtors book giving any cause for concern?



It is a self evident truth that many a crisis could have been averted by timely intervention.

 

This is where an independent appraisal can identify areas of potential concern but more importantly the ways and means by which to address them.



The question that needs to be answered initially is – are we positioned securely?

Caution is the watchword

 

All businesses operating in today’s climate need to have constant and rigorous focus on their commercial exposure.


Operating in the current competitive background it is very difficult to contemplate turning away business especially from a customer of long standing.


However, there are times when subsequent events show that on occasion the best business decision was to leave it to your competitors.

 

There is little merit in vying for “prestige” business if it does not allow for an acceptable commercial return.

 
At the same time when stricter controls are in place over such elements as payment terms and credit limits the result is likely to be a reduction in turnover.


The upside of such fiscal discipline carries its own rewards. Avoiding defaults by customers is the surest way to protect the company’s bottom line at a time when profits are hard won and losses easy to establish.

 

Finding the philosopher’s stone

 

In trying to improve profitability, there are 2 obvious strategies, cut operating costs whilst increasing revenue.

 

The sales director only has one shot in his/her armoury namely increase sales. Sales targets can always be raised but a sense of commercial realism also needs to be applied.



If you are marketing a totally unique product or service the task is easier but for the most part there are many companies offering a similar range of products in a broadly similar price range.



As such for most companies it is about getting back to the basics – ensuring orders are processed efficiently and in a timely fashion. Following up on customer satisfaction, in short providing what in old fashioned terms was called “service”.



This is where a difficult balancing act comes into play, in cutting costs the net result is very often a reduced and demoralised workforce.

 

If those involved in the support work aren’t performing then results inevitably suffer. It is a question of striking the correct balance.

 

Avoid damaging supplier relationships

 

The most important component in any business relationship is the question of trust.  

 

The ultimate demonstration of trust and good faith is when a supplier delivers goods to a customer on credit terms.

  

It therefore is incumbent on the buyer that they acknowledge this act of trust and observe the agreed payment terms. 

 

With the current pressures it is easy to understand the temptation of “pinching” a few days extra credit but this type of behaviour soon begins to  pall.

 

Once a supplier feels that their buyer is taking undue advantage the relationship is damaged sometimes irreparably.  

 

For any relationship to be sustained there has to be mutual benefit.

 

When a buyer gains a reputation for persistently crossing the line the merit in maintaining the account is called into question.