The Quarto Group
The Quarto Group |
40 years young |
Final results |
Media |
21 March 2016 |
Share price performance
Business description
Next events
Analysts
The Quarto Group, Inc. is a research client of Edison Investment Research Limited |
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At the start of its 41st year of operations, Quarto delivered a strong FY15 performance, as indicated by January’s pre-close update. Revenue and margin were both ahead, there was notable progress on debt reduction and a step-up in the dividend. With the activists off the share register as of November 2015 (their shares placed with a spread of institutional funds), the board structure is also now being normalised, with two independent non-executive appointments (one to take the chair). Investment in content, talent, sales and marketing and systems underpin the growth now coming through, with acquisitions likely to supplement organic progress.
Year end |
Revenue ($m) |
PBT* |
EPS* |
DPS |
P/E |
Yield |
12/14 |
171.3 |
11.9 |
44.1 |
13.7 |
8.4 |
3.7 |
12/15 |
182.2 |
14.1 |
49.5 |
14.5 |
7.5 |
3.9 |
12/16e |
187.0 |
15.0 |
53.1 |
15.3 |
7.0 |
4.1 |
12/17e |
192.5 |
15.8 |
55.4 |
15.8 |
6.7 |
4.3 |
Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.
Children’s list delivers on promise
The group is effectively a portfolio of portfolios and there is an inevitable divergence between performances of the underlying elements. Children’s books were identified as a particular target for investment by CEO Marcus Leaver, who joined the group in 2012. This has been paying off handsomely, with the children’s offer now making up 22% of publishing revenues. The FY15 numbers also benefited from the fashion for colouring books for adults, which the group’s North American imprints latched on to at an early stage, building on its position in art instruction. The main drag on performance was Books and Gifts Direct, the distribution business in Australia and New Zealand, which suffered from the weakness in the local economy and earlier overstocking by the master franchisers, exacerbated by currency translation.
Investing in new titles, building IP for future sales
Quarto has a clear emphasis on producing high-quality books, which then sell over an extended period, giving much higher levels of backlist sales than industry norms – 61.4% in FY15, down slightly from 66.6% in FY14 but ahead in absolute terms. Furthermore, 28% of backlist sales in FY15 were of titles over three years old. The focus on backlist sales has rather overshadowed the scale of the investment in developing new titles ($34.9m in FY15), spread over a very large number of titles and not dependent on any particular imprint, genre or author.
Valuation: Strong performance, discount persists
November’s institutional placing cemented Quarto’s market rehabilitation, which has seen the share price climb by 49% in a year. Achievements in reducing absolute debt levels and the strong performance of acquisitions both reduce earlier potential areas of concern. The possibility of equity issuance for fund purchases may limit full closure of the discount to other smaller publishing companies, trading on an 11.2x FY16e P/E vs 7.0x for Quarto.
FY16 revised up, FY17 forecasts published
We have revisited our forecasts in light of the detailed FY15 numbers. While the US numbers undoubtedly saw a boost from the colouring book phenomenon, it would be misleading to suggest that this has distorted the reported figures, as the first books went into production in 2013, with Zentangles, and is likely to morph into some other form of art instruction rather than vanish overnight. FY15 results were modestly ahead of our earlier projections and we have edged our FY16 forecasts upwards, predicated on a top line growth assumption of around 3%. Our new FY17e numbers anticipate a similar rate of progress.
Exhibit 1: Revisions to numbers
EPS (c) |
PBT ($m) |
EBITDA ($m) |
|||||||
Old |
New |
% chg. |
Old |
New |
% chg. |
Old |
New |
% chg. |
|
2015 |
47.6 |
49.8 |
+5 |
13.3 |
14.2 |
+7 |
34.9 |
37.0 |
+6 |
2016e |
51.7 |
53.1 |
+3 |
14.6 |
15.0 |
+3 |
36.3 |
37.9 |
+4 |
2017e |
- |
55.4 |
N/A |
- |
15.8 |
N/A |
- |
38.7 |
N/A |
Source: Company accounts, Edison Investment Research. Note: 2015: Old – Edison estimates; New – reported actuals.
As had been indicated earlier in the year, Quarto’s publishing business has become increasingly second half weighted, although the effect in 2015 was masked by the poorer outturn from the distribution business, Books and Gifts Direct. The three publishing divisions, between them generating 80% of group revenues, are now approximately weighted one-third: two-thirds between the half-years. Operating profits are even more heavily skewed to the second half.
Exhibit 2: Half year breakdown and forecasts
Year to December ($000s) |
H114 |
H214 |
2014 |
H115 |
H215 |
2015 |
2016e |
2017e |
Quarto Publishing US |
26,957 |
37,101 |
64,058 |
27,234 |
45,207 |
72,441 |
74,000 |
76,467 |
Quarto Publishing UK |
7,624 |
13,853 |
21,477 |
7,582 |
15,183 |
22,765 |
23,500 |
24,350 |
Quarto Intl Co-Ed |
12,645 |
30,031 |
42,676 |
15,106 |
35,041 |
50,147 |
51,850 |
53,146 |
Books & Gifts Direct ANZ |
11,814 |
19,356 |
31,170 |
8,875 |
13,185 |
22,060 |
22,250 |
22,584 |
Quarto Hong Kong |
6,526 |
6,737 |
13,263 |
7,417 |
7,335 |
14,752 |
15,400 |
15,930 |
Total revenue |
65,566 |
107,078 |
172,644 |
66,214 |
107,078 |
182,165 |
187,000 |
192,477 |
Normalised operating profit |
|
|
|
|
|
|
|
|
Quarto Publishing US |
2,188 |
4,448 |
6,636 |
1,812 |
7,072 |
8,884 |
9,028 |
9,176 |
Quarto Publishing UK |
329 |
2,770 |
3,099 |
293 |
3,009 |
3,302 |
3,396 |
3,555 |
Quarto Intl Co-Ed |
737 |
5,326 |
6,063 |
-1,110 |
7,461 |
6,351 |
6,533 |
6,696 |
Books & Gifts Direct ANZ |
585 |
2,382 |
2,967 |
413 |
1,200 |
1,613 |
1,780 |
1,863 |
Quarto Hong Kong |
623 |
489 |
1112 |
799 |
688 |
1,487 |
1,448 |
1,474 |
Total operating profit |
4,462 |
15,415 |
19,877 |
2,207 |
19,430 |
21,637 |
22,184 |
22,764 |
Corporate expenses |
-2,079 |
-2,405 |
-4,484 |
-1,984 |
-2,405 |
-4,431 |
-4,200 |
-4,250 |
Norm op profit (post amort prod'n costs) |
2,383 |
13,010 |
15,393 |
2,383 |
17,025 |
17,206 |
17,984 |
18,514 |
Operating margin |
|
|
|
|
|
|
|
|
Quarto Publishing US |
8.12% |
11.99% |
10.36% |
6.65% |
15.64% |
12.26% |
12.20% |
12.00% |
Quarto Publishing UK |
4.32% |
20.00% |
14.43% |
3.86% |
19.82% |
14.50% |
14.45% |
14.60% |
Quarto Intl Co-Ed |
5.83% |
17.74% |
14.21% |
-7.35% |
21.29% |
12.66% |
12.60% |
12.60% |
Books & Gifts Direct ANZ |
4.95% |
12.31% |
9.52% |
4.65% |
9.10% |
7.31% |
8.00% |
8.25% |
Quarto Hong Kong |
9.55% |
7.26% |
8.38% |
10.77% |
9.38% |
10.08% |
9.40% |
9.25% |
Net interest |
-1,638 |
-1,619 |
-3,257 |
-1,322 |
-1,776 |
-3,257 |
-2,984 |
-2,714 |
Pre-tax pre-goodwill & exceps |
745 |
11,391 |
12,136 |
1,061 |
15,249 |
13,949 |
15,000 |
15,800 |
Source: Edison Investment Research, company accounts
This seasonality should not be taken to imply that the group does not have visibility on its forward sales. It also has a clear idea on the commerciality of each title before it proceeds to print. Frontlist sales will reflect a multiple of prior year intellectual property spend, on a (product efficiency) ratio which has steadily improved over the last four years from 1.02x in 2012 up to 1.34x in the year just reported. Backlist sales have been running consistently in the $85-89m over the last three years, but should tick up in FY16 as the higher frontlist titles move across to the backlist.
Corporate changes signal next phase
The shift around in the share register as the activists have moved on was sorted with a placing into the hands of institutional shareholders, as described in our note of November 2015. The sequence of changes at board level was completed with the changes announced alongside the final results. Tim Chadwick, who was brought in as Chairman in 2012, and Christopher Mills, who represented the previous activist shareholders, will both leave the board at the AGM in May. The new chairman designate is Peter Read, formerly chairman of KPMG’s TMT practice. The other new non-executive is Marie Louise Windeler, who, like Peter Read, holds a number of non-executive positions and who was CEO of Hill & Knowlton. There are two other non-executive directors on the board, along with the CEO and CFO. Having looked extensively into moving the registration from the US state of Delaware, the costs of doing so, in money and in management time, rule out doing so.
Operational progress continues
Through all the changes, Quarto’s publishing businesses have concentrated on their core function: publishing books that are beautiful, useful or both. More recently, the management focus has been on building the platforms and infrastructures that enable the publishing imprints to sell more smartly. This has involved investing in financial and publishing systems, the www.Quartoknows.com website (which incorporates an ecommerce facility), and leveraging spend on common needs such as print.
The drive to build sales in the children’s category has been very successful, with both organic and acquisitional activity producing strong sales growth, with the category making up 22% of FY15 publishing revenues. Of the eight imprints, three were in-house (including the Frances Lincoln imprint, which has been reinvigorated), three have been start-ups and two, acquisitions. Two new children’s imprints are being launched in the US, but there is a strong appetite to grow the US children’s offer more rapidly, ie by acquisition. Wide-Eyed Editions, within Quarto Publishing UK, was launched in 2104 and has been particularly successful with its over-sized, beautifully illustrated and informative children’s titles. It generated $2.3m of sales in its second year of operation.
While the pay down of the debt remains a key objective, it is not an imperative that has to be pursued ahead of taking other opportunities. Last year’s buy of Ivy Press (for £1.5m including debt, February 2015) has been far more positive than anticipated, contributing revenues of $8.2m and operating profit of $1.9m to the International Co-Editions (and group) numbers. This should provide a degree of comfort to the market that Quarto is unlikely to get caught up in any bidding wars for larger assets. It also has no ambition to take on imprints which need extensive resource to optimise, either in cash or in management time. Our model assumes no further substantive transactions and cash conversion of a little over 100% (FY15 was unusually high at 114%), resulting in a reduction of around $6m in the debt position. Although the debt level is still high, the multiple to EBITDA reduced from 4.9x in FY12 to 3.2x for FY15, with all covenants easily met. Managing the debt position has been done without compromise on investment in intellectual property, the lifeblood of the business, or in the systems to optimise the sales and marketing effort. The dividend (now declared in US$) has also been increased to reflect the good financial performance, giving an above-market and sector yield.
Exhibit 3: Financial summary
Year end 31 December |
|
|
2013 |
2014 |
2015 |
2016e |
2017e |
Accounting basis |
|
|
IFRS |
IFRS |
IFRS |
IFRS |
IFRS |
PROFIT & LOSS |
|
|
|
|
|
|
|
Revenue |
|
|
176,318 |
171,339 |
182,165 |
187,000 |
192,477 |
Cost of sales |
(111,807) |
(116,326) |
(122,803) |
(126,038) |
(129,730) |
||
Gross profit |
|
|
64,511 |
55,013 |
59,362 |
60,962 |
62,748 |
EBITDA |
|
|
15,418 |
17,025 |
18,395 |
19,174 |
19,704 |
Operating profit (before GW and except) |
|
14,044 |
15,919 |
17,206 |
17,984 |
18,514 |
|
Amortisation of intangibles |
|
|
(434) |
(503) |
(724) |
(724) |
(724) |
Exceptionals |
|
|
(3,405) |
566 |
(445) |
0 |
0 |
Amortisation of pre-production costs |
|
|
(30,099) |
(30,933) |
(33,258) |
(34,128) |
(35,127) |
Operating profit |
|
|
(19,894) |
(14,951) |
(17,221) |
(16,867) |
(17,337) |
Net interest |
|
|
(4,443) |
(3,977) |
(3,098) |
(2,984) |
(2,714) |
Profit before tax (norm) |
|
|
9,601 |
11,942 |
14,108 |
15,000 |
15,800 |
Profit before tax IFRS |
|
|
5,762 |
12,005 |
12,939 |
14,276 |
15,076 |
Tax |
|
|
(1,416) |
(2,922) |
(3,685) |
(4,150) |
(4,480) |
Adjustment to tax for normalised earnings |
|
|
(1,013) |
(16) |
(645) |
0 |
0 |
Minority charge |
|
|
(412) |
(310) |
(388) |
(375) |
(388) |
Profit after tax (norm.) |
|
|
6,760 |
8,696 |
9,778 |
10,475 |
10,932 |
Profit after tax (FRS3) |
|
|
3,934 |
8,773 |
8,866 |
9,751 |
10,208 |
|
|
|
|
|
|
|
|
Average number of shares outstanding (m) |
|
|
19.7 |
19.7 |
19.7 |
19.7 |
19.7 |
EPS - normalised fully diluted (c) |
|
|
37.7 |
44.1 |
49.5 |
53.1 |
55.4 |
EPS - IFRS (c) |
|
|
20.0 |
44.5 |
45.0 |
49.5 |
51.8 |
Dividend per share (c) |
12.3 |
13.7 |
14.5 |
15.3 |
15.8 |
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|
|
|
|
|
|
|
|
EBITDA margin (%) |
|
|
9% |
10% |
10% |
10% |
10% |
Operating margin (before GW and except) (%) |
|
8% |
9% |
9% |
10% |
10% |
|
|
|
|
|
|
|
|
|
BALANCE SHEET |
|
|
|
|
|
|
|
Fixed assets |
|
|
104,557 |
102,416 |
104,433 |
105,148 |
105,174 |
Intangible assets |
|
|
42,358 |
42,025 |
41,622 |
41,648 |
41,674 |
Tangible assets |
|
|
5,978 |
2,857 |
3,368 |
4,500 |
4,500 |
Investment in associates |
|
|
56,221 |
57,534 |
59,443 |
59,000 |
59,000 |
Current assets |
|
|
99,103 |
99,702 |
108,369 |
110,521 |
115,026 |
Intangible assets: pre-publication costs |
|
|
0 |
0 |
0 |
0 |
0 |
Stocks |
|
|
19,181 |
24,851 |
26,147 |
26,841 |
27,627 |
Debtors |
|
|
56,043 |
51,741 |
57,163 |
58,680 |
60,399 |
Cash |
|
|
23,879 |
23,110 |
25,059 |
25,000 |
27,000 |
Current liabilities |
|
|
(70,485) |
(144,919) |
(70,635) |
(73,525) |
(78,690) |
Creditors |
|
|
(53,882) |
(55,769) |
(65,635) |
(68,025) |
(70,690) |
Short-term borrowings |
|
|
(16,603) |
(89,150) |
(5,000) |
(5,500) |
(8,000) |
Long-term liabilities |
|
|
(83,229) |
(6,875) |
(87,127) |
(78,100) |
(70,100) |
Long-term borrowings |
|
|
(78,291) |
0 |
(79,562) |
(73,000) |
(65,000) |
Other long-term liabilities |
|
|
(4,938) |
(6,875) |
(7,565) |
(5,100) |
(5,100) |
Net assets |
|
|
49,946 |
50,324 |
55,040 |
64,044 |
71,410 |
|
|
|
|
|
|
|
|
CASH FLOW |
|
|
|
|
|
|
|
Operating cash flow |
|
|
47,914 |
47,529 |
52,941 |
53,430 |
53,600 |
Net interest |
|
|
(4,701) |
(3,310) |
(2,749) |
(3,152) |
(2,882) |
Tax |
|
|
(2,087) |
(759) |
(1,981) |
(3,801) |
(4,233) |
Capex |
|
|
(28,805) |
(33,018) |
(36,882) |
(36,000) |
(36,000) |
Acquisitions/disposals |
|
|
1,057 |
(2,008) |
(1,614) |
(1,618) |
0 |
Financing |
|
|
14 |
0 |
0 |
0 |
0 |
Dividends |
|
|
(2,427) |
(2,739) |
(2,346) |
(2,857) |
(3,004) |
Other |
|
|
(382) |
0 |
0 |
0 |
19 |
Net cash flow |
|
|
10,583 |
5,695 |
7,369 |
6,003 |
7,500 |
Opening net debt/(cash) |
|
|
80,978 |
71,015 |
66,040 |
59,503 |
53,500 |
HP finance leases initiated |
|
|
0 |
0 |
0 |
0 |
0 |
Loans acquired with acquisitions |
|
|
0 |
0 |
0 |
0 |
0 |
Translation differences |
|
|
(620) |
(720) |
(832) |
0 |
0 |
Closing net debt/(cash) |
|
|
71,015 |
66,040 |
59,503 |
53,500 |
46,000 |
Source: Company accounts, Edison Investment Research
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