The Quarto Group — Update 10 August 2016

The Quarto Group — Update 10 August 2016

The Quarto Group

Fiona Orford-Williams

Written by

Fiona Orford-Williams

Director, TMT

The Quarto Group

Accretive US expansion

Interims and acquisition

Media

10 August 2016

Price

261.5p

Market cap

£52m

£1:US$1.31

Net debt ($m) at 30 June 2016

72.5

Shares in issue

19.7m

Free float

78.1%

Code

QRT

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

9.0

6.7

20.2

Rel (local)

3.9

(3.7)

18.2

52-week high/low

267.5p

197.5p

Business description

The Quarto Group is the leading global illustrated non-fiction book publisher and distribution group. It sells books across 45 countries and in 35 languages. Founded in 1976, Quarto employs over 400 people.

Next events

Capital Markets Day

13 October 2016

Q3 IMS

Estimated November 2016

Analysts

Fiona Orford-Williams

+44 (0)20 3077 5739

Jane Anscombe

+44 (0)20 3077 5740

Bridie Barrett

+44 (0)20 3077 5700

The Quarto Group is a research client of Edison Investment Research Limited

Quarto’s $9.8m acquisition of the becker&mayer publishing assets is in line with its strategy of expanding in the US and in children’s publishing and should be usefully earnings enhancing in 2017e. Interim results showed positive progress, with revenue up by 8%. We have increased our revenue and profit forecasts to reflect the acquisition (2017e EPS up 4%). The balance sheet continues to strengthen, with H116 net debt reduced by US$8.5m to $72.5m. Despite a strong relative share price performance over the past 12 months, the 2016e P/E is still undemanding at 6.5x.

Year
end

Revenue ($m)

PBT*
($m)

EPS*
(c)

DPS
(c)

P/E
(x)

Yield
(%)

12/14

171.3

11.9

44.1

13.7

7.8

4.0

12/15

182.2

14.1

49.5

14.5

6.9

4.3

12/16e

195.0

15.5

52.3

15.3

6.5

4.5

12/17e

212.5

17.1

57.4

15.8

6.0

4.6

Note: *PBT and diluted EPS are normalised, excluding amortisation of acquired intangibles and exceptional items.

Good interims, business increasingly H2 weighted

The highlight of the H116 results was the strong progress in US publishing (revenue up 17%, normalised operating profit by 39%). As usual, there were some ups and downs elsewhere: the core publishing normalised operating profit increased by $1.2m, but a disappointing result from Books & Gifts Direct contributed to a $0.3m overall decline (to $0.4m). Quarto is heavily second-half weighted, especially at the profits level; with trading reported to be on track and a high level of order book visibility our underlying forecasts (before becker&mayer) are unchanged.

becker&mayer forms new US creative hub

becker&mayer is an excellent strategic fit, increasing Quarto’s US revenues by c 25% (to 45% of 2017e revenues) and its children’s revenues by almost 30%. There is scope to expand it internationally by pushing its titles out through Quarto’s sales and distribution platform. We expect a $0.5m profits contribution in 2016, rising to $1.5m (on $20m of revenues) for the full year 2017. We include the $9.8m consideration loan note in our December 2016e net debt (now $63.6m), but from a cash flow standpoint the payment is spread over two years and Quarto’s underlying business remains on target to pay down debt by c $5-7m a year.

Valuation: Low for a global publishing business

Quarto’s 2016e P/E is only 6.5x (EV/EBITDA 5.9x). This does not seem to adequately reflect its low-risk publishing business model, earnings and dividend progression, debt reduction and valuable backlist. The Capital Markets Day on 13 October will focus in part on recent internal changes made to facilitate driving commercial opportunities (including a new COO and chief creative officer) and should be a positive catalyst for the shares.

Acquisition of becker&mayer and forecast changes

becker&mayer was founded in the 1980s and creates and publishes both adult and children’s titles. Headquartered in Bellevue, WA it will become Quarto’s fifth US creative hub (and is conveniently close to Amazon and Costco’s Seattle offices). Its 2015 revenues were $19.4m, split between book publishing and SmartLab, a book-plus1 and toy business. About 50% of revenues come from children’s titles, a key strategic area of expansion for Quarto (18% of 2015 revenue and up 36% in H116). becker&mayer represents a step change in scale for Quarto’s US operations and we have added $20m to our 2017 Quarto USA revenue forecast (from $76m to $96m).

A book-plus is a book containing special features, packaging or additional products, eg crayon sets.

becker&mayer’s book publishing business made $1.5m of EBITDA in 2015, but SmartLab lost $1.1m because of costs associated with its plastic toys business (ie overall EBITDA was $0.3m). Quarto has discontinued the plastic toys activity immediately. We thus expect a $0.5m overall contribution to profits in 2016 (the seasonally stronger five months) and $1.5m in 2017, when the full benefits of SmartLab loss-elimination should flow through. We expect Quarto to achieve both cost synergies (buying better) and revenue gains (repackaging becker&mayer’s products for more effective international penetration through Quarto’s global network).

Terms of the acquisition

becker&mayer has been acquired for $9.8m plus a working capital adjustment of up to $1.0m. Based on our forecasts, this implies 2016e EV/EBITDA of 6.5x. The $9.8m is being satisfied by an initial $2.3m cash plus $7.5m of non-interest bearing loan notes (repayable in three equal instalments in January and August 2017 and August 2018). There is also deferred contingent cash consideration of up to $1.25m depending on the profitability of SmartLab in 2018 and 2019. The transaction is being financed out of Quarto’s existing $90m multi-currency debt facility (and from becker&mayer cash flows over the next two years).

Changes to forecasts

We have left our underlying full year forecasts unchanged (last published normalised PBT $15.0m). The group’s seasonal bias means that all our forecast PBT arises in the second half. The H116 normalised PBT was a loss of $1.1m (up from H115’s loss of $0.8m) partly due to the disappointing result at Books & Gifts Direct (where a $0.7m profit swung to a $0.4m loss). However, management reports that “trading remains on track, with healthy order book visibility”. For example, based on its current order book, Co-Edition has already achieved 87% of management’s full year revenue plan, and Books & Gifts Direct has a similar percentage under its belt.

Bringing in becker&mayer adds $8.0m to our 2016 revenue estimate (taking it to $195.0m) and $20.0m in 2017 (to $212.5m). Given the staging of the consideration payments and assuming an interest rate of 2.7% (Libor plus 2.6%) means that most of our forecast operating profits increase largely flows through to normalised PBT, up 8.3% in 2017 (the first full year). We have slightly increased our forecast diluted share capital (now 20.7m), which explains a minor reduction in our 2016 EPS estimate, but our estimated 2017 EPS increase is 3.6%.

Exhibit 1: Changes to forecasts

EBIT*

PBT*

EPS (diluted)*

Old

New

% chg.

Old

New

% chg.

Old

New

% chg.

FY16e

17.98

18.48

+2.9

15.00

15.48

+3.2

53.1

52.3

-1.5

FY17e

18.51

20.01

+8.1

15.80

17.11

+8.3

55.4

57.4

+3.6

Source: Edison Investment Research. Note: *Normalised.

Exhibit 2: Financial summary

Year end 31 December

 

US$000s

2014

2015

2016e

2017e

Accounting basis

 

 

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

 

 

 

 

 

 

Revenue

 

 

171,338

182,165

195,000

212,477

Cost of sales

(116,325)

(122,803)

(131,430)

(143,210)

Gross profit

 

 

55,013

59,362

63,570

69,268

EBITDA

 

 

17,025

18,395

19,674

21,204

Operating profit (before GW and except)

 

15,919

17,206

18,484

20,014

Amortisation of intangibles

 

 

(503)

(724)

(924)

(924)

Exceptionals

 

 

566

(445)

(200)

0

Amortisation of pre-production costs

 

 

(30,933)

(33,258)

(35,588)

(38,777)

Operating profit

 

 

(14,951)

(17,221)

(18,227)

(19,687)

Net interest

 

 

(3,977)

(3,098)

(3,008)

(2,904)

Profit before tax (norm)

 

 

11,942

14,108

15,476

17,110

Profit before tax IFRS

 

 

12,005

12,939

14,352

16,186

Tax

 

 

(2,922)

(3,685)

(4,055)

(4,620)

Adjustment to tax for normalised earnings

 

 

(16)

(645)

(231)

(236)

Minority charge

 

 

(310)

(388)

(375)

(388)

Profit after tax (norm.)

 

 

8,696

9,778

10,815

11,866

Profit after tax (FRS3)

 

 

8,773

8,866

9,922

11,178

 

 

 

 

 

 

 

Average number of shares outstanding (m)

 

 

19.7

19.7

20.7

20.7

EPS - normalised fully diluted (c)

 

 

44.1

49.5

52.3

57.4

EPS - IFRS (c)

 

 

44.5

45.0

50.4

56.8

Dividend per share (c)

13.7

14.5

15.3

15.8

 

 

 

 

 

 

 

EBITDA margin (%)

 

 

10%

10%

10%

10%

Operating margin (before GW and except) (%)

 

9%

9%

9%

9%

 

 

 

 

 

 

 

BALANCE SHEET

 

 

 

 

 

 

Fixed assets

 

 

102,416

104,433

124,948

124,774

Intangible assets

 

 

42,025

41,622

61,448

61,274

Tangible assets

 

 

2,857

3,368

4,500

4,500

Investment in associates

 

 

57,534

59,443

59,000

59,000

Current assets

 

 

99,702

108,369

114,180

124,173

Intangible assets: pre-publication costs

 

 

0

0

0

0

Stocks

 

 

24,851

26,147

27,989

30,498

Debtors

 

 

51,741

57,163

61,191

66,675

Cash

 

 

23,110

25,059

25,000

27,000

Current liabilities

 

 

(144,919)

(70,635)

(86,581)

(96,136)

Creditors

 

 

(55,769)

(65,635)

(70,935)

(78,036)

Short-term borrowings

 

 

(89,150)

(5,000)

(15,646)

(18,100)

Long-term liabilities

 

 

(6,875)

(87,127)

(78,100)

(70,100)

Long-term borrowings

 

 

0

(79,562)

(73,000)

(65,000)

Other long-term liabilities

 

 

(6,875)

(7,565)

(5,100)

(5,100)

Net assets

 

 

50,324

55,040

74,447

82,711

 

 

 

 

 

 

 

CASH FLOW

 

 

 

 

 

 

Operating cash flow

 

 

47,529

52,941

53,030

53,800

Net interest

 

 

(3,310)

(2,749)

(3,176)

(3,072)

Tax

 

 

(759)

(1,981)

(3,777)

(4,196)

Capex

 

 

(33,018)

(36,882)

(36,000)

(36,000)

Acquisitions/disposals

 

 

(2,008)

(1,614)

(11,363)

0

Financing

 

 

0

0

0

0

Dividends

 

 

(2,739)

(2,346)

(2,857)

(3,004)

Other

 

 

0

0

0

19

Net cash flow

 

 

5,695

7,369

(4,143)

7,546

Opening net debt/(cash)

 

 

71,015

66,040

59,503

63,646

HP finance leases initiated

 

 

0

0

0

0

Loans acquired with acquisitions

 

 

0

0

0

0

Translation differences

 

 

(720)

(832)

0

0

Closing net debt/(cash)

 

 

66,040

59,503

63,646

56,100

Source: Company accounts, Edison Investment Research

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by The Quarto Group and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
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New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by The Quarto Group and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
Edison has a restrictive policy relating to personal dealing. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report. Edison or its affiliates may perform services or solicit business from any of the companies mentioned in this report. The value of securities mentioned in this report can fall as well as rise and are subject to large and sudden swings. In addition it may be difficult or not possible to buy, sell or obtain accurate information about the value of securities mentioned in this report. Past performance is not necessarily a guide to future performance. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (ie without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision. To the maximum extent permitted by law, Edison, its affiliates and contractors, and their respective directors, officers and employees will not be liable for any loss or damage arising as a result of reliance being placed on any of the information contained in this report and do not guarantee the returns on investments in the products discussed in this publication. FTSE International Limited (“FTSE”) © FTSE 2016. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Orexo — Update 10 August 2016

Orexo

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