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I apologize for writing twice in two days about small caps*, but an interesting analyst note about the retailer at Protein-Powder-to-Mascara, THG, fell in my inbox.
The theme is one-off, including a failed sponsorship agreement with Williams Racing and the Mothballed Manchester Hotel, which it has been amortized. As mentioned yesterday, THG booked the hotel’s £104.9 million impairment expense last year and spent £700,000 to retreat from Williams’ deal.
These types of adjustments, along with the disposal agreed just before the end of the year, create a substantial gap between its priority scale, adjusted EBITDA (£123mm), “managed adjusted” operating profit metric (£92 million), statutory operating loss (–118 million), and losses (–326MN) (–326MN) (–326MN).
There’s nothing suspicious about adjusting revenues to give investors a clearer view of the underlying business. The source of concern is the regularity that THG adjusted its revenues and the items it selects, as well as regularity, says Wayne Brown, analyst at Panmure Liberum.
In addition to Williams’ sponsorship misfire, THG adjusted its revenue last year to cover cost inflation related to the Israeli-Palestinian conflict. In both 2022 and 2023, we coordinated Covid-related supply chain disruptions.
“These are undoubtedly part of normal business operations and repetitive exclusion calls that raise questions about the reliability and quality of the company’s reported revenue,” Brown says. “Such sales related to these exceptional costs should be considered underlying?”
He adds:
For the past four years, THG has categorized the £631 million cost as an adjustable item. This represents 153% of the group’s cumulative adjusted eBITDA (£412 million) over the same period. Other adjustments from the past four years, such as breaking adjustment items during disability (often related to disposals and including accounting decisions), have also been added to £227 million, representing 55% of the cumulative adjusted EBITDA.
If THG delivers cash, this is not a major concern. EBITDA is intended to be an approximate measure of cash. However, THG’s cash outflow last year was £88 million.
The losses from the Online Marketing and Logistics Division, the idea behind Ingenuity’s freedom in December, have reduced debt to a manageable level while resetting business around slowing but profitable nutrition and cosmetic operations. However, with the exception of ingenuity, the group’s free cash flow in 2024 was only neutral at £400,000.
THG asks investors to also exclude one-time exclusions. The problem is that the underlying hypothetical cash flow does not pay the bill. This remains high due to management preference measures. The £400 million total debt at the end of 2024 corresponds to an adjusted embitda of 3.8 times.
This year’s improvement in cash flow is primarily dependent on the ease of whey prices. That’s a bit of a gamble.
According to Panmure-Liberum’s Brown, nutritional performance at THG appears to cost much more than Gran Via, a registered London peer. Some of it may reflect the recent brand disruption of THG muscle proteins and the loss of competitiveness in Japan due to the strength of Sterling against the yen.
Gran Via’s protein shake division shrugged from record high input prices in 2024, achieving a 16.9% margin. Thg Nutrition’s margin increased by more than half to just 6%. This is despite the THG products that are less volatile (and less expensive) than the whey protein isolates that Glybia prefers, and tend to be made with whey protein concentrates.
Part of the unpredictability without revenue is because THG prefers short-term supply contracts, unlike Granvia, Brown tells his clients.
This situation raises broader questions about the strength of my protein brands, the robustness of the company’s revenue management strategy, and the effectiveness of its brand and supply chain management. (..) In particular, despite two major whey price shocks over the past three years, there is little evidence that THG coordinated its procurement strategies to better manage input volatility.
He concludes:
The stock is traded at 0.6x 12m forward EV/selling and 95x 12m forward EV/EBITDA. The forecast shows that the yield for 2025 FCF is still very low at 2.4%, but the forecast for 2026E will improve to 13%. There are many positive buildings, but we continue to see the recovery of nutritional margins that depend on the timing of landing new whey capacity and the risk that consumer response to inflation tariffs will depend on exposure to the US, where growth can be hampered by. Given the company’s terms (sic) record of missing forecasts, we will take note and put it on hold, but lower the TP to 26p (from 36p) to reflect increased risk.
The 26p goal is already above the current level, but for those who suggest value, the long-term trend may be notable.
* THG joined the FTSE 250 Index in March, but is now the third smallest component of market capitalization, below the auto-demotion threshold. Next review date, May 28th, if that happens, it will be dropped into a small cap index.
Read more:
– Adjustment Magic: ebitla-dee-da (ftav)
