Avanti (AVN) ... receivables looking a bit 50/50

Thursday 10th October 2013

I finally managed to get my hands on the prospectus for Avanti’s recent bond financing (issued on 27th September 2013). The group raised $370m through 10% Senior Secured Notes due 2019. The prospectus provides much more information than the group’s year end results RNS, and the figures are likely to resemble the full 2013 annual report, which is expected to be published at the end of this month or early November. The profile of debtors, I find alarming ...

Firstly however, it would appear that my assumption within my previous post, with regard to the group’s consultancy related revenue, was correct. I had assumed that AVN drew £2.0m in consultancy revenue per annum and that this was still ongoing. Indeed on page 12 of the prospectus, the group highlights: “We do include projected revenue from consultancy services provided to government customers at the rate of £2.0 million per year, based on the average revenue generated by these services for the last five fiscal years.”

Where I was wrong was in estimating that AVN received £1.8m in revenue attributable to kit/terminals within the year. I had assumed this because in 2012 it had received £1,780,000 (2011: £576,000) in revenue related to the sale of terminals. In the event it would seem I was too conservative for FY 2013. Within the prospectus in note 2 on page 230, AVN indicates that it was actually “... £2,582,000 (2012: £1,780,000) [which] relates to the sale of terminals.” Therefore it seems more likely that the run rate of bandwidth sales was worse than what I’d estimated in my last posting.

Now for the mind-boggling figures ...

From notes 17 and 23 (b), on pages 239 and 244 of the prospectus, AVN highlights its trade and other receivables balances and the ageing of its debtors. Trade receivables for 2013 were estimated at £6,301,000 (2012: £1,441,000) while it then impaired these by £1,111,000 (2012: £268,000) to arrive at net trade receivables of £5,190,000 (2012: £1,173,000). I.e. 18% (2012: 19%) of its trade receivables were written off. However, what’s also alarming is observing the ageing of those remaining net trade receivables.

Trade receivables that were 60+ days past due were reported to total £1,721,000 during 2013 (2012: £127,000). This represented 33% (2012: 11%) of its net trade receivables. Bearing in mind that this excludes the all ready written off receivables mentioned above, suggests that during 2013, the group had 45% (2012: 27%) of its trade receivables either written off or declared at least 60 days past due! It’s worth noting that in the text of note 23, AVN says that “Generally when the balance becomes more than 60 days past its due date it is considered that the amount will not be fully recoverable.” Ay caramba!!!

What's wrong with this picture? ...

Avanti's percentage of trade receivables either impaired or 60 + days past due
Source: Annual Reports, Bond Prospectus

I have observations on the group’s purchase of the Artemis satellite from the European Space Agency, but will leave that for another posting.

But one more thing ... 

Filiago gets a mention in note 13 on page 236. Now with £7,449,000 of goodwill attached to it and what looks like £1,433,00 in intangibles (£127,000 for brand names and £1,306,000 for customer lists). And yet Filiago achieved £1.5m (2012: £1.1m) in revenue during 2013 and racked up another loss. This time, Filiago lost £0.4m (2012: £0.5m). Can you imagine how much goodwill and intangibles would be booked to the balance sheet were Filiago to have been profitable? I reckon I'd run out of digits on my Panasonic scientific calculator!  

Disclaimer: The information, discussions or topics referred to on this blog should in no way be considered “advice” to buy or sell anything. The information which may be referred to is freely available in the public domain and where required the source of information is referenced to for verification. While every effort has been made to ensure the veracity of any information contained within this blog, the author accepts no responsibility for the accuracy of any information contained within this blog or for the sources of information which may be referred to. Readers are responsible for their own actions and interpretation of the information contained within this blog. 

Avanti (AVN) ... Eh? 2.5 x run rate required?

Thursday 3rd October 2013

This posting may be worth persevering with as you may come round to my view that Avanti’s sales team only managed to achieve sales of c. £10.6m worth of Bandwidth during the 2013 financial year. This compares to total reported revenue of £20.6m for 2013; the fruits of a valiant effort to sell capacity over four years.

Avanti reported £20.6m of revenue for the financial year to 30 June 2013. This compared to £12.5m of sales achieved during FY 2012. Deconstructing this, I reckon we have the following: 

FY 2013 – Year end results

£20.6m of reported revenue

(£4.5m) revenue from the European Space Agency (ESA) contract relating to the financing of HYLAS 1. This £4.5m can be estimated from note 2. (c) of the year end results, that “If the fair value of the capacity sale was altered by 10%, the impact on the revenue figure would be £450,000.” This also ties up with note 2. within the 2012 annual report, which declared that “... revenues from ESA representing the sale of capacity on HYAS 1 comprise 36.1% (2011: 20.6% of total revenue.” 30.6% x £12.46m (2012 revenue) = £4.5m. It is also worth bearing in mind that this is a non-cash receipt.

(£1.7m) of provision for doubtful debts. In other words, the group reckons 8.2% (2012: 1.8%) of its sales will not materialise. How this increasing bad debt provision sits with "Market adoption is maturing and the Company has an increasingly 'blue chip' customer base" I don't know. 

(£1.8m) of kit/terminals. During 2012, the group reported within note 2. of its 2012 annual report: “Of this, £1,780,000 (2011: £576,000) relates to the sale of terminals”. I have assumed that this figure was the same for 2013, although it will need to be confirmed upon publication of the 2013 annual report.

(£2.0m) consultancy. Broker research on the group used to include a breakdown of this figure attributable to consultancy. Indeed the group still reflects its consultancy activities within its accounts. Well it did in note 1. of its 2012 annual report: “Revenue from space consultancy and other consultancy contracts connected with the exploration of space assets are recognised by reference to the stage of completion of the contract activity at the reporting date.” I presume this is still ongoing?

-------------------------------------------------

£10.6m left over for bandwidth sales generated since selling commenced over 4 years ago. A valiant effort.

-------------------------------------------------

In summary:

£20.6m of reported revenue

(£4.5m) ESA revenue

(£1.7m) Bad debt

(£1.8m) Kit sales

(£2.0m) Consultancy

£10.6m of bandwidth sales

Should bandwidth sales have been £10.6m as by the above deconstruction of revenue, then it becomes possible to attempt a further deconstruction so that I reckon that HYLAS 2 satellite sales contributed just £2.0m to total revenue during its 3 months of operation. That equates to just £666,000 per month.

I reckon we have the following:

There were virtually no bad debts in the first half of the year; provisions for doubtful debts were reported to be £11,000. This suggests that of the £1,679,000 of doubtful debts that were reported for the full year, that £1,668,000 was attributable to bad debts in the second half. Therefore, assuming that the split of the remaining adjustments above was evenly divided between the two halves, suggests that the split of adjustments between the two halves is £4.2m in H1 and £5.8m in H2, to arrive at the total of £10m of adjustments for the full year. This suggests that bandwidth sold in each half year may be estimated as:

H1:

£8.6m of reported revenues in H1

(£4.2m) share of adjustments above

£4.4m of bandwidth sales in H1 (all HYLAS 1 as it was not until “By January, service was fully operational (HYLAS 2) with end user deployments rolling out and all customers invoiced. We will therefore report the first material revenues from HYLAS 2 in the second half of the current financial year”, as was reported in the group’s interims to 31^st December 2012.

H2:

£12.0m of total revenue for H2 (FY less H1)

(£5.8m) share of adjustments as above

£6.2m of bandwidth sales during H2. Assuming that sales for HYLAS 1 were flat half on half (but experienced £0.2m of bad debts, as last year), at £4.2m, suggests that £2m of sales were attributable to bandwidth sold on HYLAS 2 during H2 over the 3 months average invoicing period (as reported in the 10^th July 2013 trading update: “Some customers started service later in the second half than expected and the average HYLAS 2 customer was invoiced for three months during the financial period”. That would equate to £666,000 of HYLAS 2 sales per month.

All this suggests that the estimated revenue run-rate for HYLAS 1 & 2 comes to just £16.4m per annum. i.e. ((£4.2m of HYLAS 1 sales during H2 / 6 months) + (£2.0m of HYLAS 2 sales during H2 / 3 months)) x 12 months = £16.4m. Including the £10m of adjustments above points towards an estimated run rate of £25.4m for 2014 (the total adjustments will be £1m less as the ESA stop in April 2014). This is a far cry from the £50m of sales which is forecast by Avanti’s broker; although I would add that Avanti’s broker has form on being overly optimistic (Bizarre reaction to further downgrades).

Essentially it means that Avanti’s bandwidth sales run rate has to increase by 2.5 times to achieve the £41m of estimated bandwidth sales during 2014. I reckon the group has a limited chance of achieving that and by limited I mean zero.

I’ve increased my short position.

Disclaimer: The information, discussions or topics referred to on this blog should in no way be considered “advice” to buy or sell anything. The information which may be referred to is freely available in the public domain and where required the source of information is referenced to for verification. While every effort has been made to ensure the veracity of any information contained within this blog, the author accepts no responsibility for the accuracy of any information contained within this blog or for the sources of information which may be referred to. Readers are responsible for their own actions and interpretation of the information contained within this blog.

Italian BTPs ... an economic reasoning to short

Monday 30th September 2013

I closed my Euro Bund short (Heresy to the Monetarist Taliban) a while back and will monitor it for a re-entry. This morning I’ve begun to short Italian BTPs, via the Long Term BTP Future (5 Dec 13) thru ETX. The weekend’s news flow, courtesy of the 'feckless and vain' (US officials assessment) Silvio Berlsuconi and his attempt to bring about a fresh election caught my eye and prompted some data digging. From my analysis below, I reckon that the Italian’s have been incredibly lucky to get their debt service cost back below 5%.

   

The debt-deficit arithmetic (DDA) doesn’t stack up. What DDA does is to quantify the ‘race’ between GDP and public debt, or more precisely, between the economy’s trend rate of growth and the rate at which public debt accumulates. If the real GDP growth rate exceeds the real interest rate, and the government achieves a surplus primary budget (i.e. takes in more revenue than expenditure ex-debt service costs), then the debt to GDP ratio shrinks. When the real interest rate exceeds the economy’s growth rate, the debt piles up, unless a primary budget surplus is enough to offset this.

This is evident in the charts below, which demonstrate how Italy got to its c. 120% public debt to GDP level. The International Monetary Fund (IMF) data highlight that Italy’s real GDP growth rate began to significantly decline from the 1980s, while its public debt to GDP ratio ballooned.

During the period 1950 to 1979, Italy averaged a primary annual budget surplus of 2.0% of GDP pa. This compared with 5.4% average real GDP growth pa and an average 0.9% real interest rate over the same period. However, during the period 1980 to 2011, the average primary budget surplus had fallen from 2.0% of GDP to just 0.6% pa, while average real GDP growth fell from 5.4% pa to 1.5% pa. Meanwhile the average real interest rate rose from 0.9% to 3.7%. It is little wonder that Italy’s public debt to GDP rose from 58% in 1979 to 120% in 2011 and is projected by the IMF to be as high as 131% in 2013-14.

Amongst other variables, Italy’s borrowing rate will respond to two key factors over the next five years; Italy’s GDP growth rate, and its primary budget balance. In terms of the growth rate, the problem is that the IMF forecasts Italian real GDP growth to average 1.1% pa during the next five years and inflation to average 1.4% during the same period.

Growth will likely remain anaemic because Italy is now so uncompetitive as compared to Germany, France and even Spain. Italy’s unit labour costs (ULC) are 26% higher than that of Germany’s, 18% higher than that of France, 17% higher than the UK, and 9% greater than Spain’s. Further, they are a whopping 43% higher than ULCs in the US. Unless Italy’s ULCs improve on a relative basis it would appear unlikely that Italy will achieve a significant pick-up in GDP growth. And as the country can no longer depreciate its currency, the only real way that ULCs can improve is either through productivity gains or lower wages. The former appears unlikely (or at least unlikely to prompt a relative improvement compared to other nations). The latter could lead to a nasty debt-deflation spiral whereby the public debt to GDP becomes even greater. It is unsurprising that the Italian Lira devalued by 600% from the seventies through to the mid nineties prior to Monetary Union. That lever is gone.

  

With the borrowing rate currently at c. 4.8%, real interest rates appear likely to average 3.4% or possibly higher; the latter of which I suspect will be the case. In this instance, Italy will need to achieve a primary budget surplus of 2.3% or greater pa over the next five years, in order for the stock of public debt to stand still. This appears a tall order when considering that Italy has only managed a budget surplus of 2.3% or more in 11 out of the last 70 years. Six of those years were during the all important fiscal rectitude period in the run-up to Euro entry. Further, during those 11 years, GDP growth averaged less than 1.3% pa, which would be about right in comparison to the IMF's projections.  

Now that Italian BTPs have fallen again through the 200d ma, I reckon they go lower to somewhere between €95-100. Which is why I’m building a short position.

IK1 Comdty - Generic Italian Long Bond
Source: Bloomberg

Yield on Generic Italian Long Bond
Source: Bloomberg

Italian Gross Public Debt as a percentage of GDP, and IMF forecast 2012-18
Source: International Monetary Fund (IMF)

Italian Primary Budget Balance as a percentage of GDP
Source: International Monetary Fund (IMF)

Italian Real GDP Growth, and IMF forecast 2013-18
Source: International Monetary Fund (IMF)

Italian Inflation Rate, and IMF forecast 2013-18
Source: International Monetary Fund (IMF)

Italian Real GDP growth, Real Interest Rate,
and Government Primary Budget Balance, and IMF forecast 2013-18
Source: International Monetary Fund (IMF)

Italian Unit Labour Costs in manufacturing compared to other nations
Estimated cost to employers
Source: Bureau of Labour Statistics (BLS)

Italian Unit Labour Costs in manufacturing
competitiveness gap to other nations
Estimated cost to employers
Source: Bureau of Labour Statistics (BLS)

Historical cross rate of Italian Lira / Deutsche Mark
Source: Bloomberg

Disclaimer: The information, discussions or topics referred to on this blog should in no way be considered “advice” to buy or sell anything. The information which may be referred to is freely available in the public domain and where required the source of information is referenced to for verification. While every effort has been made to ensure the veracity of any information contained within this blog, the author accepts no responsibility for the accuracy of any information contained within this blog or for the sources of information which may be referred to. Readers are responsible for their own actions and interpretation of the information contained within this blog. 

Avanti (AVN) ... bizarre reaction to further downgrades

Tuesday 24th September 2013

Avanti Communications reported its 2013 year end results on Tuesday 10th September. Bizarrely its share price has risen 49% on the back of this. If anything, I reckon the update and ensuing broker forecasts (see below) confirmed its weaker outlook.

Disappointingly, the company provided no update to its backlog, which was last reported on 10th July 2013 within its year end trading update. Two months prior, Avanti indicated the backlog stood at £290m. As at 30th June 2013, the group’s backlog over the next three years was reportedly:

FYE June 2014: £42m

FYE June 2015: £46m

FYE June 2016: £40m

This was re-iterated Tuesday 10th September, however, had the backlog been improved upon, then one would've thought the company pleased to update it. It didn't. I took that to imply that there’s been no further improvement during the two months since June.

The latest broker forecasts indicate further downgrades. I’d noticed the dramatic downgrades in November last (forecasts going wrong way) and the latest downgrades are just as severe. However, what is more concerning is the projected net debt profile and significant increase in forecast net debt for FY 2015.

In July 2012, Avanti’s broker confidently projected revenue of £56.5m to June 2013. This was downgraded by 39% in November 2012 to £34.5m. The final out-turn was 40% below November’s forecast and 64% lower than that in July 2012. 2015 revenue projections have also substantially fallen. Whereas £138.2m of revenue for 2015 was projected in July 2012, this was lowered by 20% to £110.5m in November 2012 and is now forecast to be 33% lower at £74.2m.

EBITDA projections have fared worse. In July 2012, £38.5m of EBITDA was expected for FY 2013. It came in at a negative £8.8m. For FY 2015, Avanti is now forecast to achieve £38.7m in EBITDA, which is 66% below July 2012’s projected £113.6m and 51% lower than November 2012’s predicted £79.4m.

What is most concerning is the evolution of the group’s net debt profile. Whereas in July 2012, Avanti expected to finish with net debt of £82.7m, this was raised to a forecast £140.9m in November 2012. The final result was £167.2m of net debt, or over twice that forecast a year prior. In July 2012, the group was forecast to be net cash positive by FY 2015, with net cash of £44.8m. July 2012’s projection is now thought to be off the mark by £209.3m. FY2015 net debt is forecast at a whopping £164.5m.

I looked to Avanti’s house broker’s latest research note to learn why the net debt level would remain so sticky over the next few years. The group is projected to spend £20.5m on capex and £2.1m on maintenance capex each year in 2014 and 2015. So a total capex related outflow of £45.2m during the next two years. This will be offset by a forecast £17.7m of operating cash flow in 2014 and a further £40.1m in 2015, or a cumulative £57.8m in operating cash over the next two years. Debt service payments are also projected to be at a cumulative £10.0m over 2014-15. Oddly, despite projecting £45.2m of capex related spend during 2014-15 and anticipating £62.4m in depreciation over the same period, Avanti’s house broker envisages its fixed assets on the balance sheet to increase by £100m from £424.8m in 2013 to £524.0m in 2015. These numbers appear difficult to square and if anyone has any suggestions as to how they can be reconciled I would be interested to hear.

With projected net debt remaining a burden, the group has indicated its ambition to seek access to further debt. Avanti declares:

“The Company continues to investigate some significant new business opportunities, and believes that the flexibility to grow offered by a bond financing structure might be more suited to its medium term needs.  Avanti has accordingly retained advisers to consider bond finance options, with a view to enabling it to respond quickly and positively to these opportunities as they arise.”

One interpretation may be, they need more cash and equity financing is not readily available. What is somewhat more apparent is that the company is still not yet capable of financing growth out of operational cash flows. It can barely service its current debt pile from its existing stock and flow of cash; well last year it couldn’t. It is forecast to be able to service debt out of operating cash in 2014 but unable to cover capex spend. Both net interest and capex are only covered by operating cash by 2015 and even then there is only £13.3m of headroom according to its house broker. In light of the poor forecasting record of Avanti’s broker I would be uncomfortable with that prediction.

     

Assuming that access to further debt financing is forthcoming, I would be interested to learn what the new creditors would have security over. It is the current debt providers, which have “a charge over the assets of the company”. Therefore it would appear that any further debt would be unsecured and therefore more costly. The group currently has an available drawdown of $328.2m with US Ex-Im bank and COFACE, at an interest rate of 5.5%. It is these lenders which have security over the assets of the company. Incidentally the company indicates that practically all of this available facility is now drawn down. With a reported £38.6m of cash on the balance sheet, a projected £28.3m of combined capex and debt service cost scheduled for 2014, the group is likely to be keen to get access to further funding sewn up soon.

   

Some investors may be encouraged that the directors have dipped into their pockets over the last few weeks to purchase Avanti stock. While this may appear promising, this is not unusual in promotions where the price has collapsed. I would also point out that Avanti’s CEO, Mr D Williams, was compensated by £749,693 in total remuneration during 2012, and most likely similar in 2013. Since the year end results, he has bought a further 10,000 shares at 180p, or £18,000 worth of stock. This appears a token purchase compared to the c. 858k shares that directors sold in 2010 at prices of 475p, 700p, and 735p/shr.

I reckon that the debt position is insurmountable for this satellite promotion; particularly as further debt appears imminent. Accordingly, I have increased my short position. 

And another thing ...

No mention of Filiago (still a space oddity). Whatever did become of that?

Avanti share price
Source: Bloomberg

Latest house broker revenue forecasts compared to those from July 2012 and November 2012
Source: Bloomberg

Latest house broker EBITDA forecasts compared to those from July 2012 and November 2012
Source: Bloomberg

Latest house broker net debt forecasts compared to those from July 2012 and November 2012
Source: Bloomberg

Historic progression of consensus revenue forecasts
Source: Bloomberg

Historic progression of consensus EBITDA forecasts
Source: Bloomberg

Historic progression of consensus net debt forecasts
Source: Bloomberg

Disclaimer: The information, discussions or topics referred to on this blog should in no way be considered “advice” to buy or sell anything. The information which may be referred to is freely available in the public domain and where required the source of information is referenced to for verification. While every effort has been made to ensure the veracity of any information contained within this blog, the author accepts no responsibility for the accuracy of any information contained within this blog or for the sources of information which may be referred to. Readers are responsible for their own actions and interpretation of the information contained within this blog.