The recent price decline in this company has pushed its valuation to levels that we feel not only represent an attractive entry point for long-term investors but also potentially position it as an appealing takeover target.

Market inefficiencies often create these types of opportunities, while others may be driven by short-term fear, or as we discussed last week tax loss selling, we see this as a chance to acquire shares in a business that is currently trading at a significant discount to its intrinsic value.

 

The Company

Mcpherson’s Ltd (ASX: MCP) is an Australian consumer products company with a diverse portfolio of well-known brands.

Their product range spans health, wellness, beauty, and household categories with key brands including Lady Jane, Manicare, Swispers which are all category leaders in the beauty accessories segment. Dr. LeWinn’s, a skincare line featuring an Inner Beauty range with vegan collagen products, and A’kin, which offers botanical-based hair and skin care solutions. McPherson’s is focused on natural and wellness-oriented products, catering to consumer trends in these areas. Their multi-brand strategy and involvement in various consumer product categories provides a diversified business model, offering resilience over time in a more difficult trading environment.

McPherson’s is susceptible to consumer discretionary spending but we believe the health and beauty category is generally more defensive than other discretionary retailers operating within the same demographic of clientele.

Financial Performance

McPherson’s reported its H1 FY24 results in February which reflected a significant transformation in the company’s business model.

Despite an 8% decrease in revenue to $103.4 million, the company achieved a notable improvement in gross margin, increasing from 47.5% to 51.1%. This margin expansion was primarily driven by the strategic shift towards higher-margin core brands and a reduction in input costs. The focus on cost management and efficiency led to a net profit after tax (NPAT) of $1.6 million, a significant improvement on the NPAT of $0.1 million in 1H23.

The company’s net debt position improved significantly, with net debt excluding lease liabilities decreasing by $5.9 million to $4 million.

Cash generation was also strong with $9.1 million in operating cash flows before interest and tax to 31 December 2023. An impressive transformation from the operating cash outflow of $6 million in the previous corresponding period. McPherson’s declared a 2 cent dividend and if maintained equates to an attractive 10% dividend yield.

The company’s improved financial position and enhanced profitability metrics indicate a more resilient and focused business model, positioning it well for future growth.

Divestment of Multix

McPherson’s recently completed the sale of its ‘Multix’ brand and inventory to International Consolidated Business Group Pty Ltd for $19 million, subject to post-completion adjustments.

The divestment follows a strategic review announced in November 2023, aligning with McPherson’s focus on its core health, wellness, and beauty brands. As a result of the sale, the company expects to incur a one-off, non-cash asset write-down of $10-11 million in FY24 related to the ‘Multix’ brand and allocated goodwill, with pre-tax divestment costs estimated at $1.5 million. CEO Brett Charlton emphasised that this move strengthens the company’s balance sheet and reshapes the business for its future as a pure-play health, wellness, and beauty company. The sale is part of McPherson’s broader transformation plan, which includes reviewing its route to market for its remaining brand portfolio.

We believe that this cash could lead to either potential merger and acquisition opportunities or be returned to shareholders.

Chemist Warehouse Influence

The company established a strategic alliance with Chemist Warehouse in March 2022 whereby McPherson’s was appointed as Chemist Warehouse’s exclusive long-term distributor of a select portfolio of Chemist Warehouse-owned or controlled health and beauty brands outside of the Chemist Warehouse Network in Australia and New Zealand.

At the time of the announcement, the exclusive distribution rights will be for an initial term of five years commencing on 1 July 2022. McPherson’s will have three five-year options to extend the arrangements, subject to certain minimum performance thresholds on a brand-by-brand basis.

A key part of the alliance was the issue of shares to Chemist Warehouse. Chemist Warehouse remains a significant shareholder in the business, owning just under 10% of the company.

A Potential Target

Following the divestment of Multix we see significant value in McPherson’s and believe it could be a takeover target now that it becomes a pure play brand owner of health and beauty brands.

With forecast future sales of $160 million and earnings before interest and tax (EBIT) margins of 7-10% over time, that equates to potential Ebit of around $11 million on an underlying basis in FY25/26, which places the company at an attractive enterprise value to EBIT of around 3.5 times. This attractive valuation could encourage bidders to re-emerge following previous bids in 2021. Just over 3 years ago Arrotex Australia lodged a $1.60 non-binding, indicative proposal for the company, valuing the business at about $205 million. This bid followed on from a rival bid of $172 million from Geminder. The Arrotex bid ultimately collapsed following a four-week period of due diligence.

With a current market capitalisation of just under $60 million and an improving and focussed business model could we see an opportunistic return bid or perhaps a new interest?

The TAMIM Takeaway

The recent downturn in McPherson’s share price presents an intriguing opportunity for long-term investors and potential acquirers alike.

Despite a slight revenue drop in H1 FY24, the company’s strategic pivot has driven a notable improvement in the financial position of the business. McPherson’s divestment of the Multix brand, coupled with a strengthened balance sheet and its strategic alliance with Chemist Warehouse, enhances its focus on health, wellness, and beauty. With a compelling valuation, we believe McPherson’s is an attractive prospect.

The company’s transformation and current valuation make it an appealing takeover target amid rising merger and acquisition activity in the market.

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Disclaimer: Mcpherson’s Ltd (ASX: MCP) is currently held in TAMIM Portfolios.