Picture: ISTOCK
Picture: ISTOCK

In its nine financial years to March 2013 Invicta, fuelled by strong organic growth and a steady flow of acquisitions, had been something of a growth wonder. During the period, it lived up to the meaning of its name, invincible, by ramping up EPS at an annual average pace of 21.6%. Not even the huge slump in SA’s GDP in 2009 was able to halt its advance.

But it was to prove to be not entirely invincible. It did have vulnerabilities, and they began to show in its financial year to March 2015. The expression "hit by a perfect storm" is often bandied about loosely, but in Invicta’s case there is no other apt way to describe what it faced.

First came a wave of strikes in the six months to September 2014 that took a heavy toll on its Engineering Consumables Group (ECG) division, SA’s largest supplier of engineering consumables, equipment and spares. The strikes ended, but ECG’s problems, caused by a rapidly slowing SA economy, were growing apace.

Capital Equipment Group (CEG), Invicta’s other core division, also came under heavy pressure in its two key markets, agricultural equipment and heavy construction equipment.

Agricultural equipment sales were hit by SA’s worst drought on record. The first signs of a problem came when North West declared a disaster in July 2013, and the drought continued well into 2016.

The situation in the construction sector, which began taking strain in 2010, has been even worse.

Invicta itself displayed signs of being under pressure in its year to March 2015 when normalised headline EPS (HEPS) came in 6% down. It was the first setback the company had suffered in 15 years. Far worse followed in the year to March 2016, when sales volume dropped 15%-20% at ECG and CEG. It left Invicta’s HEPS for the year a huge 48% down.

But if not entirely invincible, Invicta is resilient. In its latest six months to September it bounced back with a vengeance, lifting HEPS by a solid 32%.

"[Invicta has] a fantastic management team and [it has] done remarkably well in this tough environment," says Christo Wiese, Invicta chairman and, with a 15.9% stake held through his Titan Premier Investments vehicle, its largest shareholder.

Warren Jervis, manager of the Old Mutual Mid and Small Cap Fund, agrees with Wiese. "Invicta has a remarkably capable management team," he says.

It is a management team in which Invicta’s executive deputy chairman, Arnold Goldstone, is again playing an active role. "I have become a lot more involved in the management of the group in the past two months," he says.

Goldstone, who had been CEO since April 2000, stepped down in April 2015 to make way for his successor, Charles Walters.

ECG was a star performer in the latest six months. It delivered revenue of R2.35bn, a 13% rise above the same period in 2015. It is a performance Goldstone can be forgiven for terming excellent.

"It is extremely difficult to drive sales growth in this environment," he says.

Better still, a jump in ECG’s operating margin from 9.3% to 10.3% lifted operating profit 24% to R240.85m, all but half of the group total.

More margin uplift appears to lie ahead. "Simplify for Success", a R350m project launched in 2014 to streamline ECG’s supply chain, is drawing to a close. Central to this project is the shift of ECG’s core Bearing Man Group (BMG) unit’s head office from Durban to a greatly enlarged 93,000m2 BMG World facility in Johannesburg.

Goldstone says: "It made no sense to have BMG’s head office in Durban. About 70% of BMG’s sales are in Gauteng and its CEO has been based in Johannesburg for the past 10 years." Ten of its Gauteng warehouses and workshops are being consolidated into the new facility.

In the performance race CEG was not far behind ECG in the latest half year. ECG improved its sales by 4% to R2.38bn, and with a big boost from an operating margin that rose from 7.9% to 9.2%, turned in a 21% increase in operating profit to R218.87m.

"It was a phenomenally strong performance," comments Jervis.

On the agricultural implements front the drought has had "dramatically negative consequences," says Goldstone. Sales of tractors and combine harvesters, where Invicta is represented by Case IH and New Holland products, tell a sad story.

According to the SA Agricultural Machinery Association (Saama) tractor sales in the 12 months to September were 13.7% down on the previous 12 months while sales of combine harvesters, which can cost well over R5m each, were 15.6% down.

"We defied all the odds," says Goldstone. He attributes CEG’s ability to buck the trend to a change in focus from new equipment to spares sales. "The demand for spares rises when farmers do not replace their old equipment," he says. "Spares are now a big portion of the business." But with the drought seemingly over, there is a ray of hope on the new equipment sales front. "Farmers have started to buy more tractors and ploughs," says Goldstone.

Saama figures reflect an improvement in tractor sales, which in the three months to September ran at about 610/month compared with 400-450/month between January and June. But there is no joy yet from combine harvester sales, which in the three months to September ran at about 14/month compared with 20-26/month in the first three months of 2016.

In the construction sector, where Invicta is represented by Doosan equipment, signs of a recovery remain elusive, while the recovery in agricultural equipment sales will, believes Goldstone, be muted. He is unperturbed. "We are still more interested in driving growth in spares sales," he says.

In Invicta’s third and smallest division, the Building Supply Group (BSG), driving profitability is the big concern. A marginal contributor to Invicta’s bottom line, BSG delivered an unchanged operating profit of only R45m on sales, which lifted 9% to R1.02bn in the latest six-month reporting period. BSG’s performance produced an operating profit margin of only 4.4%. It compares with an operating margin of 6.3% achieved by Cashbuild and a whopping 17% operating margin turned in by Italtile in their latest reporting periods.

Goldstone is far from happy with the result. "It is a terrible margin. We will be reviewing the division’s entire business model," he says. "We want to achieve maximum ROE. In this case by ROE I mean return of effort."

The future of the BSG division seems to be in the balance.

Invicta’s entry into the building materials sector came in 2007, when it acquired a 60% stake in Cape Town-based tile retailer and wholesaler Tiletoria. The acquisition was at the time described by Goldstone as an "experiment". Beefing up the experiment, Invicta added sanitaryware and plumbing equipment distributor and plastic pipes and fittings manufacturer MacNeil to BSG’s line up in 2012.

What BSG still lacks is scale, a shortcoming Goldstone acknowledges. "We do not have market dominance in any of the sectors we are involved in."

Invicta’s Singapore-based business, Kian Ann Engineering, housed in the ECG division, is also making heavy weather.

A 75% stake in Kian Ann was acquired in October 2012 for R1.36bn with the remaining 25% mopped up in October 2014.

There was nothing wrong with Invicta’s choice of companies to back in South East and Central Asia. Established in 1965, Kian Ann is one of the world’s largest independent distributors of heavy machinery parts and diesel engine components. The problem lay in the timing. With the purchase came heavy exposure to two sectors now under severe pressure: mining and construction.

"Kian Ann has been disappointing," concedes Goldstone. "But it has done a good job cutting costs and while not highly profitable at present is generating a lot of cash and reducing debt."

Proactive moves are being made to enhance Kian Ann’s profitability. "We want to grow its global distribution footprint," says Goldstone.

Arguably of far more importance to Invicta shareholders is the question: when will the group again get into its stride on the acquisition front? Invicta’s level of corporate activity has been uncharacteristically low of late. In its year to March 2016 only three small bolt-on acquisitions totalling R80m were added while in the latest six months none were reported. This could be about to change soon. "There are a lot of opportunities," says Goldstone.

Notably, Invicta is trading under a cautionary.

It has been readying itself for something big. "Over the past 12 months we have focused intensely on cash generation and our gross [profit] margin," says Goldstone.

The results were evident in Invicta’s latest six months. Working capital was slashed by R173m, a major turnaround from the R369m it absorbed in the previous financial year. In the latest six months cash generated from operations jumped from R585m in the previous full year to R732m while after finance costs, tax and dividends cash generation was a robust R415m. Invicta ended the latest half year with cash of R730m on its balance sheet, up from R556m in March, and net debt to equity down from 34% to 32%.

If a major acquisition is lurking, chances are better than even it will be offshore. Invicta remains resolute about its objective of generating half its revenue offshore by 2020.

Invicta’s share price has recovered strongly, rising almost 80% from the four-year low it reached in February. Also rebounding, its price:earnings rating, which hit a low of six, is now at 15 and within striking distance of its previous high of 18.

After such a strong run it could be time for Invicta’s share price to take a breather. Any pullback would provide a useful buying opportunity.

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