Collins Foods

Collins Foods Group’s share price has fallen 42% since 30 Sep 11 (Coverage ceased - $2.07) and is now down 52% from its float price (we recommended it in Collins Foods: Finger lickin’ good? from 25 Jul 11 (Subscribe - $2.50)). The reason is that management announced the 2012 pro-forma forecast profit would be around $18m-$20m instead of the original $25m.

A profit downgrade so soon after listing is a very bad sign. While management was quick to lay blame on a ‘difficult trading environment’, takeaway food sales in Queensland generally—where most stores are located—don’t seem to be performing worse than the Australian average. This suggests no conservatism in the prospectus forecasts, or unknown company-specific problems.

So what now? Collins is either cheap or a mistake; unfortunately we’re now inclined to think it’s the latter. While takeaway food should be a defensive revenue stream, we misjudged the sensitivity of profits to a meagre fall in revenue. What we did get right was our concern about the $102m of net debt; with reduced profitability and a much lower market capitalisation this debt becomes even more concerning.

Although Collins appears cheap on six times prospective earnings, it’s hard to have confidence in the revised numbers. Rarely is there just one cockroach in the kitchen. We would be disinclined to remain shareholders in Collins for these reasons.  

Having avoided so many private equity floats, it’s galling to fall for this one. The potential for a stag profit and what appeared to be reasonable pricing were not enough. We’ve therefore decided to explore the issues with private equity floats in a forthcoming Investor’s College. For Collins itself, our recommendation remains COVERAGE CEASED.