Companies
Feb 9, 2012
Richard Beddard
8 Comments

Hornby’s back in the buyzone

But is it the company it was?

It feels like old times. Hornby, model railway company and owner of brands beloved of UK model makers and toy collectors, is back on my watch list after ten years as stock market darling.

I remember Hornby’s tremendous run a decade or so or ago. People thought it deserved a rating like fantasy war game behemoth Games Workshop‘s and it went on to achieve that as Games Workshop was, ironically, crashing.

The argument was that model railways aren’t like ordinary toys that go in and out of fashion. They’re enduring hobbies that people love. The continued inclusion of Games Workshop in the Thrifty 30 despite its relatively high share prices shows I agree hobbies can make good investments.

But I’m a little more sceptical about trains. Maybe they’re an old man’s game and I wonder if the next generation of old men, my generation, is really as interested in trains as earlier ones, generations that can recall the age of steam.

A recent trading update casts doubt on Hornby’s resilience. The company blamed the economy for slowing sales growth, and profits likely to disappoint in the year to the end of March. In response it’s making less detailed models it can sell for lower prices.

I’m a little uneasy about the importance of licensing to Hornby. To increase the relevance of its products to new customers Hornby buys licenses to create Toy Story, Star Wars, and Olympic themed products. It made a Hogwarts Express, though I can’t find it on the Hornby site any more. You can race TIE Fighters against X-Wings (i.e. spacecraft) on your Scalextric track with the objective of derailing each other, a bizarre prospect but it’s probably fun.

Licensing got Games Workshop into trouble as it expanded recklessly on the ephemeral popularity of its Lord of the Rings game.

Games Workshop’s recovery has been led by renewed focus on its own intellectual property, the Warhammer and Warhammer 40,000 games, driven mostly by the enthusiasm of modellers and players.

I find it comforting that Games Workshop is confident enough in Warhammer not to repackage it every time a likely blockbuster film comes along, and so I’m slightly wary of Hornby.

Because of the licensing, the fact that Hornby is also a distributor (and encroaching on Games Workshop’s territory in a new deal to distribute upstart Mantic‘s Kings of War game and miniatures), and its diversification, Hornby makes toys (Scalextric), models (Airfix), and collectibles (Corgi), the company offends my preference for simplicity.

It’s bringing Breyer Horses to the UK Market, as well as Olly the White Van playsets, die-cast and remote control vehicles, and jig-saws, and it has a global licence to commission and distribute Moshi Monsters pin badges and vehicles.

Are these toys, or hobbies? Sometimes I can’t tell.

Profitability has declined sharply in recent years, and I’m wondering if Hornby has diworseified, spent money on companies and licenses, including European model railway companies, that don’t earn high enough returns to justify the price.

That and its apparent sensitivity to the sluggish economy mean it may not the be the stalwart I hoped, but more likely a cyclical, or even a potential turnaround. I’d invest in all those situations, but only at the right price.

On the other hand, recent annual reports have blamed supply problems for falling sales. Hornby uses Chinese manufacturers and since it’s now diversified suppliers and improved their performance, perhaps this is an opportunity to buy a solid British company at a good price.

Despite my caution, average return on equity according to Sharelockholmes over the last decade was 18% (declining to 9% last year), which makes the shares look very cheap on a price to book value of 1.1.

Those brands are famous. I should take a closer look.

8 Comments

  • bob February 9, 2012 at 2:39 pm

    Games workshop is a social gaming platform with collectables that drive incremental purchases with limited competition. The Hornby products largely miss that target.

    The trains/slot car products are collectables but with limited social aspects. The clubs of days past are in decline (where large “layouts” or “tracks” were shared) so it is mostly for father/son or small groups of friends. The quality of slot car models is much better now (with lots of competition) so have grown as collectables but sometimes they are too good (and fragile) to actually race. Both these products don’t have the same mass appeal as, for example, the Forza and GT racing consule games, in contrast to the Warhammer product which has a strong link to that market for sourcing new customers and revenue.

    Reply
    • Richard Beddard February 9, 2012 at 3:14 pm

      Thanks for your comment Bob. I think you’ve managed to articulate what I couldn’t that Games Workshop is a more social hobby and so customers are more tied to the company.

      Reply
  • Trident February 9, 2012 at 7:11 pm

    Hi Richard

    Great brands.
    Name the leading model train maker – Hornby.
    Name the leading slot car maker – Scalextric.

    Now try naming the number two in those markets!

    Pretty much the same with Airfix and Corgi.

    I put down their recent (last few years) poor performance to (i) supply problems (apparently mow resolved), and (ii) consolidating all their acquisitions (some overseas).

    It was a bit disappointing to see their recent trading statement as I thought they would be motoring a bit by now. Europe could still drive significant growth and I think it’s a well managed company

    I think that a key factor in their poor xmas was actually the incredible popularity of the iPad, with cash strapped parents going for one big “toy” and the iPad’s appeal is that it’s something the whole family can use.

    They should get a boost from the olympics this year – but there was an air of panic about some of the new deals they announced which does seem to be taking them out of their niche.

    I’d be interested in what you think after a closer look

    Reply
    • Richard Beddard February 10, 2012 at 10:09 am

      Hi Trident, thanks for your comment. You know I’m always going to be more sceptical about brands than you are! They have value, but how much? Name one mother and baby care specialist apart from Mothercare – but its being competed off the High Street. How much is the brand worth? Not much it seems to me. It’s going great guns abroad – where the brand (presumably) is much less well established. I’m not saying Hornby is in any sense comparable to Mothercare, just that I can’t help but approach brands with scepticism.

      The question I’m asking is the one implicit in your observation about new deals, and how they smack of desperation – if the brands are so strong why the diversification, and why does it need to piggy back on other brands through licensing?

      I’d love to add Hornby, but the answers to these questions have a big bearing on the price.

      Reply
  • Trident February 11, 2012 at 9:15 am

    Richard

    I agree with what you’re saying. But I think the brands are very very important. In the UK Hornby practically has a monopoly in train sets and slot cars. So, it then leads you into the question – is it a good business to be in? If the answer to that is – yes, then Hornby should be a buy. If it’s other than a yes, then maybe it’s not a buy – but at least it leads you to think about the sector more than the company, which I think helps one focus better on the decision to invest or not.

    Your focus seems to be on the book value, which I know is a technique followed by successful investors, but for me the price to book ratio is largely about establishing the margin of safety in a liquidation. With Hornby book includes about £13m goodwill – which is really the brand value on acquisitions, it also includes a lot of tooling and moulds which I guess must be sitting in someone else’s factory on the other side of the world and a somewhat disconcertingly high level of inventory. All this makes me a bit wary about the realisable book value. It doesn’t include the brand value of Hornby and Scalextric. So, I think book is flawed too.

    Ultimately, ignoring both our caveats – book and brands suggest that Hornby is cheap, but only if there’s growth still in this sector. And that I find a hard question to answer, but I think it’s at the heart of determining whether Hornby is an investment. Knowing the brands are so strong at least gets me to just focus on that one key issue.

    The diworsification suggests a certain lack of faith by the directors that they can do well with why they have.

    Mothercare – take your point, but I think most people think of it more as a retail outlet than a manufacturer, I’m not sure that it’s a strong brand.

    Reply
    • Richard Beddard February 13, 2012 at 2:48 pm

      Hi Trident. I think we’re agreeing on Hornby. I take book value as a starting point but I’ll pay more for a company that can earn a high return on it (i.e. ROE) – which may be explained by the ‘hidden’ brand value of Hornby and Scalextric.

      The problem is ROE has been decreasing for a while, and we have to sort out how much of that is due temporary one-off problems, maybe the supply problems, how much is due to the economic circumstances, and how much is due to the fact that these brands may be in a decline that is only being slowed by licensing deals.

      If that recent weakness is mostly due reasons 2 and 3 (i.e. the company is in decline and it’s especially prone to bouts of weakness when the economy is weak) then the only safe way to invest might be when its shares are at a discount to tangible book value.

      If the main reason is supply problems, exacerbated a little by the state of the economy, then I’ll value the company more highly.

      That’s my thought process any way, and I don’t know which scenario is the more accurate at the moment. Maybe more research would tell me, but until it does I’d act as though the brands are in decline and avoid unless the shares got very cheap.

      Time may supply the answer. Hornby seems to be at an inflection point. As you mentioned, the supply problems seem to over, so it really needs to demonstrate some strength to convince us that was all that was wrong…

      Reply
  • Monevator February 13, 2012 at 3:18 pm

    Hornby has been blaming one thing after another for years, now. I sort of decided that was a sign that it was bumping along ‘as good as it gets’ and it would never make much further headway — a long term of advances and reversals.

    The dividend wasn’t bad, though, when I last looked?

    Reply
    • Richard Beddard February 14, 2012 at 9:01 am

      Hi Monevator, thanks for your comment. I’m afraid that’s the impression I’m building and since I don’t pay any attention to dividends there’s no attraction there either (dividend yield is 5.5% according to Sharelockholmes.com).

      Reply

Leave a comment

Comments

RB on Twitter

Latest posts

Sections

Companies

AGA AIE AIEA ALG ALU AMR CARL CFX CGS CHW CTO DCG DPLM DTG DWHT DWN EDD FCCN FDL GAW HDT HOME HYNS IGR ITE JPR JSG LDSG MAE MRX NAR NTG OPD OPE PDC PRV QDG RM SN SSP TNI TON VCP VLK VP

Archives

Blogroll