7:59 cut – Staffline (STAF)

A lot has happened since I last wrote about Staffline’s most recent accounting problems at the end of January. The resignation of Chris Pullen announced on 20th February was a critical step towards making the company investable, but it is the slow-motion tsunami of UK coronavirus infections and eventual government response which will be uppermost in investors minds.

Given that their balance sheet is financially geared in the extreme, that they are a forced seller of at least one of their subsidiaries in the worst business environment in living memory and that they operate a staffing agency in an economy where hundreds of thousands of people have been thrown out of productive work, it is hardly surprising that the share price has fallen heavily from 64p to 16.5p in less than two months.

Yet a few days ago I bought in – why?

Firstly, it has long been clear that they are far too strategically important to the functioning of UK economy to be allowed to fail in a disorderly manner. The best way to avoid this is not to let them go into administration, and the best way to do that is forbearance from their banks. Ever since the GFC the UK government has had significant influence with banks. Furthermore they no not appear in danger of exceeding their facility size, just of continued covenant breaking.

Secondly, their business sectors are relatively defensive, including significant amounts in food and they are the go-to people to cover staff sickness.

Thirdly, I believe they are significantly cashflow positive and are trading at a PE of around 1. This valuation reflects a very high level of cheap debt funding which would not normally be sustainable given the evident extreme risks to the banks.

Therefore I could see a situation where they were unable to sell an operating business, but the banks were unable to foreclose or change their terms, allowing the company to pay down debt at its own speed. At this point they are on a genuine P/E of 1x.

Today’s statement reinforces this view.

Note: This is an exceptionally high risk investment. They are likely to struggle to produce audited 2019 accounts, stand a very high chance of being suspended at some point and have a high chance of insolvency.

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