Good business, bad liabilities

Johnson Service’s operational heart is beating strongly, but its strengths as a business are weighed down by hefty liabilities. Maybe management makes the difference.

What it does:

Johnson Service is mostly a textile rental and cleaning business. It supplies clothing and linen to hotels and caterers as well as industrial workwear, operates Britain’s biggest chain of drycleaning stores, and runs a smaller facilities management business.

Category: stalwart

Although Johnson Service almost defaulted in 2007 that was the result of a costly and mismanaged expansion rather than fundamental problems with the businesses. The management team that rescued the company, has over the last three years demonstrated strength through recession earning consistent unlevered returns of 12%. 

What needs to happen:

The company’s plan is to use a new larger borrowing facility to make small complimentary acquisitions such as its acquisition of Cannon Textile Care for ''6m earlier this year. I think it must proceed cautiously as it already has hefty liabilities.

What could go wrong:

competition

Competitors include Johnson’s bigger listed rival Berendsen, formerly Davis Service, with both companies claiming to be market leaders in overlapping segments, and smaller, often regional, companies. I think the market is fairly stable.

management

Executive chairman John Talbot was recruited as interim chief executive in 2007 to turn the business around. Having achieved that and bought a shareholding currently worth nearly ''2m, he has earned shareholders’ confidence. Finance director Yvonne Monaghan also joined the board in 2007, but she had been with the company since 1985.

company finances

With experienced, stable management and a reasonable competitive situation the biggest risk to the business is how it’s financed. Including the value of operating lease commitments, and discounting the value of goodwill, debt is 63% of tangible assets and the company has a defined benefit pension obligation that is almost large enough to trouble me. Although individually the debt, pension, and lease liabilities don’t look too onerous, if Johnson were to struggle they could prove onerous.

valuation

The unlevered earnings yield of about 12% is good value, provided Johnson Service can meet its financial commitments. With Talbot running the company, I’m inclined to believe it will.

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Verdict:

The Thrifty 30 already owns shares in Johnson Service and adding more is a borderline decision. The shares are good value but I don’t like the liabilities.

I trust management not to put the strong business its worked hard to rescue back in jeopardy again by expanding recklessly, so this morning I added more shares at the price quoted by my broker of 30p, deducting ''10 for fees and 0.05% stamp duty as usual.

Notes:

• This is a two minute monologue.
• A list of companies in the textile rental business.
• Executive biographies of John Talbot and Yvonne Monaghan.
• More on Johnson Service.