The price is wrong

Churchill China is a stable, profitable manufacturer of tableware with a proud heritage that has found an answer to low-cost competition. The only questionable thing about it is the price.

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Churchill China manufactures tableware in Stoke on Trent, mostly for hotels, pubs, restaurants, cruise ships and the healthcare sector. It also distributes a wider range of ceramic and glass tableware sourced abroad for independent retailers and department stores. The hospitality business is over twice the size of the retail business, which the company is shrinking. It’s emphasising quality and design, offering ‘best cost-in-use’, i.e. higher prices and fewer breakages.

Bargain/Turnaround/Cyclical/Stalwart/Growth:

Through a decade of change and investment the company has reported remarkably stable returns on capital averaging 5% without recourse to debt. It’s a modest return, but rivals went bust in the face of cheap foreign competition and recession.

Expectations:

Churchill will continue to focus on hospitality products made to a high standard in the UK. Increasing automation and innovation enable it to produce high quality attractive designs cost-effectively giving it market leadership in the UK and global ambition (37% of revenues are from abroad) . It’s committed to retrenching retail to its middle-market niche, where profit margins are higher and more reliable and Churchill’s design expertise adds value.

Threats:

competition
Churchill’s strategy is a response to low-cost competition from abroad. The company is retreating from the low-end of the retail market, where it can’t compete, and pinning its ambitions on hospitality, where superior quality and customer service matter. I think its performance shows the strategy is working.

management
Chief executive Andrew Roper has worked for Churchill China since 1973, and is one of a number of family members to have substantial shareholdings. The value of his shares is nine times his 2011 salary, which gives him an incentive to steward the company. With Roper in charge, I think Churchill China will remain a stable yet innovative business.

finances
With no debt, tiny operating leases and a modest defined benefit pension obligation the company could probably withstand a bull in its china shop.

valuation
Churchill China’s valuation is the biggest risk facing investors in a company that is otherwise almost perfect for investment. At ''3.35 the company’s earnings yield is about 5%, scant return for what is admittedly little risk. Perhaps investors are paying for dependability.

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Verdict:

A 5% earnings yield is the same as a price earnings ratio of 20, which is my best estimate based on the last nine years. An investor might pay for that in a company with strong prospects for growth, and arguably, having invested so heavily, Churchill China has a more profitable future ahead of it. My perception is of a company that is holding its own against often cheaper, and often inferior, competition. It’s a company I’d like to add to the Thrifty 30, but at a lower price.

Notes:

• How I calculate the earnings yield.
• My worksheet for Churchill China.
• Best in-cost-use explained.
• Two minute monologues explained.
• More on Churchill China.