Creightons (CRL)

Forget the manufacturing, it's all about the brands.....

Happy May Day weekend! Between the Morris dancing and the country fairs, I’ve found some time to upload my first post on Substack. For those on my old mailing list, I’ve taken the liberty of moving you across to this platform. However, if this isn’t what you expected, or your inbox is simply too full, please un-subscribe at the bottom of the email. Otherwise, I thank you for your support and hope you enjoy the writeup.

Creightons is a UK based manufacturing company with two factories, in Peterborough and Tiverton. Creightons makes skincare and haircare products such as face creams, hand soaps, shampoos, and pillow sprays. A business that itself appears unexciting, until you consider the company’s admirable track record and even brighter future.

What sticks in your mind when I mention manufacturing?

Perhaps……a highly competitive industry with profit margins barely above zero? Maybe, combined with factories that require constant maintenance and hold bags of inventory. Thereby, sucking out much of the meagre cashflow and leaving precious little that can re-invested or distributed to shareholders.

Truthfully, I can’t tell you Creightons is an outlier. It has two asset heavy and competitive businesses: the first, called Contract Manufacturing, allows bigger brands (think Molten brown or The White Company) to outsource the manufacturing of face creams or hair products. The second, called Private Label, provides manufacturing services and creates brands for major UK supermarkets or pharmacies such as Tesco, Sainsbury's and Boots.

But there is a third businesses, one that is much higher quality. Called Branded Products, it not only manufactures products but it also creates, manages, and more importantly owns the brands themselves.

To grow this business, Creightons experimented with a single brand. At first, selling its Creightons branded products in discount retailers such as Superdrug or Poundland for around £1. Here are some examples:

However, in 2016 the strategy for Branded Products changed substantially after the purchase of a second manufacturing facility in Tiverton. This not only added additional capacity, but it also gave Creightons the ability to make more technically advanced products such as fragrances, gels, and serums.

Around the same time, the marketing team stepped up efforts to develop brands internally. They identified undeserved parts of the market that were either too small or too niche for Crightons much larger and richer competitors (think Unilever or Loreal). An approach that led to the development on new products focused on need states such as problems sleeping, or controlling curly hair.

These internally developed products have produced exceptional returns on investment. For development costs estimated to be around £0.5 million, the marketing team created Feather and Down, which has become the UK’s best selling pillow spray and today has sales of over £4 million. They also created The Curl Company with sales of over £1mm.

Acquisitions added another four brands. Here, the playbook was simple – buy a struggling brand at around 1 x sales, cut costs by bringing manufacturing and procurement in-house, whilst also driving higher volumes using Creightons already established retail network.

This approach was successfully tested with Balance Active, a skincare serum bought for £0.5 million in 2019. Two bigger acquisitions followed in 2021. Firstly, the Brodie and Stone portfolio for ~£5 million, which added T-Zone, a gel for spots and blemishes and Natural World, a natural shampoo. And most recently Emma Hardie, a premium natural skincare brand bought for ~£7 million.

At this point, I must confess that the last two acquisitions have been controversial. I think it’s safe to say that many shareholders think mistakes were made and that Emma Hardie may never reach management’s expectations.

Yet, I want to focus on the bigger picture. Over a few years, Creightons has gone from a single brand to a diversified portfolio of 8 distinct brands and the company no longer relies on discount retailers to sell cheap soaps and shampoos. It now has a fast growing online sales channel (via Amazon), an export business, and its products can be found in all major supermarkets and pharmacies in the UK. Here’s some of the examples mentioned above:

These products have prices ranging from ~£5 all the way up to over £40 for Emma Hardie. Financially, this move up the value chain reduces capital intensity as brand value becomes more important in comparison to the cost of raw materials. At the same time, operating margins for the Branded Products division have grown well into double digits (I’d estimate around 15-20% in line with competitors), which has vastly improved the company’s consolidated results.

Creightons has steadily compounded sales from £4 million in 2002 to £61 million in 2022, at a respectable +14% annualised growth. Yet, recent improvements in profitability have been remarkable. Operating profit grew from £600k in 2016 to over £4 million in 2022, representing an impressive +19% annualised growth!

Two decades of operating performance have been overseen by the same management duo. William McIlroy, the Chairman and CEO, underwrote a rights issue in the year 2000 that ultimately saved the company from bankruptcy. A few years later, he chose Bernard Johnson to run the day-to-day activities and appointed him as Managing Director.

I challenge you to find better incentivised team. William McIlroy owns ~23% of all shares outstanding and Bernard Johnson owns a further ~7%. Both take relatively low salaries (£26k and £92k) - instead receiving most of their pay through an annual bonus that essentially amounts to 5% of Creightons pre-tax profits. No structure is perfect, but this ensures executive pay is tied to operating performance and provides a clear incentive to improve profitability over time.

At 35p per share, the current market capitalisation is £24 million and the Enterprise Value is £32 million. Book Value is £25 million. In 2022, Creightons produced Operating Profits of £4 million and Net Income of £3 million. For a business with such an impressive track record, Creightons is trading on a low multiple of profits and book value.

“OK, so you’ve found something that’s cheap on last year’s earnings, but what about next year? There is record high inflation in the UK and you’re looking at a manufacturing company! Are you mad? Won’t the rising cost of raw materials wipe out the company’s profits?”

Creightons will shortly report on its 2023 results, and earnings will almost certainly drop substantially. Yet, I’m far from concerned. This is a long-term holding for me and I strongly believe that the 2022 results, rather than 2023, give us a much better flavour of what we can expect going forwards. There are a few reasons for this:

• Price rises have now been implemented. The first half of the reporting year (to 30 Sep 22) was spent negotiating price rises with big retail clients. This took much longer than expected and ultimately resulted in the company’s first half yearly loss in over a decade! However, abnormally high inventory levels and the associated short-term financing won’t persist forever. According to the latest analyst call, all customer have now agreed a 5 to 15% price increases and the company returned to profitability in August and positive cash flow in November. I even expect a net-cash balance sheet within a year, as inventory reduces from 8-9 weeks down to the targeted 4-week holding period

• Increasing Margins. Management have guided towards consolidated Operating Margins of ~10% (in 2022 Operating Margins were 7%). I’m the first to be sceptical, but this doesn’t seem unreasonable. Since 2016, Operating Margins have averaged around 7% and this does not include potential cost savings from in-house manufacturing of the brands bought in 2021.

Of course, there will always be risks. Probably the biggest is succession - both William McIlroy and Bernard Johnson are in their 70s and will be stepping down in due course. There are two deputy Managing Directors as potential replacements but the ownership and incentive profile will change substantially as together they own only ~3% of shares outstanding. Dilution is another concern. The board has liberally issued shares for employee incentives (amounting to ~1% dilution per year) and have experimented with issuing equity to finance acquisitions (albeit at a much higher share price).

Yet overall, the current issues are short term in nature and I strongly believe that earnings will be significantly higher in five years time (even than the results achieved in 2022). This is a company that has grown sales for over two decades, and more recently has substantially improved its business model in a way that I think will enable a much brighter future. I can’t wait to see if I’m right!

Disclaimer. This article is for informational purposes only, and should not be seen as investment advice. Please do your own research before investing in any company mentioned.