Whatever you think of labour brokers, Workforce does a job

Business

INVESTMENT ANALYSIS

Whatever you think of labour brokers, Workforce does a job

Unions hate recruitment firms but they’re here to stay

Chris Gilmour


Human resources and recruitment group Workforce Holdings flies well below the radar of most investors. Its thin tradability, with only around 8% of shares held publicly, can give rise to wild price movements on very small volumes, and this explains its very low price-earnings ratio at 2.8 times on a share price of 120c.
It also operates in a currently out-of-favour sector, being recruitment, which is seeing much antipathy coming from the unions. Additionally, it enjoys an extremely low tax rate due to the favourable application of employee tax and learnership incentives, and if those were ever to fall away earnings would be severely impacted, and investors perceive this as an incipient risk.
Originally established as a recruitment agent nearly 50 years ago, listing on the JSE in 2006, Workforce has metamorphosed into a diversified group offering an extensive range of integrated human resource solutions across three functional areas: staffing and outsourcing; training and consulting; and financial (microloans, funeral policies, insurance) and healthcare (wellness programmes, disability solutions).
The strategy to progressively move away from sole reliance on recruitment is clever, not just because of union hostility who use the rather unflattering term “labour brokers” to describe staffing companies, but because of higher margins available in the other divisions.
In mid-2018, the Constitutional Court handed down a landmark ruling that cleared up confusion surrounding the deemed employer status of labour brokers and the temporary employment services industry, and acknowledged the key role they play in the South African economy. The ruling clarified that a labour broker ceases to be the employer of any staff that it places once the employee has been employed for three months or more by the labour broker’s client.
Workforce has operations across southern Africa and is now 51% black-owned, and within that broad black ownership 30% of its shares are owned by black women. Executive chairperson (now temporary CEO) Ronny Katz owns a very substantial slice. 
In the six months to end June 2018, revenue increased by 4.2%, gross profit by 6.7% and headline earnings per share grew by 8.1%. The disproportionately larger increase in gross profit compared to revenue is attributable to a larger weighting coming from the higher margin training business. Compound annual growth rate in revenue since 2014 is 13% and the balance sheet is sound, with a relatively low debt/equity metric of around 59%.
Segmentally, recruitment remains the largest earnings contributor at 75%, with training and consulting on 19%, and financial and healthcare on 6%. Earnings from recruitment slumped in the half year due to the overall poor background economy, uncertainty among employers due to the overhang of the Constitutional Court ruling, and bad debt provisions, especially in the construction sector.
At pretax level, profits were flat, so improvement in bottom-line earnings was entirely due to a tax credit of R3m, versus a tax expense of R1.5m in the previous interim. This benefit was due to learnership allowances in terms of section 12H of the South African tax act and Employee Tax Incentives (ETI) that encourage employers to hire young job seekers. These two positives are not guaranteed for the long term and require extension by legislation from time to time. The Workforce strategy is to fully replace ETI with earnings from future business acquisitions.
Between 2008 and 2015, share price has languished between 40c and 65c, rising up to 250c early 2017, and then declining. A gradually improving economy and more certain environment for labour brokers should help improve earnings. But it may take time for the market to ascribe a decent rating, and the tight shareholder spread and accompanying high share price volatility may be offputting.
Chris Gilmour is an investment analyst.

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