As part of our quarterly segment, Hidden Value Stocks—which focuses on investment picks that often get overlooked—we interviewed Geoff Gannon from Focused Compounding Capital Management in Q1 2020. The hedge fund zeroes in on the 1% of stocks that most people ignore while still keeping a tightly concentrated portfolio. The businesses they invest in typically have durable competitive advantages and predictable operational results over the long run.Along with discussing investment strategy, we took a close look five years later at one of their favorite hidden gems: Vertu Motors Plc (LON:VTU).
The Story of Compounding Vertu
Since he began investing in 2018, Geoff Gannon has always favored a “business-first” perspective, rather than treating his investments merely as trading opportunities. Part of the firm, which handles separately managed accounts, focuses on small-cap companies with lower liquidity and less correlation to the major market indexes.
Warren Buffett and Charlie Munger played a major role in shaping this philosophy. Focused Compounding knows Buffett’s edge comes from investing large sums in just a few high-quality companies and then holding on to them. They look for businesses with strong compounding potential, but finding them isn’t easy—so they’re always on the hunt, analyzing prospects that fit this profile.
They’re especially drawn to sectors with seemingly long runways, such as banking, insurance, amusement parks, or the food industry. Another key requirement is that the company can consistently generate a respectable return on net tangible assets, year after year.
Even in a tough year for the sector, if a company can manage a 10% after-tax gain, it’s not going to destroy its value through reinvesting its cash. The final piece of the puzzle for Focused Compounding is growth potential. Companies that plow a large portion of their earnings back into their core operations typically have a greater chance of delivering high returns for shareholders.
Vertu’s Thesis
Vertu Motors (VTU) is a U.K.-based car dealer that was trading well below its book value when Focused Compounding first invested. Prior to that investment, Vertu had devoted significant resources to capital expenditures, leading the fund to believe that free cash flow would rise substantially in the coming years.
Another appealing aspect was Vertu’s relatively rare history of stock buybacks. In fact, the company had reissued shares twice—both times at very low prices. But recently, it changed gears and started buying back large amounts of stock, which caught the fund’s attention.
Focused Compounding determined that the company was overcapitalized. Vertu also doesn’t borrow much against its used car inventory compared to rivals. With these factors in mind, the fund concluded that the stock was undervalued and presented a strong opportunity.
Because Vertu’s management had enough room to earn solid returns on these share buybacks, Focused Compounding felt the leadership had shifted its stance on capital allocation. This approach would also benefit shareholders who got in below book value and continued to hold as the share count dwindled.
Comparing the Business with the Main Competition
When assessing the Vertu thesis, Focused Compounding looked at competitors such as Cambria Automobiles (LON:CAMB) and Pendragon PLC (LON:PDG).
Cambria, another London-based car dealer, targets a more affluent market with brands like McLaren, Bentley, and Lamborghini. According to Focused Compounding, high-end car dealerships usually enjoy healthier economics than those relying on high-volume sales. However, the fund found it challenging to gauge the true value of those luxury cars and what that might mean for Cambria’s broader business. Although several people recommended choosing Cambria over Vertu, Focused Compounding ultimately decided against it because the valuation was difficult to pin down.
Pendragon, on the other hand, relies heavily on debt—much more so than Vertu—which deterred Focused Compounding. In a market downturn, most would expect a highly leveraged player like Pendragon to be the first to stumble, which is one reason Pendragon’s stock has lagged behind Vertu’s.
At the time of the interview, Vertu was trading at roughly 60% of its tangible book value. Around half of Vertu’s tangible assets were cars, 20–30% were dealerships, and about 5% was cash.
Assessment of Management
Vertu’s management has a mixed track record. Operationally, they’ve done a solid job with acquisitions, boosting margins, creating economies of scale, and increasing returns on capital. But they also reissued shares at low prices, hurting the company’s value. If you had owned 5% of the firm at its IPO, you’d be pleased with the operating results yet disappointed by how those share issuances diluted your stake.
Following the 2008 financial crisis, the company’s sales jumped four- to fivefold, while operating profits rose eight- to tenfold—helped by spreading fixed costs across a larger network of stores. However, acquisitions require funding, and Vertu’s leadership is reluctant to take on debt. Instead, they opted to issue more shares.
Eventually, they reversed course a few years ago and began repurchasing shares—likely because the stock price didn’t reflect the company’s improving performance. Management must have recognized that the shares were trading too cheaply.
Because Vertu issued stock below book value to finance acquisitions that were above book value, coupled with the fact that it continued paying dividends, its tangible book value per share never really increased. Another issue is that Vertu’s leadership has little personal stake in the company compared to, say, the CEO of Cambria. They’ve mostly operated Vertu like a well-run business, but not necessarily from an owner’s perspective.
Future Potential
Estimating Vertu’s intrinsic value isn’t straightforward, but Focused Compounding believes it should trade at more than its tangible book value—possibly 1.25 times. That would be double its price at the time of the original interview, although the uncertainty around the Coronavirus pandemic made it hard to forecast market reactions.
The main risk the fund identified was the possibility of Vertu taking on significant debt to fuel growth. Even so, they planned to continue building their stake as long as the price remained attractive.
Revisiting the Stock Five Years Later
When we conducted our interview, Vertu was hovering around 20 GBX. It generally climbed over the years—apart from a brief dip in Q3 2022—entering 2024 at about 70 GBX. In June 2024, it peaked at 80 GBX before retreating to around 60 GBX.
A likely cause of the more recent stagnation was Vertu’s acquisition of competitor Burrows Motors for an undisclosed amount—an expansion into Yorkshire and Nottinghamshire that could prove lucrative in the long term.
Annual reports indicate that Vertu is on an upward trajectory. Revenue increased from £3,615.1 million in 2022 to £4,014.5 million in 2023, then climbed again to £4,719.6 million. Free cash flow also rose from £16.2 million in 2022 to £57 million in 2024.
On the flip side, adjusted profit dipped from £80.7 million in 2022 to £37.8 million in 2024. The main culprit was a drop in used-car values in late 2023, which cut into margins and overall gross profit. Still, this seems more like a short-term issue. Vertu’s strategic acquisitions have extended its market reach, positioning it well for the future.
Looking at the bigger picture, the stock price has roughly tripled over these five years, and there’s still room for further growth.
