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Buy My Place

SPACS

In December 2015, Killara Resources, an unsuccessful Indonesian coal mining company announced they would be relisting on the ASX as the online real estate sales company Buy My Place. The backdoor listing involved an offer of up to 25,000,000 shares at a price of 0.20 each to raise $5,000,000.  

Unlike some of the more speculative backdoor listings that the ASX is known for, Buy My Place was an actual established business. Launched in 2009, Buy My Place let Australians sell their house cheaply without spending thousands on real estate commissions. For a low fixed cost, they gave you an ad on Domain and the other major property sites, photographed your property, and sent you a billboard for the front of your house. It was a simple model, designed to demonstrate just how overpaid real estate agents are in an age of inflated house prices and increased reliance on online research.

BMP re-listed on the ASX on the 15thof March 2016 at a Market capitalisation of just over $11 million, roughly 11.5 times their pre-IPO annual revenue. In the January – March quarter the company achieved revenue of $288,000, and by the July-September quarter this had grown to $514,000. Not long after that, the share price hit a high of $0.44 on the 28thof October 2016, a 120% return on investment for IPO investors in just over seven months.

While investors didn’t know it at the time, 44 cents was as good as it got. Over the next few months the share price dropped steadily, reaching an all-time low of 15 cents in July 2017. There was no defining moment that can explain this slump in price. Throughout this period updates from the company continued to be positive, promoting record cash-flow numbers with nearly every quarterly report. Reading back through the company announcements, there is nothing to suggest that this is a company losing 65% of its value.

It is only when you look at the Prospectus in more detail though, do you get a sense of how Buy My Place has failed to live up to its own expectations. While there were no forecasts in the Prospectus, the three tranches of performance rights for senior Buy My Place employees gives us an idea of what the company, and by extension shareholders, were hoping for. The three tranches vest if the company achieves 8,000 property listings, $10,000,000 in revenue or EBITDA of $3 million in one financial year by July 2019. As it stands, these goals seem completely out of reach. If you annualize their last quarter numbers, Buy My Place is on track for annual listings of 1676, revenue of $3,668,000 and so far away from profitability it’s probably not even worth discussing. Whether a 10x increase in revenue over three years while retaining profitability was a realistic goal or not, somehow it seemed that this became the standard the company has been judged against.

A slightly more charitable way to look at Buy My Place’s lukewarm first couple of years on the ASX is that convincing someone to sell their own home without a real estate agent is a harder transition than both investors and the company initially realized. People may resent the huge amounts of commission Real Estate Agents pick up with relatively little work, but the step from resentment to taking the pressure of selling a house on yourself is another matter entirely. In February 2017 the company seemed to acknowledge this fact, and launched a full-service package, where for a higher fee of $4,595 home sellers gain access to a licensed real estate for advice, who also manages the whole process. This strategy seemed to be part of a broader re-positioning that happened throughout 2017, where the company sought to increase its revenue per client. In July, Buy My Place announced the Acquisition of My Place conveyancing, an online conveyancing firm they had referred business to in the past. A few months later in September Buy My Place announced a partnership with FlexiGroup, allowing customers to finance both Buy My Place fees and other costs associated with selling their property.

To cap off these changes, in October Buy My Place announced the departure of Alan Heath and the appointment of Colin Keating as CEO, a younger executive who had spent time at American Express and more recently at an investment administration company. The new strategy seems to have also involved a re-focus on revenue growth above all else. For the last two quarters, revenue growth has increased to an impressive 20%+ per quarter, but expenses have grown just as quickly.

Buy My Place - Quarterly cash flows since listing (thousands)













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For a company running at this sort of deficit, the obvious concern is how much runway they have before they will run out of money. At the end of December, the company had $800,000 in cash, plus an unsecured, zero interest credit facility with the investment/bankruptcy firm Korda Mentha of $1,000,000. Given they are currently running at a deficit of roughly $750,000 a quarter, it seems highly likely the company will need to go through another capital raising round in the next six to twelve months.

While normally the knowledge of an impending capital raise is enough to make me lose interest pretty quickly, the current share price seems close to the floor of any potential future equity raise. In December 2017, Buy My Place raised $400,000 from sophisticated and professional investors at a price of $0.16 each. In addition, the company secured a zero interest credit facility with the finance firm Korda Mentha of $1,000,000 in return for the issuance of 6,250,000 options with an excise price of 16 cents. With this in mind, It is unlikely these investors (Korda Mentha is also a major shareholder) will allow any future equity raise at less than $0.16 cents a share, given that announcements since then have generally been positive. With shares currently trading around the $0.16 mark, future equity raises should be at or above this price.

The competition


Although there are a number of online sites offering online house sale services in Australia, the elephant in the room in any discussion of Buy My Place is Purple Bricks. The UK low cost real estate agent expanded to Australia a couple of years ago, and with revenue of more than double Buy My Place in Australia and a market capitalisation of over $900 million pounds internationally, they represent the biggest competition by a few orders of magnitude. With this in mind, I thought it might be useful to compare the two companies’ latest half year reports for Australia only.

Buy My Place and Purple bricks H1FY18 (Millions)

Purple Bricks PB costs/revenue Buy My Place BMP costs/revenue
Revenue 6.8 1.57
Cost of sales -3.2 47% -0.53 34%
Gross Profit 3.6 53% 1.04 66%
Administrative expenses -3 44% -2.97 189%
Sales and marketing -5.7 84% -0.87 55%
Operating loss -5.1 75% -2.80 178%

The thing that immediately jumps out is Buy My Place’s much higher administrative expenses as a percentage of revenue compared to Purple Bricks. This can partially be explained by some one-off costs Buy My Place had regarding the appointment of their new CEO and acquisition of MyPlace Conveyancing, but it does look like these are costs that need to be reined in. You would also expect this ratio to improve as Buy My Place’s revenue grows. However, the overall picture suggests that these are two companies operating in broadly similar ways. The fact that Purple Bricks has managed to hit profitability with this model in the UK should be seen as a positive for potential Buy My Place investors. Purple bricks entrance to the Australian market should also help familiarise people with low cost real estate agent options, opening up more potential customers for Buy My Place.



Valuation and Verdict


At its core, Buy My Place is an idea that I really believe in. There is no reason for a Real Estate Agent to take in tens of thousands of dollars in commission to sell a house, in an age where buyers are increasingly comfortable doing their own research and the same handful of online sites are used by everyone when searching for a house.

With a market capitalization of just under $10.8 million dollars at time of writing and annual revenue of $1.53 million as per their latest half year accounts, Buy My Place is currently trading at 3.53 times annual revenue. For a company that has managed to sustain 20%+ quarterly growth for the last six months this seems like a pretty enticing deal. While some of this can be chalked up to the Buy My Place’s rather precarious cash position, it seems that at least part of the companies relatively cheap price can be explained by the short attention span of the market. Micro-cap investors are quick to move onto the new thing, and after failing to live up to their initial hype, it seems many investors have simply lost interest in Buy My Place.

I bought a relatively small investment in Buy My Place at $0.155 cents each last week. I will be watching the coming 4C closely due in just over a month’s time, and if they can start reducing their loses I will likely add to that position.

Registry Direct

SPACS

Overview


Registry Direct is a software business that provides share registry services to publicly listed and private companies. This includes keeping track of shareholders, facilitating the issuance of new capital, convening shareholder meetings and providing meeting minutes, share raising information and other required communications to shareholders. Registry Direct aims to provide low cost registry services to smaller privately-owned companies than have typically been ignored by the established share registry companies. The maximum raise is 6 million, with a post raise market cap of 20.5 million.

Founder


One of the main things I look at when evaluating the IPO’s of new companies is the strength of the Managing Director/CEO and how long they have been involved in the business. It was a key factor in why I invested in both Oliver’s and Bigtincan, and why I passed on Croplogic. Registry Direct’s founder is a guy called Steuart Roe. Steuart has been a key figure in the Australian investing world for years. He was involved in launching the first Exchange Traded Fund on the ASX back in 2001, and more recently was the manager of Aurora Funds Management from 2010 to 2014. It is his time at Aurora Funds Management that may potentially be a concern for some investors. Aurora Funds Management was created when three separate funds management companies were merged in 2010. One of the funds that was part of the merger was a fund founded by Steart called Sandringham Capital, and Steuart became the Managing Director of Aurora Funds management upon the new funds creation.

Without going too much into the details, the fund performed poorly, and Steuart Roe left the business in 2014. This article has some insight into the problems as does this hot copper thread where someone from registry direct actually turns up to give Steuart’s side of the story.

Having spent some time reading through all of this, it seems Aurora’s problems were caused by a few unlucky investment decisions rather than incompetence or mis-management. As a result, I don’t see how this should have any negative impact on how this IPO is evaluated. On the other hand, the experience and connections Steuart must have picked up in his time running investment funds seem to make him uniquely qualified to lead a successful share registry business. If you look at how quickly Registry Direct has grown since the business began in 2012 a lot of this has to be down to Steuart’s connections and experience enabling him to both design a product that fund managers and company owners would like, and have the connections to sell if effectively. Post listing Steuart will own just under 50% of Registry Direct’s stock and will continue in his current role as managing director. And all in all, I see his significant stock holdings and continued presence in the company as a significant bonus for this IPO.


Financials

Registry Direct are one of the few companies I’ve reviewed whose only pro forma adjustments actually reduce net profit.
Below are the unadjusted audited figures for the last three years:



Whereas the figures once pro forma adjustments have been made are here:


The rationale behind the reduction in revenue is that Registry Direct received consulting fees unrelated to the share registry business in 2015 and 2016 of $377,167 and $555,224 respectively that have been excluded from the pro forma figures. Interestingly enough, these fees came from Steuart’s old company Aurora Funds Management (Aurora Funds Management was renamed SIV Asset Management in 2016). While Steuart stepped down from his Managing Director position in 2014, he only resigned from the board of SIV Asset Management in June 2017. It would be interesting to hear what shareholders of SIV Asset Management think about the company shelling out over $900,000 to a company owned by one of its directors – but that is a topic for another day.

There can often be a real lag in revenue growth for software companies in early years, with every dollar of revenue dwarfed by massive investments in software development. That Registry Direct managed to grow its revenue so quickly is impressive, as is the fact the company managed to achieve profitability in 2015 and 2016, even if it was only due to the somewhat suspect related party consulting fees. 

Industry and strategy


The Share Registry market seems to be a relatively healthy industry, with good growth potential and profitability.  Computershare and Link, the two biggest companies in this sector in Australia grew their profits by 68% and 101% respectively over the last financial year. As mentioned at the start of this post, Registry Direct intends to diverge from these companies by providing cheaper registry services to a larger number of smaller privately-owned companies. The prospectus uses the below table to present Registry Direct’s proposed fee structure. 


The prospectus also indicates they intend to drive this growth by allowing accountants lawyers and other professionals to sell “white label” versions of the Registry Direct software. From an outside perspective at least, this makes a lot of sense. If Registry Direct can offer simplified registry services through a standard software package, increasing customer numbers by allowing accountants and other professionals to sell Registry Direct’s software on their behalf seems like a logical way to increase revenue without hiring a large salesforce. This strategy should be further buoyed by the Turnbull government’s recent legislation changes regarding crowdfunding in Australia. These changes make it much easier for unlisted companies to raise money from the public, which should result in a dramatic increase in the number of private companies looking for cheap registry services.
Despite how promising this all sounds, it should be noted that at the date of the Prospectus, Registry Direct only had 60 share registry clients and its two largest registry clients made up over $400,000 of the companies FY17 revenue. It seems that last year at least, Registry Direct was still operating more like a typical share registry business, providing tailored services to a smaller number of high paying customers. This pivot to a larger number of lower cost clients may be good in theory, but it is worth remembering that at this stage it is more of a plan than current business operations.

Valuation and Verdict

At only $648,000 of FY17 revenue vs a market cap of 20.5 million, this IPO is a little more expensive than I would prefer. Market cap divided by revenue is a troubling 31.7, vs 6.6 for Bigtincan, a Software IPO I invested in earlier this year. However, considering the company was only founded in 2012 and just how quickly revenue has grown over the last few years, I feel that this expensive price is at least somewhat justified.

Overall, the main thing that makes me willing to overlook this high valuation is how confident  I feel that Registry Direct will be successful. The company has demonstrated that it can grow revenue quickly, has recorded profitability in previous years, and is led by an impressively well connected and experienced Managing Director. What’s more, the company is operating in what seems to already be a relatively profitable industry that is likely to see an explosion of demand thanks to the Turnbull governments legislation changes. While I would be happier if the price was a little lower, for these reasons Registry Direct will be my fourth IPO investment since starting this blog.

Croplogic

SPACS
When I first saw the Croplogic IPO I was pretty excited. Lately ASX IPOs seem to have been an endless list of speculative mining startups and suspicious Chinese organizations, so its nice to see a company that seems genuinely innovative. Based on technology and crop management techniques developed by the New Zealand government research institute Plant & Food Research, the company is looking to revolutionize the agronomics sector with various technological and modelling-based solutions. This includes both patented electronic monitoring devices that provide live soil moisture levels from the field, as well as sophisticated modelling that allows farmers to predict moisture levels and show optimal times for watering and fertilizer application. The idea is that this technology will allow agronomists to spend less time driving from field to field taking samples, while giving farmers a higher level of service at the same time. The company has been around for five years, and has completed a few trials with large multinationals. While they claim these trials have been promising, they haven’t really amounted to much revenue as can be seen by the meagre profit and loss report.



Croplogic is seeking to raise up to 8 million, with an indicative market capitalization of $23.9 million based on a maximum subscription.

Strategy

One interesting things about Croplogic is that they have decided to grow by acquiring established agronomy businesses rather than organically (if you’ll excuse the pun.) This is based on the idea that the agricultural market is suspicious of new entrants and values existing relationships. Croplogic therefore intends to purchase traditional agronomics businesses then slowly introduce Croplogic’s various innovations to their customers. While I understand the thinking behind this (at a previous role I saw first-hand a European fertilizer company fail spectacularly in their expansion into Australia due to difficulties selling to suspicious Australian farmers), there are a few factors that make me worried this strategy won’t work. Post listing, Croplogic will have only around 8 million dollars with which to buy the very specific type of company they are looking for (they are specifically targeting potato agronomics companies) in the limited amount of time they have before shareholders start getting impatient. With such specific criteria and a limited amount of time, it seems a real risk they will be forced to pay above market prices for the first suitable company they find.

Croplogic’s most recent acquisition doesn’t really inspire confidence either. On the 28thof April 2017 Croplogic acquired a company called Proag services, an agricultural consulting business based in Washington state USA. Croplogic paid $1.4 Million AUD, with another $1.25 million to be paid over the next few years provided Proag’s revenue does not decline sharply. As a test case for Croplogics acquisition model, the Proag purchase does raise a few questions.

While in the financial year ending March 2016 the business made a profit of $140,000 AUD, in 2017 this had reduced to a loss of $24,650 (to make things simpler, I am using AUD for both the revenue and purchase price, despite Proag being an American company). This loss was caused mainly by small a decrease in revenue from 2.24 million to 2.14, and an increase in operating costs from $580,000 to $690,000. To be clear, the FY17 financial year ended before Croplogic bought the business, so these costs cannot be easily attributed to acquisition expenses. While there could potentially be other factors that explain the 2017 loss, 2.65 Million seems hugely unreasonable for a company that lost money last financial year, and even seems on the steep side if you just take the FY16 numbers into account.  Were Croplogic so desperate to secure an acquisition before the IPO that they ended up paying more than they should have for a struggling company? As an outsider it certainly looks like that.

Management

One of the things I look for in an IPO is strong founder with a real passion for the company. Bigtincan’s David Keane and Oliver’s Jason Gunn are two great examples of this. In addition to being good businessmen, both founders seem to have a real passion for their respective companies and expertise in their specific industries. You get the sense with both Jason and David that they have invested personally in their companies, and will stick by them for as long as it takes.
In contrast, the managing director of Croplogic Jamie Cairns has only been with Croplogic for just over a year and has a background in internet companies. The CFO James Jones has been with the company for even less time, and last worked at a private equity firm. While they both seem capable enough, they don’t seem to be experts in agronomics, and it’s hard to imagine either of them sticking around if they were offered a more lucrative role at a different company.
Powerhouse Ventures

The largest Croplogic shareholder is the ASX listed Powerhouse Ventures, owning both directly and through its subsidiaries roughly 20% of the Croplogic stock post listing. I like to think of Powerhouse Ventures a s New Zealand’s answer to Elrich Bachman from Sillicon Valley. The company invests in early stage New Zealand companies, most typically those that use technology developed in connection to New Zealand universities with the hope that these can eventually be sold later for a profit.

To put it mildly, Powerhouse Ventures has not been going that well lately. Listing originally for $1.07 in October 2016, the company now trades at around $0.55, following problems with management, higher than expected expenses, and difficulties with a number of start-up investments. 
This is a concern for any potential Croplogic investor, as one of Powerhouse Ventures easiest ways to lock in some profits and generate cash would be to offload their Croplogic shares. Considering the size of their stake in Croplogic, this would have disastrous effects on the Croplogic share price.

Summary

As you can probably guess if you’ve read this far, I will not be investing in Croplogic. While the shares are undeniably being sold for a pretty cheap price, their chances of success seem so small buying shares would feel more like getting a spin on a roulette wheel than a long-term investment. When you read through the prospectus, you get the feeling that the company is a weird miss-match of various technologies dreamt up in Kiwi research labs that some over-excited public servants felt would be a commercial success. Considering the minimal progress that has been made in the last five years, they probably should have stuck to writing journal articles. 

Sienna Cancer Diagnostics

SPACS

Overview


Sienna Cancer Diagnostics are seeking to raise 6 million dollars, with an indicative market capitalization based on full subscription of just under 37.5 million. Shares are being offered at 20 cents each.

Sienna was originally founded in 2002. The company’s focus is the development of diagnostic tools for cancer, and more specifically using tests that look at levels of Telomarese in the body to aid in diagnosis. I spent around 10 minutes clicking on links on Wikipedia trying to understand what exactly Telomarese is, but I quickly realised it goes well beyond whatever I can remember from year 10 science. Instead, as usual I will do my best to evaluate the Sienna IPO using the tools available to an average investor.

IPO’s in the biotechnology space can be broadly broken down into two categories: Pre-revenue, where all the company has is an idea and maybe some patents, and post-revenue, where the company has a proven method of generating revenue, and is now looking to ramp things up. Sienna Cancer Diagnostics falls awkwardly somewhere in the middle. While technically Sienna has been receiving revenue from product sales since 2015, if you exclude research and development expenses, revenue for the first six months of FY2017 was $291,588. There are small café’s that turn over more money than that. It’s an unusual time to list, as the immediate question is why Sienna didn’t hold off until the listing until they had demonstrated their growth potential.

Background


Like many companies, Sienna’s past does not seem to be as straightforward and linear as the Prospectus would like you to believe.

In January 2015, Sienna Cancer Diagnostics announced their first sales agreements with a Major American pathology company. Kerry Hegarty, the CEO at the time gave an interview to The Age, where she explained that “ …Sienna has succeeded where other cancer diagnostic ventures have failed because it has been able to stay an unlisted company so far.” Hegarty goes on to talk about the flexibility of being an unlisted company when you are still in a pre-revenue stage.

4 months after giving this interview Hegarty left Sienna Cancer Diagnostics.  Later that same year in September, Street Talk reported the company was planning a 10 million-dollar IPO with Pac Partners as lead manager. Did Hegarty leave because she felt that the company’s decision to list was premature? I have no idea.


For whatever reason, the 10 million-dollar IPO with Pac Partners did not eventuate, and the company is now listing 18 months later raising only 6 million with the much smaller lead manager Sequoia Corporate Finance.  A CEO leaving a company and an IPO being delayed aren’t exactly unusual occurences, but it would be interesting to get some background on why both these events happened.

Financials


As mentioned earlier, Sienna has largely relied on government rebates and Australia’s very generous research and development tax incentive program for revenue. I take the view that if the company is going to achieve long term success, it will need to eventually stop relying on government handouts and therefore these revenue streams should be excluded from any analysis.

 The worrying thing is though, once you take this money out revenue has gone backwards from 2016 to 2017. In 2016, Sienna’s first full year of receiving product revenue, the company had annual revenue of $640,664 excluding government rebates, or $320,332 every six months. The first six months of FY17 saw revenue of only $291,588, a pretty sizeable decrease at a time you would naturally expect revenue to grow.

While there may be legitimate reasons for the decline in revenue, it is not addressed anywhere in the Prospectus that I could find. The decline in revenue also puts into question Sienna’s chosen listing date. August is an interesting time to list, as it means the prospectus does not include the full FY17 numbers, even though the financial year is over by the time the offer closes. The cynic in me says that if the FY17 numbers were any good the IPO would be delayed a couple of months, as strong FY17 numbers would make the IPO a much more straightforward process.

To further illustrate the odd timing of the listing, the balance sheet as of January 2017 showed over 1.5 million dollars in cash, vs annual expenses of around $570,000. Whatever was behind the decision to list before FY17 numbers were available, it wasn’t because the company was about to run out of money.

Shareholders


Sienna have not put any voluntary escrow arrangements in place, so a key question for any potential investor is who the existing shareholders are, and how likely they would be to dump their shares as soon as the company lists.

Earlier articles about Sienna mention the ex-CEO of Macquarie Allan Moss as one of the main shareholders and backers. Interestingly enough, his name does not appear in the current prospectus, so either he has sold out completely, or now holds less than 5% of the company. Why a shrewd investor like Moss would sell-out before an IPO is another question a prospective investor should probably think about.

Instead, the current largest shareholder is now someone called David Neate, who owns just over 10% of the company. I was immediately curious about who this person was, as I could not find him listed on the board or the senior management team of the company. After digging around online, the only information I could find on him was in regards to Essential Petroleum Resources Limited, a now delisted oil and gas exploration company that someone called David Neate (and I’m aware it might not be the same guy) held 12.6% of in October 2007. 

There is an October 2008 Hot Copper thread where someone wondered why Neate was unloading so many shares in Petroleum Resources Limited. A few months after the post in January 2009, shares fell to below 1 cent following unfavourable drilling announcements  and the company delisted later that year.

Of course, there are perfectly reasonable explanations for a major investor deciding to offload shares, but it’s not really the sort of information you want to find when you start googling the major shareholder of a potential investment.

Verdict


As this is an IPO in an area where I have no technical knowledge, I am acutely aware that I could be completely off the mark with my analysis. If using Telomarese to diagnose cancer proves to be the next big breakthrough, this could easily be the IPO of the year. However, if I’m going to invest in a company that’s actual product revenue is less than one fiftieth of the indicative market capitalisation, I would at least want to see revenue growth, not revenue going backwards. Furthermore, the small amount being raised does make me wonder if the IPO is more about existing shareholders unloading stock than actually raising capital. Contributed equity is listed on the balance sheet as only 16.6 million, which means at least some initial investors would still be making significant profits if they unload their shares well below the initial listing price.

While I may well live to regret it, this is one IPO I will not be taking part in.

Why I’ve sold my Oliver’s Real Food Shares

SPACS
I hadn’t intended to write an update on Oliver’s so quickly, but on Friday I sold my shares at 30 cents each, clocking a 50% return in two days.

Notwithstanding the money I’ve made, I’m a little disappointed to have gotten out so quickly.  I liked the idea of being an Oliver’s shareholder and I was looking forward to justifying forking out the ridiculous mark-ups on a cup of green beans by thinking I’d getting it back in dividends one day. However, a 30 cent share price puts the market capitalisation of Oliver’s at just under 63 million dollars, which seems exceedingly generous for a company projecting revenue of only 21 million this financial year.

Oliver’s originally tried to list at a market capitalisation of 50 million, yet failed to find sufficient support from institutional investors at that price. To be trading twenty percent higher than this just two days after listing does not make much sense. My best guess is the increase in share price is being driven by overly enthusiastic retail investors rather than larger institutions, and we all know how quickly this type of sentiment can change.


I will keep watching Oliver’s from the side-lines, and may even buy back in if the share price looks attractive again after their FY2017 numbers come out, but as far as this blog is concerned my investment is over. This is the first IPO recommended in this blog that I’ve sold. I can only hope my investments in Tianmei and Bigtincan end up being as profitable.

Moelis Australia

SPACS
Overview

Moelis Australia is the Australian offshoot of Moelis & Company, an American investment bank founded in 2007. Moelis and Company have made a name for themselves as one of the leading “Boutique investment banks,” smaller specialised investment banks that have become increasingly popular since the GFC largely thanks to their perceived ability to give more independent advice. In one of their most impressive wins to date, Moelis and Co was recently announced as the sole lead on what will probably be the biggest IPO in history, the giant Saudi state owned oil company Aramco.

In Australia, Moelis has been similarly successful, though not without controversy. While they have been involved in numerous successful IPO’s, they were also the lead manager for the botched Simonds Group IPO in late 2014, with shares now trading at less than a quarter of their floating price. More recently they have made the news for apparently buying up Slater and Gordon debt at significant discounts, supposedly for some debt for equity scheme they are planning.

After the IPO, Moelis & Co will retain a 40% stake in Moelis Australia and a partnership between the two entities will remain with Ken Moelis himself, the founder of Moelis and Co taking a seat on the board.

IPO details

25 million of a total 125 million shares will be sold through the IPO at $2.35 per share, raising $53.8 Million once the costs of the offer have been taken into account. The Market capitalisation at listing price is $293.8 million, making it one of the biggest Australian IPO’s this year to date.

CEO

The CEO of Moelis Australia is Andrew Pridham, more famous for his role as Chairman of the Sydney Swans and his occasional spats with Eddie Mcguire than for his career as an investment banker. Pridham’s career has been impressive; he was appointed the Managing Director of Investment Banking Australasia for UBS at only 28 and has also held senior roles at JP Morgan before helping start Moelis Australia in 2009. He has been less successful in his ventures into the art collecting world though, making headlines a couple of years back when he purchased what turned out to be a forged painting for 2.5 million dollars. When Melbourne radio hosts started making fun of him about this, Pridham’s response somehow managed to go from victimhood to snobbery in one sentence.

“It’s extremely disappointing but notsurprising these radio jockeys find it appropriate to make fun of any victim ofcrime — me or anyone else. It is of some comfort to me that it is highlyimplausible anyone will ever have the opportunity to defraud any of them of$2.5 million.”


However, as long as Pridham doesn’t decide to turn Moelis Australia into an art gallery, his dubious taste in Australian art shouldn’t trouble potential investors, and overall he seems like a pretty capable and intelligent guy. Also, for the CEO of an investment bank worth nearly three hundred million dollars his salary is quite reasonable, at only $450,000 a year plus bonuses. That he is looking to make most of his money through performance bonuses and increases in the share price is a positive for investors, and something that other recent listings (Wattle Health anyone?) Could learn from.

Expansion plans.

One of the things that worries me about the Moelis Australia IPO is the 44.2 million of the total 58.8 million raised  that will be set aside for the vague purpose of “growth capital.” This is expanded upon in another section of the Prospectus with the below statement:

"Moelis Australia is actively assessing a number of strategic asset and business acquisitions. None of these opportunities are certain of proceeding at the date of this Prospectus. Any one of, or a combination of, these acquisitions could result in Moelis Australia applying a substantial part of the Offer proceeds to fund the acquisitions of potential assets or businesses being assessed."

While some investors will see this as a growth opportunity, something about the combination of a CEO with no shortage of self-confidence, a professional services business and statements like this make me a little nervous. As any financial academic or Slate and Gordon stockholder will tell you, business acquisitions by listed companies have a tendency to destroy rather than create shareholder value, and I doubt Pridham is going to be able to sit on his hands for long with $54 million in his pocket. While it’s possible he might make the deal of the century, it’s also possible he might end up biting off more than he can chew.

Significant Investor Visa Funds Program

Another thing that concerns me with the Moelis IPO is its involvement in the Significant Investor Visa Funds Program. This is a program the federal government introduced a while back where Investors who invest over 5 million dollars in approved Australian investments are able to gain an Australian Visa.
These sorts of visa programs have come under a lot of criticism both in Australia and internationally, and in the USA in particular have become a target for fraudulent activities.

Canada cancelled their own program after finding it delivered little benefit and an Australian productivity commission report in 2015 advocated scrapping the program as well, arguing that it led to too many visas being granted to elderly people with limited English skills.

 While the current Liberal government appears to be committed to the scheme, you would imagine that all it would take is a change of government or a few highly-publicised scandals for things to change. Moelis themselves appear to be well aware of the risks this would pose to their business, as evidenced by this detailed response of theirs to the 2015 productivity commissions report.

Moelis does not break down the revenue for each separate sector, though the prospectus does state that average assets under management grew from 161 million to 624 million in 2017 largely thanks to this program, so we can assume that if this program was to be cancelled it would have a significant impact on the business.

Valuation

Looking around at most investment banks, they seem to cluster around a P/E of just under 15. Goldman Sachs is currently at 13.96, JP Morgan Chase is at 14.1, and Morgan Stanley is at 14.53. The big four Australian banks have similar P/E ratios. Moelis Australia are no doubt aware of this, and have presented an “adjusted” Price to Earnings ratio of 14.6 in the prospectus. On the surface this makes the valuation seem like a pretty good deal. As a relatively small player, their growth prospects are more significant than the larger banks, so to be priced at the same discount rate would represent a great opportunity. However, this is a good example of when it pays to do your own research before trusting adjusted ratios cooked up by investment bankers. When I divide Moelis Australia’s profit from the 2016 calendar year (9.8 million) by the post-listing market capitalisation of 293.8 million I get a price to earnings ratio of 29.97, more than double the ratio quoted in the prospectus. Although you might think this is because my calculator isn’t as fancy as the ones used at Moelis Australia’s head office, Moelis have actually made two rather questionable adjustments to get this lower ratio.

To start with, while P/E ratios are almost always calculated using previous earnings (trailing twelve months). in Moelis Australia’s adjusted P/E ratio, they have instead used their forecasted Pro Forma earnings for the 2017 calendar year of 16.8 million. While for a small growing company it may make sense to use forecasted earnings in a P/E ratio if the business is just starting, I fail to see how it is justified for an established investment bank with a proposed market capitalisation in the hundreds of millions. Moelis Australia are not planning to change their operations significantly in the next twelve months, so their reason to use forecasted earnings simply seems to be so they can get a more attractive P/E ratio.

The other adjustment they have made is to the price side of the P/E formula. Moelis Australia have taken the odd approach of subtracting the net offer proceeds of 57 million from the market capitalisation for the adjusted formula. This is supposedly justified because their acquisition plans are not included in their projected earnings, though as a potential shareholder, the actual market capitalisation is how the market will evaluate the stock, and the total shares outstanding will determine your share in any future earnings. While P/E ratios are based on earnings from the past and the market value today, by some odd form of wormhole accounting Moelis have ended up presenting a ratio based on future earnings and a market value from the past. 

Of course, I’m sure Moelis Australia could wheel out to a batch of highly paid accountants who would explain why the adjustments they made are reasonable and their P/E ratio is accurate, but then again Goldman Sachs had maths PHDs that could explain how CDOs were a great idea in 2006 and we all know how that ended up. I would argue that any future investor would be much better served using the 29.97 figure I calculated when deciding if Moelis Australia is a good investment, as this is how P/E ratios for other companies are quoted.

Verdict

When you use the actual P/E ratio of 29.97 to evaluate the deal, the Moelis Australia IPO looks reasonable, but hardly exciting. If you think that Moelis Australia is a great up and coming Corporate Investment Bank with a proven track record and that Pridham is a genius who will be given the new freedom of 50 odd million dollars in free cash to launch some amazing acquisition, then a P/E ratio double that of the larger investment banks is perhaps reasonable. From my perspective though, the Significant Investor Visa Program is not something I would want any investment of mine relying on long term, and with what I know about the track record of acquisitions, I would probably rather have the cash on the balance sheet invested in an index fund than whatever plan Pridham has cooking up.

The Fat Prophets Global Contrarian Fund

SPACS

 Overview
If you’ve heard of one hedge fund manager from the last ten years there is a good chance it’s Michael Burry. The eccentric investor made millions on his bets against the housing market during the Global Financial Crisis and was immortalized in the book and later film The Big Short. What is less well remembered about Burry’s story is that before the housing market blew up countless panicked investors withdrew their money from his fund, worried by Burry gambling so much money betting against a housing market in the middle of a boom. While Burry still made millions from his bet, it was less than it could have been, and the stress and frustration of the whole process led to him deciding to close his hedge fund.

Burry’s story highlights a fundamental issue with hedge funds: investors in hedge funds can withdraw their money whenever they like. It is often precisely when a hedge fund manager sees the most opportunity, for instance when the market is falling or in Burry’s case when a bubble is about to burst, that investors want their money back.

It is for this reason amongst others that Listed Investment Companies (LICs) have gained in popularity in Australia over the last decade or so. LICs are basically a hedge fund or managed portfolio that is publicly traded on the ASX. Unlike a hedge fund though, when investors decide to they want their money back from an LIC they simply sell their shares, which doesn’t reduce the money available to the manager of the LIC. This means that LIC managers are less beholden to their investors, and, the theory goes, therefore more able to concentrate on maximising returns.

The Fat Prophets Global Contrarian fund is the latest such LIC to list on the ASX, with their 33 million dollar IPO at $1.10 a share expected to close on the 10th of March. Fat Prophets was started in the year 2000 by their founder Angus Geddes as a subscription based investment advice and funds management company. Investors who sign up to their service are given access to a daily newsletter, as well as reports on certain stocks with buy and sell recommendations. Since inception the organisation has grown to over 75 employees and 25,000 subscribers, and now provides stock picks for a range of different markets and sectors. The Fat Prophets Global Contrarian fund is the first time Fat Prophets has branched out into the LIC world, and it will be run by Angus Geddes and his team using the same contrarian investing principals that has made Fat Prophets a success.

Pros

The Fat Prophets track record
Fat Prophets impressive growth over the last 16 years has been largely due to a record of stock picks which would be the envy of most fund managers. Since their inception in 2000 until the end of 2016, the annual return of an investor who followed all their Australian equities stock tips would have been 18.49%, against an All Ordinaries return of only 7.96%. They have had similarly impressive success in their other sectors. On the Fat Prophets website all of their past stock tips from 2006 to 2016 are publicly available, and reading these you get a good sense of the company and how they have achieved this level of success.

Each stock tip is thoughtfully written, with impressive amounts of detail about each company and its market outlook.  If you want to gain an understanding of their investing rationale and style, have a look at their buy recommendation for Qantas shares in August 2014.
                                                                               
The post goes to painstaking lengths to break down Qantas’s market position, their recent challenges, and why the Fat Prophets team felt the struggling airline could turn things around. Not only did the recommendation prove to be spot on, with the share price more than doubling over the next twelve months, but they were even correct about how it happened. They correctly predicted that a decrease in flight volumes along with the cost savings of Alan Joyce’s restructures would help bring the company back into profitability. Of course, not all their recommendations ended up being as spectacular as this one, but in all their tips they display a similar level of knowledge, discipline and intelligence. The opportunity of being able to get in on the ground floor with a team like this as they embark on a new venture is definitely an appealing prospect.

Minimal Restrictions
Reading through the prospectus, one of the things that jumps out at you is the loose rein Angus Geddes has given himself. While most LICs typically restrict themselves to certain sectors, areas or assets types, the prospectus makes it clear that Angus Geddes and his team are going to invest in whatever they feel like. They reserve the right to trade in everything from equities to derivatives, debt products and foreign currencies, and to go from 100% cash holdings all the way to 250% leverage. While some might see this as a risk, to me this makes a lot of sense. If you believe that Geddes and his team are worth the roughly $400,000 annual fees plus bonuses they are charging to run the fund, it makes little sen se to restrict them to a sector or investment type. With this level of freedom, Geddes can go after whatever he feels will give the most value, and there will be no excuses should the fund not perform.

Cons
Listing price
As a new entrant with a smaller Market Capitalisation than the established LICS, fees are inevitably higher than some of the more established listed investment companies. The Fat Prophets Global Contrarian Fund will charge 1.25% per annum of their net assets in fees. In addition, a quarterly bonus will be paid each time the portfolio ends a quarter on a historical high of 20% of the difference between the current portfolio value and the next highest historical portfolio value. By contrast, Argo and AFIC, two of the largest Australian Listed Investment Companies charge fees of under 0.2% of their net assets per annum. It should be pointed out though that both Argo and AFIC regularly underperform their benchmark indexes, so perhaps in the LIC world you get what you pay for.

Net Tangible Assets
After the costs of the offer are paid for, the Net Tangible Assets of the Fat Prophets Global Contrarian Fund based on a maximum subscription will be somewhere around $1.08 per share. Listed Investment Companies usually trade at a relatively small discount to the net value of their portfolio, as the market prices in the fees an LIC charge. This means we can assume the shares actual market value will be somewhere around $1.05 to $1.07 after listing, versus a purchase price of $1.10. While this is the same for every newly listed LIC, it does mean that any investor thinking of participating in this offering needs to be in it for the long haul, as there is a good chance the shares will likely trade at below listing price for at least the first couple of months.

Wildcard

Loyalty options
Every investor who participates in the Fat Prophets IPO is issued with a loyalty option for each share purchased. From 12 to 18 months after the listing date, shareholders will have the option to buy an extra share in Fat Prophets for $1.10 for each share they own, regardless of what the actual stock price is. These loyalty options are forfeited if an investor sells their shares in the first year and are not transferred to the new owner. Initially this seems like a great deal, as you can double your holding at the listing price if the fund performs well, however the fact that everyone participating in the IPO is issued with the same loyalty options negates most of the benefit. In fact, in a simplified world where the stock price equals the net assets and no one sells their shares in the first 12 months, the loyalty option provides no benefit at all.  
To understand this, imagine that based on these assumptions the shares are trading at $2.20 after 12 months. Initially you might say the loyalty options now give each shareholder a bonus of $1.10 per share, as they could buy shares for $1.10 then immediately sell them for $2.20. However, this overlooks the fact that every other investor would also be exercising their options, doubling the number of shares on offer. At the same time, the company assets would only increase by a third from the sale of the loyalty options, from $66 to $99 million. With $99 million of net assets and now 60 million shares on issue, the share price would now be $99,000,000/$60,000,000 = $1.65. This means that not only would shareholders only make 55 cents per loyalty option, their original shares would have also lost 55 cents in value at the same time, giving a net benefit of zero for the option.
Of course, the real world never plays out like the textbook. Some shares will inevitably change hands in the first 12 months, reducing the number of options available and therefore providing some value to those who still have their loyalty options. However, any investor thinking of participating in this offering should make sure they have the funds available to exercise their options after 12 months if the share price is trading above $1.10, as otherwise they risk seeing the value of their shares reduced by other investors cashing in their options without being able to benefit themselves.

Summary
If you are looking to for an IPO that is going to double your money in six months, this isn’t the one for you. Any gains here are likely to be in the long term. Nor is this an IPO in which to invest your life savings, as the freedom Geddes and his team have given themselves mean that the risks could be considerable. However, if you are looking for a good long term investment opportunity for a portion of your portfolio, investing in this IPO could make a lot of sense. The Fat Prophets team have proven they know what they are talking about when it comes to investing, and if they can get anywhere close to their previous success the fund will do very well.

Personally, Geddes track record is too good to pass up, and I will be making a small investment.

Tianmei Beverage Group Corporation Limited

SPACS
Overview

Tianmei Beverage Group Corporation Limited is a Chinese company based in Guangzhou with two arms to the business. The first is as a distributor and promoter of packaged food products, placing different suppliers’ goods at convenience stores and supermarkets. The second is a bottled water company that sells water produced by a Chinese water processing plant they have a contract with. They are using the Prospectus to raise 10 million dollars, selling 25% of the company in the process. The money will be used to buy the water bottling plant they currently source their water from and to start importing Australian food products to China and promoting it at their contracted stores.

Valuation

From a pure valuation perspective, Tianmei China is a fantastic deal. According to the Prospectus they made a profit of over 4.3 million dollars in the first half of 2016, and the IPO values the company at 34 million, meaning the Price to Earnings (P/E) ratio is well under five if you annualised those earnings. On top of this, both arms of the business are in massive growth areas: The bottled water market in China has seen double digit annual growth due to pollution concerns and the growth in demand for Australian food and health products in China has been astronomical. You can see this in the impressive premiums that the market places on any Australian company that is exposed to Chinese consumers: Bellamy’s was trading at a P/E of 40 a little while ago, and even after sacking their CEO and concerns about their accounting, the share price has only shrunk to a P/E of 10. The A2 Milk company is trading at a massive P/E ratio of 68 and Blackmores is trading at a P/E of 20 largely thanks to growth potential in China.

It’s basically impossible to come up with a valuation that isn’t higher than Tianmei’s listing price using a discounted cash flow analysis. Even if you put a ridiculously high discount rate of 20% and assume a conservative growth rate of 6% for the next 8 years before levelling off to 1%, you still end up with a company value of over $40 million. The way I see it then, if you are evaluating this stock, investigating the exact growth rate of the bottled water market or Chinese supermarket conditions is a waste of time, as whatever you come up with is going to show the stock is a good buy. Instead, the simple question for any potential investor is can we trust this company? As a relatively unknown company operating in a country that doesn’t exactly have a spotless reputation for good corporate governance, it is hard not to be suspicious. The story they are selling through their accounts is one that anyone would want to invest in. The question is, is this story true?

Personnel

According to John Hempton, a role model of mine and someone who inspired me to start this blog, the best way to find out if a company is dodgy is to look at the history of the key management personnel. Hempton’s hedge fund Bronte Capital does just that, following people who they believe have been involved with companies that were fraudulent for potential targets to short sell.


Unfortunately, it’s hard to find nearly any English information on most of the key people in the company and I don’t speak Mandarin, so the only person I can really look into is the chairman, an Australian guy called Tony Sherlock. Tony Sherlock has been around for a long time in the M & A and finance world. He was the chairman of Australian Wool Corporation, worked at PWC in the risk division for ten years and co-founded Bennelong capital, a boutique corporate advisory firm. Judging by his Linkedin profile he looks like he is in his late sixties at the youngest, as he finished a Bachelor of Economics in 1969. Would a guy nearing the end of a successful career working risk his reputation promoting a company that wasn’t above board? It seems unlikely. He’s built up a solid reputation for himself over the years and it would be strange for him to risk it that late in his career. Of course nothing is certain, and it’s possible he’s got some secret gambling condition that makes him desperate for cash or simply doesn’t know that the company is fraudulent, but overall it seems like a positive sign that he is the Chairman.

History

One of the initial things that made me suspicious of Tianmei is its age, as according to the prospectus the company only started in 2013. Trying to unpick the exact history of Tianmei China is a painstaking undertaking, as there are a ridiculous amount of holding companies that have been created along with business name changes. As far as I can understand it though, it looks like the Tianmei business was created in 2013 by Guangdong Gewang, a Guangzhou based business started in 2010 that sells supplements of selenium, a chemical element that Guangdong Gewang claim is vital to human health. While I was initially suspicious of a company selling a supplement that I’d never heard of, after doing some research it actually looks legitimate. Although selenium deficiency is very rare in the West, apparently it is a problem in some parts of China due to crops being grown in selenium deficient soil. During a restructure in 2015 Guangdong Gewang separated the selenium supplement business from the water and FMCG businesses, and as a result created Tianmei. Interestingly enough, Guangdong Gewang is applying for admission to the Nasdaq for their own IPO currently. Guangdong Gewang still hold 22.5% of Tianmei through Biotechnlogy Holding Ltd, a company incorporated in the British Virgin Islands. (Both these companies seem to have a real love of the British Virgin Islands, Tianmei’s ownership also is funnelled through a British Virgin Islands company.) While the history isn’t exactly stable, there are no obvious red flags I could find to turn me off investing in Tianmei.

Ownership

One of the things I like about this IPO is that the initial listing at least isn’t just a way for the owners to cash in. As a jaded, though still cautious believer in the theoretical benefits of capitalism, it’s nice to see an IPO doing what a stock market is meant to do; allocating capital to a business that wants to grow.
A strange thing about the ownership structure is that the equal largest shareholder with 22.5% ownership is a woman called Han Xu, an Executive Director who from her photo looks to be in her mid-twenties. How does someone who finished their bachelor’s degree in 2011 and a Masters of International Finance in 2013, afford 7.2 million dollars’ worth of shares in the company? Perhaps a more basic question is how can someone who left university three years ago and never studied law end up as the ‘legal expert’ and executive director of a soon to be publicly listed entity, when fully qualified lawyers of her age are still working 70 hour weeks as Junior Associates? The most obvious explanation would be she is the daughter of someone important. After doing some digging around I found that one of the co-founders of the original Selenium supplement company was a guy called Wei Xu. While I don’t know how common the Xu last name is in China, it seems reasonable to assume that they could be related.
Is this potential Nepotism enough to be a concern? I don’t really think so. While she might not be the most qualified person for the job, If anything it’s reassuring that the co-founders of the company are maintaining their holdings. The third largest shareholder of Tianmei is a guy called Mengdi Zhang, whose father Shili Zhang was another initial co-founder of the Selenium business according to Guangdong Gewang’s filings for their Nasdaq IPO.

Verdict

Overall I think this looks to be a pretty good IPO. While of course there are always risks with investing in a company this young and especially one operating in a foreign country, the price is low enough to make it worthwhile. It seems the listing is about both raising capital as well as creating a link with Australia so they can start importing Australian foods, which perhaps explains why they have listed at such a low price; the benefits for them isn’t just the capital they intend to raise. If the market gains confidence that Tianmei is legitimate, the company could well double its market capitalization in the next 12 months and I will definitely be along for the ride. 


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