The Experts

Tim Boreham
+ About Tim Boreham

Welcome to the New Criterion, authored by Tim Boreham.

Many readers will remember Boreham as author of the Criterion column in The Australian newspaper, for well over a decade. He also has more than three decades’ experience of business reporting across three major publications.

Tim Boreham has now joined Independent Investment Research and is proud to present The New Criterion, which will honour the style and purpose of the old column. These were based on covering largely ignored small- to mid-cap stocks in an accessible and entertaining manner for both retail and professional investors.

The New Criterion will strive to continue the tradition in a weekly online format.

The column will not offer stock recommendations because we think readers can make up their own mind on the facts and opinions presented.

Our coverage will include both the industrial and mining sectors, including listed investment companies and IPOs. The stocks covered will not necessarily be of investment grade with sound financials. But they will have credible management and – at the very least – an interesting story to tell.

We hope readers will find The New Criterion both entertaining and informative.

3 sporty stocks

Friday, October 12, 2018

1. Cogstate (CGS, 57cents)

In the contact sports’ sphere, concussion is fast evolving from an acceptable workplace risk to a multi-billion dollar headache for sports organisations and, more pertinently, their insurers.

With several former AFL players looking on, a recent investor presentation in Melbourne showed video of several sickening head on collisions in AFL, NRL and American football matches.

The really disturbing aspect was that in every case, the victim played on until it was blatantly clear he was not at all right. 

While some of the footage related to a more rough and tumble bygone era – and the old timers in the room could attest to the more cavalier attitude — some of the vision was contemporary.

US studies suggest that half of all concussions go undiagnosed, with the players unconscious in only 7.5% of cases. 

While the long term effects of cumulative head knocks remains in dispute, past players are queuing to sue clubs and code administrators for breach of duty of care.

In the US, a study found that 110 out of 111 National Football League players showed signs of chronic traumatic encephalopathy, a degenerative disease caused by repetitive head trauma.

Not all players suffered known concussion in their career, which means the problems could be more widespread than thought.

The NFL recently struck a $US1 billion settlement but some pundits reckon the ultimate cost could be double that. Here, players suing for concussion-related damage include Brownlow Medallist, John Platten, former Essendon premiership player, John Barnes and former Newcastle Knights, winger James McManus.

Which brings us to Cogstate, a cognition appraisal specialist, whose Cognigram concussion test is used by numerous elite sports bodies globally on match days.

Here, it’s mandated by the Australian Football League and the National Rugby League.

In truth, Cognigram is only a small part of Cogstate’s activities, which are more about assisting third party clinical trials for conditions such as Alzheimer’s disease and dementia, Parkinson’s disease, schizophrenia, autism and epilepsy.

Cogstate provides services to 14 of the top 15 pharmaceutical companies (as measured by research spend).

Of Cogstate’s $30 million of revenue last year, only $400,000 was attributed to the healthcare (Cognigram) division, which lost $1.9m. 

But the period marked only the first full year of Cognigram’s commercialisation, with the device approved by the US Food & Drug Administration in July last year and then by European authorities this year.

Cogstate overall is modestly profitable, making $106,000 last year. The company has guided to a stronger net profit in the current year, albeit with the current (first) half affected by $2 million of non-recurring restructuring costs.

Naysayers might note that Cogstate has been around for a while now, having listed in 2004. But that hasn’t deterred the company’s long-term shareholders — including the Myer family and the Dolby family of sound-system fame – from hanging in there in the hope of a knockout performance.

2. Catapult Group (CAT $1.08)

The sports ‘wearables’ innovator is a classic example of a tech company rising from nowhere, but then overshooting the mark valuation-wise. 

In a little over a decade, Catapult has become the world’s biggest supplier of devices to track the vital statistics of athletes, such as speed, movement and positioning.

Operating mainly in the professional (elite) sector, Catapult has tied up clubs and leagues from most of the key code: 1800 clients across 35 sports in all. Most of the devices are sold by subscription, which brings in steady annuity revenue.

Catapult turned over $76 million in the 2017-18 year, up 26%. But its growth has not been all organic, with the company shelling out $80 million in late 2016 to acquire the Boston-based video analytics house XOS Technologies. 

Smaller acquisitions include the Canberra based GPS Sports, Ireland’s Playertek (wearable analytics) and SportsMed Elite and Baseline (artificial intelligence).

During the year, it launched Playr, a device for the 20 million strong ‘prosumer’ (keen amateur) soccer market, capable of detecting 1,250 movements per second.

But solid profitability remains elusive to date for Catapult, with a 2017-18 net loss of $17.4 million (compared with $13.6 million previously) and underlying ebitda of $1 million ($2.9 million previously).

This year, the company expects double-digit annual recurring revenue growth and expects to generate “positive cash flow at group level” by 2021.

Catapult shares have retreated to one-quarter of their peak value of $4 in August 2016 (which followed a $100 million share raising to fund the XOS purchase).

But the stock is also twice as high as its December 2014 listing price of 55 cents and bears a $210 million market capitalisation. So the glass is either half full, or half empty.

3. Impression Healthcare (IHL) 1.7 cents

Do sport and cannabis mix?

The country’s biggest mouth guard provider is trying to take a bite out of the sports market, having recently won the exclusive rights from the AFL to use the colours and logos of all 18 clubs.

In February, Impression signed a similar deal with the NRL pertaining to its Gameday mouth guard brand and it’s in discussions with a large retailer to distribute both products.

Impression’s product enables users to take an impression of their chompers at home, with the finished mouth guards mailed to them.

Impression also has a “preferred practitioner” arrangement with 70 clinical dental clinics, including those under the banner of the listed Pacific Smiles.

As for the cannabis bit, Impression last month signed a letter of intent with AXIM Biotechnologies to secure local distribution of the US pharma company’s present and future cannabinoid therapeutics.

The link is oral health, with potential products including cannabis infused toothpaste and mouth rinses.

The list of ASX minnows without any intent of entering the “pot stock” sector diminishes by the day.

As with so many start ups with a good idea, it’s been a case of too few incomings and too many outgoings for Impression since back door listing in late 2016. Impression reported 2017-18 revenue of $1.01 million – albeit 259% higher – and a net loss of $2.9 millions.

The skinny end-of-year cash balance has since been supplemented with $145,000 of debt funding and the company is in the throes of a $735,700 rights raising.

The Gameday mouthguards sell for between $69 and $129, which is dearer than an inferior ‘boil and bite’ specimen at $10 to $90, but cheaper than a dentist fitting, which could cost up to $600.

Impression also sells higher margin mouthguards for sleep apnea (snoring), bruxism (teeth grinding) and teeth whitening.

Impression’s initial board included John Worsfold, but a year later the Essendon coach had bailed out to focus on his day job.

But not to worry: the mouthguards are still being spruiked by ‘Gameday Ambassadors’ Gary Ablett jnr, Rory Sloane (AFL players) and NRL legend Jonathan Thurston.

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


Old King Coal

Friday, October 05, 2018

While the robust revival of thermal coal prices has surprised the carbon sceptics and renewables zealots alike, the even more spectacular performance of coking (metallurgical) coal has played out to largely empty auditoriums.

Steel blast furnaces may be one of the most carbon-belching activities, but otherwise coking coal is not seminal to the spirited but circuitous debate about whether Old King Coal really has had its day.

Things go better with coke

The other reason for coking coal’s shy profile is that when it comes to steel production, flirtier cousin iron ore steals the headlines. Yet for every tonne of steel produced, about 600-750 kgs of coking coal (converted to coke) is required.

Relative to thermal coal – and there’s plenty of that black stuff – decent coking coal deposits are much scarcer.

To date, investors haven’t exactly been spoiled for choice when it comes to pure-play coking coal exposures. BHP Billiton (sorry – BHP) is the world’s biggest producer, via the BHP Mitsubishi alliance (BMA) in Queensland.

Similarly BHP spin off South 32 (S32, $3.90) is a meaningful producer from the Illawarra region, but not relative to its total size.

But with coking coal prices edging back to near record levels, some smaller plays are sniffing the winds of opportunity. The interest is squarely focused in Canadian province of British Columbia, the Toorak of met coal addresses along with Queensland’s Bowen Basin.

At the junior end, ASX aspirant Montem Resources is passing the Mountie’s hat around for $20m in an IPO to revive an open cut project in the Crowsnest Pass geological precinct straddling Alberta and British Columbia. In its second attempt at an IPO, Montem plans to list in mid October.

Gina Rinehart’s Hancock Prospecting recently splurged $69m for a 19.9% stake in Riversdale Resources, which owns the Grassy Mountain project just down the road.

Montem has acquired six tenements, four of which previously have been mined, with a total tonnage of 160 million tonnes.

But the initial focus is on Tent Mountain, which produced up to 1973 1983 and still retains a mining permit. “We have some work to do to get the coal quality information up to date and complete a feasibility study for it,” Yeates says.

 While Tent Mountain is subject to a definitive feasibility study, Montem is working on a presumed $130m capital cost for a 1.5 million of tones per annum (mtpa) operation (a conveniently proximate railway would whisk the produce to the port of Vancouver and on to the hungry Asian mills).

Yeates notes that Canada’s giant Teck Resources produces 26mtpa from three mines in the region at a cost of $C90/t ($85/t, loaded on to the ship).

 “At the moment there’s a huge cash margin in excess of $US100 ($138) a tonne,” Yeates says. “We do our numbers on a more conservative but it has the potential to be a real cash generator.”

Other aspirants are lapping at Montem’s coal-dusted heels, with Jameson Resources (JAL, 17.5c) winning funding support for its Crown Mountain project in British Colombia’s Elk Valley Coal Field.

At a similar stage to Tent Mountain, Crown Mountain is costed at $US281m of start up capital for a mine producing 1.7 mtpa over 16 years.

“Coal prices assumed are significantly lower than (the) current market,” the company says.

Jameson’s financial backer is the ASX-listed NZ producer Bathurst Resources (BRL, 11c), which is stumping up $C4m for a current exploration program. In what’s expected to emerge as a 50-50 joint venture, 

Bathurst, which accounts for 2.2 mtpa of output in NZ, also has the option to fund $C7.5m in non-exploration activities and eventually chip in $C110m to build the open-pit mine.

Lower down the development curve, Pacific American Coal (PAK, 5.1c) is running the drill bit on its Elko coking coal project, also in the fecund Crowsnest field.

The ground is currently rated as a 257mt resource, but further work aimed at honing this estimate has resulted in “significant amounts of coal”.

Closer to home, Bounty Mining (B2Y, 30.5c) re-listed in June, having raised $18m to acquire the mothballed Cook Colliery and coal handling plant near Blackwater in the Bowen Basin.

The mine operated up to March last year, when an “inundation event” forced the hand of owner Caledon Coal. The venture was placed in care and maintenance, while Caledon Coal went spectacularly bust.

Bloody Queensland weather!

Backed by Chinese interest, Bounty plans to expand the mine’s output to 2.2mtpa across four operating areas.

Bounty CEO chairman and CEO Gary Cochrane was founding director of Queensland producer Millennium Coal, while director Rob Stewart once headed Whitehaven Coal.

With little prompting they would point to Rio Tinto’s $2.9bn sale in March of its 80 percent stake in the Kestrel mine, also in the Bowen Basin. In 2017 Kestrel produced 5.1mt of saleable coal, 4.25 of the hard coking variety.

For investors who like to think big, late in September the US based Coronado Coal said it would pursue a $4.6bn float on the ASX, thus exposing investors to its Curragh coking coal mine in Queensland (acquired from Wesfarmers) as well as three mines in Virginia.

The company is seeking to raise up to $1.2bn, which is not chump change given about 20 percent of Coronado’s output is untrendy thermal coal.

 “Demand from Asia for met coal, particularly from emerging economies, is expected to be strong and Coronado will be a key supplier to this growth market,” Coronado Chairman Greg Martin says.

Of course, the coking coal story ultimately prospers or founders on steel making trends. The World Bank forecasts current year steel production of 1.548 billion tonnes, compared to last year’s 1.535bt and on par with record 2014 levels.

The drivers include China’s Belt and Road economic colonisation policy and India’s desire to more than double steel output to 300mt by 2030.

The better coking coal (and iron ore) is especially in demand because China has been relocating steel mills to port areas so they can access the premium seaborne stuff, thus reducing pollution.

On the demand side, Japanese and Korean steel producers understandably are keen to diversify their reliance on BMA and Teck.

Yet another variable is the dispute between rail operator Aurizon (formerly Queensland Rail) and the Queensland Competition Authority over Aurizon’s maximum allowable revenue.

A poor result for Aurizon could constrain the state’s coal exports and put further pressure on prices.

As with thermal coal, the post GFC met coal story hasn’t exactly played out as expected. But when does any commodity follow the rules?


Investing in a listed valuation company

Wednesday, October 03, 2018

Does a housing downturn bode well or poorly for the only pure-play property valuation firm listed on the ASX?

Conventional theory goes that if there are fewer property transactions, there’s less need for valuation services. But then again if (or when) interest rates rise, there’ll be more borrowers looking for better deals and more demand for bank valuations. The same applies if things turn gnarly and bank foreclosures increase. 

Landmark White (LMW) is taking no chances and is diversifying its business to government and insurance jobs. Landmark’s recent full-year numbers show its residential valuation work falling from 67% to 53% of revenues, but this is partly attributed to last year’s $23m cash/scrip acquisition of rival MVS National.

Landmark chief, Chris Coonan, reckons the measures adopted by the bank regulators (and the banks) themselves may already have done the trick and stabilised the Sydney and Melbourne residential markets.

“(The measures) are working and it is good,” he says. “The market was getting too high and if it didn’t happen we would have had some trouble in the future.

 “It’s hard to see a lot of mortgage stress given the (value) of properties has gone up considerably and overall the economy is looking quite strong.”

Landmark posted a $4.1m net profit – up 155%. There’s no sign of management waving the white flag, with current year guidance increased to earnings per share of 6.16c, 13% higher than last year’s 5.44c.

The company hasn’t missed a dividend in 19 halves, paying 4.6c (fully franked) in the 2017-18 year. Assuming a similar payout ratio, the company currently trades on a yield of 9%.

Landmark shares have steadily declined from 75c a year ago, bearing in mind the company raised $20.5m at 60c apiece to fund the MVS purchase.

This decline implies opportunity for investors convinced the property sector is in the mild and organised decline it had to have.

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


Stiffening market doesn’t soften listed builders

Friday, September 28, 2018

Most listed builders reported improved profits and increased activity, but the question is how they will fare if credit conditions continue to tighten and the currently robust employment trends weaken?

Whatever the case, they’re likely to fare better than the developers in the more speculative and more definitively oversupplied apartment sector.

The key bricks and mortar participants are the Singaporean controlled, AV Jennings (AVJ, 67c), the Victorian-centric Simonds Group (SIO, 41c), the Queensland oriented Villa World (VLW, $2.09) and the fellow banana-bending Tamawood (TWD, $4).

Simonds CEO Kelvin Ryan puts some context around the downturn. “It’s gone from breakneck crazy to very busy,” he says of the Victorian market.

In the context of the NSW market, AV Jennings is sipping from a glass half full. “Our view is this softening isn’t such a bad thing as it will lead to the market being more sustainable in the long run, both in terms of acquiring sites as well as our ability to produce and sell land and housing.” CEO Peter Summers says.

Traditional housing, he says, should remain supported by strong population growth and stable employment.

The companies’ results didn’t give too much inkling of looming issues, with profits if anything crimped by delays in development approvals that have deferred revenue until the current year.

Simonds, the second biggest operator behind the unlisted Metricon, reported a 48% profit boost for the full year to $6.8m, with 2,500 house starts relative to 2,391 previously.

The 69 year-old entity (which remains controlled by the Simonds family) is in repair mode, given its insipid share performance since listing in 2014 at $1.78 apiece.

 In 2016, the inexorable share decline prompted patriarch Gary Simonds and the Roche family to mount a privatisation bid at 40 cents a share, but major shareholders snubbed the proposal.

Under CEO Ryan, who clocked in last March, the company has launched a multi-pronged improvement program that has included reducing debt and gaining better traction in its non-Victorian markets of NSW, Queensland and South Australia.

Simonds is also developing a “unique” financing product to convert the curious display home visitors into firm buyers. For the millennials  (for whom sampling artisan beers in a boutique inner city brew house is a more attractive away to spend a Saturday afternoon), the company is honing other channels such as 3D modeling.

Ryan reckons that in the buoyant Victorian market developers got lazy and stalled on design innovation. “There really hasn’t been much technology change in the way houses are built,” he says. “We see a real opportunity with building techniques, especially green ones.”

For Simonds, it’s a case of ‘get bigger or get out’ and that means gaining traction in its non-Victorian markets. The company has been in the Queensland market for 15 years, but last year still only accounted for 255 starts out of 25,000 in the detached market (in Melbourne the company accounted for 2,000 of an addressable market of 38,000).

Villa World chalked up 2017-18 earnings of $43.6m, within its guided range of $42-44m and 15% better than previously.

The company also sold 1678 lots, 39% higher than the previous 1,207.

If anything, Villa World’s current year guidance of $40m (10% lower) results from delays in key projects, including two in Melbourne. But management says the number also assumes “general consumer confidence is maintained, interest rates remain low, credit conditions do not deteriorate and the first home buyers’ grant scheme remains intact.”

 Villa World says it is “well positioned with diversity in terms of our products and our markets with significant development properties now selling across major growth corridors in three states.”

Broker Baillieu Holst is more sanguine, trimming Villa World’s earnings forecasts by 15% between 2019 and 2012. “We believe that the slowing down of the credit approval process for home buyers and weakness in housing prices and demand may have had an impact,” the firm intones.

AV Jennings also cited “planning and production delays” on key projects for a 12% reported net profit decline to $45m, but in underlying terms earnings were flat.

In Victoria, laments Summers, the company has been slugging away in a strong market – albeit with some softening – but “hasn’t been able to get the value of work to a physical stage where it can be reflected in the accounts.”

This implies a pipeline of work that will support current year earnings.

Meanwhile, the Brisbane-based Tamawood attributed a 4.5% profit decline (to $8.69m) to factors unrelated to a housing downturn.

These include inclement weather and customer delays in receiving credit approvals, a side effect of the banking Royal Commission.

Tamawood, which operates under the Dixon Homes brand, also cites a margin squeeze in the Sydney market because of delays between contracts being signed and the land being registered.

Tamawood acknowledges the market is slowing and is taking remedial action, such as reviewing its house design and specifications. But once again, there’s no sniff of a bricks and mortar Armageddon.

While Simonds doesn’t pay a divided, Tamawood, AV Jennings Villa World are yielding 6%, 7% and 9% (we stress that this is based on the 2017-18 earnings rather than current year expectations).

If the conventional rule book plays out, the discounted valuations are justified. But it’s also possible that a reversion to more sensible market conditions will coax timid first home buyers back into the market.

Of course, the tempting yields become a dividend trap if the great Australian dream enters a nightmare phase.

Tim Boreham authors The New Criterion

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense


Come hell or high water

Friday, September 21, 2018

The dry conditions in many of the key farming regions highlight the importance of water security for our listed agricultural plays. When it comes to water rights, some are in a better position than others

With the parched conditions lingering in some key farming regions, it’s becoming a case of the water “haves and have-nots” for the key listed agriculture plays. 

The cost of temporary water rights on the spot market has more than tripled in the last 12 months and, not surprisingly, they’re keeping a keen weather eye on weather spring rains to eventuate to alleviate what could become a crisis for many growers.

“The market is very concerned at the moment,” says water expert Richard Lourey of Sauber and Co, who notes record low rainfall in central and north-west NSW.

“Everyone is worried about how dry it is and everyone is concerned about whether they will be able to get their allocation.”

Some contend that financial (non-grower) buyers have been pushing up the price of rights, creating resentment in low-return sectors such as dairying. Others argue that as these rights holders lease the rights temporarily to growers, the water is still available.

What’s for certain is that in the ‘real’ world, demand for water is unprecedented because of the rollout of water intensive nut and fruit orchards and cotton growers buoyed by the high prices for the commodities.

So how are the listed agri plays likely to fare?

For the time being, Duxton Water (D20) is on the right side of the equation because it has a book of almost 44,000 megalitres of rights, mainly permanent and predominantly in the ‘high security’ category, which means they are more likely to receive their full annual allocation.

Currently about half these rights are leased to growers but the fund expects this portion to rise to 70-80% “due to the expected increase demand for water supply solutions.”

In its June half commentary, Duxton says that with the January to June period one of the driest on record, many irrigators drew down on their carry over reserves from last year, forcing them to wade back into the market (in some cases, this action was needed to avoid fines for overuse).

In the meantime, many farmers haven’t covered their requirements for the 2018-19 growing season, with many of them forced to bring forward irrigation to September or October. “This is likely to increase demand in the allocation market through summer and autumn as irrigators finish summer crops and support their permanent plantings towards harvest,” Duxton says.

The Chris Corrigan –chaired Webster (WBA) is the biggest private owner of water rights – 200,000 megalitres — but is also a prolific grower of walnuts, almonds and cotton.

So Webster may have plenty of water, but it also has plenty of orchards and crops to quench. The company recently sold a cotton property called Bengerang for $132.7m, thus reducing its irrigated land from 24,500 ha to 15,000 ha. Development work at two properties will increase this coverage back to 20,000 ha in the current financial year.

“The company remains well positioned to grow its operations, further supported by our investment in water which continues to underpin our business,” Corrigan declares.

For Select Harvests (SHV), the country’s biggest listed almond grower, it’s a case of being alert and not alarmed. One again, Select has sizeable water rights worth $51m, but needs to slake the thirst of three million trees across three properties in southern NSW, northern Victoria and SA.

Select is not yet wading into the heated spot market in the hope that its springs and aquifers will suffice for the key growing period between November and May.

“Water is our biggest macro concern,’’ says CEO Paul Thompson. “But we don’t know the impact of entitlement allocations or where the market will settle.”

Select is also using field technology to reduce usage. For instance, it measures sap moisture rather than soil wetness for a more reliable gauge of watering requirements.

Select has held off watering until the evening to save water (and energy) costs  - a tip that any inner urban gardener could have imparted.

Then there’s Select’s landlord Rural Funds Management (RFF), the biggest ASX-listed landowner with 44 properties valued at close to $800m.

In theory Select’s tenants (which also include Treasury Wine Estate, Baiada Poultry and Olam) bear the climate risk. Still, with 93,000 megalitres of water rights valued at close to $50m, Rural Funds can ensure there’s enough water to support the cropping activities.

In a major non-irrigated diversification, Rural Funds recently bought five feedlots in NSW and Queensland from cattle giant JBS Australia for $149m.

While the evidence points to water rights surging further, there are a number of unknowns apart from the likelihood of precipitation and whether snow in the highlands melts under the sun or is washed downwards by rain (the latter produces more water).

On the demand side, intensive water users, such as rice and cotton growers, may do the sums and decide it’s not worth planting a crop this year. If that’s the case, they may sell their entitlements and cause the water price to tumble (as has happened before). 

This luxury of not growing doesn’t apply to orchards, which need to be kept alive, come hail or shine. Some pundits reckon that because of the proliferation of such permanent crops, farmers will struggle to secure temporary seasonal allocations in coming years.

Not surprisingly, Duxton Water shares have risen 18% since mid June. While its water rights are on the books at $95m – 40% higher than a year ago – the fund cites a fair market value of $120m.

The company has net tangible assets of $1.27 a share, which means the stock is trading at a slight premium to this intrinsic worth.

While Duxton shines, the weather concerns have pushed Webster shares down 13% since hitting a record high of $2.02 in mid June, despite a walnut crop that looks like being the second best on record.

Webster’s water rights are in its books at $222m but valued at $360m (directors view even this number as conservative).

Select Harvest shares have declined 30% from last June’s two-year high of $7.45 a share.  Select should benefit from a bigger crop – an expected harvest of 15,700 tonnes compared with a poor 14,100t previously (bearing in mind the harvest has only just begun).

Pricing is also improving because of persistent drought in California, which supplies 90% of the world’s almonds.

For investors punting on the big dry continuing, Duxton is the obvious play, as the bourse’s only pure play water rights play. However the troubled Blue Sky Alternative Investments (BLA) holds $258m of water rights in its Blue Sky Water Fund.

On a cautionary note, the water rights market is notoriously complex, often illiquid (ironically), poorly regulated and thus open to manipulation.

If the heavens open in the right locations, water again will become a buyers’ market.

Currently, the Southern Oscillation Index, the guide to likely El Nino dryness or La Nina wetness – is at a neutral setting. So in theory it could go either way.

Tim Boreham authors The New Criterion 

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


Not sexy but a good show

Friday, September 14, 2018

If there’s a clear winner from the murky swamp of revelations uncovered by the banking Royal Commission, it’s the provider of independent administration and investment platforms for the financial advisory industry.

The listed alternatives — (HUB24 (HUB), Netwealth (NWL) and Praemium (PPS)) —  could never be mistaken for ‘sexy’ companies. 

But when it comes to the recent earnings season, they were among the better performers, as advisers migrate in droves from the conflicted bank-owned platforms.

What’s the history?

First adopted in the 1980s, platforms were developed as a simple way for investors to hold, acquire and administer assets. For intermediaries such as brokers and financial advisers, they help to streamline advice implementation in an era of elevated regulatory requirements.

Post the Royal Commission revelations, having a platform owned by the manufacturers of the investment products is as acceptable as dwarf tossing or third world slavery.

The banks (and AMP) still account for about 80% of the market. But most of the banks have got the message and are offloading their wealth platforms as fast as they can find a buyer offering a half-decent price.

How did HUB24 report?

Given this backdrop, HUB24 reported a 129% in underlying net earnings to $5.4 million, with funds under administration surging 51% to $8.3 billion.

Revved-up management also declared a maiden 3.5 cents a share dividend and increased its guided funds under administration to $19-23bn in 2021, compared with earlier guidance of $12bn by 2020.

HUB24 now accounts for 12% of total industry flows and as of March 31, accounted for close to half of new flows.

CEO Andrew Alcock says advisers for some years have been looking for an uncompromised choice of products to offer clients. “The Royal Commission has just expedited that.”

Lest investors get too excited, the platform industry is also fragmented and very, very competitive.

Another competitive threat is that once bifurcated from their tarnished owners, the bank’s former wealth operations will operate with the ‘independent’ cachet.

But Alcock contends they still will be product manufacturers and in any event will not have invested adequately. “When they’re stand alone, they’ll be behind the pack,” he says.

“All up, in the last 10 years, we’ve spent $60m to $70m (on product development) and this year will spend $7m.”

So what can go wrong? 

The pachyderm in the room is rival BT’s recent decision to slash the pricing of its Panorama platform.

In July, BT cut its administration fee to 0.15% of assets, with a $540 a year flat accounting fee. For a holder with an average account of $400,000, this equates to a 42% cut.

Rivals argue that the reductions are ‘headline’ only, with variations for specific products.  “I think our pricing is very competitive,” says HUB24’s Alcock. “It’s not just about pricing, it’s about features and functionality.” (Because it provides a tailored service for individual clients, HUB24 doesn’t publish a universal rate card).

What’s happening at Praemium?

Over at Praemium, group revenue grew a healthy 22% to $43.2m, with profit (ebitda) rising 40% to $8.8m.

Praemium operates in Britain as well as here and if anything, the Old Dart performance brought down the batting average with a negative performance.

As with HUB24, Praemium investors can’t complain about local inflows, up 45%. In particular, self managed accounts inflows rose 69% to $2.2bn.

Shaw and Partners highlights Praemium’s forecast compound annual ebitda growth of 17% over the next five years, with double digit earnings per share growth over the next three years.

And the ASX newcomer Netwealth?

Not to be outdone, Netwealth reported a 73% surge in full-year profits to $29m, on 36% revenue growth to $83m.

Netwealth also reported funds under advice of $18bn, up 41% and 18% above prospectus forecasts (the company listed in November last year at $3.70 a share).

Netwealth is winning 22% share of fund inflows, but still only accounts for 2% of the overall market.

“Netwealth has made a large impact in a short amount of time,” opines Pengana Capital’s Steve Black. 

“Through updated technologies, elegant user experience and by providing financial planners with the ability to manage their clients’ money, report and charge for additional services, this relatively new platform is positioning itself as a welcome alternative to the tired staples offered by the big banks.”

If there’s a bum note, Netwealth’s revenue margins fell 12% to 0.53%. Profit margins are likely to remain flat as the company re-invests in the business.

HUB24’s margins also came under pressure in the second half and are expected to come under further pressure from larger new clients (such as dealer groups) typically demand – and receive — a discount.

Netwealth is still a family affair, as it 53% controlled by the Heine family (Michael Heine and son Matt are joint managing directors).

They have no plans to sell down.

As with growth stories, the seemingly unfettered potential of the independent platforms comes at a price: factoring in some generous earnings growth for this year, the shares are trading on ritzy earnings multiples.

Netwealth, HUB24 and Praemium bear market valuations of $1.78bn, $830m and $340m respectively.

But who said quality is cheap?

Given the master trust, wrap and platform market is now worth more than $800bn and growing at a 12% per annum clip, there’s plenty of room to grow, barring some radical remediation by those stale incumbents.

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


A whopping fully-franked 60% dividend!

Monday, September 10, 2018

Normally dividends reflect management’s confidence in a company’s growth prospects. But in the case of Reverse Corp (REF), its 5.5 cents a share fully franked payout was a result of its legacy business (facilitating out-of-credit reverse charge calls) being made redundant by all-you-can-eat mobile plans and internet telephony using public Wi-Fi.

Late in July, Optus said it would no longer avail itself of Reverse’s services. In early September, Telstra followed suit.

Chaired by former McDonald’s supremo, Peter Ritchie, Reverse has also developed a profitable online contact lens site.

But with its 1800-Reverse service likely to join the floppy discs and dodos in obscurity, management saw no better way to deploy its $5.3m cash balance than to return $5.1m of it to shareholders.


Reverse shares tumbled from 9 cents to 3 cents after they went ex-dividend on September 5, valuing the company at just $2.8m.

The question now is: how much is the ongoing profitable contacts business worth, along with the reverse charging operation as it is wound down?

Reverse reported full-year ebitda of $566,000 and a net loss of $503,000, on ebitda of $566,000.

Tim Boreham authors The New Criterion

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


Howling with pain

Friday, September 07, 2018

The listed childcare sector has been popular with investors, but emerging oversupply and affordability issues mean that all is not well in the sandpit. The operators are banking on the government’s revised subsidy scheme to revive their fortunes.

While a fresh report on the childcare sector highlights a dearth of places for under two year olds in some non-urban regions, oversupply is emerging in the main cities and the three listed childcare providers are howling with pain.

With the once-booming sector placed in the naughty corner, the federal government’s $3.5 billion Jobs for Families childcare package – effective from July 1 – could not have come quickly enough.

Childcare centres have been a popular asset class for property investors because they offer stable long-term leases, with the lease payments partially underwritten by the taxpayer.

Childcare has been less vulnerable to cyclical property variables and is often perceived as a stronger long-term income prospect.

About 80% of centres still owned by families and individuals, making for an “uneven and fragmented” industry (in the words of a Centre for Independent Studies report on the sector). According to agent Peritus Childcare Sales, 101 childcare centres changed hands in 2017 for an average $4 million, 25% higher than the previous year.

The trouble is the sector became too popular with too many investors chasing too few suitable locations, especially in non inner city areas. In 2017, 825 development applications were lodged in NSW, Victoria and Queensland.

According to the listed property trust Arena (ARF), 224 new centres have opened in calendar 2018 so far (net of closures), with 300 under construction.

At the same time, securing bank funding has become more difficult and fewer development applications are proceeding to construction.

The operator of 17 Victorian centres, Mayfield Childcare (MFD) set the early tone before the earnings season, downgrading its calendar 2018 earnings expectations from $4.1m to $3.5m.

The company cited soft occupancy rates (that is, not enough kids) and higher competition that has stymied price increases.

The company also cited the lag effect of the discontinuation of the Howard era Baby Bonus, which has affected birth rates.

At the same time, Mayfield’s acquisitive intentions have been hampered by a lack of quality stock. In some cases, greenfields sites have opened almost empty, which at least makes it easier to clean up after the finger painting!

Think Childcare (TNK) then posted a good old Barry Crocker -- the sort of unexpectedly numbers rarely seen in today’s world of tight earnings guidance.

Think’s first-half earnings tumbled 74% to $700,000, with calendar 2018 guidance shaved by 38% for earnings and 10% for sales.

Think owns 45 centres, 80% of which are in Victoria where new openings have been at record levels for the last 18 months. Of its cohort of centres, 18 faced specific new competition.

Think chief Mathew Edwards says the old childcare system meant that enrolments were “untraditionally” flat between February and June.

“We expected to see a rebound and as a sector didn’t fully appreciate the depth of fees stresses families were experiencing.”

G8 Education (GEM) was the last of the listed trio to release its numbers, but sadly it wasn’t the case of leaving the best to last.

G8’s half-year earnings fell by 22% to $23.7m, with management also calling out “unprecedented” oversupply issues and regulatory change.

G8 shares sunk by 16% on the day to five-year lows, more on the outlook than the predictably downbeat numbers.

“We are not forecasting a material improvement in market conditions until mid 2019 and are adopting a conservative approach to occupancy growth forecasts (in the current half),” the company said.

G8 has also curtailed its acquisition of greenfields sites from an intended 30 to 19.

G8 is the biggest listed operator with 512 centres and the second biggest overall behind the not-for-profit Goodstart, which picked up most of ABC Learning’s centred when Eddy Groves' baby went bust after an orgy of (over) expansion.

At a macro level, there are still plenty of supportive factors for the sector. Female participation in the workforce is increasing – as is the population -- and the easing supply should result in improved occupancies and returns.

The new funding scheme – replacing the cumbersome childcare benefit and childcare rebate schemes  – should support the sector after the widely-reported teething problems abate.

The government claims 94% of parents will be better off under the arrangement, which, unlike the former scheme, does not cap subsidies for families earning an income of up to $185,710.

Think’s Edwards says the new “once in a generation” subsidies means childcare has gone from being the most expensive in a decade to the cheapest in history.

For parents, that’s not before time: the Centre for Independent Studies estimates that even with Canberra’s subsidies out-of-pocket expenses have increased by 50% since 2011.

We bet their salaries haven’t.

RBC Capital Markets analyst Garry Sherriff assumes a “gradual improvement in occupancy levels from calendar 2019 and beyond, noting that the new childcare reforms and moderating industry supply growth will take time to cycle through the system.”

Over the last 12 months G8, Think and Mayfield shares have tumbled 45%, 22% and 18% respectively.

It remains to be seen whether it’s a case of an over stimulated sector in need of an afternoon nap, or whether there’s something more disturbing happening in the sandpit.

For investors who prefer freehold ownership without the travails of being an operator, Arena owns 207 centres valued at just over $600m.

Folkestone Education Trust (FET, $2.81) owns 354 centres worth $890m, but has just agreed to be acquired by Charter Hall in a $200m cash deal.

Tim Boreham is author of The New Criterion

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


Another bank on the horizon?

Friday, August 31, 2018

Which bank?

Four Pillars, beware: the low-key payments services house is applying for a banking licence under a new restricted ‘P plate’ category aimed at supporting the growth of the fintech sector.

If Novatti (NOV) gets the green light, it will join the unlisted Volt, which made history in May by being awarded the first such restricted licence. A handful of other fintechs have also applied.

The company hopes to lodge its paperwork with the regulator, the Australian Prudential Regulation Authority (APRA) in the current quarter.

Inevitably, the so-called neo banks (most of which are not banks) target Millennials, the swelling tech savvy but slightly irritating cohort that is comfortable with app banking and think a cheque book is something out of a Prague library.

Novatti is tackling a different niche market: new migrants and overseas students, especially from Asia. Given Novatti’s core business covers remittances and pre-paid card services to that market, the strategy plays to an existing audience.

According to CEO Peter Cook, this business goes elsewhere after the customers have graduated from pre-paid cards to transaction accounts and loans. “Most are actually well educated and in $80,000-a-year jobs and are very aspirational,” he says. “This is a really good client base if you can get it right.”

Even though Australia’s migrant intake has been curtailed, we still accept around 220,000 migrants a year, with an additional 800,000 foreign students (200,000 from China).

An APRA restricted licence limits cumulative deposits to $2m and total assets cannot exceed $100m. But as with those P platers, the idea is that holders graduate to a full licence (requiring at least $50m in regulatory capital).

Despite the slimmed-down requirements, a restricted licence still involves a sizeable financial commitment (and existing infrastructure) beyond the limit of most fintechs.

Cook estimates the cost for Novatti around $7m, including $3m for tier-one capital. That’s no small beer for an entity that turned over $9.1m in the June quarter and held $4.5m of cash.

 “Still, we’re a good candidate for a bank because we have an AFSL (Australian Financial Services Licence) and a remittance network,” he says.

“We have our own compliance team and do a lot of financial processing.”

Cook admits that if he had announced the plan two years ago he would have been “marched off to a special hospital for checking”.

To smooth the path, the company hired two former bankers: Guy Cavallo, who headed payments at Australia Post and Geoff Bloom, a former ANZ operations executive.

With a current market valuation of $40m, Novatti listed in January 2016 after raising $7m at 20c apiece. “We had a very rugged first year,” Cook said. “A major tech project went a bit feral and it was a big distraction that burnt through a lot of money.”

Since then, Novatti has jettisoned some troublesome tech business and acquired more suitable ones in payments and remittances.

Novatti stock found favour in mid June this year after the company announced, a platform that allows the payment of Australian bills via Alipay with China-based e-wallets. WeChat Pay and China UnionPay are also expected to join the platform.

The company’s current product suite includes utility billing platforms, a cash voucher service (Flexepin) and a reloadable Visa card (Vasco Pay). “The beauty of payments is that $1 of revenue 98c flows through to the bottom line,” Cook says.

2. A savings plan for Millenials

While Novatti pursues a banking licence, the diversity of the fintechs’ business models show there are plenty of other ways of being a ‘bank’ without the seeking the costly and time-consuming regulatory seal of approval.

Take Raiz (RZI), the former Acorns Grow that works on the savings, rather than lending, side of the equation.

Raiz launched in February 2016 in a joint venture with Acorns of the US, based on an app that enables users (typically Millennials) to save money by rounding up the cost of a small purchase. The savings are invested in ETFs and unlike a bank deposit the savers are exposed to market fluctuations.

For its part, Raiz charges a flat fee of $15 a year on amounts up to $5,000, or 27.5 basis points on balances higher than that.

The JV was dissolved this year after it became clear the parties had other priorities: Acorns of the US was keener on becoming a bank than a fund manager and was lukewarm about expanding into South East Asia.

Raiz acquired the local rights to the platform, changed its name and then listed in June this year, having raised $15m at $1.80 apiece in an oversubscribed offer.

The company has since launched a superannuation product and is preparing to enter the Indonesian and Malaysian markets with its savings app. “In Indonesia we’re targeting a consumer class of 50 million people,” Lucas says. “In 10 years’ time that should be closer to 120 million.”

Currently Raiz has $222m under management across 165,000 active subscribers locally. CEO George Lucas says is a decent base, given Morgan Stanley estimates that an average fintech customer costs $500 to acquire. To date, Raiz has spent a miserly average of $15 per customer.

Currently, the average Raiz customer has a balance of $1,243 (as of June 30) with the average investment gaining 11% since inception.

They won’t be plonking down a deposit on a house in a hurry, but are doing better than Raiz shareholders who have done around half their dough since listing.

Raiz’s June quarter results showed a 123% boost in normalised revenue to $729,000, with net cash outflows of $4m. The subsequent fully year numbers showed a $7.1m loss on revenue of $2.76m, but care is required because the revenue only accounts for five months as the demerged entity.

Despite the red ink Lucas is puzzled why the shares have swooned, but acknowledges market concerns about an equity raising. “It’s not even on my mind,” he protests.

“We have sufficient capital to execute what we want to do.”

As at the end of July, cash stood at $11.6m.

Despite the torrid market reaction, Lucas is also convinced that listing was the right thing to do. A holder of six million Raiz shares already, he’s raring to buy more now that the results have been released.

Tim Boreham is author of The New Criterion

Disclaimer: Raiz has commissioned Independent Investment Research (IIR) for research. At the date of this article the research study has not been commenced by IIR. The author was not aware of this until after his interview with the CEO of Raiz.  Under no circumstances there have there been any inducements or like made by the companies mentioned to the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.


A taste of honey

Friday, August 24, 2018

The $190 million cash/scrip takeover offer for honey producer Capilano is pitched at a decent premium but will the suitors have to sweeten the pot?

Will media mogul Kerry Stokes’ support for the consortium lodging a $190 million bid for the honey packer and marketer be enough to get the deal across the line? Through his company Wroxby, Stokes is a 20.6% holder in Capilano and is happy to take his consideration in scrip.

But some pundits reckon that the bidders -- private equity fund Wattle Hill and agricultural investor ROC Capital -- are swooping at an opportunistic time, with the company on the cusp of a golden earnings recovery.

Based on Capilano’s 2017-18 earnings announcement that accompanied the takeover news, the offer of $20.06 a share cash and a cash-scrip alternative values the company on a generous earnings multiple of 19 times. But while earnings fell 4% to $9.8m, broker Cannacord reckons they were well ahead of expectations. On the firm’s expectations for 2018-19, the stock is trading on a multiple of only 14 times after being rerated post the takeover announcement.

“We won’t be surprised to see an alternative proposal emerge,” the firm says.

Select Equities analyst Mark Topy concurs. “We believe the bid has highlighted the latent value in Capilano with its leading market share position and honey supply to expand in the Asian region,” he opines.

“We believe that other parties may identify this value in assessing and launching a possibly higher bid.”

With a circa 70% domestic market share, Capilano presents a rare chance for a buyer to land its sticky paws on one of the country’s best known consumer brands.

Not that the producer is devoid of issues.

This year’s crop is expected to be the highest in a decade, which flies in the face of reports that our bee population is in less than robust health. In other words, there’s an oversupply.

Another negative is that Coles recently decided to stop stocking Capilano’s Allowrie brand, which is sourced from Argentinian and Chinese honey but also contains 30% Australian honey.

The patriotic Coles decided it only wanted local honey, which provided an entree to key competitor Beechworth Honey to increase its private label presence.

Woolworths, however, continues to stock Allowrie, arguing the value product is popular with consumers. Topy estimates the brand accounts for 5% of Capilano’s revenue.

Supply wise, the dry weather is a key X factor. About one quarter of honey comes from Queensland, where conditions have been unfavourably dry.

Manuka honey (a fave of health-conscious consumers) is in especially short supply and Capilano has been relying on Kiwi beekeepers to maintain market share.

Capilano’s full-year results show the company is sitting on a honey stockpile of 6746 tonnes worth $51m, which positions the company if the Big Dry continues. As Capilano chairman Trevor Morgan says: “It’s comforting to have a little more honey in the yard than has been the case in recent years.”

Also, increased supply isn’t entirely negative for Capilano, because it lowers the price for the commodity the company pays to the bee keepers. According to Topy, apiarists now receive an average $4.80 a kilogram, compared with $5.20 a year ago.

But if the drought persists and supply constricts, these prices are likely to rise.

Investors have taken a cautious approach to Capilano because its push into China has been slower than expected. The company has recently moved from a direct approach to more of an emphasis on the Daigou (cross border) channel and the Alibaba and ecommerce sites. But Wattle Hill is a China specialist with a remit of expanding the brand into offshore markets.

Stokes is obviously confident of the strategy: Wroxby has agreed to take up its entitlement in scrip, which frees up other Capilano holders to accept either shares or the $20.06 cash offer (a 28% premium to the ‘undisturbed’ price of $15.65/sh)

Other holders on Capilano’s tight register  (many of whom are beekeepers) are likely to want to follow Stokes’s lead and maintain an exposure to what’s the bee’s knees of Australian honey.

Disclaimer: The companies covered in this article (unless disclosed) are not current clients of Independent Investment Research (IIR). Under no circumstances have there been any inducements or like made by the company mentioned to either IIR or the author. The views here are independent and have no nexus to IIR’s core research offering. The views here are not recommendations and should not be considered as general advice in terms of stock recommendations in the ordinary sense.



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