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Mark Tobin
+ About Mark Tobin

Driven and hard-working finance professional with over 10 years international experience. Valuable industry experience gained in back/middle office roles across Europe before relocating to Sydney, Australia in 2010. I then began my first Australian role at Wilson Asset Management. In 2012, I was offered the opportunity to move into an Equity Analyst role at Wilson. I have thoroughly enjoyed this change and am passionate about this area of finance. I have recently joined the team at Independent Investment Research. I focus on ASX listed nano caps and micro cap stocks. As these are stocks you generally won't hear about from other market commentators, fund managers, analysts, advisors or your broker. This is a truly under researched part of the market.

Threat Protect Australia Limited securing its future

Friday, October 20, 2017

By Mark Tobin
As noted in my previous article following a rollup acquisition strategy or seeking to become one of a particular industry’s consolidators in which a company operates in can be a lucrative strategy. Threat Protect Australia Limited (TPS:ASX) is seeking to be one of the industry consolidators in the highly fragmented private security industry in Australia. The company estimates there are circa 6,500 businesses nationally generating approximately $6.3 billion in annual revenues. So, it has a large addressable market in which to execute this consolidation strategy.
TPS offers all your standard security services for your home - alarms, remote monitoring, access control and responding to an alarm if you’re away etc. TPS also provides the aforementioned services to business customers along with your standard on site security personnel and some more high-end services such as private personal protection (read bodyguards), risk assessments and audits and counter surveillance.
TPS currently operates its head office out of east Perth in WA. Through two recent east coast acquisitions and with its east coast monitoring centre in Kingsgrove south Sydney, TPS has set itself up nicely for a full national offering of its services.
TPS has furthermore recently announced that it has received the required permits and licenses to operate in VIC.
The company currently operates two main divisions:

  • Monitoring: Access control, CCTV, Alarm response, Motion Sensors etc;
  • Guarding: Onsite security personnel, events security, risk consultancy etc.

Both divisions in FY17 contributed roughly equally to TPS’s revenue but the monitoring division contributed circa 90% of group earnings before interest tax depreciation and amortisation (EBITDA) and expanded its divisional EBITDA margin from 30% in FY16 to 56% in FY17. The increasing scale and profitability of the monitoring division drove the overall company to report a healthy NBT of $1.2 million for FY17 up from a loss in previous year.
The monitoring division is the focus of the rollup strategy. TPS is seeking to leverage its largely fixed cost control rooms in Perth and Sydney through the acquisition of monitored security client bases. Acquisition of monitored security client bases come from its relationships with 480 resellers of its own monitoring service around Australia or from acquiring entire security businesses where the acquired business can provide other strategic benefits or capabilities to the overall group.
The current control room utilization/capacity indicated by the company sits at circa 30%, thus providing plenty of head room for TPS to grow into. The company recently announced it had bought back some monitored security client bases from resellers for a cost of just over $600,000. The conversion from a reseller account to a direct account delivers a roughly three times uplift to revenue for very minimal additional costs to TPS, given surplus capacity at its monitoring base according to the company’s announcement. TPS currently has 6000 lines/accounts it monitors directly out of total monitoring base of 37,000. Thus, the bulk it is monitoring services is conducted on behalf of its reseller base.
The company has a market cap of circa $20 million and it has traded around the same levels for the last 12 months despite improving business performance and execution of its strategy. This flat share price performance maybe due in part to its relatively debt high levels. The company has net debt of $6 million which is quiet high given its market cap. I am usually averse to debt in microcaps companies but as they say the devil is in the detail. The bulk of the debt is owed to Melbourne based wealth management company First Samuel rather than one of the big four banks or more standard commercial lenders. The debt is owed via a convertible note, the total of which is $9 million with a little over 50% of the note facility drawn down to date. First Samuel is also TPS’s largest shareholder with 8.26% of the share register currently excluding the convertible note. Now this debt situation is not your normal run of the mill debt financing. Given the fact that the largest shareholder is providing the majority of the debt funding (NAB are also providing some funding) which is specifically linked to funding TPS’s acquisition strategy, it makes the high debt levels more acceptable. The nature of TPS’s business means it is highly cash generative, so TPS should be able to service their debt requirements through operational cashflows. TPS traded cashflow positive in FY17, another important milestone in its evolution.
FY18 looks set to be a pivotal year for TPS. It will firstly have the benefit in terms of revenues and EBITDA contributions from the full year impact of its recent Apollo Security acquisition, which was a sizeable one in the context of TPS’s current business. Secondly, its recent licensing in Vic allows TPS to look at that market for acquisitions and/or expansion, which will enhance its national presence and footprint. Having a national footprint opens the opportunity to tender for much larger corporate contracts which demand a national presence as these corporate clients themselves have a national footprint of sites or assets that need security. Overall TPS appears to be operating in an attractive space and to date at least appears to be executing its clearly defined strategy effectively. Overall to me it’s interesting.

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HRL Holdings Limited: Another ALS in the making?

Friday, October 06, 2017

By Mark Tobin

As noted in a previous article, one of the ways to discover new ideas for further research is to look at stocks hitting new 52-week lows, or 52-week highs for that matter. One such stock hitting 52-week lows, which has come to my attention, is HRL Holdings (HRL:AX). The company operates primarily in the environmental services industry, providing inspection and testing services. It primarily focuses on hazardous environmental services (think things like asbestos) and geotechnical services in Australia and New Zealand.

While a microcap, it shares a lot of similar attributes to ALS Limited (ALQ:AX) or global behemoths like Bureau Veritas SA (4BV:GR) and SGS (SGSN:VX) in terms of the products and services it provides to its customers. The industry is split between very large players (as mentioned above) and very small private players with no real mid-tier player. HRL is seeking to be that mid-tier player through an acquisition based rollup strategy and an organic rollout strategy of existing brands to new geographic locations.

The company operates in three interrelated market verticals with various brands:

  • Hazardous Material Sampling & Testing (Octief & Precise Consulting)
  • Geotechincial Serives (Morrisons Geotechnic)
  • Specialist Hazardous Monitoring Software (Octfolio)

The company is in addition looking to enter new testing verticals most likely through acquisition of testing companies or laboratories in the air, water and food industries. This is in addition to expanding the number of testing services in their current business units. It has a strong focus cross selling services and synergies between business units as new acquisitions are integrated into the group. A key example of this was the Octfolio acquisition where HRL was one of its largest customers pre-acquisition. Thus, providing HRL with the opportunity to offer a more vertically integrated service to its clients and to cross sell HRL’s other products and services to Octfolio's database of clients.

The company achieved profitability in FY17, and while minimal, it does mark a key milestone for the business. Management has also indicated that corporate costs/head office costs are now largely in place and thus should not need to rise to any great degree as the business grows.

FY18 will see the full year contributions from the two most recent acquisitions of Morrison’s and Octfolio which should significantly boast revenues and improve profitability compared to FY17. This is before any other acquisitions that could be brought into the group in FY18 as part of HRL’s stated growth strategy. Some synergies and cost savings can also be expected to be realized from the two acquisitions, aiding FY18 margins.

The company has announced some notable contract wins in recent months including a 3-year service agreement with the Queensland Department of Transport & Main Roads. A smaller 6-month services contract with the Northern Territory Department of Housing which will contribute to the FY18 results. The company has furthermore been given approved contractor status with South32.

Obviously, there are two keys risks one must be coginsant of in relation to HRL’s strategy. The first is integration risk as all these acquisitions come with disparate systems and corporate cultures. These acquisitions somehow have to be carefully integrated into the HRL setup in order to realise synergies and cost benefits and be accretive to HRL’s earnings.

The second key risk is the board and management’s ability to allocate capital effectively i.e. not pay too much for businesses and ensure their due diligence avoids bringing a problem child into the group through legacy issues from the acquisition. To date, at least these two risks appear to have been satisfactorily managed by HRL.

The company currently has no geographic presence in the NSW or VIC markets and I would expect future acquisitions or organic expansion of existing brands into these geographic markets in order to give them a more national footprint in Australia. HRL currently has a very good presence in QLD and NZ. It also has a presence in the NT, ACT and WA.

As a previous mentor of mine once said to me, “the best time to own a business involved in a rollup strategy is the early days”. Rollups can be very successful and very profitable to investors in the early days. Just pull up some charts of G8 Education Ltd (GEM:AX) or Greencross Ltd (GXL:AX) in the first few years of their rollup strategy to see why being in at the start can be very rewarding for shareholders.

HRL have reached the profitability milestone and to date have shown they can both allocate capital effectively and integrate acquisition into the group. The management and board own just over 40% of the business so they are very aligned with external shareholder to make the business work and execute on the stated strategy. HRL has a market capitalisation of circa $19m, hitting 52-week lows despite improving business performance with an outlook for improved revenues and earnings in FY18. To me it’s interesting. 

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7 factors to look for in microcap investing

Friday, September 22, 2017

By Mark Tobin

With well over 2000 stocks outside the ASX 200, how does anyone go about systemically filtering down to a group of microcap stocks worthy of further due diligence and research? Here we look at 7 ways to screen the field.

1. Market cap below $300mil

Most people consider under $300mil to be a microcap stock but different funds use different benchmarks or cutoff points. Some may take $500mil as the cutoff or for others, it’s any stock outside the ASX 200 or ASX 300. However, if we take the $300mil for now that leaves you with circa 950 stocks with which to look at, a circa 50% reduction already on the 2000.

One thing to consider here, especially with new listings under $300mil, is should this company be coming to the boards now or at all? Is the business mature/developed enough for public markets? Or would they be better off being funded through private equity or venture capital at this stage of their development? Just because a business can list doesn’t mean it should. Or this is the correct phase in its evolution to list.

2. Management and board

Unlike the big end of town, microcap management is critical. However, assessing management and the board is a highly subjective process. Some possible key questions investors need to ask themselves are:

  • Can this team execute on the strategy?
  • The business idea might be great on paper but can they translate this into viable, successful business?
  • Can the CEO take the company forward from the private space to the listed space for example?
  • Can the CEO actually manage a business double or triple the current size?

An entrepreneurial CEO might be great in the early days getting the business off the ground but can they run a larger more established business which requires systems and procedures in order for it to run smoothly. Ideally, you are looking for what Ian Cassel from Microcap Club would describe as “intelligent fanatics”. Some Australian examples of CEO’s I would suggest that you could classify as intelligent fanatics are Rene Sugo of MNF Group or Jamie Pherous of Corporate Travel Management.

Also look at the board. Do you think they will hold the CEO to account? What skills/networks/experience are they bringing to assist the CEO in executing the company’s strategy? Is the board just stacked with friends of the CEO? If the CEO is also the Chair and largest shareholder how is board independence maintained and minority interests protected? A good quality board can be a huge asset to both shareholders and the CEO. 

3. Capital structure

How are the management and board aligned with shareholders? What is the incentive structure for them to execute on the strategy? In microcaps, a large majority of the CEO’s are perhaps founders or large shareholders which is great for alignment of interests with outside shareholders. However, one must be careful how these large shareholders treat small/minority shareholders. You need to be careful of the CEO/Founder or large shareholders treating the company as “a private company that just happens to be listed” as the old saying goes. This is where they disregard the interests of minority or independent shareholders.

It is also wise to be careful when a reverse/backdoor listing takes place, as legacy shareholders who previously invested in the company use the new listing as an escape route out of the old vehicle. This can weigh on the share price until all the old shareholders have exited and the shareholder register normalizes again.

4. Revenue in the front door

The next thing to look at is: are these companies generating any revenues at all? Typical companies that don't are junior resource companies, some tech stocks, drug developers, biotech and medical device stocks. I am not saying money can’t be made in pre-revenue stocks but the risks are higher and I would rather stick to a company with something coming through the front door on a monthly basis. I want to avoid “business idea risk”. This links back to point 1 and perhaps these types of companies are better aligned to venture capital and private equity investors.

5. Making a buck

Next, are they generating a profit? Here it can be demonstrating positive operating cashflow or having a positive EBITDA. Ideally, I would like the stock to be showing a solid NPAT and a track record of delivering consistent NPAT. I, do, however, give a little leeway here if it is clear the company will achieve profitability in the next 12 months. To me at least that’s an acceptable timeframe. However, there must be a clear line of sight to this point via a combination of strong business growth, and the company’s financials.

Given a lot of microcaps report quarterly via Appendix 4D announcements you can track cash flows relatively well and make some reasonable projections about the future based on the cashflow run rate. A lot of companies also provide a supplementary information on business growth and strategy execution. It is important to make sure business growth and the strategy remains on track. Even small hiccups can have big impacts. Appendix 4D’s are some of the most crucial announcements to look out for from microcap companies as their businesses are generally growing much faster than larger companies. Thus, cash inflows and outflows can be changing rapidly.

6. Cash is king

In a perfect world, I want to see no debt on the balance sheet. If there is debt on the balance sheet I generally avoid companies where net debt to equity is greater than 50%. High debt and microcaps are never a good mix. Having a well-funded balance sheet allows the company to deploy cash to grow the company via organic or acquisitive growth. It also allows them the chance to raise debt at a later date if required since they are not currently burdened by it. Cash on the balance sheet also avoids the need to raise equity unnecessarily and possibly at a deeply discounted price. 

7. Relight the Fire

A stock can look on the cusp of taking off for years but if there is nothing that is going to make the general market sit up and take notice then it’s worth a rethink. Or if the company has no sustainable competitive advantage, larger players can simply compete them out of the market or new entrants can easily replicate their offering, the company will never experience sustained growth and profitability and will forever remain small. In other words, more of the same won’t do. A catalyst to change the perceived market view can come in many guises, a new CEO revitalizing the business, expansions into new markets or new products and services, acquisitions, even turning profitable after many years of losses can all be a spark to set a fire under the share price potentially.

Obviously, this is only meant to narrow the field. You then need to study the form of each of runners still left a lot more closely. However, this should leave you with a decent collection of quality microcaps upon which you can conduct some further due diligence and hopefully lead to some new stocks in your portfolio.

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