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Tim Boreham
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+ 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.

The New Criterion: The dental sector

Monday, May 21, 2018

This week The New Criterion drills down into the listed dental sector, which has just expanded by one-third with the listing of a new practice consolidator

Smiles Inclusive (SIL) $1.04

The unwritten law of the dental industry is that practice consolidators must incorporate “smiles” into their name, a catchy and upbeat reference to a visitation most clients associate with pain – hip pocket and otherwise.

But let’s face it, even medical professionals need to market their wares in the best possible light, especially when most of the population would rather hose out a putrid wheelie bin than front up for their annual check-up.

So smiles it is for Smiles Inclusive, which joined Pacific Smiles (PSQ, $1.70) and 1300 Smiles (ONT, $6.37) in the ASX ranks after raising $35m at $1 a pop.

Despite their homogenous monikers, we detect some differences in strategy and style between the trios.

1300 Smiles founder Daryl Holmes prides himself as a practising dentist who dons the drill one day a week.

“While that’s not everything, it certainly counts for something,” he says.

In contrast, Smiles Inclusive's Michael Timoney is an unashamed marketer, focused on getting bums on seats.

 “I position us as a sales and marketing company that does dentistry,” he says.

Trading as Totally Smiles, Smiles Inclusive has contracted to acquire 52 practices nationally and aims to have 100 under its banner within a year.

That’s all well and good, but with other consolidators in the market as well – and not just the listed ones – there’s a danger of overpaying.

In 1300 Smiles’ half-year report, Dr Holmes referred to other operators paying over-the-odds prices.

“When others are acquiring practices for silly amounts, we simply step back and let someone else do the buying.”

Timoney concurs the market has hardened in favour of the vendors. Smiles Inclusive is paying an average of five times earnings before interest and tax, which compares with 3-4 times when the company started amassing its portfolio.

Fancy cosmetic dental practices are changing hands on a multiple of seven times. For the time being, Smiles Inclusive is avoiding these “rock star” practices and focusing on drill-and-fill general dentistry.

 “With my CEO hat on I’m not prepared to pay any more, but five times earnings is a fair and reasonable price,” Timoney says.

Broadly speaking, the three companies tread the same path of acquiring practices from baby-boomer dentist getting a bit old in the, er… tooth.

But Smiles Inclusive’s business model differs from its peers, in that practice owners who sell to the company can continue to hold some equity through a joint venture vehicle.

These vendors continue to operate the practice, paying Smiles a service fee for the digs and support services. Through the JV vehicle they can share in some of the profits and eventual capital gains.

Smiles Inclusive has also resolved to stick to mainstream locations in metropolitan city locations.

Unlike Pacific Smiles it’s avoiding large shopping malls because he is not convinced customers want to combine a trip to the dentist with a grocery run to Woolies.

Unlike the others, Pacific Smiles has joined arms with the health insurers, with eight of its 75 clinics operating under the nib Dental Care banner.

The corporate dental model only makes sense if it can be more efficient than stand-alone locations, while retaining dentists at the same time.

Timoney’s productivity priority is to improve seat utilisation: of the 154 dental chairs being acquired, 61 are never used.

Sceptics of corporate dentistry argue the benefits are overblown because a dentist can only ever attend to one mouth at a time.

But Timoney argues every active seat improves economies of scale through shared reception and cheaper procurement.

According to research house IBIS, the dental market is worth $10 billion and revenues have been growing at 3 percent per annum.

As a non Medicare item, dentistry is mainly funded privately (or through private insurers) and is sensitive to economic conditions.

Despite the relentless march of the consolidators, dentistry remains a cottage industry: of the 7000 dental surgeries in Australia, the biggest owner (the health fund Bupa) accounts for only 6.5 per cent.

The real potential lies in persuading the 65 percent of adult Australians who don’t regularly visit a dentist.  Given the cost and discomfort involved, this cohort will wait until black and rotting teeth force them to drop by.

1300 Smiles paved the way with a $1 a day dental scheme to address the affordability issue. Smiles Inclusive is trying to persuade corporate employers to offer dental incentives to their staff, in the same way they might fund a $300 gym membership.

Despite growing investor acceptance of the dental roll-up model, the Smiles Inclusive listing was struck on an earnings multiple of ten times – half that of its two listed peers. That’s because the practice acquisitions are yet to be completed and the company does not have a performance track record.

Personally, Timoney has form in the industry, building up the Dental Partners chain before selling it to the New Zealand-listed Abano Healthcare Group.

(Abano changed Dental Partners operating name to Maven Partners, which shows that a smiley title may not be mandatory after all)

Smiles Inclusive’s $64m market valuation compares with the $153m ascribed to 1300 Smiles and Pacific Smiles’ $256m worth.

The Townsville based 1300 Smiles reported half-year net earnings of $3.9m, on patient revenue of $28m.

Pacific Smiles reported a $4.9m half-year profit, on patient fees of $80.7m

Smiles Inclusive forecasts a full-year profit of $5.8m.

While wary of ratcheting practice valuations, 1300 Smiles and Pacific Smiles haven’t been idle with the cheque book, either.

1300 Smiles recently acquired orthopaedic practices in Chatswood and Bathurst, as well as five conventional clinics (including one ironically located in the sugar centre of Ingham).

Pacific Smiles bought Everything Dentures and Sculpt Lab in November last year. Overall the group rolled out 12 new clinics in 2016-17 and expects to expand by another ten in the current financial year.

1300 Smiles and Pacific Smiles haven’t had everything go their way: for instance, the removal of the federal government’s $1bn and widely rorted Chronic Diseases Dental Scheme, which left a revenue hole even the best composite resin filling couldn’t plug.

But 1300 Smiles shares have gained 700 percent and Pacific Smiles stock have increased 30 percent, since listing in March 2005 and November 2014 respectively. 

Tim Boreham edits The New Criterion

Tim.boreham@independentresearch.com.au 

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.

ENDS

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The New Criterion: Uranium - recovery wave or down in the dumps?

Monday, May 14, 2018

 

With a number of false dawns since the 2011 Fukushima disaster that smashed demand, no-one should be holding their breath. But the industry true believers contend the market will drift into undersupply and catch buyers on the hop when their current long-term contracts expire.

Paladin Resources (PDN, 12c) last month joined other major global producers by flagging a likely mine closure: it’s taken the first steps to putting its Langer Heinrich mine in Namibia on care and maintenance, citing the lowest spot uranium prices in 15 years.

In November last year Kazakhstan’s Kazatomprom said it would cut output by 20 percent for three years. In early December Canada’s Cameco to suspend output at its McArthur River mine for ten months.

In all, the cuts are thought to remove 17 million pounds of primary uranium supply this year, or 12 per cent of supply. Kazakhstan is the world’s biggest uranium producer McArthur River alone supplies 10 per cent.

Langer Heinrich produced 3.4 million pounds in 2017, with the mill fed by previously stockpiled ore.

Amid a global oversupply, the spot uranium price hovers around $U23 ($30) a pound, not far off the late 2016 nadir of $US20/lb.

The price peaked at $US140/lb in 2007, when more than 500 resource explorers purported to be looking for the element (with the exception of a handful of them, they’re now looking for lithium or growing cannabis).

Predictable shares in ASX-listed uranium explorers and developers such as Vimy Resources (VMY, 12c), Bannerman Resources (BMN, 4.3c) and Toro Energy (TOE, 2.7c) are in the dog box.

But does every canine have its day?

Vimy’s Mike Young recently said the yellowcake market is on the crest of a wave of a price recovery and that “it’s better to be on your surfboard in the takeoff zone rather than sitting on the beach waxing it.”

On Young’s reckoning, uranium costs an average $US55 a pound to produce, so most miners would go bankrupt at the spot price.

While contract prices are less than transparent, they’re much higher than the spot price: in 2016 fellow ASX-listed developer Peninsula Energy (PEN, 26c) signed a ten-year supply contract, while Berkeley Energia (BKY, 86c) inked a five-year offtake deal at $US43.78/lb.

At the time the spot price was below $US20/lb.

 “The uranium market is unique compared to other commodities in that contracts are signed years in advance of first delivery,” Young says. 

Vimy has good reason to talk up the market, given it’s due to release definitive feasibility study on its flagship  Mulga Rock project (near Kalgoorlie) in the current quarter.

The country’s third biggest undeveloped uranium mine, Mulga Rock was approved by the Barnett government and re-approved by the Labor administration.

With a resource of 71.2 million tonnes containing 90.1 m.t. of uranium oxide, Vimy is envisaged as a 3.5 million pounds a year producer.

(Ironically, the economics of Mulga Rock are supported by side production of copper-zinc and nickel-cobalt, key ingredients of alternative battery technology).

Put in context, Vimy assumes global demand of 240m pounds by 2024, compared with the current 150m pounds.

On Vimy’s numbers, there are 447 reactors across 31 countries, with a further 56 under construction and 160 planned or permitted.

Of these, China accounts for 38 reactors, with 20 under construction and 40 planned.

Joining Vimy in the surf is Peninsula, which is seeking to expand its Lance project in Wyoming. The mine currently produces about 400 pounds a day (146,000 pounds a year), but is licensed for three million pounds a year.

Berkeley Energia this year it starts building its Salamanca mine in Spain, the only major uranium project under construction.

Bannerman, meanwhile, is developing its Etango project in Namibia as an open pit and heap leach operation, based on a nano-filtration technology that is expected to reduce costs.

But without definitive signs of a recovery, we suspect investors will remain happy to eat Chiko Rolls on the beach while the likes of Vimy wait in the breakers.

 Silex Systems (SLX) 27c

The uranium processing innovator is one of those once high flyers the market has long forgotten about. But a vaunted deal with a heavy-hitting consortium of US nuclear companies could put Silex back on investors’ radars.

Having shed its solar assets some time ago, Silex’s focus has been on commercialising its laser uranium enrichment technology.

This know-how, which makes the process far more efficient, has been licensed to the US-based Global Laser Enrichment (GLE) consortium.

In May 2016, the 76 percent GLE owners GE Hitachi said they wanted out of the venture, citing “changing business priorities and difficult market conditions.”

Silex intended to introduce new shareholders, but with no apparent interest it has been negotiating to buy the stake at a “heavily discounted valuation”.

Nuclear power producer Cameco would continue to hold the remaining 24 percent of GLE.

Rather than receiving royalties as initially planned, the purchase will give Silex a controlling stake in a facility intended to be built at Paducah, Kentucky.

The initial feedstock probably would be 300,000 tonnes of depleted uranium called the Paducah tails, owned by the US Department of Energy (DOE).

While subject to change, the plan is to process over 40 years into natural grade uranium at a nominal rate of 2000 tonnes a year.

That output, to be sold on the global market, is the equivalent to that of one of the biggest uranium mines.

There’s a few missing parts of the equation, notably the likely purchase price and the cost of building the plant. As a rough guide for the latter, Cameo acquired its stake for $US124m in 2008, implying a $US550m valuation for the entire venture at the time

Understandably, Silex also needs the approval of the DOE, the US nuclear watchdog.

 Silex had expected a deal to come to fruition in the March quarter, but deadlines have slipped. The company said its due diligence had identified “additional risk factors”, with some sort of result in the “near future”.

Can’t be too careful.

In its heyday Silex was worth more than $1 billion, compared with today’s market cap of $57m supported by $36m of cash.

A third generation processing technology, Silex’s process involves laser excitation to separate isotopes, rather than the old gaseous or centrifuge diffusion.

 It’s more efficient and enables smaller, modular plants to be built.

Tim Boreham edits The New Criterion

Tim.boreham@independentresearch.com.au

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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The New Criterion: EML and Cabcharge

Friday, April 27, 2018

 

Payments provider Emerchants is strongly expanding its global reach – but not reaping the share price benefits – while the 40 year old Cabcharge is seeking to restore its rightful place in the disrupted taxi industry.

Emerchants (EML) $1.21

The provider of both reloadable and non-reloadable payments cards exemplifies the life cycle of a tech start-up, with unabashed investor enthusiasm in the blue-sky stage giving way to caution even as the enterprise grows it revenues and turns profitable.

Having reverse listed in 2012, Emerchants came from nowhere with its approach of filling the gaps in the payments chain vacated (or never filled in the first place) by the banks.

Contrary to common perception the banks aren’t entirely monolithic, despite their dominance of traditional lending and transactions. They choose not to play in some payments activities that require a bespoke approach or are not big enough.

Examples of Ecommerce’s offerings are gift cards, loyalty schemes, supplier payment cards and online bookies so that punters can download winnings directly on to a stored value card (or, more likely, upload them when they stop winning).

Emerchants manages 1100 card programs in 19 countries – a mix of direct white-labelled consumer programs or business-to-business products.

About three-quarters of volumes derive from the US, where the old fashioned cheque book lives in, along with the imperial system and the right to bear arms.

In its recent half year report, Emerchants reported gross debit volumes (GDV) of $3.58 billion, up 86 per cent. The company’s actual revenues also grew by 18 per cent to $38.2m, with ebitda of $13.5m (up 35 percent) and a net profit of $2.03m (up 50 percent).

But since late November Ecommerce shares have tumbled almost 50 percent. The first catalyst for the sell down was CEO Tom Cregan selling four million shares, pocketing $8m.

Director (and former Bank of Queensland chief) David Liddy peeled off 800,000 shares – half his holding – for $1.59m.

In a statement pitched at “confused and upset” shareholders, Emerchants Chairman Peter Martin said the selling was for personal reasons and it did not reflect the company’s "excellent” long-term outlook.

Cregan still owns 16m shares – 6.6 percent of the company – and doesn’t plan to shed any more.

The stock then fell further after February’s half year results, which saw full-year GDV guidance trimmed from $7-8bn to $6.7-7bn.

Emerchants executed a flurry of deals with 2017, notably to provide pre-paid cards for customers of salary packager McMillan Shakespeare.

The company also signed up Mize Houser, a Kansas-based accounting firm that manages the accounts payable functions for restaurants.

Then it acquired Sweden’s Presend Prepaid Solutions, which supplies non-reloadable cards for shopping malls.

In a show of faith in Emerchants, the Swedes accepted only $1.6m of the $11.1m in up-front cash, with the rest in deferred scrip.

Over five years, Emerchants has managed compound annual revenue growth of 63 per cent (to $58m) and ebitda growth of 237 per cent.

At its peak the company was valued at $550m and its still bears a healthy $285m market cap.

If that sounds over the odds, consider that reverse lay-by play (and recent market darling) Afterpay is still valued at close to $1bn, despite recent concerns about fraud and irresponsible lending.

In the current financial year, Emerchants and Afterpay are expected to generate similar ebitda of $20-23m.

A key difference is that Emerchants is more globally diversified and does not bear any credit risk when the interest rate cycle turns.

On the contrary, Emerchants would love to see higher interest rates globally, it earns interest on balances held with banks on behalf of Emerchants customers.

 

 Cabcharge (CAB) $1.89

Unlike Emerchants, Cabcharge is a hardly a start-up, but a 44 year old payments operator (and listed embodiment of the taxi industry) trying to protect its patch against new entrants.

Cabcharge may not have declared victory against Darth Vader – a.k.a. Uber -  but CEO Andrew Skelton believes the worst is in the rear view mirror.

For the first time in years, Cabcharge is seeing top line growth in terms of both fare volumes and the company’s actual revenue derived from processing non-cash fares.

“We are a little ahead of where we might have thought,” Skelton says.

In effect, more people are using taxis and Cabcharge itself is winning market share from other in-cab payment operators such as GM Cabs and Ingogo.

In terms of top-line fare volumes, Cabcharge bucked a two-year decline trend and reported a one per cent increase in the December half, to $515m. The company also saw fare growth in every state and territory.

Cabcharge’s share of taxi fare mobile app downloads ahs also increased, from 6 per cent in the previous first half to 10 per cent.

Skelton claims younger passengers stung by Uber’s surge pricing are ‘discovering’ taxis, while ride-share drivers are turning to cabs as they realise the cost of maintaining their own vehicle.

There’s also some regulatory angles helping and hindering Cabcharge.

Firstly, most states have reduced the allowable payments surcharge from a lavish 10 percent to 5 percent.

In theory, this halved Cabcharge’s payments revenue overnight but it hit its newer rivals even harder.

Queensland implemented the cut in November and that’s still washing through. Cabcharge’s dramatic long term decline in payments revenue decline has, well, declined.

The second regulatory move presents both advantages and headwinds because of the dichotomous approaches of the NSW and Victorian governments.

In Victoria, taxi plates have been abolished and replaced with a $52.90 annual licence fee. At their peak, the plates were worth up to $500,000.

In NSW, the government has capped taxi numbers to protect the plate owners’ investment.

As a result, the number of cabs operating under Cabcharge’s network in Victoria grew by 445. But in NSW its taxi pool shrunk by 600 vehicles.

Skelton argues NSW’s stance is unsustainable because taxis simply won’t be able to meet demand growth. “It’s been a frustrating experience not to be able to grow in biggest market.”

A state election looms next year but it’s not clear whether Labor’s stance will be any different.

In theory, the top-line growth will trickle down into improved earnings for Cabcharge.

Cabcharge also expects an uplift from its investment in hailing apps and its handheld terminals called Spotto, which in part enable cabbies to be paid more quickly.

It’s also poised to launch a digital version of a Cabcharge voucher that can be sent directly to the user’s mobile phone wallet or other device such as an Apple Watch.

The handbrake to the Cabcharge recovery theme is the entry of two new ride share operators, Taxify (which started nationally last December) and Ola (in Sydney and Perth).

As well as providing better returns to drivers, the newcomers don’t employ Uber’s unpopular surge pricing (which on anecdotal evidence is wearing thin with passengers).

Despite the spirited fight back, Cabcharge shares are trading not much above their record low of $1.60 in late November.

On March 19 the stock was chucked out of the ASX300 index.

Despite (or because of) this, Pinnacle Investment Management became a substantial shareholder with a 13 percent stake.

Spheria Asset Management has also upped its stake from 10 percent to 11.4 percent.

Unlike the lavish valuations ascribed to Emerchants or Afterpay, the market is valuing Cabcharge assuming ever-diminishing margins.

But the $200m market cap Cabcharge is still profitable and pays a fully-franked dividend yielding around 5 per cent.

Tim Boreham edits The New Criterion

Tim.boreham@independentresearch.com.au

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.

ENDS

 

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The New Criterion: The baby formula craze

Friday, April 20, 2018

 

Clover Corp has been a big winner from the China-led boom in infant formula, but by supplying a key ingredient rather than the end product. Meanwhile, other dairy suppliers have refused to follow the herd and are diversifying into goat’s milk.

Clover Corp (CLV) 1.05

The maker of a key baby formula ingredient has ridden the boom in the commodity, led by demand from a Chinese populace freed from the shackles of the abolished one child policy.

But Clover is now set for a leg-up from further afield: a European dictate that will mandate increased minimum levels of its encapsulated form of tuna oil containing docosahexaenoic acid (DHA).

That chemical moniker doesn’t sound like the sort of substance mums should be feeding their little ones.

In reality, it’s an omega-3 fatty acid that occurs in breast milk and is linked to improving kids’ brain development and preventing heart disease.

It’s also prevalent in fish oil and thus a crucial additive in baby infant formulas.

Happily for Clover holders, the company is a leading supplier of DHA in the form of encapsulated or powdered tuna oil additives for the food and pharmaceutical industries.

The process, licensed from the CSIRO until 2027, means the product doesn’t pong like a rotting fish and it has a longer, two-year shelf life.

“We are a little business very focused on doing one thing well,” CEO Peter Davey says.

“We are in a great industry that’s running to keep up with itself at the moment.”

Europe is the biggest single infant formula market and by January 2020, any baby formula sold there must contain double the current requirement (as measured by calorific content).

Despite Australia’s ‘clean and green’ hype The Netherlands is the biggest single exporter to China, followed by New Zealand, Ireland, France and Germany.

While formula sold outside of Europe won’t require the supersized DHA dose, Davey says Europe tends to drive global regulations and other countries are likely to follow the lead.

“There’s a perception if the Europeans can get together and make it work, then others will follow.”

Currently, the global DHA market is equally shared by encapsulated powder and processed tuna oil (the latter is injected into the milk, which is then spray dried).

Currently most European and US producers use the older oil injection method, while Asian producers use powders because their milk is imported in powdered form in the first place.

Davey expects DHA powder to fill at least half of the increased requirement, with Clover enjoying the benefit.

In the meantime, Clover supplies about half of the world’s global powdered DHA demand and it only has three competitors (Dutch groups DSM and FrieslandCampina and Germany’s BASF).

Clover also supplies most of the world’s infant formula makers with its niche product. Management has expanded the company’s client base from five to 50, so it doesn’t have to pick winners.

Having said that, one customer still accounts for 30 percent of revenue and four other customers speak for another 40 percent.

Ahead of the European changes, Clover’s fortunes have been buoyed by signs of a more stable Chinese regulatory climate after the recent importation crackdown that resulted in Bellamy’s Australia shares tumbling.

Over the last six months, the Chinese regulator CBEC has granted seven new canning licences in Australia, taking the number of licensed exporters to 15. One more permit has been issued in New Zealand, taking the total to 14.

The proliferation of suppliers means more intense competition for the manufacturers, which include Bega Cheese and A2 Milk.

But for raw materials supplier Clover, the opposite is true.

“The new licensed facilities and continued dairy investment in Australia and New Zealand provide Clover with opportunities to diversify its customer base and increase demand from China,” Select Equities says.

Clover recently reported a 208 percent surge in half year net profit to $3.2m, on revenue of $31m (60 per cent higher).

Clover derives 70 percent of its revenue from encapsulated tuna oil, with 62 percent of its sales from Australia/NZ and 28 percent from Asia.

Bear in mind though that the local component goes into mainly exported product.

Margins were helped by management renegotiating unfavourable terms with two customers, with more of this benefited expected to flow through in the current half.

Select Equities forecasts full-year earnings of $7m, rising to $8.7m in 2018-2019.

Clover, meanwhile is working on variant products such as a DHA-infused ‘gummy bear’ lolly for the US sports market (omega-3 is claimed to help cardio-vascular recovery, visual acuity and hand-to-eye co-ordination).

But infant formula will continue to drive the fortunes of Clover investors, which include the value-sniffing listed investment company Washington H Soul Pattinson.

The infant formula game is seen as politically incorrect in some circles, insofar as it replaces free and perfectly good breast milk (which naturally contains DHA).

But Clover itself is eco-friendly because the oil used is a waste by-product of tuna canning.

Bubs Australia (BUB) 80c and others

With the Chinese food regulator declining to tinker further with the rules over the last six months, there’s a heightened confidence on the part of the local infant formula producers.

While the Asian (mainly Chinese) demand remains resilient, the market is becoming increasingly crowded as dairy producers seek to avoid the depressed market for commoditised milk.

But infant formula itself is a commodity (despite the marketing gloss) and any board that relies on a simple ‘build it and ship it’ business model is a herd of goats.

Speaking of which, at least two players are eyeing the market for goat’s milk infant formula, which is a much smaller market than for cow’s milk formula but less heavily competed.

In November last year Bub’s Australia acquired Nulac Foods, the country’s biggest producer of goat’s milk products, for up to $38.4m plus a 19.9 percent Bubs stake.

The deal includes Caprilac brand and – crucially – a five year exclusive supply deal with 8500 goat farms here and in NZ.

These farms can supply 6.2m litres, but the cow cockies shouldn’t be worried given our conventional milk output is around nine billion litres a year.

Bub’s is in “advanced discussions” with the CNCA to get a goat’s infant formula certified.

Rather than bleating about dairy conditions, food manufacturer Wattle Health (WHA, $2.26) has won a Chinese ‘brand slot’ for its goat milk based product, via Blend and Pack Pty Ltd.

Wattle Health estimates the Chinese goat’s milk market at $1.9bn.

Goat’s milk is the preferred nutrient for the lactose-intolerant and has other claimed health benefits such as being lower in cholesterol and allergens.

At the time of writing, Wattle Health shares were suspended pending a potential capital raising and finalisation of a joint venture with the country’s biggest organic milk producer, the Organic Dairy Farmers of Australia co-op.

The J.V. plans to build a dedicated organic spray drying facility in Geelong.

Victorian land owner Australian Dairy Farms (AHF, 20c) recently said it would convert its farms to organic production and build a compliant plant (including a spray dryer) to produce infant formula.

Tim Boreham edits The New Criterion

Tim.boreham@independentresearch.com.au

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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The New Criterion: The gold miners

Friday, April 13, 2018

With stock markets entering a period of volaitility, there's plenty going on to keep investors of gold interested. Here are two gold mining companies you may be wanting to keep a particular eye on.

West Wits Mining (WWI) 2c

The gold minnow has taken a unique approach to the rush in the Pilbara to find the equivalent of South Africa’s Witwatersrand, a region that has produced 40 percent of the world’s gold.

True, West Wits has joined the throng pegging ground in the Pilbara, where watermelon seed nuggets lie waiting to be kicked with a Blundstone just below the surface.

But the company’s main pursuit of Witwatersrand mineralisation is in the actual Witwatersrand Basin, where it owns a producing open-cut project with a local partner.

As far as we can see, that makes West Wits the only ASX-listed stock with projects in the ‘real’ and ‘fake’ Witwatersrands.

Until recently, West Wits fortunes lay with a project in Irian Jaya (West Papua) called Derewo. While it’s still on the books, the venture stalled because of problems with the local partner, a common refrain for an Indonesian project.

West Wits’ Witwatersrand Basin Project (WBP) was mined by giant DRD Gold up until 2000, producing 41 million ounces at an average five grams a tonne gold over six conglomerate reefs.

But a sagging gold price and concerns about the post-apartheid political climate meant that DRD (as well as other majors) scurried elsewhere.

“They just opened the doors and ran, leaving 30,000 mine maps covered in owl poop,” says executive chairman Michael Quinert.

 To date the open-cut phase has been a simple operation based on a contract miner and a toll treatment arrangement.

But it’s been a handy source of cash, generating $300,000 a month compared with the targeted   $200,000-250,000 a month.

To supplement its current resource of 3.26 million tonnes West Wits has identified 17 open pit and underground targets, initially focusing on two.

West Wits also sits on two Pilbara projects, Tambina and Mt Cecelia which – you guessed it – “show similarity to the famous Witwatersrand gold deposits.”

Tambina has three granted mining licences and management is pondering a mining start up later in the year “once the geology team identifies suitable conglomerate-hosted targets”.

Meanwhile, investors can expect the small-scale South African stuff to fund the company for the next 12-15 months.

But the company is confident of finding more, citing an exploration target of 25,000-40,000 ounces. It harbours plans to be an eventual 100,000 ounce a year producer and we guess there’s nothing wrong with reaching for the stars.

While many miners have shunned South Africa because of its political and economic uncertainties, new Cyril Ramaphosa was sworn in without incident last month.

The Nelson Mandela associate is making the right noises to the business and mining community, although there a few nervous white farmers feeling less than comfortable and relaxed despite Peter Dutton’s pledge of support from across the seas.

While West Wits is generating useful cash, with production and cash flow in January and February in line with internal targets.

West Wits’ $10m market cap (including $2m of cash) looks cheap in comparison weith peers such as  Stonewall Mining (SHJ), which has a three million ounce resource project in South Africa and is valued at $30m despite not yet being in production.

The king of the Pilbara stocks, Artemis Resources (ARV) is valued at $122m ahead of its plans to drill a super-deep hole of 3300 metres in its Balmoral tenement package.

This program is expected to provide clarity on the geology of the much-hyped Pilbara Witwatersrand story. In the meantime, the stock is in trading halt at the behest of the ASX.

Artemis and Canadian partner Novo Resources sparked the new-age Pilbara rush by finding ‘watermelon seed’ nuggets at its Purdy’s Reward project south of Karratha.

Kingsrose Mining (KRM) 7.3c

Still on gold, a stirring tale of redemption has emerged from the wilds of Sumatra as a recapitalised Kingsrose fights back from its near-death experience.

Kingsrose started mining Way Linggo – majestically perched on a hill surrounded by jungles where elephants and tigers still roam -- as an underground venture in 2010.

The mine made a motza over a two-year life, but then management made the mistake of investing the proceeds in a second high-cost underground operation, Talang Santo.

To cut a long and sad story short, costs mounted to the point where extracting the gold cost as much as $US2500 an ounce, way more than the spot bullion price.

Debts also mounted and the board opted for voluntary administration in late 2016.

“A lot of people nearly did their dough on this one,” says CEO Paul Jago, an experienced miner bought in to fix the mess last year.

A recapitalisation has seen Kingsrose re-emerge as a debt-free entity, with Way Linggo purring as an open-pit venture based on previously unrecovered ore.

The fruit’s of management’s labour were apparent in the company’s half-year results: a $3.16m profit compared with a $13m deficit last time around.

Way Linggo produced 14,868 ounces in the period, at an all-in cost of $US712/oz compared with the prevailing spot gold price of above $US1300/oz.

Amid its troubles, the company suspended operations at the high-cost Talang Santo underground mine, but plans to revive the mine as an open-cut operation with mining expected to re-start later this year.

Presumably the added output would further reduce per-ounce costs because any Talang Santo output won’t entail further big expense: infrastructure such as the mine camp already exists, while the processing plant is running at only 70 percent capacity.

Beyond the two open cut projects, Kingsrose’s longer term fate lies with finding more of the lustrous stuff on the tenements, on the fecund Ring of Fire geology.

“When we closed Talang Santo we had to make 450 people redundant,” Jago says. “But we redeployed 100 of them and we now have an exploration department of 65 people.”

The company is also open to the idea of acquiring another Indonesian project. Because the country has a reputation of being tricky to work in, assets are cheaper because fewer competitors are chasing them.

 Kingsrose’s $56m market cap is supported by cash, receivables and bullion of $9.65m.

 In the meantime, the timeline on Kingsrose’s website refers to “smells racy free announcing”.

That sounds like a case of either hacking or lost in translation. But hopefully Kingsrose’s investors (including several offshore institutions) will get the whiff of more racy announcements.

Tim Boreham edits The New Criterion

tim.boreham@independentresearch.com.au

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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The New Criterion: Gaming IPO's serious business

Friday, March 16, 2018

In league with a leading South African telco, an upcoming IPO is targeting the world’s two-billion plus gamers.  For those who prefer sunshine over dark rooms, PowerAsia presents an alternative IPO theme

Emerge Gaming (EM1) (not yet listed)

Unless you’re a joystick jockey yourself, gaming looks like an esoteric pastime of the misspent youth. But with 2.1 billion players globally devoting hours to improving their League of Legends or Dota2 scores, the lure of the console can’t be denied.

For a cohort of professional players, it’s also highly lucrative.

“Think rock star status athletes competing in front of sell-out arenas, being streamed to millions around the globe competing for millions of dollars,” Emerge Gaming says.

The sector is already big business, worth an estimated $US500m globally in 2016, with this spend forecast to grow to $US1.48bn by 2020.

Plenty of companies are awake to the opportunity to make a dollar, whether though advertising other goods to the youthful crowd or through direct involvement.

But it’s still unclear what monetisation model will work best.

Emerge Gaming is stepping up to the console with a planned ASX listing, having gathered $5m in an oversubscribed raising at 2c apiece, via the shell of the once venerable Arrowhead Resources (AR1).

Emerge organises online video games competition. Its operating business, Gaming Battle Ground (GBG) so far has hosted over 10,000 free-to-play competitions across nine of the most popular games.

GBG operates mainly in South Africa and Croatia (of all places) and claims 30,000 registrants, 14,000 active in the last six months.

The company says that as the professional platforms grow, so too will the market for amateur games organised around a central hub.

Emerge Gaming, we stress, is not without its rivals such as World Gaming Butterfly, pwnwin and Toornament. “Some are offering pay to play and may be more advanced,” the prospectus notes.

Emerge Gaming is also emulating Esports Mogul Asia Pacific (ESH), which backdoor listed in late 2016 after raising $7m at 2c apiece.

Esports also provides a  tournament platform, as well as “exclusive Esports content” and even an Esports learning academy.

Judging from the half-year accounts, Esports Mogul’s path to prosperity has been a slow grind and the stock trades well under its 2c listing price.

Esports reported December half year loss of $8.5m on humble revenue of $76,128, albeit 680 per cent higher.

Just as serious gamers need a secret manoeuvre, Emerge has the advantage of a deal with South African telco MTN to access its base of 30m phone subscribers.

The idea is that MTN charges a daily fee for customers to access the GBG platform, with 40 per cent of “shareable revenue’’ remitted to GBG.

A $26 billion company listed on the Johannesburg exchange, MTN will also provide marketing support and may also chip in for prizes and sponsorships.

Emerge is also negotiating with other parties elsewhere to strike similar deals.

Emerge was to have listed in February, but the pernickety regulators required a supplementary prospectus. Arrowhead holders had approved the deal last year, but need to vote again given the subsequent MTN deal. Then it’s game on.

Power Asia (P88) not yet listed

For those who prefer sunshine to dark and dank rooms, this upcoming but similarly delayed IPO is targeting an overlooked sector of the renewables market: mid sized projects between 10 to 50 megawatts.

These projects are overlooked by the institutions that otherwise are hungry for such infrastructure.

“The small and large segments of the industry are well known but this space is quite empty,” says PowerAsia head of acquisitions Tishan David.

PowerAsia has a pipeline of eight to ten projects locally and in South Australia.

As a starting point, Power Asia is developing the 10MW Sabha Khola hydro project in Nepal and the rights to acquire and develop the 20MW Paget solar plant near Mackay in Queensland.

Costed at $26m, the Nepal project is subject to a memorandum of understanding. The Paget development is estimated to cost $38m.

In essence, PowerAsia is a roll up of three ventures: the retail solar installer Standard Solar, the commercial installer and fabricator Linked Energy and Enpro (project procurement and management).

Standard Solar has installed more than 20,000 solar systems, while the Mackay-based Linked Energy boasts numerous blue-chip clients with a focus on the resources sector.

Solar gets a bad rap in this country but the company notes that 1.5m solar systems are in place, equivalent to 18 per cent of households. Australia also has the highest installations on a per-capita basis and in 2014 was the eight-biggest in terms of new capacity.

A key to the IPO is the involvement of three Chinese alliance partners can elect to participate in the projects on a JV basis. But PowerAsia expects to fund the smaller projects itself, using equity and debt.

Super funds are also likely to be involved, attracted by the reliable yields underpinned by long-term contracts.

The nearest ASX exemplars are Windlab (WND), which is developing wind projects here and aboard based on CSIRO atmospheric modelling and wind energy assessment technology.

The $100m market cap Windlab is solidly profitable, having generated $8.9m of earnings in calendar 2017, on revenue of $23.2m.

Valued at a tad over $90m, the ‘pre revenue’ Genex Power (GNX) is developing a stored hydro and solar plant based on the old Kidston gold mine in northern Queensland.

Carnegie Clean Energy (CCE) has strayed from wave energy to other renewable and among other projects and is negotiating to build a 10MW solar and battery facility near Bunbury.

PowerAsia last week was confident it had raised its targeted $9m at 20c apiece, following a last-minute flood of applications from Hong Kong investors.

A key risk is that the company’s efforts to source projects for its alliance partners “may yield little or no return if the partners decide not to proceed with these projects.”

To date PowerAsia’s earnings have flowed from its established Australian business and this should imbue investor confidence post the listing which is now scheduled for later this month.

Tim Boreham edits The New Criterion

tim.boreham@independentresearch.com.au

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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The New Criterion: Blockchain’s ASX winners and losers

Monday, March 12, 2018

According to someone more boned up on the topic than your columnist, self-executing digital contracts have been around since at least 1994 - when Paul Keating still ruled the land with his colourful invective.

It’s just that these days they’re known as blockchain contracts.

As we opined recently, blockchain – the underlying platform for cryptocurrencies – looks to be more useful than the ‘cryptos’ themselves.

The premise of a blockchain contract is that if a prescribed event occurs, then a certain action is taken.

Unlike a standard paper contract that is enforceable by law, such smart contracts are enforced by cryptographic code and are executed in line with predetermined, programmable rules.

One example is estate planning: a will could be programmed as a smart contract, which on the demise of the subject would takes action immediately to transfer assets to the prescribed beneficiaries.

That’s one way to prevent squabbles among long-lost relatives.

In this case, the family benefits from reduced processing fees, the elimination of lawyers and trustees from the process and increased transparency and reduced human error.

This means smart contracts can disrupt existing services that have speed bottlenecks (such as international monetary transfer), or act as intermediaries in complex situations involving regulation and numerous parties (such as an advertising buying agency).

Blockchain is also relevant for trusted intermediaries, such as trustees and public sector services.

It’s not so relevant for companies with bespoke offerings, or labour-intensive ones such as mining and construction contractors.

Still, it’s a dead cert that much like the internet did, smart contracts will improve service quality and change the way that services are provided.

Although predicting the future remains the domain of clairvoyants, we do our best to identify the winners and losers over the medium term.

For the banking sector, the banks are likely to be on the winner’s list as well as customers and bank regulators.

Blockchain means there’s room to explore efficiencies on the funding side, with the Commonwealth Bank of Australia (CBA) already completing tests with the Queensland Treasury Corporation.

For banking customers, the speed to settlement is a major drawcard of smart contracts. Aligning loan approval with drawdown access will be of great benefit in a variety of consumer use cases.

The government’s ‘open banking’ data initiative – requiring banks to share customer information with accredited rivals – promises to put the power of data into consumer’s hands.

 A likely scenario is that consumers will hold smart contracts containing their personal data, along with encryption keys to share that data with other providers.

Another benefit is that credit checks would be verified through a decentralised ledger and consumers with a stronger credit history (that is, about half the population) would receive more competitive offerings.

Companies that are dominant in their market have an incumbency advantage over new entrants when it comes to developing smart contract technology.

The obvious winner is the blockchain zealot ASX Limited (ASX), which is replacing its CHESS settlement system with smart contracts.

This will reduce trading costs and settlement time, while accentuating barriers to entry for aspiring rivals.

In the digital classified sector REA (REA), Domain (DHG) and Carsales.com (CAR) have the opportunity to use smart contracts to become a trusted marketplace for direct transactions between buyers and vendors.

Property owners will be able to connect directly with   prospective tenants and verify their identity, rental history and financial means.

Similarly, car buyers can verify a car’s service history, odometer reading and even cloud-based data such as fuel consumption and emission rates.

Companies such as Freelancer.com (FLN) can become a more trusted supplier of outsourced work services. That’s because the freelancers could offer a verifiable work history, eliminating spam and fake reviews and making the overall hiring process smoother and more trustworthy for employers.

Other winners are those who build IT and telco networks, given the need for more computer power and data transfer. Think of NEXTDC (NXT), Superloop (SLC), and Vocus (VOC).

So too will the need for advancement in semiconductor technology be a boon for 4DS Memory Limited (4DS).

IT consultants such as DigitalX (DCC), Data#3 (DTL), DWS Limited (DWS) and the challenged RXP Services (RXP) are likely to benefit from increased technology budgets.

On the flipside, likely losers are service companies that are a conduit between customer and supplier. This is especially the case when the intermediary is providing a high-volume service with a focus on compliance and/or trust.

Another one to watch is Property Exchange Australia (PEXA), an online property settlements company backed by Macquarie Group (MQG) and Link Administration (LNK).

PEXA, which plans to list this year, has done a good job in disrupting an archaic property transfer market. But it may face headwinds if legal software house InfoTrack decides to invest in an electronic property settlement platform, based on smart contract technology.

The share registries Computershare (CPU) and Link Administration face clear and present pain if private ledgers become the norm.

Both companies have taken steps to try to weather the oncoming smart contract storm, but it remains to be seen what role a third-party ledger administrator would play between market participants and exchange operators.

Through standardised technology approved by the regulator, companies may be able issue smart contract shares directly to shareholders.

Each smart contract would correspond to one share and would have the same existing shareholder rights written into its code (such as voting, dividends and transfers).

Intellectual property companies had better watch their backs too, because the recurring fees charged over the life of a trademark and patent could vanish.

That’s because smart contracts could reduce complex filing procedures with a transparent global IP register, simplified registration and automated compliance.

Thus IPH Limited (IPH), Xenith IP Group (XIP) and QANTM Intellectual Property Ltd (QIP) may find the complexity of their operations -- and their ability to charge –will diminish.

Of course revolutions usually don’t pan out as expected. But there’s a strong sense we’ll still be hearing about blockchain long after everyone’s stopped punting on bitcoin.

Tim Boreham edits The New Criterion

Tim.boreham@independentresearch.com.au

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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The New Criterion: 2 biotech stocks to watch

Friday, March 02, 2018

The animal spirits are back in the biotech sector after the recent takeovers of two ASX-listed companies. You won't want to be ignoring these two stocks.

Viralytics (VLA) $1.69

Viralytics chief Malcolm McColl recently told a biotech forum that after a quiet 2017 for global takeover activity in the pharmaceutical sector, Trump’s tax cuts would fire up activity this year.

That’s because corporates will have more money in their tills to play with, while the tax reforms also make it easier to repatriate cash to the US.

“The animal spirits are back out there again,” he said. “Everyone is talking about opportunities and immuno-oncology is where it will happen.”

As it happened, he was dead right about the animal spirits, with big pharma Merck this month lobbing a $500 million offer for Viralytics. At $1.75 per share, the cash offer represents a stunning 160% premium on Viralytics’ one month weighted average share price.

Merck owns the skin cancer immunology drug Keytruda. Given Merck already had a tie up with Viralytics – which also focuses on melanoma – it was the obvious suitor. With the benefit of hindsight, of course.

Not surprisingly the Viralytics board has endorsed the offer and its biggest holder – China’s Lepu Medical which accounts for 13 percent of the register – has said it will accept.

Lepu recently injected $29m into Viralytics, making it well funded to go alone with a program of no fewer than six clinical trials for its lead drug Cavatak, initially focused on melanoma but also targeting lung and bladder cancer.

Immuno-oncology – selectively killing bad cells and persuading the body’s own defences to fight back against cancer – has its sceptics. A cheap industrial dye, rose bengal, is meant to do just as well.

But Merck’s offer highlights the global interest in the field, given the limited efficacy of chemotherapy and radiotherapy.

In the past five years the US regulator approved the checkpoint inhibitors Keytruda and Yervoy, which are antibodies that stimulate the immune system.

Viralytics hopes that by combining them with Cavatak, these checkpoint inhibitors can be made to work better and Merck has the same idea.

Cavatak is derived from the coxsackievirus, which in its more malevolent guise is responsible for the common cold. Cavatak binds to receptor protein expressed on cancer cells and then zaps hem while encouraging and ongoing immune response to keep killing them.

In “preliminary but encouraging” melanoma results, Cavatak increased the “overall response rate” in patients treated with Cavatak and Keytruda, relative to 33 per cent for those treated with Keytruda alone.

In the case of the Cavatak-Yervoy combo, the response rate was 57 per cent compared with 11 per cent for those treated with Yervoy alone.

Viralytics is progressing these trials to “pivotal” stage and is recruiting up to 250 patients. In clinical trial terms that’s getting to the pointy end of things and is a precursor to applying for FDA approval.

The company has also started early stage trials for lung and bladder cancer and this quarter plans three new trials for head and neck cancer, uveal melanoma (eye cancer) and colorectal cancer.

Under the Merck tie up, Merck provided the Keytruda for the combination trial, which at $150,000 per patient was no small contribution.

Thanks to the efforts of businessman and melanoma sufferer Ron Walker who died in January, Yervoy and Keytruda are subsidised under the Pharmaceutical Benefits Scheme.

According to the drug analytic house IMS Health, immuno-oncology will treat half of all cancers by 2020, with the overall cancer drug market worth $US150bn.

The 160% premium is made somewhat more flattering by the fact that Viralytics shares had been trading near record lows at 61.5c, having traded as high as $1.21 in December 2016.

The Lepu placement in early January was done at 82c a share, a 27 per cent premium on the prevailing price. Lepu was treating its stake as a pure investment – and as it turned a very profitable one.

The Merck offer comes after targeted radiation oncology house Sirtex Medical was subject to a $1.5 billion cash offer from Varian Medical Systems, at a 60 per cent one-month premium.

Almost every Aussie biotech professes to be an acquisitive target for a deep-pocketed global pharma company. With the latest outbreak of animal spirits, evidence is mounting that they’re not just dreaming after all.

AdAlta (1AD) 32c

With the debate about the merits of a shark cull simmering away in WA, this biotech is providing much needed positive PR for the maligned predators of the sea.

Unique to sharks, AdAlta’s protein-based therapeutic antibody AD-114 has a long binding loop that allows it to bind to a diverse range of targets.

Not that AdAlta itself is slaughtering great whites for the coveted ingredient: AD-114 is a manufactured derivative of the shark antibodies, rather like Aspirin being a derivative of willow bark.

AdAlta is targeting difficult to treat fibrotic diseases, starting with the lung condition idiopathic pulmonary fibrosis (IPF).

IPF inflicts 300,000 people globally, 5000 in Australia. Globally, about 40,000 sufferers die annually, about the same as breast cancer but with no Pink Ribbon days to fund research.

The company estimates fibrosis is prevalent in 40-50 percent of all diseases, other examples being the skin ailment scleroderma, cardiac and renal fibrosis, cirrhosis and wet aged-related macular degeneration.

“The pipeline is less developed than for other therapeutic areas,” says CEO Sam Cobb.

IPF inflicts 300,000 sufferers globally, 5000 in Australia. Globally, about 40,000 sufferers die annually, about the same as breast cancer but with no Pink Ribbon days to fund research.

The FDA has approved AD-114 as an “orphan” drug, which means it can treat conditions for which there is no other treatment. The key benefits of orphan drug status are enhanced research and development credit, assistance with clinical trials, waived fees on an eventual new drug application (normally $US2 million) and seven-year marketing exclusivity.

To date, AdAlta’s work on IPF has been pre-clinical – read in vitro lab work and mice trials. An early phase-one on healthy volunteers is due to start in the second half of calendar 2018, funded by AdAlta’s $5m of cash.

AdAlta shares are just below record highs, having been boosted by a recent AdAlta sponsored confab of global fibrosis experts (but not marine biologists).

Cobb says the company plans to seek a deep-pocketed partner after phase one, which is really about establishing the drug is safe more than anything.

There’s an encouraging precedent M&A wise: in January French pharma Sanofi bought Ablynx of Belgium for $US4.8bn.

An advanced clinical phase company, Ablynx has developed a class of antibody fragments (scaffolds) derived from camel antibodies.

In 2015 Roche acquired fibrosis play Adheron Therapeutics for $US105m (plus $US475m of potential milestone payments) in September 2015.

In November 2014 Bristol Myers Squibb bought Danish IPF specialist Galecto Biotech for $US444m. Both Adheron and Galecto were phase-one developers.

Ultimately AdAlta’s fate will be determined by the Perth venture capital firm Yuuwa Capital, which owns 53 percent of AdAlta and accounts for two of the six board seats.

Bit with a mere $30m market cap, AdAlta sure looks like shark food for a bigger predator.

Tim Boreham edits The New Criterion

tim.boreham@independentresearch.com.au

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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The New Criterion: Commodities stocks

Thursday, February 22, 2018

There are more ways to gain exposure to commodities than buying the miners themselves. Here are two alternatives.

Zenith Group (ZEN) 77c

Investors convinced of a sustained resources recovery (and that appears to be the case) face an internal dilemma. Should they ride the cycle with an exposure to the actual producers, or invest in the handmaidens that help the miners get the stuff out of the ground?

After all, the real smarties during the 1880s gold rushes were the ones who invested in pots and pans and built a sustainable business.

In the case of remote mines – in other words, most Australian ones – power is a key input cost and there’s an unhealthy reliance on inefficient diesel generators.

Zenith, which listed in May last year, supplies or operates gas, solar or diesel hybrid plants for a clutch of mining’s famous names.

This month Zenith won a contract from Newmont Australia to build own and operate (BOO) a 62 megawatt power station at the gold miner’s Tanami project in the NT. That deal took Zenith’s BOO capacity from 125 megawatts to 185 megawatts and its total installed capacity to 380MW across more than 30 projects.

Other contracts are with Newcrest Mining’s OK Tedi mine, Independence Gold’s Nova nickel project and Incitec Pivot’s Phosphate Hill.

But Zenith’s biggest customer is with Northern Star Resources, covering the gold producer’s Plutonic, Jundee and Kundana mines.

Zenith also uses a manage operate and maintain (MOM) model. But BOO accounts for 65 per cent of revenue and is the preferred arrangement because Zenith is protected by ‘take or pay’ arrangements, not to mention a wider involvement in the process.

A key advantage of remote generation is that once the client has installed the plant it’s unlikely to change supplier.

 “The business has never lost a client and we don’t intend losing them now,” chairman Doug Walker says.

Zenith was founded in 2006 by Walker and director Gavin Great, Zenith initially with a contract to power Chevron’s Barrow Island base.

Walker has form in the remote power game, having founded StateWest Power before selling it to Wesfarmers in 2001. Wesfarmers then renamed the business Engen and sold it to Energy Developments, which in turn was acquired by the utility DUET.

In a key test of strength, Zenith endured the fallout of the global financial crisis on the resources sector and its shares are now well above their listing price of 50c a share.

“The GFC was a test of our resolve and our strength,’’ says managing director Hamish Moffat. “But at least it focused our clients on the real cost of energy.”

On that front, nothing much has changed given the relentless emissions debate and concerns about blackouts and gas shortages. While the recent-ish Finkel report focused on utility scale generation, off-grid users such as miners are not immune from emission target reductions as per the Paris Agreement.

We’re still bound by that accord, which requires us reducing emissions by 26-28 per cent (relative to 2005 levels) by 2030.

Zenith, which reports its half-year results next week, has flagged a full year net profit of $9.5-11m and ebitda of $12-14m, on revenue of $33m.

That’s quite a step up from the 2016-17 full year profit of $3.1m and ebitda of $9.84m, on revenue of $30.9m. But investors hankering for a dividend should look elsewhere.

Zenith accounts for about 12 per cent of the remote generation market, competing with the DUET-owned Energy Developments as well as bigger fellow ASX listee Pacific Energy (PEA).

K2Fly (K2F) 28c

Is that the time?

Partygoers tend to suddenly remember the babysitter or an early morning appointment when the conversation turns to consulting systems integration for infrastructure and asset-heavy industries.

But for K2fly investors sitting on a 300 per cent plus gain over the last two months, these topics are even more riveting than house prices and whether Bernard Tomic is simply a twat or a lost soul deserving of sympathy.

With its dominant client base of miners, K2fly can be seen as an exposure to the recovering resources sector, yet one not dependent on the commodities cycle. A bullish December update- which sent the stock (K2) flying, vindicates the board’s decision to buy the private Infoscope in July last year.

The purchase price --$625,000 and $275,000 of K2fly scrip – represented a stingy ebit multiple of 1.56 times.

Infoscope’s software enables miners to manage land issues such as tenement tracking, cultural heritage and ground disturbance in a seamless manner. Clients include Fortescue Metals, iron-ore mine operator API Management, Metals X,  Westgold Resources and The National Trust (via The Keeping Place, funded by Fortescue, BHP Billiton and Fortescue).

But what’s spiked the punch bowl is Infoscope’s recent tie-up with the German based enterprise software provider SAP, which globally has 770 mining clients (including most of the majors).

This raises the prospect of K2Fly receiving monthly licensing fees from SAP off a much wider customer base, as SAP moves its clients to ‘cloud’ computing..

K2Fly exec chairman Brian Miller says that with a market cap of $10m, K2Fly would not normally be big enough to get a seat at the SAP table.

Proving the adage that it’s not what you know but who you know, Miller leveraged his previous history as an SAP executive.

 “SAP is especially important in relation to moving customers from on-premises software to the cloud,” he says.

“Because we have leveraged our previous relationship with SAP we have been able to be the first cab off the rank.”

The Infoscope platform is currently being “ported to the SAP cloud and its s4 Hana environment”. This is geek speak for saying that when someone plugs in the right cable, Infoscope and SAP will run seamless together.

When this happens by the end of the current quarter, SAP’s salespeople will be able to sell K2Fly products to its own client base, generating recurring monthly licensing revenue for K2fly.

“SAP has very aggressive targets in terms of how they will move their client base. In the mining sector we should play very well in the space,” says Miller, who believes that most clients would be good for annual fees of at least $500,000.

Otherwise, K2Fly has reseller deals with other IT industry leaders including OBI Partners and Kony of the US, Sweden’s ABB and Capita PLC of the UK.

K2F re-sells Capita’s Fieldreach, a mobile based management tool for blue-collar workers on physical assets. In November K2Fly struck a deal to supply Fieldreach to Arc Infrastructure, which operates WA’s 5500 kilometre freight network.

K2fly also consults to the water, electricity, rail and power sectors.

As always, K2Fly doesn’t exactly have the field to itself. In the tenement management sector it competes with the private C2 Land and Land Assist, or miners who build their own system using Indian programmers.

But there’s no doubting the revenue momentum. In the December half just announced, K2Fly chalked up $937,396 of revenue for a loss of $2.68m, compared with $798,066 of turnover and a $1.3m deficit last time around.

The company has also submitted for seven proposals and tenders, “some of which are for the multi-year provision of software and services.”

On Feb 5 K2Fly announced a contract with a “tier one utility company” that would be material to 2017-18 revenue.

The company then went on trading halt, after which the company clarified that it would be a WA-based electricity company and involve revenue of $250,000-300,000.

Spark up the party!

Tim Boreham edits The New Criterion

tim.boreham@independentresearch.com.au

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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The New Criterion: Jumbo Interactive and OtherLevels

Thursday, February 15, 2018

Lottery ticket reseller Jumbo took the right decision to align itself with traditional partner Tatts Group rather than aggressive challenger Lottoland. Meanwhile, digital promotions house OtherLevels believes that a clamp on wagering advertising will be good for business. Here's a rundown on both.

Jumbo Interactive (JIN) $3.43

Sometimes adversaries can do an unintended favour, which in the case of the online lottery ticket seller has meant a closer relationship with traditional partner Tatts Group.

Tatts – now part of Tabcorp – owns a 15% stake in Jumbo after a placement of 6.6m shares at $2.37 in June last year.

Crucially, Tatts also extended its reselling arrangement with Jumbo out to 2022.

The adversary in question is the Gibraltar-based rival Lottoland – dubbed by some as the Uber of the wagering world because of its disruptive tendencies.

In the unlikely event that no-one has noticed, Lottoland has been aggressively marketing its derivative lottery product in the face of newsagent-led calls for tighter regulation or even an outright ban.

The newsagents are peeved that Lottoland is taking away their business, although Lottoland only promotes overseas lotteries.  State governments are even more annoyed at missing out on lottery taxes.

With a claimed local customer base of 650,000 and 6.5m globally, Lottoland last year offered newsagents a 10% cut of the price when punters nominated a particular outlet.

The derivative nature of Lottoland’s offering means punters don’t participate in the actual lottery, but the outcome of a draw. Last weekend it offered a $1 billion “Super Bowl” themed lottery, reduced by 38% as per “terms and conditions”.

In April last year Lottoland paid $7.6m for a 7% stake in Jumbo, clearly in view of winning over Jumbo to distribute its product over Tatts. But in late June Lottoland conceded defeat and sold its stake at a slight loss.

Despite being distracted by its own merger with Tabcorp, the Lottoland threat girded Tatts into deepening its relationship with Jumbo, which has been selling Tatts tickets on its OzLotteries site since 2000.

Jumbo chief Mike Veverka admits he’s not a fan of Lottoland.

“We weren’t keen on doing anything with them at all,’’ he says. “But they did help push things along (with Tatts).”

The new Tatts-Jumbo tie-up helps allay long-standing investor fears that Tatts would opt to go it alone. (apart from Tatts itself, no-one else can sell Tatts tickets online other than Jumbo).

Veverka argues that as Tatts still gets the ticket and Jumbo has proved an efficient intermediary, it makes no sense to cut  Jumbo adrift.

The Keno business aside, Tabcorp did not have a lottery business but appears willing to learn, having already sounded out Jumbo for advice.

“They are good managers. It won’t take them long for them to get their head around lotteries,” Veverka says. “The last thing they would want is to see the lottery business shrinking.”

In the meantime, Jumbo’s has jumbo-sized its performance, thanks to a string of jackpots (defined as anything over $15m).

In an update on Jan 8, Jumbo pointed to half (December) year earnings of $5m, 43% higher than previously and outstripping December’s guidance of $4.3-4.5m.

Jackpots increased by 20% to 18.

Total transaction value – the face value of the tickets sold – should rise about 20% to $89m.

Jackpots are far more popular with punters, who overlook the reality that the monster payout is more likely to be split among multiple winners.

But that’s not the case with the unclaimed ticket for a $50m Powerball prize purchased at your columnist’s local newsagent – and he remains ready and able to relieve Tatts of the loot if that makes things any easier.

Jumbo shares have spurted 150% over the last 12 months, for a market valuation of $200m.

Also debt free and sitting on a bash balance of $45m. Given the company’s strong franking balance, that raises the prospects of a special dividend.

Jumbo’s fortunes were reflected in the last Thursday’s half-year results for Tabcorp, which reported a 6.2% increase in lotteries revenue for the Tatt’s division, to $1081.2bn. The Tatt’s numbers were certainly better than Tabcorp’s core wagering results.

Digital lottery sales now account for 14.9% of Tatts lottery total sales, up from 14.3% previously.

OtherLevels (OLV) 4c

OtherLevels CEO and founder Brendan O’Kane believes a looming crackdown on gambling promotion will help his heavily wagering exposed digital promotions business, which sounds counterintuitive.

But he reasons if the corporate bookies can’t saturate sports coverage from tennis to tiddlywinks with their special introductory odds, they will need to do more to nurture their existing customer base.

The federal government last year said it would ban betting ads from live sport before 8.30 pm - a measure not yet enacted.

But agitants such as the Nick Xenophon camp are pushing for much more, amid perceptions the industry has way over reached with its blanket-bombing approach to advertising.

The UK-domiciled William Hill has already sniffed the breeze and is odds on to exit the Aussie market, citing regulatory pressures and increased state taxes.

“In Australia there has been a strong focus on brand building and acquisition which has raised questions in the public eye about whether this is what we want to see on TV at 7 pm,” O’Kane says.

The bottom line is that if you’re a punter already on the books, don’t be surprised to be texted live odds pertaining to an event the clever algorithms know you’re interested in.

The in-play aspect is crucial: according to Bet365, 72% of sports betting is carried out after the opening siren (or whistle), with 80 per cent of tennis bets places after the match has started.

OtherLevels gambling-heavy client book includes Ladbrokes, Bwin, the National Lottery, Matchbook, Topbetta and Golden Nugget. “Tattscorp” is also a client.

The company also does work for Flight Centre – another mover in digital reach – and various outposts of Coles.

However, OtherLevels’ key relationships are with the bookies’ British parents – and for good reason. “The UK has been more cautious compared to Australia,” he says. It’s a bigger market with mote maturity and visibility of risks.”

OtherLevels client contracts are typically for 12 months, with an upfront licensing fee and a per-text or per-email fee.

OtherLevels listed in March 2015 after raising $7.5m at 20c apiece. But the company struck early trouble by burning too much cash and making an ill-fated foray into the US.

“We dug ourselves a very deep hole and spent the last 18 months digging ourselves out of that hole,” O'Kane said.

OtherLevels preponderance of wagering clients is not surprising, given the sector was one of the first to embrace digital marketing. But OtherLevels December (second) quarter update showed $2.066m of cash inflows, well up on $1.353m achieved for the September quarter and $1.132m for the previous December quarter.

More importantly, the company turned a $676,000 deficit into a $41,000 surplus for the first time.

OtherLevels market cap of $8.5m implies little upside, which could be construed as an opportunity.

There’s a clump of investors who can be relied on to hang around: O’Kane and the board account for 35% of the register, with Queensland Chief Entrepreneur (yes there is such a thing) and Shark Tank judge Steve Baxter holding a further 20%.

Tim Boreham edits The New Criterion

tim.boreham@independentresearch.com.au

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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