Bulletproof Networks (BPF) – How I reacted to new information

One of the decisions I am most proud of this year is my call to sell off my BPF shares in February after some disappointing HY numbers.  Previous articles on BPF have extolled the virtues of their annuity business and their high revenue growth rate.  I’d been cheering BPF for the previous year after seeing the stock price hit the mid 50s.

 

Then the HY17 results hit. What a shocker!  Revenue growth was only 13% YoY, and the company had moved from profit to loss.  Rather than procrastinating, I took action.  Despite being a fan of BPF, I was a fan of the BPF that was growing at 50% and had just gone profitable.  This was a different company.  I sold the next day for 21c

 

Since then, the share price has slid to around 8c, vindicating my decision to dump the losing stock.  My loss was small in comparison, having bought in at 25c.

 

Looking at FY17 numbers, there are some encouraging signs.  The company has returned to a positive EBITDA, and is nearly back to breakeven.  Unfortunately, they have had significant management changes and severely damaged their reputation.  We’ll see what HY18 numbers bring, but I have plenty of good opportunities to deploy capital elsewhere.

Jumbo Interactive – Lottery tickets for millenials (JIN)

Jumbo has been on my radar for a long time, but I’d been leery about their business.  Since the FY16 numbers were released, the share price has zoomed from $1.60 to $2.90, and I’m ashamed to say my decision to buy around the $2.80 level was driven by the FY16 numbers, so I was slow off the mark and it cost me dearly.

What I like about Jumbo’s business is their fixed cost base, with a growing group of users who have a reliable habit of buying lottery tickets, which increases markedly during jackpots.

This is similar to the Kogan model for travel and insurance, where they leverage the existing asset, in this case a lottery license, and act as a sales agent, using digital efficiency to acquire and keep customers at a lower cost than the asset owner can.  Most lottery tickets are currently sold at newsagents who also collect a commission, albeit with less scale and a higher cost base.

Jumbo’s customer base is also to be envied – it is tilted to a younger demographic of users, who one presumes will be longer-term customers.

As we have seen with the proposed merger of Tatts and Tabcorp, a lotteries business is quite literally a license to print money, with a base of habitual players, with many casual players who only play jackpots.

But let’s turn to the business, which recently released FY17 results.

Although TTV and Revenue were both down around 5%, FY17 had less jackpots than a typical year, which adversely impacted total volume.  However NPAT for continuing operations was slightly up, from $7.3m to $7.6m.

Jumbo also generates float, carrying $7.7m in players funds, as well as $28m in cash after the special dividend was paid.

The major risk I see to Jumbo’s future prospects is Tatts dropping their license to sell Oz Lotto tickets in 2022, but with Tatts investing $15m into the business, they are more likely to be acquired.

Subtract the $28m cash from the $149m market cap, and JIN is selling on a PE for FY17 of around 16.  When you consider that with a fixed cost base, any revenue growth will flow directly to the bottom line, it becomes obvious that Jumbo will continue to be a river of money for years to come.

Spirit Telecom: WWW Acquisition (ST1)

Spirit Telecom went into trading halt this week, prior to announcing the acquisition of World Without Wires (WWW), a consumer WiMax service provider operating across South East Queensland.  The purchase was funded by a mix of cash and new shares, for a total consideration of $4.6m.

This acquisition will increase revenue by 23% and GP by 26%, while increasing shares outstanding by 12.5%.  Prior to the acquisition, the market cap at 12c equalled $22m, so we have increased market cap by 21%, a good deal for the original shareholders.

Looking at Spirit YoY, we see revenue of $11.45m (30% up from FY16’s $8.8m) and GP of $7.2m (60% up from FY16’s 4.5m).  The entity is now profitable, with NPAT of $809k, or 0.44c per share – equating to a PE of 27.

I had actually taken up the opportunity to increase my holdings this week when the share price dropped to 10c.  As Spirit is now profitable, with earnings accretion from the acquisitions, Spirit’s business is now “in orbit” (That is, run rate revenues deliver profitable amounts of revenue on a semi-fixed cost base, meaning that the incremental revenue from new customers will almost fully flow to the bottom line).

Management appear to be pretty trigger-happy with acquisitions but these last 2 have seemed pretty sensible to me.  It’s only a matter of time until the market wises up to this great deal, who will likely be the most profitable consumer broadband provider when NBN is fully rolled out.

AV Jennings – FY17 Numbers (AVJ)

AV Jennings released numbers on Friday, and as anticipated by the market, reported a drop in both revenues and profits:

Revenue down 4.8% from 422M to 402M

NPAT down 12.7% from $40.9M to 35.7M

EPS down 13.1% from 10.7c to 9.3c

NTA up 4.3% from 95c to 99c

 

The drop in profits was mainly due to delays with project approvals and some construction.  The good news is that not only is AVJ still a very steady earner (selling for a ludicrous PE multiple of 7.8) and is trading at a 27% discount to net assets – based on cost price of those assets.

 

Considering that over 60% of AVJ’s land bank is in Sydney and Melbourne, significant further upside exists beyond this 99c NTA, in spite of the fact that most of the land is located on the urban fringe.

 

I’ll be looking to add over the coming months, while I expect AVJ to grow at a modest pace (Should be a big kick up in FY18 as delayed projects flow through) I’m happy to hold onto these, while I sit back and collect.  As a real estate investment, AVJ is like a $1M house selling for $730,000, with net rent of $961 per week, 0 vacancy, stable tenants and no stamp duty.

Kogan – Delivering well ahead of forecast (KGN)

Kogan released their FY17 numbers on Friday, and the market was delighted with the result – share price shot up nearly 9% to close at $2.61.  I wasn’t actually that surprised at the numbers, seeing as the revenue beat was in line with the HY17 result – information that was freely available to everyone back when the share price was hovering around $1.60.

 

The shareholder call foreshadowed more good times ahead, however:

  • Current staff of 129 is adequate to cater for growth due to automation
  • Unaudited July results show a revenue increase YoY of 34.9%
  • The mobile growth trajectory is expected to continue for years to come
  • NBN and Insurance revenue will commence this FY, at almost 100% of GP

 

If you remove cash from the balance sheet KGN is trading around 30x earnings, but I will be comfortable continuing to buy at these levels.

 

Spirit Telecom – ST1

The telco business model is one I like because it’s easy to understand.  Your network costs are semi-fixed – the only incremental costs are the connection cost and sometimes a small network extension to connect to the customer site (which is usually paid for as part of the connection fee)

 

The incremental profitability of new customers, once you have covered your current network cost, is therefore very high, so that once you break even, you should see significant profit growth, even if revenue is growing at a more moderate rate.

 

The introduction of NBN has hampered the profitability of most consumer internet providers, because most of the network is “off-net” (Leased from NBNCo), which levels the playing field but also limits the ability for service providers to achieve scale and better profitability.  Spirit generate most of their revenue from “on-net” services (as they operate their own infrastructure), increasing their profitability and allowing them to successfully compete against service providers who are using NBN infrastructure.

 

As of HY17, ST1’s gross margins are 61%.   They offer services up to 200/200Mbps, faster than NBN can provide, for $169 per month.  A 100/100Mbps option is also available for $96 per month, as well as several lower cost plans. The high margins are achievable because Spirit focus on high-rise apartments, which need a single physical link to service dozens of customers.  They also connect many sites using WiMax technology, which has a lower connection cost than fibre, but still provides an acceptable amount of bandwidth.

 

A case study which Spirit refer to is the Eureka Tower in South Melbourne, which was an NBN incumbent site before Spirit delivered connectivity in early 2017.  They now have over 100 customers connected in this building alone, and will repay their $70k capex within 11 months.

 

So, in effect, Spirit are delivering a double whammy of benefit – not only do they have a regular stream of high-quality revenue, but they have a reliable pipeline of high-density buildings they can deploy capital to connect, growing their revenue base and subsequent profits.

 

Current connected building penetration is around 18%, leaving huge upside if those customers coming out of contract decide to switch to Spirit.

 

The June 2017 quarterly cashflow report showed operating cashflow of $1m, good going for a $20M market cap organisation.  The share price has fallen over the last couple of days (last traded at 10.5c) but I intend to add to my position.  The company’s finances are now on a solid footing and they have plenty of upside as they connect more buildings and increase building penetration.

Kogan – Durable Competitive Advantage (KGN)

Kogan.com is a unique Australian business.  Founded by Ruslan Kogan in his parents garage in 2006, Kogan is now a publicly-listed sales analytics machine, which may not be immediately obvious until you examine the attitude of the owners.

 

Someone who doesn’t see KGN’s potential might think it just undercuts the retail on grey-market Apple products and sells Chinese knockoffs.  But the sales analytics and private label businesses offer 2 durable competitive advantages which positions KGN for a huge amount of upside with little downside risk.  The company was listed a year ago at $1.80 and had sat at a lower price for most of that time, until recently when it climbed to $2.70 before falling back to $2.25 on Friday.

 

Starting with the prospectus, several points stand out:

  • A statistics business masquerading as a retailer
  • Referring to their business as having a huge “moat
  • Use of automation to lower transaction cost for the customer
  • Use of predictive analytics to better serve customers

Kogan’s focus on using automation and big data to lower costs and cross-sell better to their customers are going to position them well, even against behemoths like Amazon, who have spread their attention across e-retail, distribution, cloud, and bricks & mortar.
Turning to the HY17 presentation, KGN smashed their forecast numbers – revenue beat by 16.7%, and EBITDA was nearly doubled – $7.3m vs a forecast of 3.8m!  They gross margins, normally razor thin in this business, were a massive 18% vs a forecast of 15.2%.  At the time of my initial purchase at $1.65, the whole of Kogan was valued at $150m.  An unbelievable bargain.  Currently 50% of KGN’s profits come from the private label business, which started with TVs, but now covers furniture, power tools, and 10 other categories

 

But it gets better.

 

Kogan now has mobile, NBN, travel and insurance products, which it markets to its existing database of 6 million Australian customers (1/4 of the population), which all carry a very low capital cost (Kogan earn commissions on every sale) and have a very low customer acquisition cost.

 

The looming threat is Amazon’s entry to Australia – which in my opinion is over-blown.  Currently 40% of KGN’s gross profits come from 3rd party products, which is the only component facing a threat from Amazon.  The rest of the business is either growing off a low base thanks to lower customer acquisition cost (Mobile, NBN, Travel, Insurance) or easily defended as the sole supplier (private label).  It’s difficult to quantify how much business Kogan will lose to Amazon when they set up in Australia, but I think that business will still be bigger than it currently is in 3 years time.  It’s also difficult to quantify how much growth Kogan will see in the Mobile, NBN, Travel and Insurance businesses, but I expect this to hugely offset any revenue losses to Amazon.

 

I look forward to seeing the FY17 result, and continue to accumulate KGN shares.  Due to their competitive advantage and ability to widen their moat by investing in better analytics and automation, I intend to hold my shares forever.