March 2016 Buys and Sells (Part 1)

I generally do not trade very often.  However, with the half-year earnings season, it ended up being a relatively busy March for me.  Below is an outline of my selling activity.  My buys will follow at a later date.

Complete Exits

Collins Foods (CKF)

  • Gain/Loss:  107%
  • IRR:  93%
  • Rationale:  Sold out at $5.10 which I thought was approaching a fair value for the stock.  Since then the stock traded back down to around $4.00 and I considered buying back in, but I wanted the price to fall further before doing so and the stock has subsequently traded back up to around $4.20.  I still like the business itself due to its steady (profitable) expansion through new stores and refurbishment of existing stores, as well as the fact that there are further margin improvements likely to come from the KFC restaurants it acquired in WA (which had a lower operating margins than the rest of their KFC restaurants).  I also suspect that the stock would exhibit reasonably good defensive characteristics in an economic downturn – think the McDonald’s effect where many customers swap more expensive casual restaurants for their cheaper fast-food offering when times are hard.  If you think, as I do, that we may be on the brink of a global recession, then this stock may be worth considering.  I’ll continue to monitor this one.


Pacific Brands (PBG)

  • Gain/Loss:  97%
  • IRR:  232%
  • Rationale:  Also sold out due to my view that the stock was approaching fair value.  See my detailed post here.


Reckon (RKN)

  • Gain/Loss:  -8%
  • IRR:  -7%
  • Rationale:  This investment was based on a simple thesis for me.  The company is a provider of software solutions primarily for do-it-yourself accounting aimed at small to medium-sized businesses, small office/home office users and personal wealth management sectors in Australia and New Zealand and competes with Xero and MYOB.  The business had been showing consistent growth in revenues, EBITDA and net income over a long period of time and seemed to be adapting well to making its products more available via the cloud  – however, it was still trading at a pretty favorable valuation on a number of fundamental metrics such as P/E ratio or EV/EBITDA.  The only reason that I could conclude for this was that the growth rates hadn’t been as high as the market might have liked.

20160521 - Reckon Historic Performance

What I believed that the market may be missing was firstly that the company had made a big push towards a subscription based service rather than one-off upfront purchases of the software.  This increases the recurring nature of the revenue making it far more stable over time.  Therefore, whilst the growth hadn’t been spectacular, the quality of the earnings had improved markedly over time.  In addition, the nature of the product makes it incredibly ‘sticky’.  Once small businesses make the initial choice of accounting software, there is a large cost (both financial and time investment) to change to an alternative software provider, which provides these types of businesses with a form of a moat through large barriers to exit.  My belief that the market wasn’t giving the company full value for these factors, as well as the favorable fundamental valuation criteria were the basis of (and thesis for) my investment.

Towards the end of 2015, there was much speculation that potential acquirers were looking at the business.  Indeed the company even hired a financial adviser, which is generally uncommon unless they suspected that someone may put in a takeover offer.  The speculation and news that they had hired an adviser drove the price up towards $2.50 at the end of 2015 and I was showing nice paper gains from my $1.80 entry price.

Then came the 2015 full year results.  The company announced that they had undertaken a strategic review and were going to undertake a number of new initiatives including making a significant push into new markets in the United States and United Kingdom and accelerating development spend on new products.  In addition they also announced an acquisition of an online document management company in the United States.  All of these items were going to result in significant investment over the next few years which changed the nature of the company from a steady, defensive investment to a more aggressive growth focus which was not in line with my original investment thesis.

This investment is going to have significant impacts on financial performance over the next few years.  You can already see the impact of this for the 2015 financial year in the bridge that was provided by the company in the results presentation.  Absent the investment, the company’s steady growth rate was maintained.  However, EBITDA actually declined with the investment taken into account.

20160521 - Reckon EBITDA Bridge

The effect is going to be even more pronounced next year (and I suspect for a further couple of years after that).

20160521 - Reckon FY15 vs FY16

Ultimately, this expansion into the United States and United Kingdom and accelerated investment into their products may pay off very handsomely.  However, I think that there is a lot more risk to this new strategy than growing organically (albeit more slowly) in the Australian and New Zealand markets.  As such, I decided to exit the investment.  Unfortunately, the market also wasn’t excited about the changes and I ended up taking a bit of a loss overall, although the damage was minimal.  This will be an interesting one to keep an eye on in the future.  If their expansion strategy is showing signs of failing, the price could fall much further and the value of the Australian and New Zealand business could be masked (assuming that it continues to improve slowly over time).  This could give rise to an opportunity for value investors.


STW Communications Group (SGN)

  • Gain/Loss:  44%
  • IRR:  83%
  • Rationale:  Clearly someone else saw the value that I saw, because within 6 months of my purchase a merger was announced with WPP’s Australian and New Zealand businesses.  Although it was announced as a ‘merger’, it was really a friendly takeover by WPP who was already a large shareholder in STW Communications and now holds over 60% of the stock post merger.  The transaction was unusual in that WPP contributed its Australian and New Zealand businesses at an agreed value and took shares in return at an issue price of $0.915 (based on that agreed value) which was a 30% premium to the trading price before announcement.  After the announcement, the stock traded around $1.00 for a while and I ended up selling out at $0.98.  In my mind, additional value from here depends upon the successful integration of the businesses and achievement of significant synergies.  This will not be a simple task as there are a large amount of businesses involved and probably multiple back-office systems that need to be reconciled.  Both STW Communications’ and WPP’s businesses had been showing declining EBIT leading into the transaction and, when coupled with the costs to achieve the synergies, the near term results may not be great.  If management can blend the businesses smoothly and realize the cost and revenue synergies then there is clearly still additional value available.  As of today, the market appears to think that management will be successful as the stock is trading at $1.13.  However, I feel that I can find other opportunities that have greater upside without the operational risk entailed in achieving synergies in a complex marriage of many different businesses.

Partial Sell-Downs

Macmahon Holdings (MAH)

  • Sold 15% of my holding at 12.5 cents per share (my average entry price is 7.7 cents) simply to reduce portfolio weighting which had grown to over 15% as the stock gained value.  I still have confidence that there is significant value available at current prices and hope that the company resumes its on market share buyback.


Service Stream (SSM)

  • Partial sale based on my automatic selling rule that if a stock is up by two-thirds (66%) I will automatically sell around a third of my holding.

One comment

  1. Pingback: Portfolio Performance (Month 18) | Vör's Odyssey

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