A missed opportunity for fund managers

I read updates from many fund managers and I have noticed over the past year or two that a number of them such as Peters MacGregorPM Capital, and a grab-bag of others are making a big push to seemingly attract more retail FUM.  Look at the PM Capital website:

http://www.pmcapital.com.au/insights

And then compare it to stock advisory sites Intelligent Investor and The Motley Fool:

https://www.intelligentinvestor.com.au/

https://www.fool.com.au

For that matter, look at Barefoot Investor:   https://barefootinvestor.com/blog/

PM Capital sells different products (managed funds) compared to Intelligent Investor/Fool/Barefoot (subscription services), but they are clearly targeting the same niche demand – bite sized news pieces from an authority figure telling you stuff about the market.

If you’re a fund manager, retail FUM is an obvious goal for you. Some argue it’s not worth the effort, but if you train it right, retail FUM is more loyal and sticks around longer. Plus if there’s one thing that’s clear in today’s market, it’s that there’s a helluva lot of retail money looking for a home. I guess that explains all the LICs out there looking to lock up some permanent capital.

So a Fund Manager Extraordinaire might decide to piggyback on the appeal of popular retail investment sites (Intelligent/Barefoot/Motley etc) and use this as a device to drive traffic and, hopefully, build their rep and engagement with their funds. The problem is that many fund managers are boring as fark. Listen to this:

  • We are long term investors
  • We seek attractive risk-adjusted returns
  • We value capital preservation
  • We invest in what we can understand
  • We aim to beat XYZ index over X years

Every fund manager ever said some combination of this and it’s a) boring, b) undifferentiated, c) sometimes a lie.

Also d) household investors don’t understand what fund managers actually do. Paraphrasing Dunning and Kruger, they don’t know what they don’t know, which makes it really hard for you – Fund Manager Extraordinaire – to explain how your services actually add value.

Consider these two samples taken from Barefoot Investor and PM Capital:

Barefoot:  “Yet there is a cheap, simple no-brainer way to ride the coming revolution: just buy a low-cost, tax-efficient index fund that tracks the 500 largest companies in America — ”  

Good advice, easy to follow, it’s a revolution (!!!), and an investor will do well out of it over the long term.

PM Capital: “What may be affected by broader cannabis use? What other industries? For example, might property trusts who hold pubs be affected by the decreasing relevance and power of having a government license to sell less desired (liquid) social drugs? These are the types of things worthy of consideration as active investors.”

Hey man, I just want stocks that are gonna go up. Or that Bitcoin thing, I hear that’s good too.

In my opinion, if you are trying to learn to invest well, PM Capital’s writings are very valuable. However, many fund managers can be disengaging to household investors. The types of pieces that often appear online are written by fund managers writing about the stuff that they do or think (in their role as an investment professional) every day. While their thoughts are valuable, they are out of reach of the retail investors they may be trying to attract. The vast majority of retail investors do not grasp things like risk-adjusted returns, industry consolidation (what this actually means in terms of pricing power, ROIC, etc), the business cycle, and so on.

This is unfortunate because it means your valuable thoughts – fund manager extraordinaire! – are nearly valueless because the people you are pitching to are not equipped to grasp what you’re talking about.

Imagine if you showed up in 8th century Egypt and started explaining bacteria. Right? Great advice, but incomprehensible to the locals.

Now PM Capital may not be trying to attract retail FUM, I’ve just used them as an example. However, if you are a fund manager trying to grow your retail FUM, consider this:

The tradeoff

At first glance there appears to be a tradeoff between the hype-y business models of some investor services and ‘respect’, for want of a better word.  Few fund managers want to trade their reputation and dignity by writing things like ‘3 ways that Amazon will destroy Australian retail’ with a link describing a ‘revolution’ at the end of it, even if it might attract FUM.  You can either sell hype or you can be a professional money manager, right? Wrong.

I propose instead that there are different forces at work. Retail investors don’t necessarily like hype either, if for no other reason than it reminds them of sleazy salesmen and/or times they were rooked out of cash by shysters in the stock market. Instead I think ‘hype’ is a proxy for other factors:

  • Engagement – people want someone who is approachable and who explains things to them. Retail investors don’t know what they don’t know, so they look for (authoritative, believeable) people that will tell them new stuff and explain to them how it works.
  • Conviction – this is absolutely vital. People don’t understand that investing is a portfolio and probability game. As a result, many investors think that you have to go out and ‘do’ investing – they want to see you swing at the pitches with some conviction, even though as a manager this may not be what you are about.
  • Stories – again, investors don’t understand the more probabilistic features of investing. Most people make sense of the world through stories, and retail investors especially. Fund managers often write about more technical or practical considerations in general terms, and can sound awfully dry.
  • Personality – professional investors seem to often subordinate their personality, opinions, and beliefs to their work. Perhaps this is a function of pitching to institutional clients. However, it is not a winner for retail. If you are the ‘risk adjusted returns’ fund manager I described in the 5 bullet points in the intro, how can you differentiate yourself from other fund managers saying the exact same thing?  Your investment approach is probably not unique, especially not within the ASX300. Your net % performance numbers and fees (the only thing that retail investors look at) are probably pretty comparable to peers. Your personality and experience may be your best asset when it comes to differentiation.

 

Although fund managers can appear a bit cookie-cutter, most have quite differentiated backgrounds in my experience – and even if they don’t, their experiences are definitely differentiated compared to the retail investors they’re trying to attract (nurses, lawyers, electricians, whatever).

To put this another way, fund managers often seem to be primarily selling their professional mindset. I would agree that this is a manager’s most valuable attribute. However, this is definitely not what the retail investor is trying to buy. There is a clear opportunity to turn experience and knowledge into a point of engagement and difference.

And you know, let’s take a really topical story at the moment – Retail Food Group. Totus Capital played the AFR like a fiddle on this (they were short) and they made monster returns. Kudos. But look at what they said:

“The company is relying on external capital to survive, and having stories like this out there will either make new franchisees or bankers think hard about signing up or lending them more money,”

What does that even mean from a retail investor perspective? What’s external capital? How does it work? Why is this a negative? Why are no new franchisees a bad thing, they still make plenty of money from existing ones, right?

I’m not familiar with RFG myself but I gather the implication is that RFG would go under without regular injections of cash from franchise sales. That is, new franchise sales = big one-off cash injections to RFG, which the company (presumably?) needs to survive. I’m just guessing, but if that’s true, Totus should have said that instead. I thought there was a huge opportunity for a story to be told here about the RFG business’ deterioration from the short perspective, in a way that was relatable to the market.

If the Sydney Morning Herald hadn’t published their Cup of Sorrow about RFG, Totus could still be swinging in the breeze waiting for their short to work. SMH showed viscerally that the right story could have brought it undone a lot quicker.

Totus doesn’t market to retail FUM as far as I know (they have a sophisticated audience), and they’re long-short while most funds are long-only, but my point is the same. A long-only fund manager could have told that story and built their rep the exact same way. I keep pointing to Forager’s Dick Smith is the Greatest Private Equity Heist of All Time blog post, and it should be required reading at FUMGatherer School. Forager has never had anything to do with Dick Smith whatsoever, and yet that post paid for itself a thousand times over.

Another consideration is the importance of stories to re-rating a company. Many long and short investments depend on a market re-rating, and stories are the perfect way to rewrite the market’s thoughts on a business. A good story is insidious in a way that “this stock is a good/bad investment” is not.

There is a market for tying stories and analysis together, and in my opinion, the pitches of most fund managers chasing retail FUM are missing the mark by a large margin.

By coincidence, I ran into this piece today about The Greatest Story Ever Told that sums this up nicely (click the picture and read the PDF).

How do you sell a managed fund?

What sort of transaction is taking place between a retail investor and a fund manager?  Simplistically, the retail investor wants to make money and find someone to trust – but they don’t fully grasp the industry and all of the possible things to consider. The fund manager wants to do their job, and being experienced and generally of the belief that they are a good person, they assume that the investor’s money is in good hands and may not think any further than that.

There’s a real gap there that’s gotta be bridged. If you’re a fund manager, how do you grab the investor and pull them along until you’re both on the same page? Revisit the criteria I listed above:

Engagement – How do investors get access to your thoughts and expertise, doubts and all?

Conviction – What do you genuinely believe (in specific terms, related to X or Y investment) and why?  What have you been right about (and wrong about!) in the past? There is a noted tendency for some fund managers to talk only in generalist terms rather than get down to brass tacks.

Stories – Can you tell me a story that shows me how you see the world, and lets me judge you for myself? What experiences have you had that demonstrate why I should consider trusting you with my money and what would make me stick with you in a downturn? Here especially is an opportunity to talk about your losers, mistakes, or things that you called right but missed out on because the uncertainty was too high. Some managers fear that investors will leave them if they admit to mistakes.  They may – but equally, if you write well and convince people of the merits of your point of view, you will actually bind investors closer to you because they will start to understand your point of view and start to think more like you do. This has a lot of implied benefits for the loyalty of your FUM.

Personality – Who are you? What do you think and what do you believe, in specific terms, about X or Y social/market phenomenon?  To be sure, attracting investors is emphatically not about you as a person. You don’t want to be boorishly self-centred. But if a retail investor is investing with you, they definitely are interested in knowing about your personality as an investor.

Historically, gatekeepers (advisors etc) have made it hard for retail investors to get any real access to or engagement with their manager. Which is a crying shame, but things haven’t changed all that much, so there is a significant opportunity for a fund manager that stands out to differentiate themselves from their peers.

So? 

Sure, a writing capability could be difficult, expensive, or painful to develop – but Livewire is hardly free, and I’d love to know what kind of ROI a fund manager actually gets from posting on there. That’s not to knock Livewire, which is a great resource – but the fact that it’s so in demand from fund managers vividly demonstrates that there is a gap in the market and unmet demand for a manager’s stories and experience.

Unfortunately, despite the advent of Livewire, I find that many of the funds that post on there just aren’t that engaging. They all read the same books and they mostly all share a similar approach to investing (see the first 5 bullet points in this post). Many funds appear to struggle to differentiate themselves from the crowd.

That’s why I think fund managers are missing a huge opportunity to stand out by tying together stories and analysis in a way that can be understood and enjoyed by the public.

I thought long and hard before publishing this post. It may sound as though I am critical of fund managers, but that is not the intention. Fund managers are doing what I lack the skill and ability to do myself – it is not for me to criticise the man in the arena. I hope that this post will be received in the spirit that it was intended – an attempt to add something useful to the discussion.

I used PM Capital and Totus Capital in my examples here solely as a vehicle to move my story along. I wouldn’t like my thoughts to be interpreted as criticism of either the manager or the business. There were plenty of possible examples to choose from, but I settled on PM and Totus because they have been around long enough – and their performance is good enough – that they have nothing to fear from an anonymous blogger.

I have no financial interest in any of the companies mentioned above. I have no professional or financial relationship with any of the funds or fund managers mentioned above. I am not invested in any of these funds. This is a disclosure and not a recommendation. 

You should write a blog

I would like to see more investors blogging about their investments. And although I’m new to blogging, I’ve learned a stack about it this year and I wanted to package up some stuff I’d wish I’d known a year ago to make it easier for those who are thinking about starting.

Blogspot, WordPress, or Hosting? 

First, don’t get Blogger/Blogspot. It’s easier to get started, simpler, and free, but you run the risk of Google closing it down whenever they feel like it, like they did with the Google Finance Portfolio function (and the 10foot portfolio records, bastards).

Second, WordPress is good, and free. Their entire business model is built around their free software platform, the eponymous WordPress. You can get a free site, YourName@WordPress.com and you basically never have to worry about them deleting it, because the free platform is their entire business (they make their $$ through network effects + via selling value-added services to platform users). You have to comply with their Ts&Cs and there are probably limits on storage space etc – also if you ever advertise (I don’t), they keep half your revenue. But for a freebie blog it’s great.

I went the third route and paid for my own hosting space, domain name, and so on. It’s a lot more complex and will result in significant confusion until you learn how to do the things you’re trying to do – after the initial steep learning curve, it’s very simple. I won’t go into too much detail but basically you buy a domain name (10footinvestor.com) and hosting space (this is the storage space for your website) and then you install WordPress into your hosting space and you can start. WordPress is still free but because you use your own site, you don’t have to share your revenues with them if you advertise. This option costs more but you get a lot more functionality and you can get a lot of ‘plugins’ (extra functions) for your site that you can install basically with two clicks and zero tech knowledge. Do some research on your hosting provider, don’t just choose the first one you come across.

I use Crazy Domains as my host. The company that owns this business, ASX:DN8, is publicly listed so that could be something to look at too:

I think I spent about $300-400ish for a site, domain name and hosting space for a 3 year period.  Take my advice, if you set up a site this way order all of your features at the same time. Don’t buy the domain name, then get hosting space a month later, and more stuff a month after that like I did. You’ll end up getting (seemingly) constant bills from your host and it’s extremely annoying administratively. Order all your shit in one go, err on the side of caution and buy stuff you might need but aren’t sure, and then later on anything you don’t need you can just let it lapse rather than renewing. This lets you pay your subscription bills all at once, once every year (or every 2-3 years, since you get discounts if you order for multi-year periods) and greatly minimises the admin burden.

Security

Don’t overlook your site’s security if you use your own hosting. Without getting too technical, change your login URL if you have your own site. 10footinvestor.com/admin was the URL for me to login to my site by default (I have changed it), but you need to change the /admin part, because there are automated programs out there that just crawl common suffixes like that to find login windows to hack. If you host your own site I also highly recommend getting the iThemes Security Plugin. This plugin taught me to change the URL and comes with a bunch of really useful features (and it’s free).

An earlier version of this site got hacked in 2016 by Palestinian rebels (true story) due to the /admin thing, and was used to post pro-Hamas and anti-Israeli propaganda. I had to delete it and start over.

Also on the topic of plugins, get Jetpack. Just do it, you’ll see why straight away. It’s free and should be mandatory for all amateur WordPress users.

Plan your content

First, have a purpose (or a ‘niche’) with and/or a plan for your blog. I didn’t have one for mine, it was just going to be a journal/thought dump kind of thing. I was unlucky enough (or lucky enough) to land some readers in the very first week of the site being established (one has been corresponding with me since day zero – thanks Dan).

This was well before the site got picked up by search engines and it immediately put me into a bit of a quandary because my ‘private’ thoughts were suddenly public. I wasn’t publishing anything private per se, I was just putting pen to paper and writing whatever came into my head, but in general my early posts were poorly organised and poorly thought out. Take it from me, this is uncomfortable because even though you think your blog may just be for your own thoughts, the very fact of having an audience puts pressure on you – if you’re putting time into writing, you suddenly feel the drive to make it useful and valuable.

I’ve subsequently kind of fallen into a niche by accident, writing about companies that I don’t think are investment grade. Early work on a few companies has lead to people sending me various ideas of other companies to look at, some of which I’ve subsequently written about, and that has become a bit self-perpetuating. If you can think of a niche or niches before you start, you’ll be three steps ahead and more focused from the get-go.

If you’re one of my regular correspondents, I love our chats. But do try and send me some good opportunities from time to time as well…

Having a plan about what kind of content you want to produce helps keep you focused, and it also helps give the readers what they came for. They’ll be more inclined to put up with extraneous nonsense if you’re on topic most of the time, or if you have a separate section of the site for off-topic musings. I give a tip of the hat here to The IPO Review, a blog that has a very well-defined purpose.

You can also mitigate disorganisation on a per-topic level by having a vague idea for your posts. Putting pen to paper without planning is the easiest way to write, I believe. Just spill out your inner narrative. However before you publish, sum your post up in a single sentence. Then revisit your post and trim almost everything that does not a) directly support this sentence or b) directly disagree with this sentence.

Generally do not expand the terms of reference and widen your argument, unless you’re writing specifically about a situation in which participants are too narrow minded.

Anonymity? 

Think very carefully before electing to be anonymous, especially if you are using a blog to showcase your work. Some have welcomed me openly on the relative merits of what I write (which is what I had hoped for), others have been extremely critical, skeptical, and vitriolic, and professionals (with a few exceptions) have often met me somewhere on the scale between ‘professionally reserved’ and ‘extremely cautious’.

Several people I respect have more or less refused to speak to me because I’m anonymous, and that’s totally fair, especially from those in a fiduciary position. In their shoes I would do the same – but I admit I didn’t think of that as a possible outcome before I started. Also, if you’re strictly anonymous, it’s very hard to use your anonymous blog on your identifiable employment applications, for example.

So be or be not anonymous as you will, but think about it carefully before you start.

On balance I prefer anonymity because the 10footinvestor is far more interesting a persona than Mr H. C. Minh.

This is me from a few years back:

Via the @snapchat OldGuy™ filter.

Social media?

I use Twitter only and I curate it sort-of carefully. I originally had a rule where I would only make one tweet for every one follower that I gained. This would ensure that Twitter content and links to posts stayed relatively in check with the readership I was attracting. It also limits my ability to share my thoughts – which I recommend because it helps restrict banal sharing or stream of thought drivel (although I still do a bit of that). I experimented for a while with Marc Cohodes-style tweets to build hype or lead into various upcoming posts but I find that that basically does not work at all for me.

Limiting tweets to follower #s in a 1:1 ratio was a really great strategy in the early days but it does not scale well. Once you get followers and start following other smart people you often want to engage with interesting things that they are sharing and have a conversation. Conversations can be valuable too – even more so than followers – but in general until you develop a readership (and even after that) I would suggest trying to be extremely disciplined in your social media posts.

This helps your content and your thought process retain value by making them scarce. Unless your every post is pure dynamite – mine certainly aren’t – I think a little scarcity helps maintain interest. These rules may not apply if you’re an identifiable professional and need to get your name in front of people, but this works very well for me as the anonymous 10foot. Especially for an investing blog, when you lack a track record like me, you are reliant on other things like authenticity and quality of content to signal your value to others.

I have been experimenting (+ will soon experiment again) with changing Twitter names and photographs, while keeping my handle of @10footinvestor. One Twitter account that I really like is @SuperMugatu  – currently ‘Christmas Mugatu’ – an anonymous US hedge fund manager (no idea who) who is the master of both, and manages to tweet incessantly without being boring. Much of what he tweets is incoherent to me, as a non-US investor, but his branding is perfect. It is engaging, funny, and interesting. I am new to this online persona thing, and I am not that funny, so I am currently experimenting to see what works.

If you join Twitter I’d suggest following as many accounts as you can to find an approach that works for you before you get started. I have not found mine yet, but it’s already obvious to me that a good online brand is worth its weight in gold.

Nobody wants to read your shit

Seriously, they don’t. And there is a decent book, called Nobody Wants To Read Your Sh!t by Steven Pressfield – if you’re looking at getting into blogging or any sort of writing, I recommend it to you. It basically says you need to reach out and grab your readers by the necks and don’t let them go.

For real, some of the best work I’ve done, in my opinion, is this post on some research into Oliver’s Real Foods (ASX: OLI) restaurant locations, and this post on Catalonia. Whether you’re interested in them or not, both offer genuine, unique insights and a differentiated perspective – as far as I am aware, these perspectives simply did not exist publicly in Australia until I wrote them.

And I say that with a lot of humility, because only about 12 people (out of an estimated ~400 regular readers) read those posts – 11 excluding me.

My Getswift post got more than 500 viewers in less than 1/10th of the time. I thought it was a pretty good post too, but it was the antithesis of unique as I was really just summing up the general thoughts of many in the market.

So, being unique and interesting is great. Over time you’ll attract more loyal readers and I’ve also had much more robust discussions with readers than I have on my less unique posts. However, fewer people will be drawn to read them.

Your posts need to be topical to attract readers. I am beginning to see why some investment websites are so click-baity. And hey, Oliver’s is a tiny company and relatively few people in Australia are interested in Catalonia. So they’re not high-demand topics, and it has become very clear to me that being interesting and insightful alone is not enough.

Be genuine

Be honest and genuine. I’ve made a stack of mistakes since I started this blog, and I’ll make plenty more. Although I usually have quite definite views – I am a conviction investor – I don’t hold myself out to be a genius and I have been quick to publish corrections or acknowledge other points of view when wrong. I wish that my thought process was as sharp and my skillset was as good as Seaforth Ben or Findthemoat (two Australian blogs I commend to you) but it isn’t, and I think I’ve managed to maintain a degree of reader loyalty anyway as a result of my authenticity, and (I hope) due to interesting or useful content.

Reader loyalty is important because if you can keep readers coming back, every new reader you attract adds incrementally to the readership of your posts. I.e., each new post attracts the old reader, and also has a chance of attracting new readers. And readers of all stripes increase your chances of getting a retweet or a share on social media, winning potential further readers.

One blog that I think is underrated on genuine-ness is Steve Greene’s Value Investing For a Living who blogs mostly about LICs. I’ve always found his posts to be well put together and they are an excellent example of a blogger writing only about things that interest him (as opposed to actively aiming to attract readers), while simultaneously presenting his posts in a way that is interesting and engaging to readers. I personally am not that interested in LICs (sorry Steve!) but I read his posts anyway because he always has an insightful perspective and his posts are coherent. Mark Susanto at Wylde Street also has a good niche sharing his microcap thoughts, as well as his experience with the thought process required to succeed in microcaps.

Bronte Capital and Bristlemouth are good examples of professionals that write interesting and authentic blogs.

Let your thoughts coalesce

Take your time writing. After ~9mths writing this blog, I find that I get ideas at all hours of the day and if I can I’ll sit down and smash out 500-1000 words (a thought dump) that summarise the idea. Then I’ll revisit and flesh it out, revisit again and trim it, then revisit again and make sure it’s coherent with its premise (i.e., the whole post directly relates to what I’m trying to say). It can take 3-6 weeks for a post to get from first thoughts onto the site, and the quality is 50x better. I used to punch out a post in an afternoon and publish the same day – look at my earlier posts compared to later ones and you can see how much they’ve improved by being thought on more.

Importantly, even despite the quality added via extra editing time, I also find that my actual thought process becomes more clear by holding the idea in my head over a couple of weeks or more. If I do 10-15 mins of editing twice a week for a month, it’s kind of like chipping a statue out of marble block. The shape becomes more apparent over time, and it’s easier to determine if the idea is good or bad, and if it’s worth publishing. My trashcan is full of posts that never saw the light of day.

The ‘dynamite’ post

I’ve spent hundreds of hours on this blog, directly and indirectly. Probably four days a week I spent 1-5 hours in the evening researching or writing, and usually around 8 hours over the weekend. And yet I calculated today that just 3 posts – and one retweet from a public figure – are responsible for over 70% of my current readership.

Nothing builds your readership quite like a ‘dynamite’ post – making a big call and then subsequently being right. Big calls aren’t what you should be aiming for as an investor but they do wonders for readership. Dick Smith Is The Greatest Private Equity Heist of All Time is a perfect example. It was reportedly Forager’s most-read post of all time by over 100x their second closest and I really hope they gave that analyst a monster bonus. This post (and their subsequent awesome performance numbers, of course) is what really let them hit the big time.

And that’s why Steve Johnson is now the unofficial face of Sky Biz.

Just do it

A lot of people get hung up on trying to write stuff. If you’re not much of a writer, your work doesn’t need to be genius. It doesn’t even need to be well written if your ideas are good, you just need to do it. Write short and sharp pieces and do it over and over and over and over and over until you get good enough that people want to read them. It’s not a work of art. Nobody cares.

Unless your post causes something to blow up, and even in the best case you won’t write more than a few of those per year, the vast majority of what you write is going to be forgotten in a few days or weeks at most. So get stuck in and be willing to experiment, make mistakes, and look stupid. Over time you will be surprised at how quickly you improve. I know I have certainly improved a lot, and I can also see I have a long way to go.

Best of luck, and I hope this helps even one person get started with their own blog. Let me know if you do, so I can start reading it!

I may edit this post later to add in any more insights – hopefully it’ll become an evolving work as I learn more, or I may elect to write a sequel in the future. If you have any useful insights or feedback from your own experience to add, please leave a comment below so that others can benefit.

I own shares in Oliver’s Real Foods. I have no financial relationship whatsoever with any of the people or blogs mentioned in this post. This is a disclosure and not a recommendation.

The risks in Trimantium Growthops

I came across the Trimantium Growthops upcoming IPO recently. It is a consulting business whose listing process reminds me of National Vet Care (ASX: NVL) and Automotive Solutions Group (ASX: 4WD) in that it involves getting agreements from a list of business owners, raising the funds for IPO, and then using the IPO funds to acquire the businesses from these business owners.

Trimantium Growthops, or TGO for short, will be acquiring 8 businesses, half in cash and half in convertible shares (“CRPS”) that will vest over three years. The founders + vendors of the businesses are also migrating to the TGO brand and will continue to run their individual businesses. If their businesses grow profits sufficiently the vendors stand to double the number of shares they are awarded, while if the businesses underperform badly enough they will receive zero shares. I have a number of thoughts about this IPO.

In short my opinion is that:

  • It is potentially overpriced, given the lack of forward revenue visibility, change of control provisions, and dilution from the CRPS. See my comments below about ‘the consulting business’ and ‘retainer fees’.
  • There is some uncertainty over related party transactions with major shareholder, Trimantium Capital. See comments about ‘related party transactions’.
  • There is significant uncertainty regarding the licensing terms of the Trimantium brand name. See comment on ‘The Trimantium GrowthOps brand name.’
  • It is not clear why existing shareholders should keep >20% of the combined company, as their financial contribution appears to be less than this. See comment on ‘existing shareholders’.

 

The consulting business

TGO’s businesses do a grab-bag of executive coaching, app development, digital media and things like creative content and marketing. The idea is to bring the businesses under the one brand umbrella and use them to cross-sell each others’ offerings. There will apparently be limited cost-saving synergies, but the cross-selling opportunities are expected to be significant. The list of clients is respectable:

click to enlarge.

In general I’d agree that this is a growing market and that Trimantium Growthops has a well thought out pitch. I also am a fan of the way they will increasingly look to align with customers, e.g. via equity-like remuneration arrangements. Still, the risk and complexity involved in integrating 8 different businesses under a single banner is quite high – Automotive Solutions Group (ASX: 4WD) made a colossal mess of an almost identical IPO 12mths ago and was recently bought out 65% below its IPO price.

Additionally, the consulting business as a whole is cyclical. That’s hard to see at the moment because consultants like McKinsey are bringing in the $$$ and have been for years. However in downturns, companies bring in-house the functions that they should have had in-house the entire time, with obvious implications for consultant demand. I’d struggle to determine the risk/reward tradeoff between a growing change-consulting market and the possibility of declining overall consulting budgets, because the demand for tech + change solutions appears unlikely to abate.

Consultant demand is booming and there appears to be a shortage of candidates – I know that because I have recently been researching MBAs and the job market.

Still, I think the fundamental question for prospective shareholders is “Is this a semi-cyclical business with limited forward revenue visibility, being sold close to the top of the cycle at a price that is above average?” I don’t know the answer but in my opinion, given what I point out below, it’s something that should be considered.

The Trimantium Growthops consulting business

In my opinion there are a number of key risks with Trimantium Growthops consulting business specifically. First is the limits to the visibility of future revenue. From the prospectus, I have underlined relevant sections:

5.2.3 SHORT SALES HORIZON AND DIFFICULT TO PREDICT REVENUE: GrowthOps’ forecast revenue consists of a portion of revenue arising from existing contracts with clients, a portion of revenue which is expected to arise based on historical trends and track records with existing clients and a portion of revenue arising from the conversion of pipeline opportunities. In addition, certain of GrowthOps’ existing contracts include retainer or monthly service fees and can be terminated on relatively short notice. While some clients have annual plans for technology spend which give some visibility to expected spend, many projects or contracts which the GrowthOps Businesses have with clients arise on an ad hoc basis and are around 3 to 6 months in length. In addition, a number of the existing contracts that GrowthOps has with clients rely on the issue of specific statements of work which specify the product to be supplied or the services to be rendered on a particular project. These contracts typically do not guarantee minimum levels of work and there is a risk that the level of work requested by clients through statements of work or purchase orders may decrease or cease entirely. As discussed further below, a number of the contracts GrowthOps has with clients are terminable on short notice or will be up for renewal during the Forecast Period, which means these contracts may be terminated or not renewed for unexpected reasons.

Second is the change of control provisions. While these are not unusual, they appear an extra risk in a company that already lacks locked-in revenues (relevant parts underlined again):

(from section 5.2.8 CHANGE OF CONTROL FOR COMMERCIAL CONTRACTS): A number of contracts to which a GrowthOps Business is a party (including client contracts and premises leases) contain change of control provisions. The change of control provisions in these contacts may be triggered on completion of the Acquisitions. For certain of the relevant contracts, GrowthOps has sought the consent of the counterparty to the change of control arising from the relevant Acquisition as it considers commercially appropriate. In a number of cases, the Company has made the commercial decision to not request consent for change of control. To the extent that the required consent is not obtained (in all circumstances including where the company has not sought consent), GrowthOps may be in breach of the contract in question, which may entitle the counterparty to terminate the contract. In addition, in providing a consent  (consent to a change of control) the relevant counterparty may seek to renegotiate the relevant contract on terms which are less favourable to GrowthOps. Any such termination or renegotiation may adversely affect the operations, performance and position of GrowthOps.

This is normal in most consulting businesses. Short contracts and limited forward visibility is a key risk of the consulting business model, which is why I also pointed out the cyclicality of the industry above. However it’s worth bearing in mind that the change of control provisions, lack of consent from some clients, and possibility of renegotiation, are additional risks for the company. It is tough to determine if TGO is a good investment without knowing which customers are going to quit or renegotiate and the impact of this.

Trimantium Growthops will have a fully diluted market capitalisation of $142.6m to $166.4m when listed. It has a proforma forecast NPAT of $8 million (loss of $16.2m on statutory basis). This prices the company at 17.8x proforma NPAT at its lowest market capitalisation. The multiple is about 13x if you exclude the CRPS. I do not think it is prudent to exclude the CRPS because there appears to be no real mechanism for which they get cancelled (unless the acquired business badly underperforms). As a result I would be inclined to consider these part of the market capitalisation.

While this multiple does not seem expensive, it could prove extremely expensive in context of the additional risks created by the change of control provisions as well as the short forward visibility of the consulting business model. Any lost or renegotiated contracts would be felt keenly, in my opinion.

There is also an additional risk and/or benefit – I couldn’t decide which, probably both – in TGO’s retainer fees.

Retainer fees and high margins

When I first looked at Trimantium Growthops I was surprised by the margins it was getting for its consultancy work, which is typically people-intensive and low-margin. The company’s EBITDA and NPATA margins have been 15.9%/18.2%/22.8%/23.3% and 10.7%/11.8%/15.8%/16% respectively over the past 4 years from FY15/FY16/FY17/ to forecast FY18. A 16% NPATA margin is staunch for a consultancy firm; in general I would expect around 10% margins. Historical NPAT margins have also been around 14%-17% over the last 3 years (lower on a proforma basis once corporate overheads are accounted for). I believe that the key ingredient to these high margins could be the retainer fees. Look at this chart:

source: TGO prospectus

36% of all revenues come just from retainer fees. The retainer fees sound like they are primarily associated with the advertising business, where AJF partnership (creative agency) has the client accounts of companies like Officeworks and so on. I’m just guessing but I imagine they get a fixed retainer as long as they have the account, plus more conventional fees each time they run a campaign.

I’m not certain of the level of service and ongoing cost involved in a retainer arrangement, as it was not clearly explained. Still, the cost of providing a retainer could be quite low (because the customer has already been acquired and agreed to stick around on retainer) and it may be a highly profitable revenue stream.

If this is the case, then margins on actual consulting work may be lower, and retainer fees could be key to Trimantium Growthops’ higher levels of profitability. At least some of these retainers are locked in via multi-year contracts, but some can be terminated at short notice, and the ongoing viability of the retainer fee model may be crucial to understanding whether Growthops will generate value for shareholders.

“Client concentration is particularly prevalent in relation to retainer-based revenue streams, which generally arise out of fixed term contracts. Upon the expiry of the relevant retainer term, the renewal of the contract is not assured and is not within the unilateral control of the applicable GrowthOps Business. It is difficult to quickly replace revenue from large retainer-based contracts which are not renewed or are terminated with new business as there are relatively few contracts of that type available.”

If retainers are a more profitable revenue stream, which is hard to evaluate given that there was limited data on the individual businesses, then this places extra importance on their continuation (esp. in context of change of control provisions, reliance on KMP, and so on).

If retainers are not likely to continue, TGO could simultaneously be looking at less work and lower margins, which would be a double-whammy for the value of the company.

The Trimantium GrowthOps brand name:

Trimantium GrowthOps has an arrangement with its backer, Trimantium Capital, that I think will prove troublesome (relevant parts underlined):

3.6 TRIMANTIUM GROWTHOPS BRAND
GrowthOps is a party to a co-existence agreement with Trimantium Capital under which Trimantium Capital grants GrowthOps rights to use the TRIMANTIUM brand. GrowthOps is required to use the TRIMANTIUM brand in the form TRIMANTIUM GROWTHOPS, such that the word “GROWTHOPS” is given equal prominence to the word “TRIMANTIUM”. Trimantium Capital consents to the use and registration of GrowthOps’ trade mark application for TRIMANTIUM GROWTHOPS as well as any business names, company names, domain names, social media names and other trading names containing the brand TRIMANTIUM GROWTHOPS. In addition, each party may, with the other party’s written consent (not to be unreasonably withheld), use or apply for registration of a trade mark, business name, company name, domain name or otherwise, which contains the TRIMANTIUM brand

This is a concern for several reasons.

First, it muddies the Growthops brand name by making Trimantium the first word. In my opinion if you are an investor you’re going to be calling TGO ‘Trimantium’ for short. This has obvious implications for brand recognition etc especially in light of my second concern:

Second, if Trimantium Capital or its majority shareholder Phillip Kingston (who will also be the managing director of TGO) separate from TGO on bad terms for whatever reason, what happens to the TGO company name? It is not hard to imagine having to rebrand the whole company from ‘Trimantium Growthops’ to ‘Growthops’.  Much was made in the prospectus of the importance of brand, reputation etc for the consulting business. A change of name could result in reduced name/brand recognition and reduced contracting work. Alternatively, TGO could have to pay a fee to keep the brand name and this gives Trimantium Capital significant bargaining power. If this latter outcome occurs, it could result in TGO paying basically a perpetual licensing fee to Trimantium Capital. Phillip Kingston sounds quite entrepreneurial according to media reports, so it is not hard to imagine him leaving for new opportunities in a few years, which would bring this uncertainty to the fore.

Third, it’s unclear on what terms the Trimantium name is licensed to Growthops. I could not determine if there were fees for this or what the terms of ‘separation’ were, if Trimantium Capital/TGO wished to part ways. Given the importance of the brand name to the company, this seems a big omission from the prospectus.

For contrast, look at Oliver’s Real Foods (ASX: OLI), a 10foot holding. In the OLI IPO, the founders sold the Oliver’s brand to Oliver’s the company in return for shares in the company. Now even if these individuals are fired, the brand (which underpins the entirety of the company) is secure.

Related party transactions:

One thing I liked about TGO was that management will retain significant shareholdings, and salaries for the managing director are quite low at just $15,000 a year (yes, fifteen thousand). However, some of the transactions between related parties I did not fully understand.

First is the purchase of Unit Co by TGO. Unit was previously considering an IPO that was subsequently abandoned earlier this year. From the prospectus (key things underlined):

GrowthOps intends to acquire The Unit Co Pty Ltd for $1 and the assumption of its outstanding liabilities. The Unit Co Pty Ltd, a controlled entity of Trimantium Capital, has loans outstanding of $5.0 million to Trimantium Capital and associated parties which relate to costs incurred in preparation for and the development of the current GrowthOps IPO, which will be repaid from the proceeds of the IPO. These costs comprise $2.1m of pre-IPO costs paid to advisers which form part of the transaction costs of this Offer, and $2.9 million incurred in developing the GrowthOps opportunity and its associated knowledge base.

It’s not explained clearly in the prospectus exactly how the $2.9m was spent to ‘develop the Growthops opportunity’. Growthops is buying established businesses and, while there are due diligence concerns, the fees for these were identified and are included in the listing costs. I would have thought there was relatively little to do in terms of establishing the Growthops ‘opportunity’ and it is not clear how this $2.9m (4% of raised capital) was used.

source: TGO prospectus

I also have some thoughts on the holdings of existing shareholders:

Existing shareholders

At the midpoint of the offer ($1.085 per share), there will be 98.5 million shares on issue. 33.9 million of these will be owned/held in trust for existing shareholders (management and Trimantium Capital). The remaining 64.6 million shares will be owned by those who apply for the IPO. This is a fair split; at the midpoint, IPO investors contribute ~45% of the fully diluted market cap and will own 45% of the company.

However, it looks as though IPO investors are funding the entire business (the acquisitions) while existing shareholders still get 33.9m shares that are worth $37m, and they get all of their costs refunded. This is important because TGO doesn’t appear to have much of a business until it raises cash to acquire the 8 new businesses – Trimantium Growthops was only incorporated in August 2017.

It is hard to tell from the prospectus, but it looks as though existing shareholders may not have invested much $$ in the company at all.

So Trimantium Growthops was only incorporated 5mths ago, major shareholders did a bit of work preparing for IPO (~$5.1m in costs, which will be refunded), convinced a bunch of investors to hand over $70m, buy a bunch of businesses, and hey presto, now the whole company is worth $150m and the original shareholders of TGO are worth $37m on paper.

I may be missing something, but I really don’t like the way that this looks.

To my mind this also raises the question of whether a $150m market capitalisation is justified, if the businesses can be acquired for less than $70m. It appears as though TGO is attempting a private-public multiple arbitrage + roll-up business, only this one looks riskier than most.

As a result, my opinion is that Trimantium Growthops appears overpriced and risky, and I will be avoiding it.

I have no financial interest in Trimantium Growthops, any related company, or any company providing services to it (e.g. its broker). I will not be taking a position during or after the IPO. I own shares in Oliver’s Real Foods. This is a disclosure and not a recommendation.

**edit**  Unbeknownst to me, my work was lucky enough to feature in specialist media outlet Mumbrella’s coverage of the Trimantium IPO. If this is something you are interested in, Mumbrella fills in a lot of background info – and if you look closely, you can see me in there.