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Decision Journal

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galumay:
Resulting is a really important thing to look for in assessing decisions,

Resulting is using the outcome quality to directly derive decision quality.

So if share A goes up a lot, its because we made a good decision.

If share B goes down a lot, its because we made a bad decision.

We need to access 2nd level thinking and assess the outcome and its correlation to the decision.

So why did share A go up? Was it because the market rose as a whole, causing multiple expansion and growth in SP that had no relationship to our original thesis, therefore it didnt go up because we made a good decision.

Alternatively, why did share B go down, if it went down because we were incorrect about our view of the future in terms of revenue growth, earnings, and return on invested capital, then it WAS because we made a bad decision.

Humans tend to use resulting asymmetrically - things that went well we attribute to good decision making (resulting), and things that go badly we tend to say were bad luck. (not resulting). Of course if we are assessing what happened to others its the opposite!

galumay:
Made a snap decision on Friday afternoon to add a large topup to our position in LBL, this was based on a late announcement to market that they had secured another technology service agreement,


I spent a short of amount of time looking at my average cost price and considering the implications for the bottom line on the business, I noticed there had been no reaction in the share price to the news, so I assumed very few had noticed the news late on a Friday afternoon. I considered this to be one of those cases where it was better to make a snap decision rather than spending too long analysing it, (and writing a decision analysis here).

In hindsight it was probably a mistake, the share price has risen over 20% in the last couple of weeks on no news, partly I believe due to a pumping campaign by serial pumpers, Motley Fool, but looking back maybe a fair bit of it was anticipation of this deal closing. I may well have ended up still deciding to buy more, but it would have been a more informed decision.

It makes LBL our biggest position other than AAPL, the average cost is only 45c so the last parcel at 81c still looks like a reasonable decision, just not sensible to avoid the written decision analysis unless the situation is totally compelling.

Next day & its up 2.5% from my purchase price y'day. Didnt pop until after lunch so I had time to do better due diligence.

3 days later and its up 10% to 90c, perhaps this somewhat vindicates the fast and definitive decision making?

galumay:
Made a snap decision today to increase our position in Paradigm, (PAR), it announced that the FDA had replied to the answers they gave to the 6 supplementary questions the FDA had asked prior to approving Phase 3 trials. The FDA were still not happy with one of the 6 questions and wanted further details and changes. None of this seemed onerous to my reading, nor could I see it impacting on the timeline to completion of Phase 3 trials to any significant amount. Yet the market obviously had enough waiting and lost interest, or read it much more negatively than me as it was down over 8% when i picked up another parcel. It finished the day down over 10% so perhaps I moved too early, but happy to build the position at that price as I believe its now a de-risked speculation from our initial entry at $1.50 so at $2 I was happy to add.

galumay:
My perusal of the recent season of 4C's has left me with only 2 businesses that might be investible, RLG and ACU.

RLG, RooLife Group Limited, together with its subsidiaries, provides integrated digital marketing and customer acquisition services with a focus on driving online sales of products and services for its clients in Australia and China. Its online e-Commerce marketplaces assist businesses to sell directly to Chinese consumers and accept payment through the WeChat and Alipay mobile payments platforms. The company also offers e-commerce and cross-border, digital marketing, export, B2B distribution, travel and tourism, Daigou networks, and research and strategy services.

 FCF+ve, priced at $0.03 could do 0.04c FCF per share over the next 12 months, would give a valuation of round $0.05 so say upside of 80%. Risk is the FCF dries up and it goes back to loss making. Could be worth a punt leading into FY results.

Discovered those numbers are wrong, they have issued heaps more shares diluting everything by nearly 50% so not investible IMO

ACU, Acumentis Group Limited provides valuation, research, and advisory services in relation to property and businesses in Australia. The company offers residential property valuation, government, commercial property valuation, insurance valuation, rural and agribusiness, property advisory, quantity surveying, buyers agency, illicit substance screening, projects division, self-managed super funds property assessment, stamp duty assessment, family law and litigation, and homebuilder grant valuation services. It serves the private owner and investor, professional/SME, corporate, government, banking, finance, REIT, and development industries.

ACU was the subject of a significant cyber attack in 2019 that had a negative impact on the business, and I imagine its reputation with investors. I believe that is behind the business now, systems have been improved to prevent a repeat and the primary actor was arrested, (they were someone with internal access to the business systems.) The business is now generating strong FCF and has done for several quarters now, delivering full FY FCF. FCF yield is over 10% based on this year, and my quick & dirty IV is around 20c. The FY21 results have been released while I have been thinking about this business, and as expected the company reported a loss due to the impairments around a loss of a significant government contract. I am yet to quantify the impact on future cash flows of this loss of contract. The contract continued with extensions to the EOFY so there was no impact on FY21, ACU are just saying that revenue will increase overall in 2022 so no impact there. (of course there is an impact, revenue would have been even higher for 22 is they still had the contract.)

Its impossible to draw any conclusions at this stage about ROIIC as returns have been so lumpy with so many impairments, it could probably be normalised to give some sense, but given that FCF has also been lumpy its probably not going to add any conviction for me.

In conclusion it looks like a reasonable turnaround opportunity, its trading at a significant discount to my range of value, 12c v 20c, it doesnt look like its a business that is likely to have significant growth, and given its history there may be more stumbles along the way, but it could also see a consistent improvement, single digit growth and a rerate if it maintains FCF and can translate that into earnings.
 
PreMortem

There was a further cyberattack in 2022 and more big customers were lost causing further impairments and continued negative reported earnings. Price falls back to 8c

The business recovers but Management make a series of poor capital allocation decisions and FCF is reduced and earnings still negative price falls back to 8c

The business recovers, growth is very slow to negative due to a property crash in the Aus market, share price still around 12c

The business recovers, no more miss steps, single digit growth, EPS grows to around 2c per share as does FCF, share price 25c

Prie expectancy - 8c* 10% + 8c*10% + 12c*40% + 25c*40% = 16.4c

galumay:
KPG - Kelly Partners Group Holdings Limited provides chartered accounting and other professional services to private businesses and clients, owners, families, and high net worth individuals in Australia.

KPG is a business I have looked at a couple of times, the main stumbling block for me has been the debt - especially when considered as a proportion of equity - its basically 1:1 and that is way higher than I have ever considered in a business I am looking to invest in. Because I really like the metrics of the business otherwise and the culture of the business as expressed in the KPG "Owner's Manual" is as good as I have seen in any business, I have kept coming back to look at it. It also has a unique model for rollups, using debt not equity, and the acquired businesses retain 49% ownership so they retain skin in the game. I have finally got past the debt issue by talking with a friend online, Tristan Waine, I said,



"Hey Tristan,
I am doing some more work on KPG to see if I can find enough conviction to take a position. After your comment to me the other day I downloaded the owners manual and went thu the pages on debt, but I really struggle to understand it.

In my mind, its all debt that ultimately the parent company is potentially responsible for - hence its on the balance sheet, it massively exceeds my hard limit for debt to equity, but I remember you said I shouldn't use that metric for services businesses, it still looks like a lot of debt to me, and I really don't want to own businesses with anything but very minimal gearing!

I may have a blind spot on this, so thats why I am asking you to see if there is something I can learn here not just for KPG but also other companies I may research. Cheers, RIck"

Yeah no worries.

So first thing is that comment about 'ultinately the parent is responsible for' is just flat out wrong.

Partners have a 49% stake in their own partnerships and the vast majority of the debt they are responsible for. Not the parent

And the second thing is that you're viewing gearing on a debt/equity basis, this is a business that doesn't need much equity so it's just a flawed way of viewing gearing

Ultimately leverage is lower risk the easier it is to repay. And in this case, the parent attributable debt can be paid with a year of cash flows. Interest and principle

The interest coverage is some 20-30x

On my other metrics I really like the business, it has a fantastic ROIIC - mainly because its such a capital light business, the FCF yield is pretty decent at 7% despite the business being fully priced at around $4. I think its one of those businesses that I will never get an entry point if I wait for it to be cheap, its probably good enough that you just have to pay up a bit more and wait for the power of compounding to work its magic.

Premortem

KPG partner businesses lose a couple of their founders to Covid and the families want out of the businesses, KPG suffers significant write downs and cash expenses which both impact growth and profitability. The share price falls back to $2.50

Interest rates have risen sharply as inflation takes off, Covid continues to cause the collapse of many SME's, the interest costs impact profits and cash flows as does the loss in business revenue across the accounting sector. The share price falls back to around $2.50

KPG has grown revenue steadily in line with guidance, no significant additional acquisitions though so growth is on the lower end of expectations, share price has remained in the range of $4

KPG has grown revenue strongly, beating guidance, a number of new acquisitions were announced during the previous couple of years and share price has continued to grow to around $5.50 with FCF increasing to over 40c

So price expectation, $2.50*10% + $2.50*10% + $4 * 50% + $5.50*30% = $4.15 so only a slightly positive expectancy which reflects the fully valued nature of the current price.

9/08/21 I bought KPG today at $3.65 - over 8% down from its last close after releasing its 2021 results.

I think I made a mistake, what I failed to understand is that the ASX entity, KPG has to distribute half its profit/FCF to the partner businesses it owns 51% of, so in reality its only delivering half the return to shareholders. This makes all my calculations wrong and after spending most of today trying to understand how this all fits together I have to admit I dont have the slightest idea, the terms and metrics used by the company change all the time and its impossible to really distill out what value accrues to shareholders in the business.

At the moment my inclination is to sell straight away and escape from a position I should never have taken.

11/8/21 Sold at $3.50, I got this one wrong, the sudden drop in price on Monday led to an impetuous decision to take a position before I had finished my analysis. It was reading the Annual report after I had bought that made me aware of how I had completely missed the opaque nature of the financials, the effect of all the partners only being held as 51% interests, and I started to notice how promotional the founder was and in particular what grated with me was the claim of being Buffett like in his thinking and then seeing him use Owners Earnings in a way quite different to how Buffett uses it, and also seeing his claims for CAGR to shareholders - using the share price as a metric! The most un-Buffett like thing imaginable, nearly all of the "gains" are from multiple expansion - so its not Mr Kelly, but Mr Market who has given the return to shareholders!

Anyway, out at a small cost, a position that I would have had no conviction in and would have worried about - something I dont like doing!

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