Gresham House Strategic PLC (LON:GHS) Managing Director Graham Bird caught up with DirectorsTalk to discuss their strategy and how it differs from other small company fund managers, what kind of investors they are, IMImobile and why the large weighting and talks through some of their investments
Q1: What is your strategic public equity investment strategy and how is it different to other smaller company fund managers?
A1: We take a very strategic approach to our investment and unlike a lot of smaller company managers we have a very focussed portfolio, we regard ourselves more as private equity investors looking at the smaller end of the market, typically sub £100 million, and we’re really looking for opportunities in s space where we see significant inefficiency in the market and as a result of that we see a lot of opportunity. So we see ourselves different in that respect, that we are very focussed, we’ve become very engaged with the companies that we invest in, we see a lot of these smaller companies overlooked, they’re under-advised, they’re under-researched and often can benefit from the help of a supportive and strategic investor who can bring some of the benefits that you might see from a private equity investor but often as a small cap public company you don’t get. So certainly if you ask me ‘how do we differentiate ourselves’ I’d say the bits that we do very well are:
Number one, the depth of research that we do on each of the companies in which we invest. Clearly, as I mentioned, with little public research available one needs to do a lot of your own research and indeed we take that approach. We often engage third parties to do research on our behalf, we certainly make use of industry reports and those sorts of things where we can but we’re doing a lot of work ourselves based on publically available information. We’re talking to other investors, we’re talking to suppliers, we’re talking to customers and we use a network of people in industry who can make introductions into the sectors in which we are investing, some of those in private equity have their sort of industrial panels and advisory boards, we maintain a similar type of network. So I would start by saying our differentiation stems largely from our starting point which is the research and the depth of understanding which we try to create on each of the investments.
Having done all of that we engage very closely with the management, we’re looking to support them, we’re looking to find good management teams with good ideas with a plan to grow their businesses and identify what the key milestones along that journey are and then how we can help management teams and companies achieve those milestones.
So that’s really our strategy, thorough research, high conviction and then active engagement with management to help them achieve the potential of the companies that we invest in. We’re looking to invest over a 3-5 year period and very much monitoring the progress along the way and whether those milestones are being achieved and where we can identify catalysts to help those milestones along the way that’s when we’re looking to pull the levers to move companies forward. So hopefully that gives you a clear idea, as I said we see ourselves more as private equity investors in the public markets and adopt that sort of approach to things.
Q2: So why is now a good time to be adopting this highly engaged small cap value strategy?
A2: I think that’s a good question. Personally I think there’s a very compelling opportunity at the moment, I think it’s fairly commonly stated that if you look around the average valuations on equity markets at the moment is quite high, relative to historic norm certainly on a PE ratio basis, and that often begs the question as to why would you be putting money in now. Well actually, within those valuations you’ll see that there’s quite a wide dispersion and indeed over the long term if you look at the performance of companies with value characteristics versus companies with growth characteristics you’ll see that over the longer term it’s always been true that value has outperformed growth with 2 notable exceptions; one was just post the dot.com boom and more recently, the last 4 years, has been a period where companies which could be defined as growth or high valuations have outperformed partly that’s, I believe, due to all the money’s that’s come in through quantitative easing. If you take a slightly contrarian view you would expect that over time the trend may well reverse itself, we tend the look at companies through a value perspective and focus on cash flow and fundamental ratios that we believe ultimately come through so that’s the first point, that the markets are in a slightly anomalous position.
The second point is that if you look again since the great crash in 2008 corporate profit margins have actually improved, they’re longer term averages are at the top end of those ranges, valuations are at the top end of those ranges and yet when we look forward we see muted international growth or certainly slowing international growth.
So the big question is ‘what is going to drive equity markets forward’? I think focussing on a strategy which can identify companies which are under-valued; so coming back to the point about this dispersion in values where whilst on average the markets are highly valued, within that you find pockets of value, and looking in the smaller cap end where there are inefficiencies, those under-valued companies are more plentiful with a focussed and dedicated team looking and doing the research on those you can identify some really really interesting investment opportunities. So I think over the next few years a focussed strategy, one that can identify those pockets of value and one that drives the value and engages with the companies, is one which has significant potential to outperform so hopefully, certainly, that’s where I’m putting my money.
Q3: So do you consider yourselves activist investors? Would you liken Gresham House Strategic to Crystal Amber or North Atlantic?
A3: I would describe ourselves as small cap private equity style investors rather than activist but a lot of people ask that question. Look to be honest, if in 20 years’ time I can look back on a career and a performance record of someone like Chris Mills has been able to I’d be very proud of myself. In some ways we do see ourselves as similar but certainly our approach is to work collaboratively with management, cooperatively with management teams, and identifying teams that want to grow their businesses and then hoe we can support those. We’re probably less inclined to be involved in overtly hostile situations which certainly Crystal Amber has got a little bit of reputation of being involved in some of those albeit that in most cases I think they come up with very good ideas and often management teams in companies will go along with that but they are more prepared to force the issue, if I can use that phrase whereas we would be less inclined to do that.
We’re really looking to support companies through a number of different ways, the first and the most obvious is access to capital and I see a gap has really opened up in the market there particularly for companies sun £100-150 million. We’re increasing the institutional investors moving up the market cap scale and some respects forced to do so by the regulations, greater capital requirements and regulatory capital requirements are required for smaller cap funds, they’re regarded less appropriate for the average retail investor as they’re regarded as high risk which I personally think is, in some cases, the wrong way of looking at it but that’s the way the regulations have moved. So it’s harder for smaller companies to access that capital and we’re providing for a gap in the market where we can provide growth and development capital and in some cases recovery capital into that sector of the market.
So coming back to how we support the management teams and this is a positive synergy that we see with our involvement, first as I say access to capital the second is around engagement on strategy and developing that 3-5 year plan, the third is that we can facilitate that through the introduction of people who are on our advisory boards and our panel and they can either come in as non-executive directors or often just become people with whom the management teams of these small companies can have a conversation and gain introductions to other customer, suppliers or other industry participants.
The fourth area we get involved in the communications with the markets and help companies position themselves, tell the story better, gain a better understanding of how the market is perceiving them and we do that alongside the company’s brokers and that’s has often proved very very valuable and something which our companies enjoy.
Finally, although we don’t have control of the underlying companies we do like to offer facilitation in certain areas of operational management. So like a lot of private equity houses that have a value-enhancement team or a team that can go in and provide almost a consulting type service to the companies, focussed on perhaps improving the sales process or improving the KPI’s or the financial reporting or just helping these smaller companies become bigger companies, we have people that we can introduce to our investees to help them through that process.
So coming back to the question, no I don’t think we are activist in the sense of what most people think of as active investors, we are really constructive engaged investors looking to help teams that we back.
Q4: Now you hold a large weighting in IMImobile PLC, why are you so positive on this company?
A4: You would find it surprising if I didn’t say, I have a high conviction in IMImobile PLC (LON:IMO), I think they’ve got a very strong management team, Jay Patel who’s the CEO has a very clear vision of where he’s taking the business. Importantly, I think it’s a very attractive sector, there are some strong macro drivers which are behind the company and give it a very strong following wind.
The results that came out recently I think really highlighted four things, the first is that the underlying performance of the business, both operationally and financially, has been very strong. Revenue was up 29% and importantly that included strong organic growth in all regions which is encouraging to see, EBITDA was up 17% and cash conversion was very high so the conversion into operating cash flow was more than 100% of EBITDA. The business has a strong balance sheet with over £18 million of cash, they’ve got sustained healthy margins coming through and over 94% of their gross profit is now represented from recurring revenue so ticking a lot of boxes around the types of companies that we like and believe have sustainable long term value.
The second point is that the management strategy is clearly now beginning to deliver and we’re seeing signs of that so for example there was strong performance from 2 recent acquisitions, Textlocal and Archer Digital. Textlocal is now rolling out into India very successfully, you’ve got Archer Digital, which is a South African business, which is starting to cross-sell a number of other IMI products so starting to deliver that synergistic growth that you can see coming through. They’ve won a second major telecoms client in the US and that’s on the back of a relatively modest US investment so we’re starting to see that strategy of growing into new regions also coming through.
I think probably most importantly as the product strategy, this is an IT business, a technology business so investment in new technology is really important and we’re seeing success in their new products such as IMIChat really starting to deliver. Aside all of that they also as a business that came to market a couple of years ago it really is now growing up into what is a quoted and listed business, it’s much more international than it was when it came to market, North America and Western Europe now represent about 55% of revenue. We’re seeing with new analyst coverage and a new broker, the research and the way in which the company’s being positioned has improved and we’ve also seen some improvement in corporate governance with the UK market like the Independent Chairman which was appointed earlier this year is a step in that direction. There’s also been some soundings around the cash to enhance shareholder value so we had a comment around whether they might use some of that cash for share buybacks and/or potentially a dividend in the future.
So I can see a number of levers that Jay can pull, he’s doing the right things around positioning the business and the performance is coming through and, as I started saying at the beginning, the business is really supported by a positive macro environment, the outlook is very positive for this sector they’re in. I think the short term headwinds companies face some headwinds along the way, it has become more international which means it’s got a mix of currency exposures, indeed we’ve seen some of those coming to bare in the emerging markets but underlying all of that is a very strong story about growth and improvement in the quality of earnings.
Q5: Can you provide us an update on Gresham House Strategic’s investments in Northbridge Industrial Services Plc, Miton Group plc, Be Heard Group PLC and SpaceandPeople Plc?
A5: Yes, I’ll try and keep it brief. I’m quite passionate about most of these investments and there are good reasons in all of them as to why we’ve invested. Quarto Group Inc (LON:QRT) is a leading global illustrated book publisher and distribution business, they’ve produced very strong interim results in July and followed up with a trading statement just recently, really coming through there the thesis is about growth through acquisitions and being able to leverage the platform that Marcus Leaver has created very successfully. That’s starting to come through, the performance of Ivy Press, which was an acquisition made earlier last year, that’s produced fantastic results in its first year of ownership and subsequent to that there’s been another acquisition, Beckerandmeyer, and we see similar opportunity there, at the same time the cash generation is good and that they’re paying down debt so the thesis is coming through nicely.
Northbridge Industrial Services Plc (LON:NBI) is an industrial services business. It rents specialised industrial equipment and sells specialised industrial equipment, it has exposure into the oil and gas sector so I think they’ve still got a bit of a headwind until we see a turn in that market but the business has positioned itself very well. We’ve got in at, what I believe, a very attractive price, it’s net asset value per share is in excess of £1.20, round about £1.30 by my calculations and the share price is trading below that and yet over history this business has produced exceptional return on capitals. So as the recovery comes through I think the business is well positioned to take advantage of that, Eric Hook who’s the Chief Executive has done a good job of pulling out cost so the business is now lean and very operationally geared towards the upside when that recovery comes.
Be Heard Group PLC (LON:BHRD) is a consolidation story, this is headed by Peter Scott who is a well-known marketing and advertising industry veteran, he is looking to create a digital only marketing services business. They have made 2 acquisitions to date, the results which came out in late September were pleasing in that they had evidence of the early signs of success of that strategy. The first acquisition, Agenda 21, has performed well, we understand that they’re going to hit their maximum earn-out earlier than originally scheduled so that says to me that the business is performing very well and possibly ahead of plan. MMT Digital, which is the second acquisition that they made, relatively new still but that has been performing well too and I think encouragingly what we’ve seen is 2 or 3 contract wins which have been won as a result of cross-referrals between those 2 companies so the network effect, early days, but network effect is starting to come through. At the same time, with the 2 acquisitions, the Group as a whole is now cash positive and is therefore able to start re-investing that cash into its next round of acquisitions of which there is a good pipeline.
So another one that I think is very well position is Miton. Miton Group plc (LON:MGR) is, many people will know, a small asset manager. Really the story here is about improving the return on capital and margins within the business and that comes off the operational improvement that’s been put through the business in the last couple of years creating a scalable platform onto which new products can be launched and one which will benefit from a growth in assets under management (AUM) as you get the operational gearing coming through. The business did suffer a bit of a setback earlier on in the year, in April they lost 2 well-known and high profile fund managers which led to an outflow of assets in May/June but pleasingly in the September results it became evident that in fact the assets under management began to grow again, in fact the total AUM at the end of September now exceeds what it was at the end of December last year. So it certainly feels like we’re through that dip and coming out the other side with the company sitting on significant cash balance which they can use to enhance shareholders returns in the coming months either through enhanced dividends or potentially through buying shares back or investing in other areas of growth. So I think it’s well positioned, I think the market is beginning to realise that the management strategy is coming through and hopefully we’re going to see that recognition.
The last one I think worth just saying something on is SpaceandPeople Plc (LON:SAL), it’s a small investment that we have, it’s had a much more difficult time more recently. It’s a business which basically provides space, it administers and sells space in high footfall areas such as shopping centres, city centres, retail parks, travel hubs, that sort of thing so matching brands and retailers to the footfall in the destinations which suit their purposes, very much catering into the experiential marketing and pop-up retail, 2 things that are quite prominent. They have had a bit of a headwind, they expanded into Europe a couple of years ago, had quite a successful German business for a while but it recently lost a big contract and they’ve really not been able to regain the traction in Germany which I think they had hoped that they might do so that’s been slower than expected. They had a joint venture called S&P Plus which unfortunately they have decided to terminate and that was expected to contribute in the current year but unfortunately on this closure will lead to a loss so that’s lead to a downgrade in EPS. Underlying all of that they’ve got a very good position in the UK, they’ve won some good contracts in the UK and I think if the management team can focus on what they’re very good at in the UK, that recovery will come. There’s a great potential to recover a lot of the value that at the moment has been lost as a result of the fall in the share price so we’re working closely with the management team to ensure that that focus is there.
