OneSoft Solutions (cve: OSS)

I’vs had some shares of OneSoft for a few years. I thought it was a good idea to put down some of my thoughts on the company to instigate conversation. This is not a typical investment for me as this was pre-profit when I purchased shares and always trades at a expensive TTM revenue multiple.

I think it makes sense to stop and appreciate something this company does. The company probably has the best MD&A of any microcap that I have come across. Each quarter they go into very deep detail on how the quarter went and what they are working on.

Since purchasing shares, I’ve been able to witness the company hit a few major milestones and pivot a few times.

  • reaching commercialization of their product
  • partnering with a large US pipeline company to adapt their internal integrity management to CIM
  • continuing to expand the functionality of CIM with additional modules that are high value for customers
  • raise capital to fund growth initiatives at opportune times
  • pivot their sales strategy from a fixed fee per mile of pipe to a consumption based model that is easier for customers doing project based work
  • get to ebitda breakeven (tbd if it is for the full year)

Valuations

 

As you can see, not cheap. 10x forward sales is super expensive.

Business Background (pasted from AIF)

OneSoft Solutions Inc. is a provider of software solutions for select markets, all of which are built using Microsoft’s Cloud technologies. Its mission is to acquire, manage and build next-generation software businesses that will provide specialized, mission-critical cloud-based software solutions to address customer needs. OneSoft develops software technology and products that have the capability to transition legacy, on premise licensed software applications to  operate on the Microsoft Cloud using Microsoft Business Intelligence software (“Microsoft BI”) and Microsoft Azure Data Sciences functionality including Machine Learning and Predictive Analytics. OneSoft’s business strategy is to seek opportunities to convert legacy business software applications that are historically cumbersome to deploy and costly to operate, to a more cost-efficient subscription-based business model utilizing the Microsoft Cloud platform and services, with accessibility through any internet capable device.

Their Product (pasted from AIF)

Cognitive Integrity Management (“CIM”) is a software-as-a-service (“SaaS”) application that uses the Microsoft Azure Cloud Platform and services including machine learning (“ML”), predictive analytics, business intelligence reporting and other data science components to assist pipeline companies to prevent pipeline failures. Fees charged to access and use the software are variable and dependent on key metrics such as the miles of pipeline data analyzed, number and type of pipeline assessments ingested, Azure usage costs and the functionality that clients choose to use.
CIM features revolutionary Pattern Detection and Interacting Threats algorithms to detect and report on threats to the pipeline’s integrity. CIM was designed to ingest inline inspection (“ILI”) pipeline data using a simple “drag and drop” routine after which the data is normalized, anomalies are aligned to prior ILI data sets, and predictive analytics calculates anomaly growth rates, resulting in detection of threats to pipelines. CIM provides advanced business intelligence, intuitive graphical presentations, dashboard reporting and natural data query language capability that enables operators to manage their pipeline infrastructure with more efficiency than legacy systems and processes that do not utilize cloud computing.

Opportunity

As you know, pipeline failures are costly and bring a lot of bad press.

They specifically add value to the customer by:

  • reducing the staffing required to analyze pipeline cell wall anomalies, which is usually done by a team of engineers
  • increase the predictability of potential cell wall degradation
  • reduce unnecessary costs from digging up pipe that doesn’t need to be dug up
  • reduces the time to analyze the ILI data (from weeks/months to hours/days)
  • increase the effectiveness of a company’s repair work
  • most important from a regulatory standpoint; help companies identify high risk anomalies that will lead to pipeline failure
  • can give smaller companies a cost effective way to analyze ILI data if they don’t have the internal resources to hire engineers to look at the data

There is about 600,000 miles of pipe that gets “pigged” and has ILI data. This is the initial target for OneSoft. There are another 2.7 mil miles of pipe that doesn’t get “pigged”. They are currently adapting their platform to be able to handle non-pigged pipe in the future.

The largest hurdle so far is getting customers to buy into going to software performing the work of in house engineers. They industry is not known for being innovative with predicting failures.

Management has estimated that ARR (annual recurring revenue) will double the year. That means that we should see 5.4 mil ARR in 2020.

The company went through a Microsoft Accelerator program in 2016 to help bring the technology to market quickly. It sounds like they are a few years ahead of any potential competitors and management has made it clear that they will continue ton invest in the platform to stay ahead of any competitors.

Future Opportunities

The company has recently set up an internal innovations lab. The lab will be focused on growing their TAM and increase (or at least maintain) the head start they have on competitors. I think this speaks to their focus on growing the business, but doing it in an intelligent manner. It doesn’t seem like unabashed top line growth for the sake of growth. As the company has grown, some resources that were designed for development were likely borrowed to help operations onboard new clients. The innovation lab should minimize or eliminate that form happening.

Current opportunities identified by management:

  • working with ILI tool vendors to automate some manual tasks
  • Collaborate with parties to see if there are specialized engineering knowledge to integrate into CIM
  • Explore integration of additional data sets
  • Investigate new industries (water and sewer have been identified)

Covid-19

The company has been doing the work from home thing for years, so there are no real risks to operations. There is the obvious economic risk from covid, but they are somewhat insulated being focused initially on mid-stream pipe. The biggest impact so far has probably been a slowdown in sales and perspective customer trials.

There are some potential positives as the work from home movement continues and the need for a cloud based solution like OneSoft’s CIM is desired.

Risks (I’ll let you judge the likelihood of each)

  • the regulation push from PHIMSA could be delayed or eliminated
  • sales may take way longer than anticipated and share price could see a multiple contraction
  • new competitor could emerge
  • they could continue to develop new solutions and be unable to market them

Tangible Milestones

I like to think in terms of tangible milestones for a company like OSS. Given that they are focused on growing the business, I think traditional profitability focused metrics do not apply in the near term. Here are some milestones I’ve identified over the next 9-36 months that I think are possible.

  • continue to see top line growth 50%+ yoy
  • obtain revenue from non-piggable pipe
  • enter new vertical(s)
  • derive revenue from their Canadian partnership with Worley Parsons
  • expand internationally by partnering with someone

Conclusion

I think of an investment in OneSoft as an asymmetrical risk/reward. There are many risks with a company this size that is pre-profit. Having said that, this company: has a large current and future TAM, is shareholder accessible and customer focused.

I believe I can manage the risks with an extended timeframe (2-3 years) and position sizing.

What do you think of OneSoft? What are you favorite SaaS companies?

 

 

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Corby Spirit and Wine Limited (tse: CSW-A & CSW-B)

As I continue on my full time investor journey, I have decided to start working toward having more passive income. I think it makes sense to dedicate a portion of my portfolio toward dividend paying companies. The goal would be to have 50% of my living expenses coming from dividends as well as having several months of living expenses set aside. I’ve been working through a list of small and microcap dividend paying companies that I think warrant further investigation. I like to stick to small companies because I have a tough time getting comfortable with large complex businesses.

Enter Corby Spirit and Wine

Chart courtesy of TIKR. Check them out here https://app.tikr.com/register?ref=smob7c

Quick Notes

  • Slow and consistent top line growth with strong brands
  • Consistent profitability
  • The company has a conservative balance sheet and runs a net cash position
  • Dual class share structure (A – voting, B – non-voting)
    • 24 mil A shares, 4 mil B shares
  • B class shares trade at slight discount
  • They pay a consistent dividend of 5.5% (for the B class shares)
  • 90% of revenue comes from Canada

Covid-19

I’m not going to spend a bunch of time going over the risks with this business and Covid-19. First of all, the business is pretty much recession resistant. Second of all, I have no idea how the whole Covid thing plays out. They have the balance sheet to survive and any hit to earnings should be viewed as temporary in my opionion.

They actually switched some production capacity to produce hand sanitizer.

Business Background

From their website:

Corby Spirit and Wine Limited is a leading Canadian manufacturer, marketer and distributor of spirits and imported wines. Corby’s portfolio of owned-brands includes some of the most renowned brands in Canada, including J.P. Wiser’s®, Lot 40®, and Pike Creek® Canadian whiskies, Lamb’s® rum, Polar Ice® vodka and McGuinness® liqueurs, as well as the Ungava® gin, Cabot Trail® maple-based liqueurs and Chic Choc® spiced rum and Foreign Affair® wines. Through its affiliation with Pernod Ricard S.A., a global leader in the spirits and wine industry, Corby also represents leading international brands such as ABSOLUT® vodka, Chivas Regal®, The Glenlivet® and Ballantine’s® Scotch whiskies, Jameson® Irish whiskey, Beefeater® gin, Malibu® rum, Kahlúa® liqueur, Mumm® champagne, and Jacob’s Creek®, Wyndham Estate®, Stoneleigh®, Campo Viejo®, and Kenwood® wines.

The Corporation’s activities are comprised of the distribution of owned and represented spirits, liqueurs and imported wines. More specifically, 80% of Corby’s revenue is derived from sales of the Corporation’s owned spirit brands, while commissions earned from the sale of represented brands totaled 18% in 2019. The Corporation also supplements these primary sources of revenue with other ancillary activities incidental to its core business, such as logistics fees and miscellaneous bulk whisky sales to rebalance its maturation inventories

Many of the brands I recognize, some I don’t.

Business Performance

As mentioned, this is not a high growth company. This is a (slow and) steady grower with seasonality, but consistent annual margins.

 

Consistent top line growth from the trough in 2015 and consistent margins as well.

The company has been able to earn a good return on the existing brands of the business.

Honestly, I think it’s worth taking a moment to appreciate that the company hasn’t done anything foolish with the business. They seem focused on consistent ROIC over low quality growth at any cost. It’s not sexy, but it’s appreciated.

Valuation

For the valuation, I’m using the price of the B class shares.

Not mind blowing cheap, but not overly expensive. Given the equity-bond nature of the business, one could make the case that this should trade at a higher valuation should be higher. One could also make the case that given the slow growth of the business, shares should trade at a cheaper valuation.

Management, Ownership & Board

The current CEO (Patrick O’Driscoll) will be retiring in June this year and a new CEO from outside the business has been announced. I always find it interesting when an established company hires from outside the business for a C-suite position.

Compensation for the CEO position has averaged 1.5mil for the last 3 years. The company lists a fair amount of senior leaders in the management information circular. Here is what compensation looks like as a percentage of the income statement and cash flow.

The CFO (Edward Mayle) has been with the business for about 1.5 years.

No one from the executive owns a large amount of shares. The CEO (leaving in June) owns about 1/5th of his annual comp in common shares.

A subsidiary of Pernod Ricard (HWSL) owns over 50% of the A shares and essentially controls voting decisions for the company. Pernod Ricard is considered Corby’s parent. So far, this seems like a symbiotic relationship as Corby sources over 90% of spirits from them in Ontario, while Corby outsources various admin to the parent. They have a supply agreement with HWSL for another 6 years.

From AIF:

Corby engages in a significant number of transactions with its parent company, its ultimate parent and various affiliates. Specifically, Corby renders services to its parent company, its ultimate parent, and
affiliates for the marketing and sale of beverage alcohol products in Canada. Furthermore, Corby outsources the large majority of its distilling, maturing, storing, blending, bottling and related production
activities to its parent company. A significant portion of Corby’s bookkeeping, recordkeeping services, data processing and other administrative services are also outsourced to its parent company. All of these
transactions are in the normal course of operations and are measured at the exchange amount, which is the amount of consideration established and agreed to by the related parties. Transactions with the
parent company, ultimate parent and affiliates are subject to Corby’s related party transaction policy, which requires such transactions to undergo an extensive review and receive approval from an Independent Committee of the Board of Directors.

Some Risks

  • Even if you purchase the A shares, HWSL controls the votes for this business
  • New CEO coming on may take the business in a direction that isn’t conducive with generating wealth for stakeholders
  • Executive team does not own many common shares
  • Intertwinement with HWSL is deep and would be disruptive to the business if that changed

Closing

Given that HWSL owns the majority of the A shares, I would purchase the B shares to get a slightly higher dividend.

What do you think of Corby? And what are you favorite dividend paying companies in Canada?

I don’t own shares in Corby, but may initiate a position soon.

 

Dean

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Bri-Chem $BRY.to

I mentioned Bri-Chem a long time ago in this post on net-nets. At the end of the day the majority of the assets (inventory) on the balance sheet were over-stated.

Fast forward to 2019 and Bri-Chem has been hit hard. The share price has fallen 65% over the last year and now trades at 0.33x net-net. It should be noted that they are ebitda positive over the previous 12 months. The market cap is under $3mil CAD and EV is just under $40mil CAD. So debt is the major concern here.

This time is different

Given that the basis of my valuation is price to net-net, it’s important to understand the different moving pieces to their working capital.

The balance sheet assets consist mainly of accounts receivable and inventory, (this is a fluid distributor after all). Other than debt, the largest liability is accounts payable. Given that this is a distribution business (and extremely cyclical) I like using the cash conversion cycle as an leading indicator for a potential write-down. As you can see below the CCC has remained stable throughout the last 2 years.

I spoke with the CFO has led me to believe that the inventory value that is stated is accurate (or at least accurate enough to avoid a write-down). He mentioned how they have been working really hard through the down-turn to move the right product to the right location and that they have never analyzed inventory to this degree before. Since Bri-Chem uses debt to fund working capital (primarily inventory), their lender (TD) will be looking closely for inventory turns and an accurately stated inventory on the balance sheet.

Working Capital And Debt

You can see the working capital fluctuate through the last 12 years.

You can see the debt levels fluctuate with inventory. This was stated as their strategy at the AGM.

One should not expect debt levels to drop materially from here. If anything the debt levels will increase as activity returns to more normalized levels.

One can see that as equity, tangible book and net-net values rise with business activity.

Summing it up

Bri-Chem has been left for dead. There is no appetite for this type of company in today’s market. There isn’t a major competitive advantage, it’s a cyclical industry, there are political headwinds, the market believes we are awash in oil, it’s illiquid, management owns only about 5%, and so forth.

But it trades cheap, it has a resourceful management team and it is not bleeding cash. I think there is substaintially more upside than downside.

Given how debt heavy this company is and that they can do very little to control the demand of their product, I am going to limit my position size to about half of the other energy services company’s that I own.

Thanks,

Dean

Disclosure: The author is long $BRY.to at time of writing.

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High Arctic Energy Services $HWO.to

This isn’t my first go around with High Arctic. See here.

Background

This idea is quite simple. A number of years ago High Arctic was an early mover in PNG. They built strong industry connections and have benefited from having above average utilization and profitability for a company in their industry. They have used the cash that has been built up to purchase assets in distress. Here is a brief summary of activity since the downturn in 2016

  • In 2016, they purchased assets on the cheap from Tervita for $42.8mil. This is the Concord Well Servicing assets.
  • They also invested in their rental fleet in 2016 to the tune of about $10mil.
  • In 2017,  they entered into an agreement with a major PNG customer for ownership of some rigs in PNG. They will operate the rigs under a 3 year exclusive agreement. This will give them better revenue visibility for 2 of the rigs in PNG.
  • In 2018 they acquired the shares of Power Energy Holdings (Powerstroke assets).
  • Bought Saddle Well Services in August 2018, increasing exposure to southeast Alberta.
  • In April 2019, they announced that they have purchased snubbing assets from Precision Drilling for $8.25mil.

As you can see this is a much larger company than it was a few years ago. Their discipline with the balance sheet has allowed them to purchase assets and grow their customer base in the midst of a downturn. The company has done everything in their control to survive and be a bigger company once activity returns. On the Q1 2019 call, they indicated that activity in Q2 was better than expected.

Chart Dump

Since this post was short, here are some charts.

*net cash doesn’t include the acquisition of the Precision Drilling assets for $8.25mil

Summary

Similar to my other energy ideas. This is really a bet on business activity returning coupled with investor sentiment. There is also a 5.8% dividend yield as well. Current valuation is about 4x EV/EBITDA and I am betting that the EBITDA is temporarily depressed.

 

Thanks,

Dean

Disclosure: the author is long shares of HWO.to at time of writing.

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McCoy Global $MCB.to

Continuing from the post where I said I was sniffing around the energy services names I took a look at McCoy Global. I’m no stranger to McCoy and owned it a few times in the past. The most recent post is from early 2012. I ended up selling in mid 2013 and early 2014.

Background

McCoy is a leader in threaded connections in well casings. They have exposure to onshore and offshore markets. Despite listing in Toronto, they do most of their business internationally.  About 5% of their revenue is derived from the WCSB.

McCoy has worked to remove the high cost manufacturing form their book of business, they outsource as much as possible now. Focusing on supply chain as they have become a global business has been a priority; especially given their size, their geographical exposure and large business customer base.

Current State

Their current backlog was only 9.9mil in Q1 2019, down from 15mil at the end of 2018. 7.2 mil of orders came in April 2019 and this gives confidence that they will survive this lean environment. Their top line has bounced back somewhat after the lows in 2016, but is very far below previous cycle peaks. As you can see McCoy has done what they can to control opex costs.

Valuation

At $0.63 (from a few weeks ago) McCoy has a market cap of just over $17mil and an EV of $12mil. See the valuations below.

Management compensation is reasonable and the board owns 3%. It could be better, but I’ve definitely seen worse in O&G. Several large institutions own significant stakes in McCoy.

McCoy has also continued to invest in R&D and building a suite of products that uses data to ensure the best possible connection and monitoring for the customer. I’m expecting a couple new products by the end of 2019.

Given the ever increasing well complexity (which lend well to McCoy’s products), diverse geographical exposure, off-the-grid size of the business and modest valuation; I feel that McCoy has substantially more upside than downside.

Are you finding any value out there?

 

Thanks,

Dean

Disclosure: the author is long MCB.to at time of writing.

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Buy when there’s blood in the streets? O&G edition

So many investors pride themselves on being a contrarian. I’m not really interested in labels, but I do like to increase my net worth.

Oil and gas has been out of favor for years now. Back in 2015 $WTIC was over $100, it bottomed in early 2016 around $30 and today it sits around $55. There are numerous reasons, many of them I’m not very versed in.

Activity in my backyard here in Alberta has been particularly hit hard. You can see the number of active rigs in Alberta below.

Western Canadian Select has been under pressure with the broader market and the difference between West Texas Intermediate and Western Canadian Select was growing until the mandatory production curtailments. The curtailments are in response to the inability for our oil to reach international markets given pipeline capacity constraints. You can get some more information here on the curtailments.

With so much negativity around oil and gas companies in today’s market I have decided to take another look. I’ve been down this road before.  I’m taking a top down approach, with some specific criteria in mind to lower my risk. I believe that we need at least stability in the oil and gas market in order for these trades to be profitable. We may not need significantly higher oil/gas prices, but I will need sentiment to change. I don’t expect all my picks to be winners, but I do expect this to be a reasonable way to deploy capital and generate above average returns.

As usual, I chose the oil and gas services/support companies. I like the indirect play on oil and gas activity and these small names seem to be delayed in sentiment which allows me to do research and build a position before shares move higher. I’ll do a quick post on each of the companies I have taken a position in. It may take several weeks or months to scale into each position. Stay Tuned.

Let me know if you have any companies you’d like me to take a look at related to O&G.

 

Thanks,

Dean

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Sold Caldwell (tse:cwl, $cwl.to)

I sold my smallish position in Caldwell. The stock has done quite well given the recent volatility in the market. I would like to put the money to work in some names that have been beaten up.

I would like if they did something with the cash on the balance sheet. Maybe they will as soon as I sell my shares. Who knows. If you look at the cash balance relative to the top line, you can see that it hasn’t moved much in 6 or 7 years despite the cash balance rising.

I am critical on management team’s for carrying too much cash on the balance sheet when they have some visibility into the business. When their company or their particular sector is under pressure, I’m less critical of their use of cash.

 

Thanks,

Dean

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