Dear Investor,

 DMXASF’s NAV decreased 4.5% for the month of October, broadly in-line with the market with the ASX 200 Total Return Index declining 3.8% and the ASX Emerging Companies Index down 4.6%. We’d been propped up in prior months by takeover activity within the portfolio. October wasn’t as eventful in that respect, with (pleasingly) the Energy One takeover falling over and its stock falling 18% for the month, while Diverger (also pleasingly) rose 11% on the back of a competing acquisition proposal at a higher price.

Commentary

Along with a declining broad market, we suffered declines of 10% in Academies Australia, 14% in Earlypay, and 17% in Smartpay, all for no company specific reason, but perhaps on readthrough from listed comparables’ negative updates. SOCO Corp declined 16% following a softer-than-expected profit result and outlook, while Kip McGrath backslid, reversing its previous recovery with a 27% decline. None of these have led to any portfolio changes, and we remain comfortable with the prospects and value for each. Some bright spots helped mitigate some of the damage with some large gains in smaller holdings helping: Findi up 52%, DataDot up 33% and Schrole up 32% for the month. Frontier Digital has finally caught a bid on the back of reasonable quarterly numbers. The stock was up 7% for the month and has maintained that momentum into November. Finally, as mentioned above, Diverger was up 11% on encouraging developments on the corporate activity front.

The DMX Capital Partners report includes our updated thoughts on the Diverger corporate activity, with the emergence of a counter-bidder. It also includes an update on Sequoia which remains a key holding across both funds. This commentary is included in an Appendix to this report.

New Stock: Fiducian

A new holding for the fund is Fiducian Group. Fiducian is an Australian financial services provider with an integrated model including financial planning, funds management, and platform development & administration. The company was established in 1996 by its founder-CEO, Indy Singh, who retains a 35% ownership stake in the business and has led the business through its long and steady growth journey. The company has an excellent culture and Indy is supported by a long-serving executive bench. The company has grown both organically and through strategic bite-size acquisition. Acquisitions have expanded either its product offer and/or geographic reach, and these have been augmented by cross-sell and organic growth. Indy’s substantial shareholding which has been virtually unchanged for many years speaks to the effectiveness of its growth strategy which has been funded by earnings, despite paying a healthy dividend along the way.

Fiducian’s core revenue sources are 1) funds management fees; 2) financial advisory fees; and 3) platform administration fees. Philosophically, the funds management division employs a multi-manager approach whereby they seek to outperform over time through selection of superior individual managers, but ultimately they wish to spread underlying investments to minimise risk of material underperformance. This business being integrated with its financial advisory and third party platform business provides a strong and natural source of distribution for their diverse fund offerings. The upshot from this is we’ve seen steady and consistent performance for the business over many years despite volatility that may occur in markets from time to time. This is in contrast to purer-play funds management businesses which don’t own their own distribution and tend to suffer material outflows following periods of underperformance.

Over time, Fiducian has gone through both golden periods and times of softer conditions in line with major market movements. Its earnings power has moved around modestly over time, but a core level of profitability has been consistently maintained through the cycle. With modest volatility in business performance, the market – we believe – has swung from being too bullish to too bearish at various times. The company had a good run operationally with a step-change to its earnings profile in the mid-2010’s which saw its shares re-rated to fuller (and we’d argue, fairer) multiples. But recent results have been softer, with June 2023 financial year’s earnings being impacted by higher costs, the impact of a fee reduction, a small misstep with a recent acquisition (which has since come good), and lower average FUM for the year. Prior enthusiasm has turned to neglect, with the shares falling some 30-35% over the past two years despite revenue and earnings growth over that medium-term time frame. At our purchase price in the $5.55 to $5.70 zone, Fiducian trades for less than 12 times last year earnings, and less than 11 times current year expected earnings. Its dividend yield is over 5%, and the company enjoys a debt-free balance sheet with cash at hand to help underpin its next leg of growth. It is well-positioned with strong industry tail-winds. Its dividend yield together with base-line earnings growth expectations in the 5-8% pa range should underwrite a long-term (10 year plus) return in the 10% pa+ zone. Any further step-change to earnings through capital allocation initiatives, and any eventual re-rate to a more normal multiple (in the 15-17 times zone) could enhance that total return profile to the 15% pa zone on a forward 10-year basis from these levels.

The main risks include key man risk around its charismatic CEO, Indy, though the bench is wide and deep and the company has been built very much for the long-term and with long-serving executives. Market risk is a factor as the company is exposed as a fund manager and financial advisor. But this risk is mitigated by its value-conscious multi-manager approach and a multi-sector approach to its business. It has capability across equities, property, fixed interest and cash, and any market dislocations have generally been absorbed comfortably in a broader asset allocation context. 

Summary

While down in sympathy with the declining market this month, we remain enthused about the medium to long-term prospects for our portfolio companies. In what’s becoming a significant bear market for the smaller company sector, there’s no shortage of attractive opportunities. This is reflected in our cash weighting which is close to nil, and in the steady flow of new names and top-ups in the portfolio. We continue to look to trim less prospective holdings to fund purchases, and proceeds from takeovers (Cirrus Networks being the most likely to inject some cash in the next month or so) and investor flows are further assisting.

If you’d like to discuss the portfolio or the potential to invest or add to an existing investment, please contact Michael any time at michael.haddad@dmxam.com.au or 02 80697965.