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Two Upcoming IPOs with Disruptive Potential

Two Upcoming IPOs with Disruptive Potential

Originally posted by Bob Kohut @ thebull.com.au

Initial Public Offerings (IPOs) have been seducing retail investors since 1602 when the Dutch East India Company chose to raise needed capital by offering shares to the public.  Today many retail investors are lured into the market in the belief IPOs offer the opportunity to “get in on the ground floor” of a promising company.

In fact, until October of 2015 very few, if any, average retail investors could get in on the true ground floor, the issue price of the offer.  That price has traditionally been available almost exclusively to institutional and high net worth investors, leaving retail investors to get in at the first day trading price once the IPO officially listed on the ASX.

The significance of the difference is critical to evaluating the IPO market.  Much of the financial press dazzles the retail investing crowd with statistics touting the share price appreciation of the IPO.  However, in most cases the percentage appreciation is based not on the price a retail investor may have paid, but on the increase over the issue price paid by the professional investing community.

In 2015 OnMarket.com.au launched its B2C (Business to Consumer) platform, allowing average, ordinary retail investors to get in on selected IPOs at the issue price.  The site also offers easy access to business descriptions and an in-depth overview of the all-important IPO Prospectus that provides extensive details about the company, the offer, the market outlook, and the attendant risks.

OnMarket also publishes an annual performance review of new IPO listings for the prior year.  2018 was a disappointing year, as indicated in the following chart from the OnMarket 2018 IPO Report.

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The chart captures a phenomenon found in many IPOs – share price rises rapidly only to decline as momentum traders take profits.  In a somewhat strange defense of IPO investing, OnMarket built a sample portfolio that produced +70.8% returns by investing the same amount into every IPO listed in 2018 and then selling one month past the listing date.  Disciplined investors may see opportunity here but for those looking for the ground floor opportunity, the strategy seems more momentum trading than investing.

Research from Australian advisor firm EverBlu Capital accentuated the negative nature of 2018 IPO performance, claiming the average loss was 31.5% and the median loss about 17.9%.  The report shows average returns monthly, pointing to the obvious to any investor who follows the market – Q4 was crushing.  

Despite a year like 2018 and numerous opinion pieces warning retail investors to approach IPOs with caution or even avoid them altogether, the lust for grabbing on to the next AfterPay Touch Group (APT) is a powerful motivating force.

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The significance of AfterPay is that the company’s performance avoided the all-too typical pattern of far too many IPOs – they catch fire before falling by the wayside.  The problem with IPOs is the same as for any stock market investment – share price movements are based on investor sentiment, or perceptions of reality, not always reality itself.  Expectations for IPOs are high, especially for those stocks operating in high growth stocks deemed “hot” by market sentiment.

Disruptive technology – new ways of operating that challenge traditional approaches -- is another high-powered driving force for market sentiment of a given IPO.

True disruptors survive the ups and downs of investor sentiment, delivering solid returns over a long period.  Early examples of ASX disruptors that began around the same time the term “disruptor” was coined include Carsales.com (CAR); Seek Limited (SEK); and REA Group (REA).  Those companies radically changed, or disrupted, the way cars and homes were bought and sold, and the way employees and employers found each other.  Over ten years all three have seen stock price appreciation in excess of 150% with REA leading the way at a stellar increase of +941%.

The road to investing ruin, however, finds many once “red hot” disruptors going ice cold, or even disappearing.  Disruptive or not, many failed IPOs share a common and deadly characteristic – they are not generating enough revenue to sustain operations.  The most revolutionary technology imaginable takes time and money to evolve from concept to product launch, revenue generation, and profitability.

One bit of sage advice on IPO investing for the intrepid is to never, never, never invest in a company that is not generating revenue. OnMarket has two IPOs closing this week, both with potentially disruptive technologies, products in place, and revenues generated.

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Irexchange Limited (IRX) is already disrupting the traditional means of getting fast-moving consumer goods (FMCG) from manufacturer to retailer via a wholesaler, or “middleman.”  

In business since 2016 the company launched its digital platform in January of 2017, with initial subscriptions from close to 500 independent food and liquor retailers and 150 suppliers.  The platform establishes a direct trading connection between retail buyer and product manufacturer, like the digital platforms in use at both Alibaba and Amazon.

Eliminating the middleman improves efficiencies and reduces costs for both sides of the trading transaction.  The company charges the retailer the manufacturer price without mark-up, plus minimal service fees slightly in excess of 2% depending on the order size and delivery.  The following diagram from the OnMarket website company description illustrates the process and the revenue generation model.

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The closing date for this IPO was delayed when an investor threatened legal action to force the company to refund the investor’s $1 million-dollar investment in convertible notes, due to a claim of misleading information in the original prospectus where the “retailers” listed were individual retail stores.  At this point the company is honoring requests for refunds from early investors and the new closing date of 18 February remains. A supplementary prospectus issued by Irexchange cautioned investors there could be costs associated with managing the situation.

Be they retailers or individual stores, the company now has 622 using their trading platform, with 50% of the total trading regularly.  The company recently signed a Memorandum of Understanding (MOU) with Sigma Healthcare for direct trading between pharmaceutical suppliers and retail pharmacy outlets.  The company is reportedly in talks to enter the cross-border e-commerce (CBEC) market with China. Irexchange currently operates in New South Wales, Victoria, South Australia, Queensland and Australian Capital Territory.

The company has partnered with DHL and Emergent Cold for shipping logistics and counts among its manufacturing suppliers Swisse, Bellamy’s, Reckitt Benckiser, L’Oreal, Unilever, Kraft Heinz, Kimberly Clark, Carlton and United Breweries and ABC Tissue.

Growth plans include expansion into all Australian states and territories as well as adding a B2C channel to its existing B2B (Business to Business) platform, allowing for expansion into international markets.  

In addition to its entry into the pharmacy sector and the CBEC sector, the company is looking to expand into the Australian petrol and convenience store markets.

For 2018 the company posted revenues of $13,156 million, up from $4 ,349 million in 2017 while the posted loss dropped from $18,305 million to $16,243 million.

A risk stated in the prospectus is, while revenues are improving, the company is not yet cash-flow positive, meaning the company may need additional funding to meet some of its long-term expansion plans.

AXS Group Limited (ASX) is listing on the ASX to acquire Axcess Consulting, a provider of digital technology to multiple players in the financial sector.  Axcess has been in business for 13 years.  The company provides hosted and cloud-based software as well as software as a service, with multiple product modules serving different financial businesses from non-bank lending to wealth management via its ARMnet platform.

ARMnet is basically a Customer Relationship Management (CRM) solution for finance industry customers that is highly customizable, capable of integrating up to 75 third-party software applications in use by its customers along with data and media channels.  ARMnet is cloud-based and allows the integration of each phase of a client’s business from marketing and sales to user integration and asset management to financial reporting.

Axcess consulting plans to launch seven re-branded product modules and three service modules, as listed in the IPO Prospectus overview found on the OnMarket website:

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The company derives 51% of its revenue from subscriptions and 44% from client requested customisation. 

The AXS IPO Prospectus includes an investment report from market research firm Frost & Sullivan, which states:

• ASX can be viewed as a provider of disruptive technology in the financial services sector in which large global companies like FiServe and FIS Global have traditionally dominated.  Globally, the financial services sector spends A$30.8 million annually on software and $300 billion on total Information Technology needs.  This market opportunity is being challenged by a new wave of businesses using innovative technology to disrupt the financial services industry.

Frost & Sullivan’s conclusion is that the AXS focus on wealth management providers exposes the company to a large and growing market opportunity.

For the Half Year 2018 the company generated $1.5 million in revenue and posted a loss of $328 thousand dollars.  On 8 February the company announced a 3-year term agreement with Canada’s Industrial Alliance Insurance and Financial Services (iA Financial Group TSE: IAG).  iA Financial Group is among Canada’s Top 100 public companies with CAD$172.9 billion dollars in assets under management, a market cap of CAD$6 billion, and a network of 25,000 brokers.

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