A problem all investors face is allocation of time. We all only have 24 hrs, even Warren Buffet. In order to help my readers, I have structured my write up on Mediagrif in terms of how I think about optimally allocating time. I do a quick initial view and then I dive into the most pressing issue.
There are four attributes I look for in my initial view: 1) Capable management teams, 2) Strong balance sheets, 3) Profitable growth, and 4) An attractive valuation. These attributes are often in conflict with one another. For example, it is easy to find companies with strong balance sheets and profitable growth, but at unattractive valuations. The art of investing requires finding the best possible mix of these attributes. How does Mediagrif stack up?
- Management team. The CEO of Mediagrif is Claude Roy. Roy’s interests are aligned with shareholders as he owns 24% of shares outstanding. Prior to Mediagrif, Roy founded Logibec, a healthcare IT company. Logibec was bought by OMERS in 2010 for ~C$230 million. Upon becoming CEO at Mediagrif, Roy moved quickly to restructure and align MDF’s cost structure with its revenue base (ie. he laid off a lot of people).
- Balance sheet. At 30 Sept 2017, MDF had $35 million of debt and $12 million of cash for net debt of $23 million. LTM EBITDA is $25 million meaning MDF is just under 1x net debt to EBITDA. MDF’s debt is held in a revolver and has not been termed out.
- Profitable growth. Top-line growth has been flattered by acquisitions. Organic growth has been negative for each of the past five years. MDF has very little in the way of tangible capital in the business. However, it does have ~$175 million of intangible assets from prior acquisitions. MDF’s return on capital looks weak when including the intangibles from acquisitions.
- MDF’s share price is down nearly 50% over the past year. Over the past four years, MDF has averaged about $20 million of free cash flow per year. This represents a ~13% FCF yield on its current market cap of ~$150 million. Earnings per share over the last 12 month EPS has been $0.79 for a p/e ratio of 13x.
- It is worth noting that MDF acquired a company called Orckestra in June 2017. Orckestra is currently losing money at an annualized rate of roughly ~$3 million pre-taxes. The LTM EPS of $0.78 only has two months of Orckestra losses. It’s likely EPS would be close to $0.65 if we projected Orckestra losses over a full year (ie. a P/E ratio of 15x). However, MDF says Orckestra will make a positive contribution within the next fiscal year so this may not be necessary.
Summary: 1) CEO has a good track record and owns a bunch of shares, 2) Balance sheet is okay, 3) Growth profile and returns on capital are relatively weak, and 4) Valuation looks attractive.
Next Step in Analysis: Deeper Dive on Growth
As I said above, it is rare impossible to find a company that perfectly meets all four criteria in today’s market. So is the weak growth a deal breaker? Not necessarily. The stock market often takes recent growth numbers and extrapolates them forward. One of my favorite set-ups is finding a company where the market has assumed that weak recent growth will persist indefinitely into the future. In this situation, if you can correctly forecast that the company will return to growth, you can earn a healthy return. Based on MDF’s valuation, the market definitely appears to be assuming weak growth will persist. So the next step in the analysis is to determine if we think MDF will be able to grow in the future.
Some sense of historical track record is necessary in order to predict the past. I find it helpful to look at top-line growth on both an IFRS and organic basis. In this case, IFRS includes revenue growth from acquisitions. The weak organic growth rate is a cause for worry. In my view, gaining confidence that the weak organic growth can be reversed is the key factor in deciding whether or not to invest in MDF.
Growth on a regional basis tells a similar story. The majority of growth has come from Canada which is where the large acquisitions have took place (ie. jobBoom and LesPac). Revenue has been falling in Asia/Europe, which I think is likely due to some sort of structural headwind at the Broker Forum and Power Source Online businesses.
The Business Model
Before we can figure out whether or not Mediagrif can return to growth, we have to know what the business does. I find an easy shortcut is to compare the business in question with a business you already know. For Mediagrif, I think a helpful comparison is Google. We all know what Google does. Google is a website that helps people find information they are searching for. While Google is a ‘general’ search engine, Mediagrif is a collection of search engines focused on specific verticals. Mediagrif also owns a collection of businesses that are more one-off in nature and do not fall within the search engine “bucket”. Within the search engine bucket, there are consumer-focused search engines and B2B focused search engines (if you would like individual business descriptions, please see the appendix):
- Consumer search engines: LesPAC, jobBoom, Reseau Contact.
- B2B search engines: Bidnet, ePipeline, governmentbids.com, Merx, Construction bidboard, Global Wine & Spirits, The Broker Forum, Power Source Online, Polygon.
- “Other businesses”: Market Velocity, Carrus, Intertrade, Orckestra.
The number of businesses MDF owns makes the analysis of growth complicated. Especially given that MDF does not disclose individual revenue numbers for each business. We have to decide what to prioritize. Based on purchase price as well as disclosure around how much revenue the acquisitions added in their initial year, I estimate that the non-search businesses represent about 25% of MDF’s revenue on a going forward run-rate (ie. including Orckestra). I estimate the ‘consumer’ search engine businesses (ie. LesPac, jobBoom and Reseau) represent about 30% of sales and the b2b search engines represent about 45% of sales.
The Revenue Model
Continuing with the Google analogy, we can look at how each of the businesses earn money. There is a striking difference in that nearly all of Google’s revenue comes from advertising whereas nearly all of MDF’s revenue comes from “rights of use”. Within rights of use, Mediagrif includes packages of classified ads on LesPAC and recruitment packages on jobBoom.
Within most software and e-commerce businesses, competitive advantage derives from network effects. Put simply, network effects mean the value of a product or service to a user goes up as more people use the product / service.
Google benefitted from network effects as they allowed Google to refine its search algorithm quicker than anyone else. The more people who use Google, the more information Google collects to make its search service even better. For example, if you search for “Dog Food” and the first site that pops up is pictures of dogs eating food, you will likely a) not click on it, or b) click on it then immediately bounce off of the site. Either way, Google gets valuable data to know that site of dogs eating food should not show up as the first rank when someone searches Dog food. Multiply this by the millions (billions?) of searches on Google each day, and you have a very valuable network effect.
Network effects in Mediagrif’s case are even more straightforward. For jobBoom, if there more jobs available that fit my skills, the site has higher value to me. For Bidnet, if there are more contracts displayed in my area that I should bid on, the higher the value of the site to me. And so on…
But the point here is not to define a network effect, but rather how you should act when you are in a business that is impacted by network effects. When a network effect is in play, the goal should be to build scale as quickly as possible. Once you have built scale, you go about figuring out a way to monetize it.
Mediagrif appears to have took the opposite approach with its businesses. Rather than build scale by offering an unbeatable user proposition, the company appears to charge heavily in hopes that the user base is sticky and will only churn slowly.
One example is LesPAC. LesPAC did not offer free posting of classified ads until March of 2017. This seems crazy given that Kijiji has been offering free classified ads since 2005. Not to even mention craigslist.org…
Another example is jobBoom. jobBoom revenues decreased by $0.7 milllion in FY17 due to price adjustments reflecting “market conditions.” Contrast this to indeed.com (owned by Recruit Holdings in Japan) who grew revenues by 62% in their most recent fiscal year. The key difference is that employers can post jobs for free on indeed. In fact, indeed even crawls websites to find jobs that are not voluntarily posted by employers. Indeed only makes money from employers who choose to pay to increase the visibility of their specific job postings.
Another big group of businesses owned by Mediagrif are the e-tendering businesses that help contractors find jobs to bid on. I would put Bidnet, ePipeline, governmentbids.com, Merx, and Construction Bidboard all in this bucket. Merx is a Canadian offering while the other offerings are focused on the USA. The American offerings have different tiers of service with governmentbids.com being the cheapest. A core component of these sites is an automated web-crawler that scans the websites of local, state and federal governments to find new bids or RFPs that have been released. The higher end offerings combine this with human research related to upcoming projects that have not yet been released (based on forecasts from aggregate budgets). The human researchers will also do things like find out who won similar jobs in the past and at what price to help optimize bidding strategies for their clients.
The automated web-crawler side of the business benefits from network effects similar to Google. The more contractors who use the service, the more data MDF gets to fine tune the web-crawler and make it the best one out there. The human side of the business benefits from scale. It is expensive to field a team of researchers. If you have scale, you can spread the cost of researchers over more users. This makes cost per user lower (or you can hire more researchers and keep cost per user the same but provide a better product). Within Canada, Merx is the largest provider and benefits from scale. However, in the United States, MDF is dwarfed by Deltek/Govwin/Onvia (all of which are owned by Roper). Since Roper is much larger and has more users, it can afford to employ more researchers and provide a better product at the same or lower cost than Mediagrif. There is also another well funded competitor in the space, Bloomberg Government. Not to mention a start-up with venture funding (ie. no need to make money immediately) – govini.com.
So I stopped…
As I mentioned at the start of this post, my strategy to optimize time is to do an initial view and then dig into the most pressing issue. In MDF’s case, the most pressing issue was their growth profile. The work above leads me to believe that MDF does not have any strong competitive advantages in a large portion of their businesses. Without confidence in their competitive advantage, it is difficult to make the forecast that MDF will return to growth. Without a return to growth, it is possible the stock could stay at a cheap/attractive valuation for an extended period of time.
Where I could be wrong
There are a few ways I could be wrong. One way is that the consumer businesses in Quebec could benefit from Quebec being a unique market from a cultural perspective. Mediagrif only needs to be the best in Quebec and does not need to worry about global competitors. My point would be that people in Quebec still use Google and ultimately the best site with the largest network effects will win, but I could be wrong… Another point could be that Mediagrif does not need to grow organically. They generate so much cash that they just need to keep a constant flow of new acquisitions and they will be okay. This business model is not for me personally. It feels unsustainable and a bit too much like Valeant. You also have to ask what type of talent they can attract to the company with this model… Last you could argue what is all this stuff about Google and network effects? Most of MDF’s businesses are much more like eBay as they resemble marketplaces. eBay does not make money on advertising; eBay makes money on their take rate based off of gross merchandise value. My response would be who has been more successful – eBay or Google?
Where else could I be wrong?
Appendix 1: Business Descriptions
Consumer “Search Engine” businesses:
- LesPAC: a search engine specializing in helping users find pre-owned goods and local services (ie. classified ads)
- jobBoom: a search engine specializing in helping users find job postings
- Reseau Contact: a search engine specializing in helping users find other users looking for relationships
B2B “Search Engine” businesses:
- Bidnet, ePipeline, governmentbids.com, Merx, Construction bidboard: search engines that specialize in helping contractors find relevant jobs to bid for. They also have software solutions for the buyer to streamline the bidding process. The different search engines above focus on different tiers of service (ie. price points) and geographies.
- Global Wine & Spirits: a search engine helping buyers of wine and spirits find sellers of wine and spirits
- The Broker Forum: a search engine for distributors and brokers to find other brokers and distributors selling electrical components. Also provides escrow and parts inspection.
- Power source on-line: a search engine for dealers, resellers and brokers find other dealers, resellers and brokers selling IT and telecom parts. Has a supplier certification program.
- Polygon: a search engine for buyers (retailers, suppliers, etc.) of gems and jewelry to find sellers.
Other “Search Engine” businesses:
- Market Velocity: Market Velocity helps electronics manufacturers streamline their aftermarket support to customers by providing trade-in, recycling, and donation solutions.
- Carrus: Carrus provides software to help auto mechanics and aftermarket parts distributors manage their businesses.
- Intertrade: Intertrade helps retailers and their suppliers automate the ordering, fulfillment and billing process so that it can occur with minimum human intervention.
- Advanced Software Concepts: ASC is a software tool to help businesses quickly and efficiently prepare and manage contracts such as RFQs (request for quotes).
- Orckestra: Orckestra has a software solution to help retailers integrate their brick and mortar and digital solutions.
The Company’s website: http://www.mediagrif.com
Author Ownership: No TSX: MDF
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