When I first began my interest in investing I started with what is considered the bible to value investors: Security Analysis by Benjamin Graham. To be honest, I couldn't and still haven't finished the book as I found it very dry and uninteresting. Thankfully, there are a whole universe of investing books out there, and I list a number of books I found useful in my investing education.

Am I being too subtle - Sam Zell
Sam Zell is a self-made billionaire, who earned his fortune primarily via real estate. His blunt, spare and contrarian style makes for a refreshing read; the title is a question he often asks himself which reflects his personality. The book is filled with business wisdom, covering a wide range of time eras, industries, personalities, successes and failures. Themes covered comprehensively are real estate investment, controlling risk and value investing.

Dead companies walking - Scott Fearon
This book is mandatory reading for our investment team. Written by an investment manager it focuses primarily on why, when and how companies fail. By learning the warning signs, and avoiding an investment in a company which may fail; readers learn a great deal about becoming a much better investor. Chock full of practical advice and wisdom, major themes include the psychology of investing, the role of cognitive bias in business and the importance of time horizons.

King Icahn - Mark Stevens
This book provides an insight into the personality, mindset and business philosophy of Carl Icahn, one of the greatest investors of our era. It covers the early part of his career comprehensively, and provides a great overview of 1980's corporate America from the perspective of a corporate raider or activist. In particular, the book articulates how much value can often be overlooked by passive shareholders and how it can be released by a well motivated and funded activist.

Metal Men - Craig Copetas
An intriguing book about the hard and fast world of commodity trading; and the ascent of Marc Rich who founded the world's largest commodity trading company today, Glencore. The physical mechanics of commodity trading are fascinating; encompassing a multitude of different aspects such as financial, geo-political and logistical. Major themes broached are the mechanics of physical commodity trading, risk management and the effects of the geo-political environment on trade flows and commodity prices.

100 Baggers - Chris Mayer
This book examines the investor's holy grail of the 100 bagger or making 100 times your money invested on a stock; it is an update on a book on the same subject written in the 1970's. The beauty in this book is the breadth of the content, as the author examines a multitude of historical examples and the various elements that led to their 100 bagger status. We learn very quickly there is no 'magic bullet' for obtaining outsized returns, but there are a number of factors that can increase our probability of investing in one of these companies. Major themes are the impact of compounding returns over longer time frames, evaluating the quality of a company and how to maintain a long term perspective on your investments.

The Most Important Thing - Howard Marks
Howard Marks is an investor well known for co-founding Oaktree Capital, a value orientated asset manager. This book is effectively a compilation of writings on various aspects of investing from the perspective of a value investor. Whilst a little repetitive, it hammers home a number of factors that any serious investor should consider when making any investment. Major themes are the thought process behind investing 'defensively', understanding and managing risk and expectations.

Margin of Safety - Seth Klarman
Written by Seth Klarman, a highly respected investment manager, this is one of the most sought after investment books. The book is divided into 3 sections encompassing: where and how investors typically make mistakes, an overview of a value investing philosophy primarily focused on risk mitigation and finally a number of case studies and discussion on portfolio management. This book has a lot of value for anyone regardless of your investment experience or methodology.

My own story - Bernard Baruch
The author was a well known financier in the early 20th century before becoming a statesman. This is a classic account of the economic change in the US as experienced through the lens of a successful stock market investor. Baruch's humility and wisdom shine through this book, which is filled with many practical examples and lessons on life and the markets amplified by his obvious gift for story telling. In particular, I found his lessons and recounting of periods of desperate economic times to be enlightening.

Education of a Speculator - Victor Niederhoffer
This is a wild account of the author's life and investment principles. This is a difficult read, it is clear the author is brilliant but also deeply flawed. There are many valuable nuggets to be extracted by a patient reader, such as the necessity to perform your own analysis of opportunities regardless of the 'commonly held' or market knowledge. Major themes include the necessity of risk management, probabilistic investing and embracing randomness.  The author's honesty and candidness is refreshing throughout, although a lot of biographical elements can be skipped over.

What works on Wall Street - James O'Shaughnessy
This book is effectively a statistical study of the historical returns achieved by various investing strategies. The real value in this book is educating the reader on various methods or factors which may contribute to an investment return; which provides a lot of food for thought for the reader in formulating their own investment methologies. 

The investment checklist - Michael Shearn
This book focuses on evaluating a company using fundamentals. This is quite a dense book and covers a lot of ground; I particularly found the author's focus on management useful which is often overlooked in investment books. In addition, the emphasis on utilising investment checklists in the decision making process I think is especially important to ensure consistency in the investment process. 

The Art of Speculation - Phillip Carret
Phillip Carret ran one of the first investment funds in the US, the Pioneer Fund, for 55 years starting from 1928. He was idolised by a young Warren Buffet and had a great long term record over a long time period. The book covers a lot of ground: market cycles, technical vs fundamental factors and security analysis to mention a few topics. Even though the examples are now dated, the concepts are all sound and still very relevant to today's markets.

We have noted of late, increased commentary about particular ASX listed companies that are perceived to be expensive on traditional measures without regard for their actual business models. We will focus specifically on those companies that utilise scalable business models, and examine the nature of what a scalable business model actually is.

In it's simplest definition, a scalable business model increases profits over time by growing revenue whilst mitigating a proportionate increase in costs. The least scalable businesses are typified by: high cost of human capital and low scale. Businesses such as consulting and professional services we consider to possess linear business models. We generally find scalable business models in industry segments such as software, online travel agents, digital finance and goods, online advertisements.

Scalable businesses can grow exponentially, due to a range of factors, including but not restricted to: low capital intensity and human capital requirements, quick and low cost deployment, fast iteration of product and business processes to fulfill customer needs. 

We consider a the key elements of a scalable business model to be:

• A disconnect between sales growth and cost growth
• the removal of capacity constraints by collaboration via partnerships, creating platforms and capital efficiencies
• generally based on intangible assets like intellectual property (IP) such as patents, software, data etc. These typically have minimal replication costs while being able to realise full value from the asset.
• uses technology as a lever - for example, the advent of recorded music did not require a musician to be on site to listen to music
• utilises existing infrastructure - Whatsapp at the time of acquisition by Facebook had only had 35 engineers servicing 450 million users. Today has around 50 engineers servicing over 1 billion users. It's adoption was driven by the rise in smartphones and cheap, mobile internet access.

The scalability of a business model we consider to be driven by the following factors:
Concept - Inputs

• Technology - the automation of processes, scalability of technical infrastructure used in the delivery of the product or service
• Cost and Revenue Structures
• The ability to adapt to different legal environments and execute
• Network effects - defining and achieving critical mass and virality amongst the customer base
• User experience - solves a customer problem, simplicity in offering, knowledge of and by existing users
• Scalable revenue streams: Ecosystem, reoccurring revenue streams, network effects - increase in revenue corresponds to an increase in margins

Realization - Output

• Management: ability of the team, location, partnerships
• Market: potential, dynamics, awareness
• Investor attractiveness and valuation
• Company growth

A couple of ASX listed companies that we consider to possess scalable business models are Altium and Afterpay. Both operate and are leaders in 'winner takes all' markets, possess novel products and intellectual property, as well as holding customer-centric visions of the future.

Altium is a software company whose software assists in the design of electronic components critical to the operation of the technology that is ubiquitous today. In 2012, company revenue was $55 million and the EBITDA margin was only 0.5%. By 2018 the company had grown to revenues of $140 million and had achieved an EBITDA margin of 32%; with consistent increases in both revenues and EBITDA margins year on year. To me this typifies a scalable business model.

Afterpay is a payment solution platform, that has been growing extremely fast over the past couple of years driven by consumer and merchant demand. We feel the company has just reached it's tipping point, in the 2018 financial year gross sales were achieved of $2.2 billion, while it's EBITDA margin was circa 1.6%. We believe the company can achieve gross sales of $10 billion within 2 years, whilst increasing it's EBITDA margin to close to 3% or circa $300 million.
​
Investing in scalable businesses is an attractive proposition, and can lead to outsized returns over time. Investors should keep in mind, that investing in a scalable business in not a panacea as they can be disrupted themselves as well as being subject to market forces like all other businesses. 


​Disclaimer: This article does not take into account your investment objectives, particular needs or financial situation; and should not be construed as advice in any way

We were pleased to do a podcast with Rask Finance, a financial education service for individuals.
We broadly go through Emanuel's investing education and journey through life.

The podcast can be found at the following link: ​http://bit.ly/2Q7IhFn

It is great that the market has recognised the potential within Afterpay's business model and subsequently repriced the company substantially since our last blog post. Even though our investment thesis and comparison with Amazon has been questioned by a number of market commentators, it appears as though the broader market in general has now agreed with our analogy.

Brief Summary of Annual Results
Afterpay achieved annualised gross sales of $240 million in the US after only 3 months of trading. We perceive that there will be strong upside going forward as Afterpay builds it's brand recognition amongst customers and availability with merchants over time.

We note the reduction in net transaction losses to 0.4% of gross sales. This demonstrates great practical credit control from the company, as well as the strength, quality and usefulness of their credit database. 

Gross sales rose by circa 290%; however, net revenue to the group rose by 390%. This demonstrates the pricing power and scalability evident within the Afterpay business model.

Group Capital (equity+debt) post raise can support annual gross sales of in the region of AUD $5-6 billion. They have guided international sales of circa AUD $1 billion in 12 months; this implies that the ANZ region business may generate circa $4+ billion annualised. 

We actually consider this figure conservative given the speed of their customer uptake in the USA. For example, Morphe Brushes a popular cosmetics company started to offer Afterpay as a payment option on the 5th of August. Referral web traffic just from this brand was almost 30% that of Urban Outfitters referral traffic (who have been on the platform since May) just 26 days after offering Afterpay as a payment option. Amazingly, Afterpay's web-mall accounted for over 7% of Morphe Brushes referred traffic in these 26 days; further cementing its reputation as a source of incremental demand for merchants.

The near-term upside from merchant onboarding we expect to be significant with Chemist Warehouse now offering Afterpay in-store. Chemist Warehouse controls 25% of the Australian pharmacy market by revenue to provide some idea of the size of the opportunity. In addition, we note that ASOS Australia will soon be offering Afterpay as a payment option. It is very likely that ASOS will be the cornerstone merchant in the UK market rollout. For context, ASOS has revenue roughly 25% smaller than Urban Outfitters however, has web traffic more than 3 times greater reflecting a more diverse, global clientele.

We consider that the in-store rollout in the US will provide the highest mid-term upside given the majority of retail sales are still made physically, this is in line with Afterpay's Australian experience. In addition, we note that the recent weakness in the Australian dollar will provide a positive tailwind in their overall sales figures.

We anticipate that Afterpay will raise debt facilities in US, sooner than later to fund the US expansion. It makes sense for them to match their assets to their liabilities in terms of currency. The US Private Placement (USPP) Market is very sophisticated relative to the Australian market, and terms are often more flexible at a similar price to major bank financing. This would be a precursor to a NASDAQ listing, as a USPP raise would build awareness amongst institutional investors in the US.

Industry dynamics
We have noted recent chatter in the media regarding the competition in the payment space. From our global study of the industry we have not found a single instance of a truly cost free customer solution comparable to Afterpay's model; with all apparent 'competing' solutions typically charging interest and/or monthly account fees.

We note that the presence of competitors does not necessarily mean that presence of additional risk. On the personal note, I remember using a large number of social media platforms such as MySpace, Friendster, Hi-five, Orkut; all were virtually wiped out once Facebook had achieved traction in the space and are now all practically defunct. This demonstrates that the confluence of factors in terms of usability/satisfaction for customers, networks effects and simplicity/standardization in a product offering can lead to the evolution of a monopoly player or market structure. I believe that this will be the case over time with Afterpay as their market position, brand and credit database, become stronger with every transaction that runs through the platform; providing a sustainable competitive advantage or 'moat'. Afterpay's viral growth amongst consumers and merchants alike is further evidence of it's competitive advantage in the space.

We have been following at the high level the findings of the banking royal commission underway. From our perspective, the majority of unethical behaviour by financial institutions was due to ambiguous terms in the terms and conditions between the financial provider and the consumer; along with a strong dose of human nature. We think Afterpay's vanilla terms and conditions that are clear, precise and concise; along with the fact that the system possesses a very high level of automation, insulates the business from regulatory risk. Funnily enough, we heard a rumour that National Australia Bank (NAB) who provide Afterpay's bank facilities may have had the opportunity to invest in Afterpay at an early stage but passed even though they have a specialised fintech investment mandate. This demonstrates to me one of the single largest advantages smaller companies and investors have over entrenched incumbents.

We noted with interest that just 2 weeks ago Berkshire Hathaway run by Warren Buffet, considered by many to be the epitome of a value investor, made an investment of over $300 million at a valuation of $10 billion in an Indian payment platform company Paytm. This represents a large shift in Berkshire's previously articulated philosophy, and readers should be advised to watch this space closely.

Geographical expansion
As we flagged ambiguously in our last blog post, Afterpay have announced the expansion of the platform into the UK, the world's 3rd largest online retail market. We feel that the strategy to take over an existing company shell with the requisite financial licenses but with no residual exposure to the company's IP or legacy business is a very positive move in terms of executing with speed. From our research this has saved them between 12-24 months of scrutiny from the UK financial services regulator, and we consider the price paid to be fair.

We have come across further evidence in the public domain to support Afterpay's global expansion. We anticipate that expansion into various North American, Asian, European and Middle Eastern nations will provide the next steps in global growth. We expect these plans to be released in another 3 to 6 months. We think that current expansion strategy to first offer the platform digitally, and then roll out in-store once sufficient scale and demand is achieved is a very pragmatic and risk mitigating method of market entry. Once again we iterate that the in-store rollouts will provide the most upside in the mid-term.

Products
We have made a suggestion for a new expansion to Afterpay's core product that has been positively received by the management team. We are not privy to whether the idea will be pursued, but it has the potential to massively increase their addressable market by a factor of 4-8 times from our analysis, cut credit risk drastically, while being able to be deployed utilizing the existing merchant agreements and infrastructure; so benefiting from massive scalability at very low incremental cost. We will only disclose this information to our Fund investors on a case by case basis due to commercial sensitivities and uncertainty around whether the concept will be pursued.

Management Team
We believe the quality of Afterpay's management team is outstanding. A few attributes that we look for namely: longevity, alignment with investors and commercial acumen; are held in abundance by the key management personnel. 
The model of the young, conceptual founder supported by a well recognised and experienced management team has worked well in our experience. Examples are Google where the two young co-founders were ably supported by Eric Schmidt and Ebay where Meg Whiteman supported the founder during a period of rapid growth.


We leave you with the 6 Principles that drove Amazon's success also typified by Afterpay:

1. Take advantage of the window of opportunity - Execute with speed and precision, before larger players can react. 
2. Make decisions for the longer term - 5-7 years -  For example, the rewrite of Afterpay's code base for global expansion
3. Long term market share leads to long term profits - Aim for market leadership which leads to greater capital velocity and stronger returns on capital over the long term
4. Acting with boldness in decision making - Typified by the UK market entry via the acquisition of Clearpay
5. Focus on Customer service and satisfaction - Afterpay's focus on a clear, customer-centric product; and validated by repeat customer usage in excess of 80%
6. Be the first in a large addressable market -  Capitalising on a first mover advantage, in a product that is absolutely unique in the space.

Afterpay is one of our key equity investments, and we consider this a permanent holding.


​Disclaimer: This article does not take into account your investment objectives, particular needs or financial situation; and should not be construed as advice in any way

​We respond to some recent spurious claims put out by a fund manager with a Q&A below.
 
Is Afterpay similar to Zippay or other providers of consumer credit/finance?
Credit can be defined as providing funds to another party in exchange for a promise to repay the principal plus an additional agreed amount (interest) generally linked to the duration the funds are drawn or advanced.
 
Afterpay does not provide complying consumers with credit per se being a truly cost free instalment payment solution for compliant customers. 
Note my emphasis on consumers complying with Afterpay's terms of service. Non-compliant consumers occur a fine or late fee as they accept under the terms of service. 
While there have been critics of these 'fines', consumers are under no obligation to use the service if it does not suit their needs or if they find the terms of service onerous.
 
In summary, Afterpay is free to use for compliant customers in contrast to providers of consumer credit who charge interest to the customer as their core business.
                                                                                                       
Is Afterpay just a factoring business in disguise?
Afterpay is not a factoring business, but rather an innovative blend of modified supply chain finance and lay-by tailored for the mass consumer market. The table below illustrates the key differences between Afterpay and a 'vanilla' factoring business.

Aren't merchant fees a bit thin at 4% considering the credit risk?
The rate merchants pay for the facility is set by Afterpay. The 4% rate assumption was probably valid 12-18 months ago when Afterpay was an unknown quantity in the market. We have spoken to numerous retailers who use Afterpay; the recent commission structures in the sub-$20 million revenue business category appear to be between 6-7% plus a nominal fee per transaction. Customer satisfaction is very high with over 85% of revenue being generated by repeat customers.
 
This to us demonstrates the pricing power of a market leader or incumbent. We have also noted that once a merchant within a particular market segment adopts Afterpay, it's competitors follow suit fairly quickly adding to the products virality.
 
Afterpay as the payment intermediary captures value in a number of ways:

• monetarily via fees and commission
• information wise via its transaction and credit databases
• intangibly via building up brand awareness and recognition. Brands are more important online than they are in the physical world.

Does Afterpay lend to people who don't have a credit card?
Yes, you do not need a credit card to be eligible for Afterpay. A credit card is not necessarily evident that a consumer is credit worthy. 
Credit card usage has actually been on a slight decline in terms of per capita usage in Australia. In fact less than 30% of Millennials possess a credit card in the US market. 85% of Afterpay transactions are via debit card ie. not credit card.
 
But what about the credit risk?
Afterpay transfers 100% of the credit risk from the merchant to itself, with genuinely no recourse for any shortfall in the case the customer does not complete their payment plan. This is attractive from a merchant perspective, and puts the onus on Afterpay to develop systems that accurately assess a consumers ability to repay the instalments. 
 
Credit risk is mitigated by the fact that if any payments are late, new transactions are impossible; so the quality of the credit book continually improves with the number of transactions that go through the system. Afterpay relies on a mathematical principle called the Law of Large numbers. This probability theorem stipulates that as the number of occurrences (or in this case, transactions) increases, the average of the result of these transactions will be closer to the expected value. We see this principle at work commonly within the insurance industry and other industries which assess and transfer risk.
 
What if there is a recession, could Afterpay lose money?
We feel that in an economic downturn, it is likely thatAfterpay’s utilization may increase due to attractiveness of paying off discretionary purchases via instalment plans; it is evident that customers use the product as a budgetary tool.
 
Afterpay can be thought of as a microfinance tool, as the average customer use is circa $200 in value, being used 5-6 times per year. Given the regular usage, relatively small amount advanced and large utility value of the service; we think that it’s highly unlikely that customers would risk the loss of access to a service they use regularly.
In contrast, the average credit card debt in Australia is $4,200 and average personal debt is circa $8,000 per head; these payments can be deferred without any immediate consequences and have a differentiated risk profile when compared to Afterpay.
 
The potential for credit risk is actually highest at the time of a consumer's first purchase, with it falling rapidly with each subsequent purchase as users do not want to lose the utility gained by using the system.
 
OK, what about companies offering competing services; what are Afterpay's key differentiating factors?
Afterpay product offering is clear and vanilla to customer; with no variation in terms whatsoever, in contrast to competitors.
 
Competitors are at least 2 years behind Afterpay in terms of technological integration, merchant reach and services levels from both customer and merchant aspects. One only needs to possess a rudimentary knowledge of technology to know that the company with the most functional application, API and User Experience generally does best over time.
 
Afterpay's execution has been outstanding to date. It has successfully taken exploited its first mover advantage and scaled up to become the dominant player in the Australian market. We note that in developing segments of the market, it is typically who can take the most market share at the earliest stage that eventually survives and thrives. An example of this is Paypal, who fought off a number of competitors to emerge as the market incumbent due to its virality and success in customer acquisition.
 
Feedback from merchants suggests that revenue rises with the adoption of the service and it is a service that is in high demand with customers. Afterpay's merchant directory and promotion via its social network channels is a valuable form of 'free' promotion for merchants. In addition, in regards to merchant service issues are typically resolved the same day in contrast to the extended support timelines of competing products.
 
It is NOT in Afterpay's best interests to have customers spend beyond their means and be in arrears. This is because Afterpay earns more from recycling its capital quickly (ie. receiving customer payments and purchasing merchant receivables) than the late fees it charges to customers in arrears. This is in contrast to its competitors.
 
Why is Afterpay's revenue so low? Is this the same as gross sales?
Afterpay according to the notes in its financial statements recognises revenue as the economic capture between the gross amount and net amount paid to merchant. Gross sales they define as the total amount of receivables that they purchase off the merchants.
We consider the gross sales to be the most relevant figure in measuring growth however, both measures should be monitored.
 
So what makes Afterpay so compelling for you?
When analysing growth companies we look for the following key attributes:

1. Growth in top line gross sales
2. Growth in operating margins
3. Balance sheet optimization and capital allocation policies
4. Potential for valuation multiple expansion
5. Network effects and oligopoly potential

  
Afterpay ticks all our boxes. We have made the analogy to Amazon previously and we compare some key metrics below.

​Key Points:

1. Afterpay is experiencing faster top line and user growth at a far lower acquisition cost than Amazon experienced at a similar stage of growth. We note that the company have disclosed that they are achieving gross sales of $3 billion on an annualised basis; we expect this to grow materially in this half year.
2. The table demonstrates the sheer virality of Afterpay's product; it enjoys network effects from both consumer and merchant sides. This is an extremely rare attribute. We note that in the digital services space, oligopolies are the norm as opposed to the exception.
3. We note a number of non-monetary elements that are similar to Amazon namely:
   • Cultural: "what's good for customers is good for stakeholders"; market participants with the greatest scale wins by building market share quickly at the lowest relative margin.
   • Technological and service advantages: best application, website and API among competition, superior service for both customers and merchants. User Interface and Experience is similar to Amazon (see below)

Potential to grow into other complementary business lines: Credit reporting, online mall offering etc.

Why are you writing this?
The main purpose of this Q&A is to correct inaccurate statements put forth by a fund manager as well as to put misconceptions around Afterpay's business model to rest.
 
Once again this highlights the important of selecting an investment manager who possesses the necessary skills, objectivity and intellectual humility to understand and capture profits from investing in a company with an innovative business model, experiencing viral growth.
 
We expect Afterpay to release additional positive news regarding further growth in the coming months. We have come across information in the public domain that demonstrates the growth path ahead for Afterpay.
 
Afterpay is one of our key equity investments, and we consider this a permanent holding.
 
Thank you to those in our network who contributed information material to this article.
 
This is an extract from Datt Capital's forthcoming monthly report
Disclaimer: This article does not take into account your investment objectives, particular needs or financial situation; and should not be construed as advice in any way

We got lucky. A few days after our last wire, discussing two stocks to watch, one of them, Afterpay, released a positive business update and the share price exploded, gaining in excess of 30% within a matter of days. Reading market commentary, a common perception is that Afterpay is overvalued at its current price. The real question is: how do you value a company that is growing at an almost exponential rate?


We consider the major growth avenues below:

• AU in-store - Afterpay's market share is currently only 0.5% in this $160+ billion segment. There is still tremendous scope to grow considering the product has achieved virtually mainstream recognition in the AU market. We anticipate that Afterpay can capture, over time, a low single-digit share of this market.
• The USA online retail market is growing steadily with a total size in excess of $200 billion.
• USA in-store non-food retail market is the largest in the world, with a size in excess of $1.5 trillion.
• UK, EU expansions - These longer-term potential markets in terms of size are multiples of the Australian market.

Afterpay also possesses a number of sources of unquantified value, namely:

• Its database of credit information. In many cases, Afterpay has the 'first touch' of millennials in contrast with credit assessment/agencies; so this data is extremely valuable.
• We consider there is significant scope build ancillary businesses/income streams utilising this information
• The network effects and influence that Afterpay possesses with consumers is unquantifiable from a financial perspective. It has managed to build a strong brand identity, especially considering the company name has entered the Australian millennial vernacular ("Afterpay it").

We consider Amazon to be a close comparable to Afterpay due to its historically large growth potential, gross sales and slim margins. Amazon, up until the start of 2016, traded at an average Price to Sales (P/S ratio) of 2 times. Of late, it has traded higher due to recognition of its market dominance and ability to enter new markets.


We consider the P/S ratio a reasonable valuation heuristic for a company experiencing rapid growth above 100% per annum like Afterpay. We would consider a P/S ratio of 1 times to be reasonable for an ASX listed company however, if a dual-listing was pursued in the US markets (for example, on the NASDAQ) we would consider a P/S ratio of 2 times to be most reasonable in that particular market.


We note the latest business update disclosed the annualised gross sales were running at circa $3 billion. We anticipate Afterpay in 12 months to be achieving minimum annualised gross sales of $5.5 billion, with the US contributing over $1 billion to this figure. Using the P/S ratios above, this equates to a share price range of between $25 and $50 assuming no further equity is raised.


We applaud the efforts and decisions of management to date and are enjoying watching the evolution and growth of another great Australian company.


Disclaimer: This article does not take into account your investment objectives, particular needs or financial situation; and should not be construed as advice in any way.

With reporting season fast approaching we highlight two companies whose results we will be watching closely: Afterpay Touch and Mineral Resources. We outline what we will be looking for in their reports to see if their incredible performance can continue.

Afterpay Touch: Will they win market share in the US?
Afterpay Touch provides a tweak to the traditional lay-by (layaway) model by allowing consumers to pay for products in 4 instalments while being able to use the product straight away, rather than the conventional method of waiting until all instalments are paid.

The customer benefits from immediate use of the product, while Afterpay removes the need for retailers to track and hold stock and payments, for a small 4% fee. Afterpay then essentially 'own' the customer who pays the instalments to Afterpay rather than the retailer.

Afterpay then becomes the 'destination' for the consumer who can efficiently compare product offerings at the Afterpay website; which leads to a virtuous cycle of lower customer acquisition costs, better credit quality over time and greater brand awareness and loyalty.

Strategically, we feel the value proposition Afterpay brings to the table is nothing short of brilliant. By being a 'no-cost' payment method to the consumer, it circumvents any claims of usury, genuinely reduces consumer costs via a no interest model, and drives incremental demand for retailers.

The datasets of consumers and their behaviours that they possess are also extremely valuable intellectual properties that are not reflected on their balance sheet. In addition, we view the platform as an equalising tool that independent retailers can use to differentiate themselves against the might of Amazon.

What we are looking for in their report
The key catalyst this reporting season will be an update on the company's progress in the USA, where Afterpay has managed to recruit a star-studded team.

The US retail market is over 15 times that of the Australian market; and lay-by is offered more widely relative to Australia. This has been validated by the quick uptake by US retailers; evidence suggests that Afterpay has managed to recruit more than 200 separate US retailers since launching in mid-May.

What gives us confidence is the validation in the model by consumers themselves. Starting from zero in 2015 it has managed to capture a full 25% of online fashion retail transactions in the Australian market. If Afterpay can replicate its Australian experience in terms of market share in the US, we expect the company to be worth multiples of its current price over time; and likely to be a takeover target by one of the large US based payment companies such as Visa, Mastercard or Paypal.

Mineral Resources: 3 key drivers to watch
Mineral Resources is an innovative diversified mining and mining services company. Its core business is to provide turnkey solutions covering all aspects of mining services. It also invests opportunistically in mineral projects itself and acts as a capital provider to smaller miners.

It has a large exposure to key strategic commodities in lithium, graphite and tantalum and makes use of a number of innovative technologies. Its managing director, Chris Ellinson, and its board hold circa 15% of the company providing good alignment with shareholders.

Over the past year, MIN has opportunistically bid for two other downstream companies in AWE (oil & gas) and AGO (iron ore). In both instances, they were outbid but refused to raise their offer.

This demonstrates sound capital discipline on the board's part. In the AGO instance, we believe much of the value was in the additional port access that would be available in Port Headland. Unfortunately, two heavyweights joined the fray in Fortescue and Hancock Prospecting; both likely vying for the same said port access. As a result MIN's share price has fallen by approximately 20% since the entry of the competing bidders.

The three potential catalysts in reporting season will be:

The release of the pre-feasibility study for a lithium carbonate/hydroxide plant at the company's Wodgina deposit, claimed to be the world's largest hardrock lithium resource. MIN have broadly stated that a highly refined lithium end product will have approximately 4 times the value compared to it's existing Direct Shipping Ore operation.
An update on its minority stake sale in Wodgina lithium operation, likely to a combination of global trading firms and end users. We think a premium price is achievable considering the project's scale and long life.
Further clarity around the AGO takeover and subsequent port access in Port Headland. We feel the situation is likely to end in a stalemate with both Fortescue and Hancock holding blocking stakes. Hancock has been a customer of MIN's in the past so it's likely that an arrangement can be agreed around port access.
We expect the share price to trend higher from its current level of $15.50, towards $20.

​Disclaimer: This article does not take into account your investment objectives, particular needs or financial situation; and should not be construed as advice in any way.

As investors, we are all looking for an edge in earning outsized returns. Here I identify 3 simple portfolio management principles that are essential in any investor’s toolkit, and briefly outline how they can all be brought together into a simple cohesive strategy.


1) Compound (Reinvest) your returns
Would you rather be given $10,000 immediately... or wait 12 months to receive $1,000 that has been earning 1% each day, compounded (reinvested)?
If you selected the second option, congratulations, you would be given close to $38,000.
This simple exercise highlights the vast difference between compounding (reinvesting) your returns and consuming (not reinvesting) your returns.
The key drivers of compounding interest
Mathematically, the key metrics that influence compounding returns are: a) the level of returns (%) and; b) the compounding frequency.

The effect of compounding frequency are illustrated by this example: Compare 2 funds which both earn 12% per annum, where fund A distributes once a year and Fund B distributes four times a year.


If the investor in fund B is able to reinvest the quarterly distribution, this leads to an extra relative return of almost 4% over Fund A; assuming the investor is able to earn the same incremental return on the reinvestments.


A simple way for investors to benefit using this principle is to reinvest your portfolio earnings, whilst giving thought to investing in assets that provide distributions or dividends at regular points during the year.


2) Avoiding losses - let winners run but cut losses quickly

Research has shown that most individuals are risk avoiders when handling gains, and risk takers when dealing with losses. Practically speaking, this means that individuals are more willing to speculatively hold a losing investment in the hope of the loss diminishing, than to hold a winning investment with the hope of further upside.
In a nutshell, this means that a person’s strategy for managing uncertainty will often clash with the strategy needed to objectively manage the risks in an investment situation. This leads to a negative asymmetric return, in the sense that investors tend to let their losses run while limiting their gains. Investors need to fight against this primordial, behavioural urge by cutting losses short and letting profitable trades run.
Limiting losses is the single largest factor in achieving sustainable returns. For example, a loss of 20% requires a gain of 25% to get back to even; whilst a 50% loss requires a 100% gain to breakeven. Conversely, by avoiding exposure to market losses, an investor can outperform the market without full exposure to the market's upside.
An allocation to non-equity asset classes should be explored to protect portfolio returns. Investors should think practically by focusing just as much on the downside just as much as the upside of an investment.


3) Reduce volatility

The ASX200 total return index (XJOA) has had a mean return of 9.7% per annum over the last 25 years, however, in just 3 of those years has the return fallen within 2% of this value.
When it comes to compounding returns, volatility has a detrimental effect due to negative compounding returns during certain periods. This impact is known as volatility drag. When comparing two investments with the same average returns but differing volatility, the higher volatility investment will exhibit a lower geometric (compounded) return, due to negative compounding over multiple periods.
If investors can utilise a strategy that can lower volatility without sacrificing too much return over time, it will likely lead to a better outcome. If investors cannot hold onto their investments through the volatility, they will never achieve the 'average' returns.
High volatility environments can often lead to poor decision making by investors. For example, selling in periods of despondency (the lows) and buying in periods of where confidence is high (the highs).
What can investors do to mitigate the effect of volatility in their portfolio? Structurally, investors are able to dampen portfolio volatility by investing across asset classes; for example in fixed interest, cash or alternatives.


Tying it all togetherTo conclude, we have demonstrated the benefits of reinvesting your returns, avoiding losses and reducing volatility in your portfolio.
We believe the ideal method of tying these 3 concepts together is utilising the power of a multi-asset portfolio to achieve consistent, sustainable returns.
We should all strive to achieve robust, sustainable returns, not ‘beat the market’. By diversifying their portfolios across asset classes or by utilising an investment manager who shares this philosophy, an investor has a far better chance of achieving a consistent, sustainable return that will build wealth year-on-year without the fear of volatility and potential losses.

As investors, we all look for opportunities where there is a clear, coherent and compelling rationale for investing. Ideally, the opportunity should possess strong growth characteristics, and limited downside should our thesis not eventuate after a period of time. We look at one such thematic, and three microcap exposures to it.
Large, disruptive changes within industries or sectors are generally driven by the confluence of technologies, political incentives, private enterprise and human nature. Certain commodities can experience huge changes in price depending on industry supply and demand dynamics.
One historic example: Iron oreA good case in point is the Iron Ore industry. This industry was typified by long-term supply contracts, no spot market, and relatively stable demand and supply dynamics. This was the case until Chinese steel production growth began to rise rapidly around 2003 from its previous incremental growth; driven by steel demand from increasing urbanisation.

To read the rest of this post, please visit the following link: ​https://www.livewiremarkets.com/wires/the-metal-you-can-t-live-without