Soaring gains this year from 1-Page, Migme, Rhipe and other backdoor listings have whet investor appetite for emerging tech companies. The result is a rush of tech companies coming to market via reverse takeovers or initial public offerings (IPOs).
The volume and diversity of tech listings this year is astounding. More of them are bypassing traditional capital-raising paths that include several rounds of venture capital funding and listing earlier on ASX or other exchanges.
In some ways, the tech rush resembles the first stages of the mining investment boom about a decade ago. Back then, hundreds of early-stage exploration companies – some with little more than a PowerPoint presentation and a patch of dirt – raised capital and listed on ASX. Most inevitably failed and many are now morphing into tech stocks via backdoor listings.
Like the boom in exploration IPOs, many of the current crop of tech hopefuls are rubbish. Some are arguably listing because that is their best chance of raising capital; professional investors who would normally back them through venture capital are not interested.
Risks are high. 1-Page, promising as it, is capitalised at $456 million (undiluted) as it implements its revenue model. By comparison, Freelancer, a far more established business with revenues and a clear commercial opportunity, is capitalised at $790 million.
Liquidity is another issue. The entrepreneurial founders of several tech listings have retained a large shareholding, meaning stock is tight and liquidity low. A small amount of buying can put a rocket under the thinly traded shares, just as a bout of selling can smash them.
Highlighting these risks is not meant to discredit tech companies or downplay their prospects. The digitisation of business models is rapidly creating opportunities for insurgent tech companies to disrupt established industries and incumbent companies.
But these risks emphasise the need to use professional managers who understand early-stage tech companies, can invest in them in the pre-IPO market, and take a diversified portfolio approach. Having exposure to a dozen tech companies via a fund is a better strategy than punting on one or two, such are the high stakes involved.
One option is using unlisted managed funds that specialise in global tech stocks. The Platinum International Technology Fund, for example, has returned 24 per cent annually over three years to October 31, 2015.
Like Platinum, tech-focused managed funds tend to invest in larger stocks. These funds have their place in portfolios, but will not suit investors who want exposure to early-stage public or private tech companies and the next 1-Page.
Listed Investment Companies (LICs) are a newer option for tech exposure. They typically invest in Australian or international equities, but some LICs that have listed in the past 18 months have specialised in tech companies or other small-cap stocks.
As this column has reported previously, the LIC market is undergoing a renaissance as the self-managed superannuation fund (SMSF) boom and higher requirements for financial adviser independence boost demand for listed managed funds.
Bailador Technology Investments is a promising newcomer. It listed on ASX through a $25-million IPO in November 2014. Its $1 issued shares fell to 76 cents in September, before recovering to 97 cents. The latest net tangible assets (NTA) per share is $1.09 (not factoring in the potential options exercise). The pre-tax NTA would be $1.04 if all options were exercised, meaning Bailador trades at a discount to asset backing.
Bailador invests in unlisted Australian and New Zealand internet companies that have demonstrated revenue and a customer base – companies that, in theory, have passed the start-up phase and are trying to engineer explosive user growth. Bailador is the only ASX-listed LIC that specialises in tech companies.
Seven tech companies are in Bailador’s portfolio and there is scope to add another before options that were issued through the IPO are exercised in March 2016. Bailador says a full or partial exit of one of two companies in the portfolio is likely within six to nine months.
Investments include SiteMinder, a travel distribution company; Viocorp, a leading online video provider; iPro Solutions, a tech platform in compliance and security; and Straker Translations, an emerging company in the growing international translation market.
I like Bailador’s portfolio and strategy to invest in a high-conviction portfolio of established tech companies. David Kirk, the former CEO of Fairfax Media, and Paul Wilson, a former director of CHAMP Private Equity, co-founded Bailador and lead its investment team. It’s a very experienced management team for a tiny LIC.
Their model of investing in companies that have best-in-class technology or business systems, and gaining a board seat, has merit. Effectively, Bailador becomes a minority investor alongside highly motivated, incentivised entrepreneurial founders.
It is targeting companies in the expansion phase, where the technology has been de-risked, management has proven execution capability, and there is revenue between $2 million and $10 million. Essentially, Bailador is giving retail investors exposure to the pre-IPO market, which is the preserve of Silicon Valley investors, private equity funds, and ultra high-net-worth investors.
The risks in the expansion stage for tech companies are, by their nature, high. But the best tech companies usually attract funding from capital in the pre-IPO stage, not rush to market with a listing, as is the case with many tech companies in this current listings boom.
That said, Bailador suits speculators. The micro-cap fund is capitalised at $57 million and is a new concept on ASX, although I expect more tech-focused LICs to follow its lead. Also, Bailador’s underlying asset class of fast-growing tech companies is highly speculative.
But using an LIC for diversified exposure to early-stage techs, and relying on professional investors who have sector expertise, networks in Silicon Valley and access to deal flow, makes more sense than punting on a tiny tech listing – especially for long-term portfolio investors.
Tony Featherstone is a former managing editor of BRW and Shares magazines. This column does not imply any stock recommendations or offer financial advice. Readers should do further research of their own or talk to their adviser before acting on themes in this article. All prices and analysis at November 19 2015.