Halo Technologies IPO (ASX:HAL): Some Thoughts On Risk
I recently reviewed the Halo Technologies IPO (ASX:HAL) prospectuses for its planned listing on the ASX in April 2022. There are several key issues that I’m concerned may deliver suboptimal outcomes for investors.
Halo Technologies provides “online global equities research and trade execution software solution that brings sophisticated institutional-grade analytical frameworks and market insights to everyday investors. HALO’s investment software solution offering can be divided into two integrated elements – HALO Global and HALO Trading.” Broadly, there’s an investment research arm, and a stockbroking arm, although there are also asset management businesses and financial software products like Macrovue in the mix. More on these later.
Halo and its parent, AAIG (more on this later too) have spent the last few years rolling up financial technology businesses to build this integrated technology platform. The underlying theme of the prospectus is very simple. Investors commit money to grow the Halo business. The management team takes below-market salaries ($150k) and invests the money in overseas acquisitions and organic growth via marketing and so on. In return, if management grows EBITDA from ~$2m to ~$14m in the next two years, they receive very significant stock awards.
If only it were that easy. In no particular order:
- The incentive structure appears poor
- The bulk of Halo’s revenue comes from Halo parent AAIG’s own clients
- Halo has not demonstrated a talent for acquisitive growth
- Halo is potentially overpriced
- Halo management does not have a recent track record of operating profitable businesses
- There is the potential for significant governance risk
So, there is a bit to unpack.
1. The incentive structure is poor
If they can grow EBITDA from $2.25m to $14.25m by 31 Dec 2023, Halo management will receive the equivalent of ~12.87% of the shares outstanding at IPO. IPO investors are providing all of the funding for management to acquire businesses and in addition to already owning ~50% of the business, management will receive another big chunk under the performance structure.
EBITDA is a low hurdle. Without per-share or cashflow guardrails, EBITDA hurdles can be met through a variety of creative levers like long-dated contracts booked upfront, and dilutive scrip acquisitions. My guess, given the incentives, is that the EBITDA hurdle will probably be met, but there’s no guarantee this creates value for IPO investors.
There’s an argument that the performance rights fairly compensate management for a low up-front salary & keeps cash free for growth. In this specific case, I strongly disagree with this. Shareholders are providing ~$40m in capital (~20x the company’s current balance sheet equity) in return for ~14% ownership of the business (fully diluted). They are funding all of the growth, taking all of the risk, and receiving only a fraction of the benefits.
Hilariously, the performance incentives of 18.75m performance rights are, at the $1.20 IPO price, more than the company will actually add in EBITDA! If successful, you’re paying management more than $1 for every dollar in operating profit they add over the next 18 months.
Better yet, that payment reduces the value of shareholders’ own shares through dilution rather than coming from the organisation’s earned cash (where management are the majority shareholders). This is a great deal for management and a shitty deal for investors, in my opinion.
2. The bulk of Halo’s revenue comes from AAIG’s own clients
In my view, Halo hasn’t yet shown that there is significant demand in the wider market for its product. The bulk of its revenue appears to come from related parties APSEC/ASR Wealth advisors and Australian Stock Report. These parties refer subscribers (B2B & B2C) in return for a commission. APSEC is co-owned by Halo parent AAIG and Halo Managing Director, Matthew Roberts (who owns >50% of Halo and >50% of APSEC). AAIG owns the Australian Stock Report.
This is fine, but it’s unclear whether this business can grow outside of its existing client base. Cross-selling to an existing customer is one thing, growing rapidly in a highly competitive market is entirely another. Customer churn is 12-15% a year which is OK for this kind of business.
3. Halo has not demonstrated a talent for acquisitive growth
Halo intends to “expand through a combination of acquisitive and organic growth, including in offshore markets”. On the acquisition front, the two investments it has made so far (Macrovue and Domacom) are simply not very good.
The rumour a few years ago was that Macrovue “failed”. It’s hard to say if this is true, but the gain on bargain purchase recorded by Halo lends the idea some credence. Additionally, the 2018 AAIG report highlights that “HALO acquired Macrovue towards the end of FY19 on deeply discounted terms following a period of negotiation…”. Two years later, Macrovue only has 180k in revenue. It’s an interesting product but it’s clearly not a successful business – not even a meaningfully growing one.
Domacom (ASX:DCL) is another interesting investment. Halo Technologies invested in Domacom – a recapitalisation transaction, of all things – for $3m worth in September 2019. My personal take is that Domacom was a basket case then and it’s still a basket case now. It spent most of the past year in suspension because it ran out of money (again).
Maybe investing in businesses on the cusp of failure is a genius business strategy. It’s not impossible to do very well out of it. Still, more than two years in, the results have not been spectacular.
Halo also owns a handful of other businesses like Push Notifications Pty Ltd, which it acquired in November 2020. Fifteen months on, that company doesn’t appear to be a meaningful contributor to revenue either. I assume it was acquired for the eponymous “push notification” technology, but given that most of Halo’s revenue still comes from related party clients, I’m not sure this acquisition has moved the needle on the business.
An interesting related observation – push notifications are bread & butter for any technology business. Did Halo feel the need to actually acquire that technology?
4. Halo appears overpriced
At IPO, Halo will have a fully diluted market capitalisation of $176m at the minimum level of offer, and historical pro-forma trailing EBITDA of $1.9m. Using the forward FY22 EBITDA performance target of $2.5m as a guide, Halo will list at 70.4x EBITDA.
The Independent Expert’s Report (IER) uses 20x EBITDA as a “fair” multiple for this type of business (I disagree because the comparison companies are Factset & Morningstar, but whatever). The IER concludes that reaching the performance hurdle ($14.25m EBITDA) will add $188m in incremental market cap to Halo.
In my view this is rubbish. The IER estimates that Halo will have a market capitalisation of $382.3m (post-dilution) if the performance hurdles are met. Ironically, this puts Halo on a multiple of 26.8x EBITDA, well above the IER’s own estimate of a fair multiple.
This doesn’t take into account the risk of further dilution for acquisitions. My guess is it’s more likely the EBITDA multiple shrinks and the growth to $14.5m EBITDA doesn’t create much incremental value.
For context, the comparison list. I would suggest CMC & IG Group on 6x + a premium for growth potential would be a fairer multiple:
5. Halo Technologies’ management team does not have a track record of operating a financially sustainable business
Every year from 2017-2021, Halo’s parent AAIG delivered atrocious results. Here’s a snapshot:
- 2017: Lost $4.7m on $7.4m revenue. Issued $7.7m in new shares.
- 2018: Lost $6.5m on $7.4m revenue. Issued $11.3m in new shares.
- 2019: Lost $9.8m on $9.6m revenue. Issued $8.5m in new shares.
- 2020: Lost $9.1m on $16.8m revenue. Issued $11.8m in new shares.
- 2021: Lost $6m on $18m revenue. Issued $8.8m in new shares.
I mean – Jesus Christ! Over the company’s lifetime it’s raised $62.5m in contributed equity and recorded $49.3m in losses. Now, there’s nothing wrong with running an unprofitable business. One of the joys of capitalism is that it lets you fail and start again. Plus, Halo Technologies is profitable, so maybe there has been a lesson learned here.
But – remember, the spending at Halo hasn’t really started yet. The company wants to raise $40m so it can separate itself from AAIG and scale up marketing and acquisition. I gotta tell you, looking at this, I am not McLovin it. Considering the AAIG directors in those years were Matthew Roberts, George Paxton, and Ivan Oshry – who are also directors of Halo – prospective investors ought to ask about the likelihood of financial success for Halo.
6. There is the potential for significant governance risk
Halo management will hold 50.1% of the Halo vehicle post IPO. The two groups that provided the bulk of the funding, AAIG and public market investors (assuming IPO succeeds), will own roughly the other half. As far as I can tell given limited disclosure, most or all of the initial funding for Halo came from AAIG.
Matthew Roberts, George Paxton, and Ivan Oshry were directors of AAIG and (I assume) Halo during all of those years. This makes me really, really curious about the commercial decisions that led to the directors of both parties deciding “the correct post-IPO split up of value here is 29% for AAIG who provided most of the initial funding and staff, ~14% for the public shareholders, and 50% for the Directors personally”.
It’s also very, very weird to me to see that directors of Company A earned 71% personal shareholdings in a company incubated by Company A, while being employed by Company A. Like, seriously? The Halo supplementary prospectus states:
“In February 2018, HALO Technologies was incorporated with the initial shareholders being Matthew Roberts (51%), AAIG (29%), George Paxton (10%) and Nicolas Bryon (10%). The shares were issued for nil cash consideration in recognition of the fact that the founders applied considerable time and effort to the establishment of the business and operations of HALO Technologies and did not receiving a salary from HALO Technologies…’
Man if I am reading this right, that’s such a great job to have. Run a company, start another company and make yourself the 71% shareholders, and use your first company’s funds & staff to fund your new venture in return for a minor stake. All while your first venture is disgustingly unprofitable and continually raising capital!
The above creation of Halo Technologies reflects significant governance risk, in my view. IPO investors must trust that they will receive 100% of the benefits (proportionately) from the funds that they invest. If management were to create future subsidiaries using investor funds with themselves as significant personal shareholders at no cost….uhhh that would not be good.
Hiring contractors as key management personnel?
Lastly, one factoid that stood out as interesting from the Halo prospectus was the use of “consultancy agreements” to fill all of the key executive positions. All of the key management personnel – CEO, CFO, Managing Director, are all independent contractors.
This is not unheard of but it is definitely not the norm. I would be very interested to know whether AAIG used a similar independent contractor structure and if that had any relationship to the incubation of Halo & management’s 71% personal holding in that business.
The bottom line
In my personal opinion, this doesn’t look like a great deal for IPO shareholders. It looks expensive and risky. Management has a very friendly set of incentives and the creation of Halo & management’s personal shareholdings raises interesting questions. Halo’s acquisitions so far do not appear to be spectacular. Plus, the previous company that directors ran was consistently heavily lossmaking and relied on ongoing capital raises to survive. Halo Technologies reminds me of Trimantium Growthops (ASX:TGO), a terrible IPO from years ago that had a similar combination of business risk with significant benefits for insiders.
Food for thought.
This post is written for entertainment value and reflects the author’s personal opinion. Please do your own research and consult a qualified financial advisor before making any investment decision. I have no financial relationship with or shareholding in, Halo Technologies or related companies AAIG, ASR, APSEC etc. Furthermore, I have no relationship whatsoever with any company directors or personnel. I will not participate in the IPO or purchase shares on market afterwards. This is a disclosure and not a recommendation.