Pretty happy with today's update.

APSW Acquisition

• Another Equity stake in a AR firm, this time under the Paragem license (MWM under GPS Wealth), which consists of solely AR's.
• Steve Atkinson is quite old having worked in the industry for 45 years, dating him in atleast his mid 60s. David Saynor has worked there for 20 years is a GM of the business, and has held equity since 2017. Outside of this their website says they have a paraplanner and a client admin assistant. LinkedIn data appears to also show that a new paraplanner came on in Feb 2023.
• As part of the transaction, it appears that this allows an exit for Steve and a further increase in equity for David.
• 100% basis Purchase consideration is $3.2m upfront and 8mth withheld $0.8m for stable results. Also, a minor $0.3m growth bonus on offer. EBITA expected in first full year of ownership of $0.6m.
• DVR is buying 55% so 2.37m all up including deferred components for 0.33m of EBITA. multiple of 7.2x

M&A Program

• They also allude to progress in the M&A Program, having acquired 1.5m in EBITA in FY23 (per the acquisition announcements). I also estimate that including deferred components they have spent ~$9.1m, a multiple of 6x EV/EBITA, which is reasonable.
• In today's announcement they seem to show $1.3m of acquired so there is a variance to figures announced. This could result in less cost due to non-performance for deferred consideration, but we will find out in the future.
• Using 28% EBITA margins and 15.7m of M&A spend from the open house presentation last year, is it reasonable to assume they need to drive ~$4.4m of EBITA from these deals over 2022-2025. Having spent some 60% of the 15.7m already but only 30% of the EBITA target, they need material synergies from the acquired businesses to reach that level of EBITA, alluded to by a M&A target of $1.5-2.1m of acquired EBITA target. So, acquire and double profit organically? seems very hard.

FY23 And FY24 Outlook.

• Quite satisfied with the comment of a "materially improved 2H FY23 EBITA", they need +62% larger EBITA than the 1st half to return to flat YoY full year EBITA.
• FY24 outlook is for 'solid' earnings growth. That's all we got... But I can work with materially improved FY23 and reasonable valuations on these acquired deals.

At $0.83 Diverger is quite appealing with >$0.12 in NPATA/Share likely if results are flat YoY. This would pay a fully franked dividend of 8.5-12.5%. If they get strong earnings growth on top then needless to say it should trade higher.

See below, my notes on todays deal. I have been using https://journalytic.com and highly recommend it. Very useful

Initial Impression

Today's deal of AFSL Compliance fits the type of deal I want to see from Diverger, a smaller inorganic deal priced at 2.7x upfront EBITA with scope for another ~4x upfront EBITA from earnouts over the next 3 years. So after tax, you have ~10x PE which isn't mind blowingly cheap but diversifies revenue well into the fast growing self-licensed segment of advisors, so It would not be surprising to see this business grow organically quite strongly.

Website

https://afslcompliance.com.au/

#risk

• This seems to be a sole proprietor business, henceforth we need to properly assess the key-man risk. lack of durability?
• In-house knowledge diverger has alleviates this?
• Until this deal, the business was entirely independent, which could be appealing to self-licensed advisers. Would an affiliation with a listed company that owns several dealer groups create friction in that relationship and as a result have churn in ongoing compliance clients?
• Alleviated in part by earn out payments, but years 1 & 2 are tied to revenue so maybe not. What is year 3 earn out target (uplift in earnings?)

#synergies

1. Possible revenue synergies with Knowledge shop adviser education?
2. Possible ability to leverage staff from licensees to provide self-advisor compliance support - knowledge in house is clear.
3. Self-licensed market is growing, in fact the only area of growth so this business should be in demand and growing.

#ManagementCall

Questions Call with Nathan

• is there key man risk given that Stewart seems to be the only staff member? If not how many is there?
• He is the only staff member, he has been running at capacity for 2 years, pushing back 2-3 inquiries a week, indicating significant potential growth given current client base is ~160 ongoing advisers.
• They have basically not been doing AFSL set ups at all for the past 2 years
• Nathan did assess key man risk and Stewart expects to remain employed for >10 more years and they have incentivised financially well to retain him.
• What synergies are you expecting between the group and this?
• Synergies with all parts of the business, cross sell incentive in place (STI) for this, KS wealth advice etc.
• What are the margins?
• "all drops to the bottom line" $700k in revenue in FY2022 w/ $500k in EBITA.
• They are going to put 1 staff member in the first year into the busines to be able to take on new customers. Expected Short term impact on profitability.
• How much working capital does the business have?
• Next to none, billed in arrears but customers typically pay within a week or so.
• what are the earn out requirements for years 1,2,3?
• Next 2 years revenue targets are for modest organic growth
• 3rd year is a financial return earnout for shareholder strategy target.
• What has historical growth in revenue and earnings been for the business?
• Steady growth from 2010 until 2 years ago when stopped taking new business. (nathan did not want to disclose the growth exactly).
• Would an affiliation with a listed company that owns several dealer groups create friction in client relationship and as a result have churn in ongoing compliance clients?
• Keeping stewart on and stressed that nothing would change besides access to more new services so does not expect any material churn.

Diverger this morning has come out with their annual report and some favourable developments have occured around capital allocation.

Strategy to balance growth and shareholder returns:

• Investments into operations funded from free cashflow and debt at accretive ROIC (Return on Invested Capital) i.e. ahead of the Company’s weighted average cost of capital (WACC), over three years
• Dividend payout ratio to be 40% - 60% of NPAT, adjusted for non-cash impairment and fair value adjustments, with available franking credits distributed where available
• Conservative capital structure: target range of 1.0 – 1.5x Net debt / EBITDA leverage
• Board to retain flexibility outside of these guidelines based on value accretion opportunities

In addition to this they gave us a new updated FY2025 target plan as below:

1. Net Revenue to 40-45m (10-14% CAGR)
2. EBITA Margin of 28% (Note this includes corporate costs)
3. EPS of 14-18cps
4. FCF of 18-22cps
5. ROE of 12-14%

This is a very favourable outcome for me and has led me to raise my valuation quite significantly in line with reduced concern around shareholder value. In line with this they have increased the 2.5c dividend to 3.5c as well, putting the stock on a dividend yield of ~5% Fully franked.

On another note, Centrepoint alliance (CAF) released their annual results today as well with no mention of the Diverger Bid in the entire report, leading me to believe a close is very unlikely which given the cost of equity of Diverger scrip, is a very good thing.