Ann: Preliminary Profit Advice - Half Year Ended 31 December 2016, page-7

@madamswer

Madam

Happy new year and all that jazz.

Firstly let me say that I wholeheartedly agree with your sentiments concerning those that have expressed disappointment at the "lack of growth" demonstrated by ASW. Secondly, and related to this, your sentiments about the way top line numbers have held steady in the face of the WA carnage, resonate strongly with me. Anyone looking at a chart of ASW's revenues going back to FY 2004, superimposed against a relevant stock index (say the XMJ the ASX200 Materials Index, or the XMM the ASX300 Materails & Mining Index) that isn't impressed, must have their eyes closed.

Then there is the not insignificant matter of an over 24% IRR[#] that the company has generated for its shareholders from June 2009 (first full year after listing) to June 2016.

[#]: Conservatively based on dividends delivered excluding franking credits + capital returns + closing NTA (ie excluding intangibles), less starting year book value (including intangible client list).

Impressive stuff.

That said, I'm still not sure what to read in the revenue surge of H2 FY2016 (33% increase versus pcp). Perhaps the Xmas period has turned my brain to mush, or perhaps it was already mush to begin with.

I'm particularly unsure for the following reasons:

1. Yes, staff numbers went from 15 at June 2015 to 23 at June 2016. Looks like an impressive rise, yes. But on the other hand, at June 2014 they stood at 19. So, in terms of the annual average, I'm not sure that we can conclude as big a surge as what might appear.
2. Further to the above, staff costs over the annual periods, have remained relatively flat: FY16 $1.41m, FY15 $1.39m, FY14 $1.40m, FY 13 $1.36m, Fy12 $1.41m.
3. Whilst there was a substantial increase in indirect operating costs in FY16 (versus pcp), this was almost entirely attributable to "postage, printing & stationary". Does this indicate a cost investment heralding substantial increases in revenue to the tune of that displayed in H2 FY16? Perhaps. I personally don't know.

With respect to your comments about a 4% increase in operating profit (H1 FY17 versus pcp), I'm not sure how much I would want to read into this. Consider the revenue fluctuations that have been displayed over half year period, in recent years (leaving aside the "outlier"that was H2 FY16):

H1 FY16 vs pcp: +5%
H2 FY15 vs pcp: +1%
H1 FY15 vs pcp: -1%
H2 FY14 vs pcp: +8%
H1 FY14 vs pcp: -4%
H2 FY13 vs pcp: -5%
H1 FY13 vs pcp: +3%
H2 FY12 vs pcp: -15%


As you well know, these sorts of revenue swings can be expected to result in substantially greater profit swings (by my estimates, operating leverage is such that a 4% revenue increase, with no change in operating costs, can be expected to result in an over 8% increase in EBITDA).

So in conclusion, whilst your thesis may prove right and I'm not suggesting that the business is currently expensive (by any means), given the risks going forward, such possible technological headwinds and risks inherent in a micro cap of this sort etc, I personally would prefer a juicier margin of safety.

If your thesis proves wrong and/or the WA economy provided further headwinds, and near term revenues prove a little less enticing than what H2 FY16 promised, than I hope that margin will magically materialise.

We live in hope...