IMO, there are several problems with LAW as an investment proposition which caused me concern and changed my sentiment from that of a buyer to a seller
.DYOR.
SHARE OVERHANG
Firstly there are convertable bonds totalling $3,695,000 (currently earning 11.5% interest) which are repayable on 29 November 2019, alternatively these bonds can be converted into 78,125,000 shares at a strike price of 6.4c - so this pending potential Capital Raise is clearly limiting the current share price.
ENTERPRISE VALUE
Historically, the acquisition of the US division took a long time to be agreed with the vendors. With a sale price starting at USD68 million for 70% equity (enterprise value USD97.143m) on 12 September 2017, then reducing to USD61.8m for 70% (enterprise value USD88.285m) on 31 October 2017,
The final agreed sale price in 2018 was $USD 53m (enterprise value USD 53m)
This was a 45% reduction in the original asking price for the US business. Caveat emptor!
It was reported that the post transaction (2 October 2018) market cap would be $AUD40.2m. (note that the LAW market cap is currently $30.46m i.e. a fall of 30% in a few short months)
Net Receivables on acquisition were USD 76,013,000 (Note that one of the performance hurdles for a director receiving a further bonus payment of USD4.15m is that USD 50m has to be collected of the USD76m i.e. 65%)
BUSINESS VALUATION
If one examines the published financials for 2015, 2016, 2017 and 2018 1/2 year, the sales revenue of $73.791 impaired down to $48.864m in CY2015, $114.56m impaired down to $69.093 in CY2016, $38,185,922 impaired down to $14.178m in CY2017 and $10.145m uplifted to $11.904m in H1CY2018, it is not too difficult to understand why the negotiations were protracted. Average revenue was USD46m for the 3.5 years, however sales revenue indicated an annualised average of only USD17.4m for the last 1.5 years. It was a loss making business (2016,2017,2018) that managed to achieve a sales price of USD53m. (Noted that the current Executive Director -CEO was rewarded with a bonus of USD72,990 for her work in putting the deal together).
On the other hand I note that the former Executive Chairman has commenced legal proceedings against LAW in relation to various aspects of his exit from the LAW group.
GEARING
The acquisition was funded by the issue of 215.3m shares in LAW at an issue price of 8c equalling AUD17.224m (escrowed for 3 years until 29 September 2021) and the balance entirely by debt:
Syndicated Loan Warrants @13% (strike price AUD14c on 28 September 2022) USD24.8m
Vendors Warrants @ 13% (strike price AUD14c on 28 September 2022) USD17.2 m
Vendor Promissory Notes @ zero% (repayable 16 January 2020) USD 9.0 m
The current LAW interest bill (excluding borrowings to finance current receivables) is:
Syndicated Loan Warrants - AUD42m(USD29.968m) @ 13% USD3,869450
Vendor Loan Warrants - AUD17.2m (USD12.96m) @ 13% USD1,685,840
Vendor Promissory Notes USD 9m interest free
Convertable Bonds USD3.695M @11.5% USD424,925
Loans USD5.238M @ 19% USD995,220
Warrants USD 1m@12% USD120,000
TOTAL ANNUAL INTEREST USD7,095,435
@ current USD/AUD EXCHANGE RATE 1.43 = AUS10,146,472
ADDITIONAL BORROWINGS
Loans USD 1.5m @ 13.5%
OPERATIONAL FUNDING (@31 December 2018)
US BUSINESS
ATALAYA (Facility USD 80m) (Expires 25 April 2022) USD 39.902m
(13.25% on Drawdown + 1% on Unused)
LUCERNE Drawn Down USD5.238m @ 19%
AUSTRALIAN BUSINESS
ASSETSECURE AUD 20 .028m
(8.95 on Drawdown = 1% on Unused)
LUCERNE USD8.545m @ 13.5%
Vendor Loan USD 0.824m @ 7.5%
DIRECTOR & SENIOR MANAGEMENT REMUNERATION
The remuneration levels of LAW are IMO excessive for a company of this size.
AUSTRALIA
Non-Executive Chairman USD 75,000 AUD 105,000
Non-Executive Director USD 54,218 AUD 75,000
CEO USD 397,595 AUD 550,000
COO USD 253,015 AUD 350,000
CFO USD 162,653 AUD 225,000
Sub Total - Australia USD 942,481 AUD 1,305,100
USA
Executive Director USD 400,000
CFO USD 225,000
COO USD 230,000
Sub Total - US USD 855,000 AUD 1,183,960
WORKING CAPITAL
Whilst US Net Receivables have grown (Net Receivables is the value of the actual cash expected to be received over the next four years, after provisions but beforenon-cash accounting adjustments e.g. fair value and deferred profit (unrecognised day 1 margin).
@Acquisition (29 September 2018) USD 76,003,000
H2CY2018 (31 December 2018) USD 92,880,000 (USD 96m shown in Q1CY2019 reporting)
Q1CY2019 (31 March 2019) USD 105,300,000
Actual US cash collections have declined
H2CY2018 USD 5.7
Q1CY2019 USD 5.1
With such a highly leveraged company as LAW is, cash collections are of paramount importance, so it is very concerning to see such a major decline espacially as the US operation has been loss making since 2016.
SERVICABILITY
LAW has a mountain of debt to service at high interest rates (AUD10m interest per annum on non-operational borrowings alone), it has a large number of repayments due within the next 3-4 years, an overweight salary structure and recently paid the equivalent of USD53m for a loss-making US business (note that whilst the vendor asserted that revenue had remained constant during investment cycles and that it had experienced many years of consecuitive growth and earnings. the financial accounts for the period 1 January 2015 thru 30 June 2018 reveal an entirely different situation).
OUTLOOK
Lets hope the LAW BoD and management team are successful in growing LAW in the future.
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