Interview with H&G High Conviction Limited (Pre-IPO) Portfolio Manager, Joseph Constable
Listen to this episode: https://open.spotify.com/episode/3u1BkbR7AqheIq9U21lAmI?si=e111364f04da4126
[00:00:00] Ben: I'm joined today with Joseph Constable from H&G High Conviction Limited. Joseph, how are you?
[00:00:07] Joseph: Yeah, very well. Thanks, Ben. It's good to be here and I appreciate your time. How are you?
[00:00:12] Ben: Yeah, I'm great. Thank you. We were just talking just talking before this so tell us a little bit about what was a fund, and is now a company, and I guess the journey that you've been on.
[00:00:24] Joseph: H&G High Conviction Limited is a investment company and it actually has a 14 year history. It was founded in 2007 as a unit trust investment fund. And it's had the same strategy the whole time, which is investing in microcap companies finding a niche within the ASX listed universe.
[00:00:45] Joseph: And we, so we started this in 2007, have had a long term track record of out-performing with this kind of strategy, and that's because we're looking where most others aren't, especially, most institutions aren't. This is fifty to a hundred million dollar market cap companies, getting to know them better than most, usually being one of the first institutions on the register. So, finding these hidden gems.
[00:01:10] Joseph: And so the fund has going since 2007 and in 20 21 Hancock and Gore, the listed investment group, bought the funds management rights to this unit trust. And I was a director of Hancock and Gore, because the fund itself had an investment in Hancock and Gore and it made sense to merge the funds management business into Hancock and Gore with a view to growing a meaningful funds management business.
[00:01:38] Joseph: So we're now a year later. This unit trust has turned into a company with a view to it being listed on the ASX. And that's the first flagship funds management product, so to speak, of Hancock and Gore. And we had a positive step when Perennial Value Management invested into the fund as a cornerstone investor .
[00:02:00] Ben: There's a bit to unpacking this. I wanna just take a step back and talk about, I guess size of company. I'm having a little chat with someone on LinkedIn recently, and they were talking about small cap opportunities that are being overlooked. Yep. And they mentioned Nine Innocent, and I was like, Nine Innocent, aren't they a multi-billion ASX 200 company?
[00:02:23] Ben: So I said, " what do you define as big, medium and small?" Basically for them, ASX 50 is big. ASX 100 is medium, and ASX 200 is small.
[00:02:33] Ben: And I really loved how it's the same data, but I don't look at it that way. I look at the ASX 200 as all being big. And there's 2500 companies, something like that on the ASX. Talk a bit more about that target market you spoke about and how many companies are in there and probably a bit more about how many companies you'd want to be invested in.
[00:02:52] Joseph: Yeah, I like the question a lot and it's interesting how the ASX is composed. So as you say, most people would be looking at what we consider to be the larger end. It might still be called a mid-cap or small cap. These large companies, even the small orgs would be billion dollar companies.
[00:03:06] Joseph: So funnily enough, most companies on the ASX are actually sub $300 million in market cap. So there's about 1500 of those in our universe. And of course a lot of them are penny stocks, resource companies that have gone nowhere, et cetera. But you have some real gems in there. And $50m-$100m market cap is our real sweet spot.
[00:03:28] Joseph: And the reason for that is that people just aren't really looking there. And I think that's just totally under the radar. And where so much of the investing is done is through institutions and pension money, superannuation money. It's just not worthwhile for these institutions to be investing in these small companies because they might need to have 10 or 20 or 30 of them just to move the dial and then they have to do all the work and understand them and maybe have board representation, so they just don't play in that space. So that's where we find our niche. We're not trying to be a massive fund and grow rich off management fees, but we are really trying to find companies and get the best performance out of them.
[00:04:04] Joseph: That space, there are a lot of companies there in that universe. Sub $300m, say 1500. It can be a dangerous game, you know, and so we need to do a lot of due diligence and really understand these companies and so we only actually invest in something like 15 to 25 companies at any time.
[00:04:20] Joseph: And every one of those, we have the CEO on speed dial. We know them really well. We've courted with them for six months to a year, and we often will be quite actively engaged whether we join the board or are part of strategy, for instance helping with mergers and acquisitions. So, it's really hands on. It's almost like private equity, but in a listed space.
[00:04:38] Joseph: And the good thing about that is you can get some great bargains because often people, they see a liquid market, so they say "I'm gonna sell my stock in that," they don't really think about the valuation. So you can pick up some amazingly well- valued parcels of shares when someone doesn't know much about what they're selling.
[00:04:53] Ben: You mentioned listed private equity. I think of it as listed VC, the same sort of thing, right? Yeah. I think that there are a lot of undervalued listed companies because they're thinly covered.
[00:05:07] Ben: You know, you've always got people who need to sell for one reason or another. And if you've got $25k in a stock that trades $10-$15k a day, you can move the market cap by millions of dollars just by needing to get access to that cash. And it's a, it's definitely a market where full time investment yields a strong result. And so I guess if you are looking at those models they're a typical sort of two and 20 in the private space, you know, 2% management, 20% performance.
[00:05:40] Ben: Is that the same structure that you guys have implemented?
[00:05:43] Joseph: We have a 1% management fee and then a 20% performance fee, and that's only if we are performing above our benchmark, which is a flat 5% year.
[00:05:53] Ben: Fantastic. So it's half the management fee of a standard fund.
[00:05:57] Joseph: And we are incentivized to keep our fees as low as possible because we, as I say, we're not gonna get rich off management fees anytime soon. Cause we don't want to make the fund enormous because we wanna remain nimble and be able to invest in these small companies.
[00:06:10] Joseph: So we will cover our costs, but make our money from the performance fee, and the performance fee only kicks in post our management fees.
[00:06:18] Ben: Will you be talking to the market about the positions that you take and why?
[00:06:23] Joseph: Very much and very actively. I love talking about stocks. I wouldn't be in this industry if I didn't. But for me they're not really stocks, but they're companies that we know and we love. There's so much to get to know about them. I love chatting about them and having an open dialogue. We have, over the years, actively reported. We have done monthly updates, even as a private unit trust, and we'll continue to do that as a LIC and talk about our positions, give updates on them, and really explain why we're holding them. And I love to be challenged and discuss that with our investors a lot of whom have industry experience that we might not have so we can really have a good dialogue with them.
[00:06:59] Ben: Now obviously you are doing an IPO at the moment, and if anyone's listening wants to participate, you know, we should make sure that we say, go read the prospectus. Consult your financial advisor do all your due diligence. But do you wanna tell me, take me through a bit who came in pre IPO? So what's the pre IPO makeup of the investments? You said it's been going since 2007, which, you know, must have been an amazing year to start the fund. But give me a bit of a rundown of where the monies come from and who are unit holders beforehand.
[00:07:33] Joseph: Yeah. So as you said 2007 was a great year to start and to get cash. And we think we're in similar territories right now in terms of this is the best time to be raising money when fears are high and you get some amazing bargains, the best we've seen in a decade. And in terms of who was there before, there was a group of 12 unit holders, and that's family and friends.
[00:07:52] Joseph: So my immediate family holds 25% or so of the fund and has held it from the beginning. And then all the original shareholders unanimously agreed to convert from a unit trust into a company and that formed the base of these assets. And they're just all listed companies, most of which have been held by the investment vehicle for five years or more.
[00:08:10] Joseph: And then just after that conversion, Perennial Value Management came in and they took up 18% of the fund and they've stated they will hold about 14% post IPO. So they're gonna top up to keep that holding at 14%. And then Hancock and Gore, the head company invested into it, and also the executive chairman of Hancock and Gore, Sandy Beard, invested into the fund as well.
[00:08:35] Joseph: So that's all the pre-IPO and the price of which all the investments happened and will happen for the IPO are just purely at the market prices of the underlying holdings.
[00:08:45] Ben: And I think I saw you've got a nice conversion there that you as people subscribe, say they subscribe for $25,000. It's the net assets on the day of completion or thereabouts. Again, read the document to make sure but if there's a movement, then it's adjusted accordingly. So I guess you, you're not carrying risk. Yeah.
[00:09:03] Joseph: Precisely, no market risk. And we also are very strict on we're not taking any fees out of people that are investing. So if you invest a dollar in the first day, your investment will be worth a dollar. The manager is bearing all the costs.
[00:09:17] Ben: Which is, you know, obviously going to yield a better net asset value to share price ratio than some of the other LICs have had over time. I think again, no advice, but, you know, I think that's clear. Is there any unlisted going to come into this? You only doing direct equities? Are there any notes? Like what sort of mandate does the fund have to move through that?
[00:09:38] Joseph: Our focus is listed and as I said, $50 million to $100 million market cap companies, and we have the room to do convertible notes if there's a view towards them turning into equity and we think that's a good way of entering into that company, but our focus is on equity, and that will be the large share of what we invest in. That's what we know best, and we like to be participants in that company. And clearly, if you have voting power and you have an equity stake that's the way to do it.
[00:10:05] Ben: So 15 years now that you've been running this strategy, what are some highlights, right? What are the ones? Give me, gimme one that you got right. Give, gimme one that you missed. I think sometimes we learn a bit from that as well.
[00:10:20] Joseph: Yeah. Go to would be probably one of the recent ones that we've been invested in for many years, over a decade, and it's called Po Valley Energy. It owns natural gas fields in Italy, and we held it from the early days because the thesis was these are strategic assets. Italy imports 90% of its gas, which accounts for the majority of its energy production, and it also produces gas in a very clean way. But they were just happy to import it all from Russia and Algeria, et cetera.
[00:10:50] Joseph: So, we held onto those assets, but over time we became a bit more active. I joined the board of the company about nine months ago and helped just to bring a bit of governance into it. And we were the first institutional shareholder really on the register. So I think it was important to bring it from being just almost privately held by a few big shareholders to bringing in an institution. We helped with a few major capital raises to really change the register. Regal came on as a substantial shareholder and the share price has reacted accordingly. I think obviously the macro has been very positive because we can be a solution in this energy crisis that's going on in Europe. But I think the really exciting thing is to be part of that change and be on the board and have the share price go up by over a hundred percent in that period of time and be part of that success. So that, that for me is a real highlight.
[00:11:40] Ben: And I think you know, obviously the the situation in Europe around energy is a fluid one, and definitely something that you know, big impact on the supply of energy into into Western Europe. So that would've definitely helped. But it seems like you were ready beforehand, right?
[00:11:57] Joseph: Yeah. Appreciate that. That's the idea. And the only thing I'd add to that is, further to what you said, these companies can have fantastic assets, Microcaps and businesses.
[00:12:09] Joseph: They can also be lifestyle companies, and that's a big trap and you can get value traps, and it just needs to be very clear to the market that companies are being run for shareholders as opposed to being a lifestyle business. So I think that's what we always look for and that's what we always like to be part of and I think the market understands that and reacts accordingly.
[00:12:28] Ben: That's nice. A hundred percent in nine months. You know, it's a $75m market cap stock now. Tell me something that you missed. Either you invested and it didn't work out, or you looked at it and for whatever reason, said "no".
[00:12:42] Joseph: One is company called Pay Group, ticker is PYG. So we looked at that about year, a little more than a year ago. It's a company that does payroll software. You know the one maybe.
[00:12:56] Ben: Yeah, I know some very happy shareholders in that business now.
[00:12:59] Joseph: Yep. I imagine. And I got to know Mark really well and Sachin and I really liked them a lot and I thought they ran a really good business. And so we participated in a placement in April of last year. And think it was around 50 odd cents. And we, you know, we thought it was really good value.
[00:13:15] Joseph: We were very happy about that. And the idea was that this company had really high ARR and they were producing really good revenue from all this payroll software that they were providing to some big businesses. But the market just was not really interested in, was trading on two times or so it's revenue. And we really felt there was a clear pathway for them to start generating decent cash and they released their results, you know, maybe a few months afterwards and we just didn't feel so comfortable about the cash generation. I think it was just they'd had a lot of acquisitions come together and there was just, you know, it can be a little messy after that.
[00:13:50] Joseph: And even though, you know, in, in my heart of hearts, and I think in all of us internally, we knew there was value there. We just got a little impatient and decided we'll sell out because there was some liquidity coming through and we'll invest our cash elsewhere because we couldn't see that clear pathway to that cash generation.
[00:14:08] Joseph: And then fast forward about six months later and they got a take over bid at a, I think a hundred percent premium. A dollar. And we sold out at probably around the value we went in, but we missed out on all that upside. And I think it was, as I say, impatience and for me, one of the most important things, and all our successes have been this way is you have to be willing to hold for many years and believe in that thesis.
[00:14:28] Joseph: If the thesis is wrong, you're gonna sell. But if things haven't actually changed sometimes you need to be little patient.
[00:14:34] Ben: I watch a little bit of poker videos. Yeah. And it's always quite interesting the language and the way that they approach it. And you know, it sounds like you got out good, right?
[00:14:44] Ben: You made the probably the right call. Because after that it did drop down quite a bit. Like they got down below 40 cents. So if you were 60, 60 break even ish you know, it did drop into the thirties. It's hard to be, not be results orientated, right? So they got the takeout, fantastic result for investors in there, but also it wasn't... it's not like it was in play for a long time or anything like that. You know, it sounds like you made the right call, but, you know, results oriented, you just gotta brush those off, which, but it also comes into the learnings that you have, right? Even within that story that you were telling, You were talking about being patient, and here's an example of when we might not have been as patient as we could have been, and this is part of I think what people buy in with this.
[00:15:28] Ben: They're buying into the fact that. You know, the strategy's been there for 15 years. It's been delivered on for 15 years. There's a lot of learning. There's a lot of you know, reps at the gym that have gone into it. And and that's part of why, you know, hopefully the outperform and you guys will learn that performance fee.
[00:15:47] Joseph: Yeah. Much appreciated..
[00:15:49] Ben: So I guess in, in summary one thing I like to ask is, this is now your full-time gig. It is. What is exciting to you? So money's one thing and money's very important. The only thing, not the only thing, one of the few things more valuable than money is time. So I guess take me through why you are keen to spend your time over the next X years on this business.
[00:16:17] Joseph: I love getting to know these businesses and it always comes down to the people. That is the crucial thing. And you can have an amazing business, an amazing asset, but if it's not being run by the right people it's not necessarily gonna do well. But what I really love is connecting with people and backing the people who really have a track record and will continue to do that.
[00:16:36] Joseph: And that is very nourishing for me. And you get to build up really meaningful relationships over long term by understanding what's really happening and what drives these people to work tirelessly for their company and make it work. And I think that's why I will continue doing it and what I really love.
[00:16:53] Joseph: Doing what we're doing because of that personal element that comes in this microcap space. And I think that is unique to it where, as I say, you can have the CEO and even lower management on speed dial and have a relationship with them. Cause we might be one of their biggest institutional investors.
[00:17:09] Joseph: So that, that's really what I love about it. It's those deep connections and really the success that can come from these relationships.
[00:17:16] Ben: Fantastic. I think as well you know, the fact that it is that listed VC/PE model, the fact that you're going to be open and transparent around what you're investing in and why also allows people who aren't full time in this.
[00:17:32] Ben: That just wanna get exposure to this asset class. Obviously they get the the ability to spread that exposure across, you know, one to two dozen stocks without having to put the work in. And then mainly really for performance fees. They can also through that cliff notes version of your engagement with companies get to work out who they wanna over index on, and there's nothing stopping them buying on market.
[00:17:55] Ben: I think that's a really interesting way to wade through the 1500 opportunities that you ring your sphere of influence or sphere of engagement and go, "great someone's doing all this work and I'm getting exposure to that in aggregate. And if there's one or two that I hook onto and really like the journey, there's nothing stopping people over indexing and and going onto the market and buying", which also perversely will help your fund performance because it should drive the value up. So there's some really cool engagement points from there, from people who wanna be either passive or maybe even like a semi passive play in the market.
[00:18:35] Joseph: Yeah, very much agreed. I think it was really well put, and what we are really actually quite passionate about offering our investors is being in this part of the market.
[00:18:44] Joseph: Microcaps are often synonymous with risk and that's why a lot of people have flown away from them over the last six months or so as risk appetites have decreased. But I think if you do your work, but you really have to be a full-time investor, you can't just do it on the side, I think it can actually be less risky than being in large caps because you can know the company so much better.
[00:19:04] Joseph: There's no way even a director probably knows what's happening with the subsidiaries of BHP, but we can, as an investor, intimately know these companies. And be part of change and really be part of, "these are five ways why the share price is gonna go up" and we can be helping to drive that.
[00:19:19] Joseph: We think we can de-risk it, but you have to be completely focused on it full time. And that's what we are really offering investors. And I think there aren't many people doing that.
[00:19:29] Ben: All right, Joseph, thanks so much for joining us. If anyone's got any questions, obviously we say read the prospectus and consult your broker, but how would they best get in contact with you guys?
[00:19:40] Joseph: So the best thing is to go to www.highconviction.com.au and there you can read the target market determination to see if it suits your investment characteristics.
[00:19:51] Joseph: Read the prospectus. And you can contact me, email@example.com and there's easy pointers to how you can contact us and speak to your broker if you're interested.
[00:20:01] Ben: Fantastic. Thanks very much.
[00:20:03] Joseph: Thank you, Ben. Appreciate it. Bye bye.
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