Price is What You Pay – Value is What You Get
Posted by Ryan Irvine, Keystone Financial
Sample article from the Inside Edge service
The confusion between the Price paid for a stock and the Value of a stock is a common misunderstanding.
Frequently, risk tolerant investors are attracted to stocks trading under $1.00 per share equating the price with value. The flawed logic being a stock under $1.00 must be “cheap”. Price is the determining factor. Alas, a low stock price does not necessarily make a stock cheap. And it is crucial to understand the difference between the two terms to avoid falling into the “sticker price” fallacy when being stocks.
Investors looking to make a quick buck are often seduced by stocks trading at or near penny-stock status. The mental math investors often play seems to make sense on the surface – a $0.10 stock only needs to go up $0.10 for me to double my money while a $5.00 stock needs to go up $5.00 or a $1,000 stock needs to increase by a whopping $1,000 for me to double my cash.
Considering how common this mistake is, it comes with no surprise that one of Warren Buffett’s most famous quotes references this exact misconception.
“Price is what you pay. Value is what you get.” – Warren Buffett
Using a simple exercise to highlight the difference between the price paid and the value received. Consider a shopper who is deciding between two separate, but similar, 2-gallon jugs of milk. The first jug of milk is $10 and does not expire for 10-days, while the second jug is only $5, but expires in just one day. Bearing in mind the price of each jug and their respective expiry dates, would the shopper be receiving better value for purchasing the $5 jug of milk?
Unless the shopper plans to consume all 2-gallons in one day (not a smart decision), the $10 jug provides better value, despite being double the price. Its utility is 10 times longer. The point is one needs to assess the value of the underlying product (or stock) before concluding that a product (or stock) is in fact “cheap”. Simply looking at the price being paid is not enough to come to this conclusion and has no place in a well-designed stock investment strategy.
Enough with the milk. Let’s look at a real-world example from KeyStone’s research.
In the spring of 2020, KeyStone recommended Alphabet Inc. (GOOGL:NASDAQ) at a price of $1,413. At that time, in our initial buy recommendation report it was indicated that the stock was cheap in relation to its peers. At $1,413 per share, some investors automatically assume the stock to be far too “pricy”. It is not the case.
Just under one year since our initial recommendation on Alphabet and the stock trades at $2,400, returning our clients over 70%. And today, the stock continues to trade at 30 times earnings, has grown its twelve-trailing-month (TTM) revenue at 18% year-over-year, and remains relatively cheap in our view – despite trading at $2,400 per share.
There are thousands of stocks on the market trading under $1.00 that were then and continue to be today, expensive relative to Alphabet price. This can be a difficult concept to wrap one’s head around, but once you do, it will serve you well. Many of the “cheap sticker price” stocks we are referring to have zero earnings and limited prospects of even achieving significant revenues. Do not confuse price paid with value received. It is a simple error to avoid and if recognized – it could save you from making an expensive mistake.
Of course, not all stocks trading in the under $1.00 or under $5.00 range are expensive. In fact, KeyStone’s GARP or Growth-at-a-Reasonable-Price research criteria leads us to identify which low “priced” stocks which actually provide value. This can be an immensely powerful combination.
Look no further than XPEL Inc. (XPEL:NASDAQ) which KeyStone recommended to clients (and in this very column) just over 3-years ago at $1.42. It was a great combination of value (traded at under 10 times earnings with strong growth) and traded at a low price. Today, XPEL trades at $64.51 for a gain of over 4,442%!
There are cheap stocks at $1.00 and at $2,400. Just as there are expensive stocks at $1.00 and at $2,400. Value, not price is the critical factor.
One stock KeyStone recommended at this year’s World Outlook and at far lower prices to clients and in this column was Sylogist (SYZ:TSX). Today, I am happy to update the company which has seen its share price jump 47% from $11.12 to $16.33 while paying us a greater than 3% dividend.
Sylogist Ltd. (SYZ:TSX)
Market Cap: $390.1 Million
Industry: Technology – Software
Sylogist (SYZ) is a software company that, through strategic acquisitions, investments, and operations management, provides comprehensive, mission-critical SaaS solutions, including fund accounting, case management, grant management and payroll, to public service organizations. Sylogist’s public service customers include all of government, non-profit organizations, non-governmental organizations, educational institutions as well as public compliance driven and funded companies. The company delivers highly scalable, multi-language, multi-currency software solutions, which serve the needs of an international clientele.
FINANCIALS AND DISCUSSION
Q1 2021 revenue grew while maintaining strong profit margins, despite market headwinds from COVID-19 and its economic turmoil. Recurring revenue base has held strong, and increased professional services revenue from the InfoStrat division helped drive a 7% increase in the top line. With this came a modest decrease in adjusted EBITDA, due to a depreciating US dollar, one-time costs related to CEO recruitment, costs associated with establishing a credit facility and new, lower margin professional services from the InfoStrat division now contributing a share of revenue. Although some new bookings have been delayed as a result of the pandemic, many of those conversations have restarted, and management sees bookings pipeline activity growing and expects new deal wins will accelerate throughout the current year.
MAS ACQUISITION & EXPANDED CREDIT FACILITY
On March 18, 2021, Sylogist announced the acquisition of Municipal Accounting Systems Inc. (MAS), an Oklahoma-based provider of student information management and accounting solutions to K-12 public school districts. Pursuant to the transaction, which closed on March 17, 2021, Sylogist, through its subsidiary Sylogist USA Inc., acquired all of the shares of MAS for cash consideration of $37.8 million (CDN), subject to working capital adjustments, 50% of which was paid from cash on hand and the remainder drawn under its existing credit facility.
Concurrently with the acquisition, Sylogist announces that it entered into a binding term sheet with its existing lender to expand its current credit facility from $40 million (CDN) to $75 million (CDN), on substantially the same terms as its existing credit facility. MAS was founded in 1985 and has grown to serve nearly 85% of the Oklahoma K-12 public education market with its integrated Wen-GAGE platform. The modern SaaS solution includes advanced budgeting and accounting, comprehensive student information tracking, grading and scheduling, and lunchroom administration. In its last fiscal year (ended December 31, 2020), MAS generated revenues of approximately $7.4 million (CDN) and adjusted EBITDA of approximately $4.3 million (CDN) while serving approximately 500 school districts.
Management reported that MAS is highly complementary to Sylogist’s existing SaaS K-12 solution and the company has identified value-add capabilities within each platform that can integrate with the other. Sylogist will now be able to offer a more feature-rich, scalable and flexible solution to customers and new school districts throughout North America. Further investments in the company’s go-to-market strategy will greatly benefit from the leverage this larger scale and breadth of offering provides. MAS operates profitably and management expects the company to be immediately accretive, growing both top line revenue and adjusted EBITDA run rates by approximately 20%.
MAS has been growing organically in the single digits over the last five years, within their focused Oklahoma market and existing product set. The company has continued to introduce new modules, for uptake by their customers, including a student and parent/guardian access portal, and lunchroom administration. These are newly introduced, and MAS is expecting increased uptake in the upcoming school year. The MAS acquisition demonstrates new management’s ability to execute on the commitment to accelerate growth. MAS was identified as a valuable, strategic target that was under the radar and efficiently negotiated what appears to be a win-win transaction.
Concurrently with the acquisition, Sylogist announced that it has entered into a binding term sheet with its existing lender to expand its current credit facility from $40 million (CDN) to $75 million (CDN), on substantially the same terms as its existing credit facility. An expanded credit facility provides additional resources to readily pursue other strategic and transformative acquisitions.
The MAS acquisition appears to be a good first swing from the new management team adding a much-needed growth element to Sylogist at a relatively reasonable price. The deal is also strategic on a number of fronts. From a product perspective, MAS’ SIS and lunchroom capabilities can be integrated into Sylogist’s Navigator and offered to its install base. Similarly, Sylogist can implement analytics and other up- market tools into MAS. The opportunity exists to expand MAS beyond Oklahoma as it is a solid platform for the lower end of the market.
The acquisition appears to indicate that Sylogist plans to be an active consolidator in the market. As such, we are lifting our valuation multiple to 17x 2021 aEBITDA. This remains a discount to Canadian small-mid cap peers trading in the 25x range. This multiple gap could decrease over time based on organic and acquisition growth execution. Applying our conservative of 17 to the company’s current annual aEBITDA run-rate, we arrive at a near-term fair value of $17.50.
We continue to like Sylogist mid to long-term and expect to ratchet up our fair value as management executes its growth plan over the next 12 to 24-months. The company also continues to pay a solid 3.00% dividend.
Dynacor Gold Mines Inc. (DNG: TSX) – World Outlook Update
Another stock KeyStone recommended at this year’s World Outlook was Dynacor Gold (DNG: TSX). Today, I am happy to update the company which has seen its share price increase 30% from $1.85 to $2.40 while paying us a greater than 3% dividend.
Dynacor Gold Mines Inc. (DNG: TSX-V)
Market Cap: $92.9 Million
Sector: Gold – Processing.
Headquartered in Montreal, Canada, Dynacor’s activities consist of the production of gold and silver from the processing of purchased ore and the exploration of its mining properties located in Peru, with the potential for commercial extraction of gold and other precious metals. The company purchases ore from local government registered artisanal or small-scale miners (ASM) ore producers from various regions of Peru which is then processed at its wholly owned milling facility (current capacity 300 tonnes per day (TPD)) to produce gold dores and silver pellets which are sold internationally at market prices. All of Dynacor’s gold sales for the period were with one customer. However, management considers economic dependence does not exist as the company can sell its gold to numerous clients worldwide. Dynacor also owns the rights on several mining properties which are at the exploration stage, including its flagship exploration gold, copper and silver prospect, the Tumipampa property (Tumipampa).
On March 24, 2021, Dynacor announced a US$1.8 million investment through internally generated cash flow to expand its Veta Dorada ore processing plant capacity by 43% in Chala, Peru. The expansion already underway will enable Dynacor to process 430 tonnes per day (TPD) from its current nameplate 300 TPD capacity, a 43% increase. The company has received the construction permit and signed contracts, a first contractor is on-site, and construction work began in the 2nd week of March 2021.
On April 16, 2021, announced first-quarter sales of US$40.9 million (C$51.8 million), compared to US$30.9 million (C$41.3 million) in the first quarter of 2020, a 32.4% increase. In March 2021, the company had sales of US$12.9 million (C$16.2 million) compared to US$9.0 million (C$12.5 million) in March 2020, a 43.3% increase. The average selling price of gold in March 2021 was US$1,725 per oz. The average selling price for the first-quarter 2021 was US$ 1,785 per oz.
The first-quarter 2021 sales of US$40.9 million represents Dynacor’s best first-quarter of sales ever and places the company ahead of its 2021 sales guidance of US$150.0 million, based on $US1,850 per oz gold price.
During the first quarter of 2021, the Veta-Dorada Plant processed an all-time quarterly best of 29,327 tonnes of ore compared to 22,901 tonnes in the first quarter 2020, an increase of 28.1%.
VALUATION & CONCLUSION
Fair value estimates on commodity related businesses have high tendency to be flawed given the unpredictable nature of most underlying commodities. As such, they should be considered to hold a higher degree of risk. Given the fact Dynacor faced a full shutdown of operation in 2020, using trailing cash flow or EBITDA on a trailing basis over the past 12 months is meaningless. On a normalized basis, we see the company trading in the range of 5-6 times EV/EBITDA. If gold holds in its current range or moves higher, 2021 is setting up as a record year in terms of revenues and cash flow for Dynacor. Potential catalysts include a dividend increase, a one-time windfall sale from the 2,650 ounces of gold related to the December shipment are still retained by the Peruvian authorities for control procedures, positive news on Senegal, speculative exploration value, and/or a return to production/ revenue growth. At present, we see fair value in the $3.00 range. We will need to see growth execution from management in 2021 to move the stock higher, but the potential remains, and the dividend is strong.
We maintain our BUY rating.
Ryan Irvine, Keystone Financial