Complicated Cohort is one to trust

by from interactive investor |

On a superficial level Cohort should be a good long-term investment. It has very experienced managers, and some of them own substantial holdings in the company. It has a profitable track record.

For a relatively small group of businesses, it's complicated, though, for a host of reasons:

1. It's a technology business, and technology is constantly changing.

2. It's a defence business, and, due to changing perceptions of the threats governments face, defence priorities are changing.

3. It's acquisitive, Cohort itself changes every time it buys another firm.

The one constant is a negative. Defence is dependent on government funding, and that, in the UK, has been in real-term decline since the beginning of the decade.

It would be easy for me to hold my hands up right there and surrender. Either by declaring Cohort unfathomable, or by saying a well managed businesses prospering in a difficult industry is probably a good business even if I don't know exactly what it's doing.

Now I'm going to have a better go at working out what Cohort's actually doing, using Richard Rumelt's definition of strategy (see: Getting serious about strategy).

First a big fat caveat. Strategies are difficult to divine. I'll be patching together Cohort's strategy from information gathered over the years, its annual reports, snapped conversations at its Annual General Meeting, emails with executives, and conclusions we may draw from the acquisitions and disposals Cohort has made. This is my impression of Cohort's evolving strategy.

Cohort was founded in 2006 when Stanley Carter joined forces with Nick Prest to list Carter's firm on the stockmarket and acquire other defence technology companies. Both men already had long careers in the industry, Carter had served in the Army before joining the Ministry of Defence. Prest had worked at the MOD, before becoming chief executive of Alvis, a major defence contractor (it was acquired by BAE Systems in 2004). They recruited two other MOD/Alvis alumni, and these men have guided Cohort through its first decade as a listed company.

These potted biographies indicate they were highly qualified to make a diagnosis, the first step in defining a strategy. Rumelt's definition of strategy starts with a "diagnosis", which spawns a "guiding policy", from which cascade "coherent actions".

Cohort's diagnosis was probably something like this:

Small entrepreneurial technology businesses work faster than large contractors on small projects, or parts of big projects, because they don't need the approval of people higher up the organisation. But even though they may be easier to work with, small businesses still find it difficult to win defence contracts from Government and big contractors because they may not be stable enough to deliver products, training and support for many years.

Cohort's guiding policy was to acquire small entrepreneurial business and allow them to remain entrepreneurial by imposing only 'light-touch' financial and operational controls.

The larger group, the cohort, would be stable enough to win the confidence of customers. Coherent actions followed from this policy. The parent encouraged the subsidiaries to share technical capabilities and introduce customers to each other so they would grow more than they would individually. And the board used its connections with the MOD and contractors to win them more business.

No doubt the directors have always been mindful of how much Cohort depended on the MOD for revenue, directly, or indirectly as a subcontractor. Typically between 70% and 80% of revenue originated from the MOD. But from about 2010, when defence spending peaked, the threat became more explicit.

Cohort included it as a risk in the principal risks section of its annual report for the first time that year, and there has been a subtle change in the nature of the companies it has targeted for acquisition this decade.

I'd guess the diagnosis has changed to something like this:

Defence spending has fallen in real-terms. The MOD must make efficiencies to secure the promise of increased funding in future. We've been finding it difficult to sell technical consultancy, also known as research and training, to the MOD for years, which is why we closed SCS, a consultancy. It's easy to delay research projects and bring training in-house. MASS and SEA, two of our early acquisitions sell technology as well as expertise, and these firms are still highly profitable. The bits of them that sell products and systems are growing revenue.

My imaginary guiding policy has also changed, to: Find new customers, and focus more on selling technology itself than know-how. From this, coherent activities cascade: Not least to acquire product focused businesses, and overseas customers. In 2014, Cohort acquired MCL, which distributes and customises communications and hearing protection systems, and in 2015 it acquired EID, a Portuguese supplier of communication systems to navies and armies across NATO and elsewhere in the world.

The strategy is still founded on the principle that a group of small businesses is more agile than larger businesses and more stable than individual small businesses. Hopefully, as intended, the addition of EID opens doors to Cohort's three remaining UK businesses around the world enabling those companies to grow exports faster. As the strategy evolves, it doesn't seem to be unravelling.

New customers and overseas subsidiaries are making a complicated business even more complicated though. Using MASS's data expertise Cohort has won a contract to provide a digital forensics service to the Metropolitan Police. It already supplies traffic enforcement systems, and the offshore oil and gas industry.

Analysing the group's strategy only gets me so far. I don't know whether the strategies of the autonomous companies that make Cohort are coherent. We have to trust that the board's light touch will steer them in ways that not only make themselves stronger but make each other stronger too.

Despite my limited understanding, I added more shares to the model Share Sleuth Portfolio I operate for our sister magazine Money Observer on December 28. The share price was 341.8p.

Contact Richard Beddard by email: richard@beddard.net or on Twitter: @RichardBeddard

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.