Interactive Investor

Edmond Jackson's Stockwatch: This speculative small-cap will deliver action

14th October 2014 00:00

Edmond Jackson from interactive investor

Where can you find tuckaway shares when markets are falling? Small caps being transformed under a new business plan are an interesting speculation, where valuations can multiply from a low base.

The odds improve where management owns substantial equity and combines industry talent with proven plc development skills. One such example is AIM-listed Tavistock Investments (TAVI) which at about 7.5p a share is capitalised at just under £9 million. This looks fair considering progress to date, but if the strategy works the shares offer significant upside.

Rationalising a highly-fragmented IFA market

There appears scope for an acquisitions vehicle amid increased regulation, especially the Retail Distribution Review (RDR) from last April. It adds to the burden for smaller Independent Financial Adviser (IFA) firms: the UK has over 10,500 registered, some 95% with 10 or fewer advisers who may find it easier to thrive in a larger firm or network - and sell their business e.g. when approaching retirement.

In this situation, Tavistock's aim is "to create a large, profitable and highly-rated business in the financial services sector and for shareholders to achieve significant capital appreciation from the profitable growth of a business that combines both financial advisory and investment management services."

Reverse takeover creates a platform for growth

Tavistock was established last May via a reverse takeover of an AIM-listed shell company by an IFA business and investment manager. The £7.35 million price implied 15 times the level of pre-tax profit for the IFA advisory firm, which looked high enough but set the ball rolling. The table shows how the investment business has been loss-making hence was bought for a nominal £1 and is subject to an earn-out due end-June 2016.

Tavistock Investments - founding acquisitions, May 2014
2013 annual results and considerations paid:
  2013 (£) Consideration (£)
County
Turnover 2,771,803 7,350,000
Pre-tax profit 482,959  
Net assets 221,333  
Blacksquare
Turnover 177,029 £1 + deferred consideration due 30/06/16 according to funds under management
Pre-tax loss 408,798
Net liabilities 133,157

Tavistock plc offers ability to raise funds and make acquisitions with shares although it is yet to be seen how deals will be struck.

Potentially everyone could win if the plc structures intelligent earn-outs and IFAs sell for a mix of shares and cash - owning long-term rising shares that pay dividends and enable capital gains tax to be staggered. At this early stage, however, Tavistock speaks of a national network of predominantly self-employed financial advisers.

The three principal shareholders owning 70.8% are the 2003 founders of the Sterling McCall wealth management network in Derbyshire and South Yorkshire.

In early 2014 it had 23 advisers, over 2,500 active clients and some £300 million "under advice" e.g. with discretionary fund managers. This business was selected by Tavistock's founder directors because it offers "a cost-effective means to bring discretionary management within reach of the mass affluent market... and the business model is rapidly scalable." Its holding company, County Life & Pensions, has been re-named Tavistock Partners.

The other leg is Blacksquare - renamed Tavistock Wealth - a Windsor-based investment manager that has changed operations variously since founding in 2005. Despite losses "the directors anticipate that Blacksquare will return to profitability relatively quickly as a consequence of it being appointed as the discretionary fund manager for clients of the enlarged group's advisory division." This is claimed to enable a low-cost solution for clients and to retain income that would otherwise be paid to third parties for investment services. "The net effect would be to potentially double the net revenue earned from each client."

A winning combination or conflict of interest?

Tavistock also claims: "The underlying rationale is that the market rating attributable to companies engaged in both of these service areas is significantly higher than the rating attributable to companies engaged in just one of them." Mind how this counters an industry/regulatory trend where advisers are discouraged from offering in-house funds to clients in favour of a wider selection from the funds' market, according to clients' risk preference.

Ironically a recent feature on this involved Tavistock's group chief executive after its Acumen Defensive fund was closed. He said: "The FCA's investigation was part of the decision to close the fund. We wanted to avoid encountering a conflict of interest where we had the temptation of selecting our own fund." But Tavistock still offers Acumen Conservative and Acumen Progressive funds (comprising exchange-traded funds and cash) and will allocate up to 50% of a client's portfolio to the Acumen funds with the remainder in third-party, actively-managed funds.

This approach may work if the Acumen funds perform well, but if there are setbacks then Tavistock could get criticised - harming the shares' rating, which in turn would affect group development and IFAs' motivation.

What marketing scope for the strategy?

Another key factor is how many private investors want to sign up to a modern IFA service. Tavistock offers a proprietary software template enabling advisers to determine clients' risk preference then model portfolios are selected accordingly. This is quite the established industry approach, explained in more detail on the Tavistock Wealth website.

It may appeal to some but not all, private investors. For example a friend who came into an inheritance met with three separate IFAs and posed questions such as: "What's your view of China?" The identical replies were: "What's your risk preference?" This approach eschews taking views on markets and securities, instead grading them by perceived risk and allocating capital accordingly. It works well for advisers because they have largely eliminated the risk of making bad calls; however clients are broadly hostage to market volatility.

This has been plenty successful in the last five years of rising markets amid monetary stimulus, but the next five could be more challenging. Even so, it's probably the best approach for people unable to make investment decisions - who may be the majority.

Much therefore depends on future performance by the Tavistock brand, and in a highly competitive market; but in the meantime various initiatives are getting results.

Synergy with Novia Financial platform

On 1 September a strategic initiative was announced with Bath-based Novia Financial which specialises in wrap platforms consolidating investor portfolios and planning. Novia has taken an equity stake, its chief executive saying: "We like the Tavistock proposition for advisers and anticipate making an excellent return from our stake in the business", given it ought to benefit IFAs and clients alike.

"Significant progress" cited in a 10 October trading update

Since launching a discretionary fund management business last August it has gained over 1,300 clients "and will now trade profitably". Profitable trading at the group level is also anticipated and an increasing number of discussions may lead to further expansion in recent months.

Board of directors is capable and determined

Brian Raven, group chief executive, has only been in the financial services sector for four years but has a track record developing AIM-listed companies: Card Clear in the 1990s and Gladstone in the early noughties. He has previously worked with Oliver Cooke, executive chairman, who has a strong background in corporate finance. Both men invested in last May's 7.5p share placing.

Of Tavistock's non-executive directors, one has chaired the professionalism and reputation work stream within the Financial Services Authority and another jointly founded threesixty services/support LLP, a network of 7,000+ advisers that was sold to Standard Life in 2010. This is as good as it gets, for an AIM company board.

Conclusion

At this stage Tavistock shares are speculative but management is following a well-established path to capital growth by smaller listed plcs - acquiring in a fragmented sector, the IFA market currently being a good example. Whatever proves the long-term verdict on its investment advice, Tavistock will certainly deliver action.

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.

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