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Livewire: Three microcaps to beat the macro blues


This article was written by Matt Buchanan for Livewire Markets. Read the original article.

Spheria had the best-performing microcap fund in 2021. What were you doing right?

Let’s first look at this in the context of what we did in 2020. We were in some cashflow generative media stocks and travel-related stocks, the tourism and leisure stock. Some were restructuring, generating cash flow, but obviously the onset of COVID meant the revenue lines of many media names went close to zero, or down a lot, and many tourism and leisure stocks saw revenues decline substantially.

But from the beginning of this very unusual period, as a team we stayed disciplined and stuck to our philosophy. At the end of the day we knew many of these businesses caught up in the market panic were fundamentally sound.

Our philosophy is simple – we’re very focused on cashflow, on fundamentals. We don’t buy stories. The reason is, we’ve seen over many years, businesses that tell great stories but don’t have fundamentals just get destroyed by the market in tough times.

So, we stuck to what we know, then we got a real rush in the second half of ’20 and ’21, as liquidity caught up, the market caught up, businesses caught up, and then we had some takeovers that helped as well.

All we can do is just do what we do, to the best of our ability best. We can’t manufacture the numbers. We just make sure the process stays consistent. We have to challenge ourselves to continue applying the process consistently. And keep applying it the right way.

In Microcaps people seem to have lost their way. They’re chasing stories and forgetting about valuation being important. We think valuation is important. Cashflow is central to valuation, and also works as a screening tool for us. All those things tie together to work as being central to our process.

Then when it comes to risk we’ve built a philosophy around building a bridge – to use the old Buffet analogy – that could support a 1,000 tonne truck when the average truck’s going to be 10 tonnes. We always start with what can go wrong. And secondly, we look for the upside.


Reporting season followed the January sell-off and a difficult latter half of 2021. What were the microcaps results like?

It’s been a strange period because we’ve seen some stocks put out good numbers, but they still haven’t traded that well on those figures. For our team, who have been delving into the balance sheets, looking at the fundamentals, speaking to management, this creates opportunity.

I’ll give you an example – Michael Hill, which we own is a great business, and it put out tremendous numbers, given they had something like 20% of their trading days closed. The stores were actually closed 20% of the time but the numbers were pretty much a record for the company.

Then when it comes to risk we’ve built a philosophy around building a bridge – to use the old Buffet analogy – that could support a 1,000 tonne truck when the average truck’s going to be 10 tonnes. We always start with what can go wrong. And secondly, we look for the upside.

“So, if you adjusted that, they traded exceptionally well, built up a tremendous amount of cash in the balance sheet and the stock actually fell on the results.

Then if you look at another of our holdings, NZME, it produced good numbers and the stock was up 10%, but it had also been weak going into reporting, for no particular reason.

It’s been very volatile. But to be honest with you every reporting season feels volatile when you’re in the thick of it.

What are the key influences that move the microcaps?

Sentiment is one – you get sentiment changes, which do make a big difference. Retail investors play a pretty big role in our space. I’d say there’s probably more retail impact in micros and smalls than there is in the large caps space.

Then, obviously, the economy. When the economy shudders around the place as well, that throws micros around more than large-caps. As for events like Ukraine … we don’t spend a lot of time trying to guess what happens with Ukraine, because we have no idea. We have no more idea than the next person.

Probably Putin doesn’t know how it’s going to play out. Does it go neutral? Does he end up having to fight for a month? Does the West come in? I hope not.

There are myriad things to consider. We have supply shortages of grain and wheat and milk, but is that for a week, or is that a month-long, and how do you position for that?

So, we start with rehearsing: “Okay, things are going to hell in a hand basket, how do we defend? Where can we attack based on biggest upside and biggest opportunity?

Beyond the fight for Ukraine, there’s also been a considerable shift on the market’s view on inflation. The market is finally catching up with the idea that inflation might not be temporary, as the central bankers tried to persuade us last year.
And if that is the case, it’s not temporary, then a 1% long-term bond yield doesn’t make any sense. Investors are now sensing that maybe it’s a three, or three and a half per cent, and they’re not positioned for that.

And then there’s bond yields. Remember, just go back six months, something like 40% of the world’s bond market, or government debt market, had a negative yield. Germany was negative. Switzerland was negative. France was zero. And now they’re all positive.

So, you get this re-emergence of the cost of capital, where people think actually money’s worth more today than tomorrow. Whereas up to a few months ago, the thinking was money is worth more tomorrow than today. The discount rate simply goes up and I think a lot of those loss-making names have collapsed because of this. That was probably the biggest thing in January.

There’s always something to stress about, but as I said, we try to build by thinking about what can go wrong.

And if we have businesses with good cash flow and good balance sheets, we’ll probably be okay through most market cycles. And if we can just build a good portfolio of those businesses with some sanity overlays, and checking we’re not correlating the same theme, then we’ll probably end up with a better overall mix over time.

Can you tell us about some microcaps Spheria is excited about?



Why don’t we start with NZME? It’s an old school media business in New Zealand. There’ are two radio franchises there, neck-and-neck, and it’s got one of them. It’s got a leading newspaper franchise (NZ Herald) and like so many of these traditional publishing businesses it’s growing its digital content.

It’s also got an online property portal called OneRoof. That’s starting to ramp with revenue now.

It’s gone through the classic … Revenue’s going down. Circulation is going down. Print’s going down. Money’s going online. To realising it is so well-positioned to reinvent itself.

They’re going to get more out of digital advertising. That’s coming through strongly in the numbers. Also, the radio is starting to digitise, with some of the digital streaming services you can get on the radio.

It’s paid down dividends, paid down the balance sheets. It’s announced a 10% buyback. And because of a quirk where it over-depreciates, if you adjust for that in your EBIT number, it’s trading on an EBIT of about four and a half times.

They’re also negotiating with Google and Facebook. Channel 7 got around 30 million in Australia from Google they might get $3 million to $5 million in New Zealand. When you’re only making $30 million, $3 to $5 million dollars is pretty material.



Mader (ASX:MAD) is quite an interesting business and it’s one of our top 10 holdings as well. It IPO’d in 2019. It has a founder CEO in Luke Mader who is a material shareholder in the company and a good operator.

What they do is servicing for Caterpillar trucks and equipment on mining sites. Think of the aftermarket work WesTrac does, these guys compete with that. Mader himself was one of the WesTrac employees of the year, way back when.

He started as a diesel fitting mechanic and then he quit and started his own business. He’s just built it organically. I think he might have done one or two tiny acquisitions, but pretty much the business has been built organically, with men and trucks and spanners, running out to mine sites at BHP and Rio and servicing trucks and equipment at probably 20%, 30% cheaper than WesTrac will do.

What gets us excited is, even though they’ve been going for, I don’t know, 20 plus years in Australia, they just printed a 20% plus growth rate in the first half, in Australia and up 66% in the US, again, that’s off a pretty small base, to be fair, but it is finding traction in some of the big gold mines in Nevada and moving out.

They’re setting up in Canada as well. So, capital-light business, pretty good free cash flow, very strong growth profile. The revenue growth of 30% was all organic this year. As I said, the CEO and founder owns 50% plus of the company and is still very much driving the business.


Universal Store (ASX:UNI) is a fashion retailer which targets teens to mid-twenties. and they’re very focused on their niche. The CEO, Alice Barbery, is fantastic. A real people-person, who puts her staff first.

It’s one of those real culture stories where you’ve got really good executives. You’ve got a CEO and CFO who are both women. They partially IPO’d it about a year and a half ago. We bought into it then, got to know the story. We really like Alice and the team and like the way they’re rolling it out.

They’ve had something like 11% per annum same store sales growth the last five years, which is extraordinary if you know retailing. That’s amazing.

The last 12 months have been a bit weird, because it was a big year after a bit of a down year. But, if you look through that, it’s still been incredible. They’ve got something like 75, 76 stores now and they want to go to 100. So, there’s massive space growth here and they aren’t even in New Zealand yet.

It has really good margins, great cashflow, net cash, tremendous management team, great niche with a lot of space growth on it, and you’re paying about nine times EBIT one year forward for that, with no debt and a good dividend yield.” So I think that’s a pretty exciting story as well.

What draws you to microcaps?

I think what attracts me and my business partners, is that small-caps and micro-caps are simpler than large companies.

A large-cap like BHP is complicated, right? If you’ve ever looked at BHP and read the accounts, your head starts spinning. You can get there eventually. And you talk to the CEO about the company and you get through half of one division.

With microcaps we can go deeper, we can get granular. We get good access to management teams because we’re significantly registered: $20 million investment in a microcap company means something, whereas $20 million in BHP is like, “Mate, why am I seeing you?”

And management makes a big difference. They can spin these businesses around from disaster to victory in a pretty short period of time.

Microcaps sometimes grow and grow and grow. Can you name three or four examples that have made it all the way to the top of the ASX?
There’s actually quite a lot. Obviously, REA was a micro-cap briefly. There’s Cochlear, which spun out in 1995 from Pacific Dunlop, whatever it was called back then. Obviously, it became a lot more successful than the parent company.

Cochlear listed in ’95 at $2.50. It’s now $221, and paid dividends. So it gave you 21.8% compound for that time, if you want to know those numbers.

Then there’s CSL. It was listed in 1994. IPO from the government at $2.30. It’s now $260, plus a tonne of dividends. And ResMed. And then Aristocrat. There’s five for you, there’ll be many more in the years ahead and that’s why we love investing our clients’ capital in great small and microcap businesses.