As a professional investor and trader who solely relies on the profits generated from my trades, it is crucial that I continually remain at the forefront of new markets, products and opportunities. Getting in early on a new opportunity not only maximizes my returns but arguably can reduce risk because the valuation of the investment is still low and competition is virtually non-existent.
I have highlighted several of these opportunities for regular readers of Share Café with the most successful being Structural Monitoring Systems (SMN ) and their commercialization of the CVM technology for monitoring metal fatigue in aircraft. I first discovered this commercialization story in June 2014 and after in-depth research, meeting the company and understanding the market it was an “all in” trade that went on to return over 10x my initial investment.
Finding another such unique and similarly priced company is difficult but I believe I genuinely have found another, sharing similar characteristics and reminding me of SMN all those years ago.
This new opportunity is MGM Wireless (ASX Code: MWR) and in many ways it currently stacks up better than SMN did. Firstly MGM’s market cap is $11 million compared with SMN which was $25 million when I first discovered it. Even more surprising is that MGM is already profitable through its existing school to parent messaging service that generates over $2.5 million in revenue whilst having no debt. MGM has close to $3 million in the bank so its enterprise value is around a barely believable $8 million!
However, my excitement for this company comes from their foray into a new market segment – kids smartwatches. As a parent my children’s safety is paramount so I am always interested in products that keep them safe. In addition, I am always conscious of their exposure to unwanted websites and social media, so being able to remove this concern is a huge plus for me as it is for many parents around the world not wanting their children to have a mobile phone.
MGM’s Spacetalk is a revolutionary watch and a world first in its quality of design, features and security. The watch is an all-in-one phone (working off Telstra’s 3G network), GPS tracker, messenger, step counter with a few other bonus features such as an emergency SOS alert button. Through an app on my phone I can see my children’s location, set safe zones, maintain an approved only list of contacts that my children can contact (and importantly who can contact my kids), who the SOS button contacts in an emergency, amongst an array of other great features. There is no internet or social media on the watch and because it is a watch and not a mobile phone, it isn’t lost, dropped or left at the bottom of their school bag.
Impressively MGM was able to fund all research and development of the watch through cashflow from its existing school messaging service, displaying their ability to keep a control of costs – unwilling to waste cash.
Smartwatches: Market Size and Opportunity
So what is the market opportunity for children’s smartwatches and specifically for MGM?
I think the best indication of the market opportunity is in MGM’s own findings. After initially expecting the market to be annual sales of between 3,000 to 10,000 watches, discussions with retailers and telcos, revealed their internal estimates were severely underestimating the market potential with more realistic annual sales potential of 120,000 to 180,000 watches ($30-60 million in revenue) in Australia alone. Global market research company Gartner 1 forecasts 30% of all smartwatch sales will be to young kids – this is a real market category.
MGM has been selling the watch through their wholly owned website – www.allmytribe.com.au and have been in negotiations with telecoms and retailers for a rollout through physical stores nationwide.
Expectations have been for a deal to be made with a major retailer and/or telco before the end of the financial year. They recently announced early success with a couple of Telstra franchisees wanting to stock the product highlighting retailers believing there is genuine demand.
The rollout to bricks and mortar retailers will be a game changer.
Market Valuation Comparison: Nuheara
The best way to highlight the impact bricks and mortar retailing has on overall sales is to look at a case study of Nuheara (NUH) that sell their own advanced wireless IQ ear buds. At a cost of US$269.00 it is comparable to the AUD$297 the Spacetalk watch retails for.
The table below highlights the source of sales NUH has experienced firstly with their pre-order campaign and then post production. It can be seen in the blue the dominance bricks and mortar sales have over online sales (in yellow). I would expect that for a new market segment like children’s smartwatches physical retail stores would have an even greater impact on total sales as consumers will want to see, touch and experience the features of the watch. It is a new market category after all. Signing a deal with JB Hi Fi or Harvey Norman (or equivalent) would result in a significant jump in sales. Further rollout to more Telstra stores adds to this distribution network.
In terms of a value proposition, MGM to me is ridiculously cheap – certainly cheaper than SMN ever presented. As I noted earlier the company has a market cap of $11 million, no debt and near $3 million in cash.
When NUH first listed it did so with a market cap of $25 million and zero sales. After a 60-day pre-order campaign on indiegogo.com the company received $1 million in orders. This $1 million in sales lifted the market cap to over $65 million in a little over a month or a 300% return! A series of capital raisings and distribution deals with retailers and the market cap of NUH reached as high as $120 million in the past 12 months.
What does NUH sales and profitability look like? Second half FY17 sales totaled 5,242 units and 1H FY18 sales were 7,797 units while the company lost more than $4 million in the process.
What’s wrong with this picture? Retailers and telecoms are telling MGM the market size is north of 100,000 units, already generates $2.5 million in revenue, is profitable and has a market cap of $11 million. Sales north of 100,000 units translate to more than $30 million in sales. MGM then enjoys ongoing recurring revenue from their ongoing app sales of $5.99/month. Again this is an additional revenue source that a traditional hardware sales company does not enjoy.
Retail Impact For MGM
Unlike a company like NUH which needs to sell more than 20,000 units (double existing sales) to generate a bottom line profit, MGM will be able to achieve profitability with a significantly lower sales hurdle with my estimate being approximately 5,000 units to attain that milestone. Moving beyond 7,000 units and the business becomes very profitable with almost all the marginal profit translating to net profit (before tax). Considering Telstra has 300+ stores and JB Hi Fi has 296 stores, a successful move into bricks and mortar retailing has the potential to have a significant uplift in sales when just 1 watch sale per week in each store (which is a very low retail hurdle) translates to almost 30,000 units per annum. This doesn’t account for online sales form these retailers or MGM’s own online sales.
The Company has already informed us in recent ASX announcements that they expect such significant deals to be signed shortly.
Technical Breakout Imminent
My expectation for MGM to reach valuations similar to NUH is not out of kilter with history. MGM has been a $60 million company before when it did enjoy a share price above $6 back in 2007. For the past decade it has been building an extended base with $1.80 a long-term area of resistance. Expected success on signing bricks and mortar retailers and telcos would be a “breakout” for the company and should certainly see a technical breakout above this $1.80 resistance. I would expect that the market would set a modest valuation of $30-$40 million as a result. This equates to $3-4/share compared with $1.10 currently. Don’t forget NUH with just $1 million in sales was worth >$60 million and I believe MGM is approaching $500,000 in sales with little market appreciation for this achievement in the same way NUH enjoyed. IOT Group (IOT) selling selfie drones was worth $100 million at one point in 2016.
A breakout for the company into retail stores should coincide with a breakout in the share price and then it’s a question of how high can it go. Like I stressed before, valuations of other electronic hardware companies give us a realistic insight to what valuations can be placed on MGM and it’s hard for me to see why MGM can’t repeat the returns for me that SMN did. When you discover valuations this cheap, an unquestionably strong, high quality product that creates a new market category it is a genuinely exciting opportunity.
When I am regularly asked how do I identify opportunities where I can make many multiples of my original investment I use SMN as a case study, but MGM could soon be a better example. The basic key credentials I look for are:
• Innovative product
• Market leading position
• Well managed with a tight reign on costs
• Management ownership
• Cheap valuation
• Scale in distribution
• Improving share price
In fact, this is no different to how Warren Buffet would assess a business opportunity and even he would admit that the company having an existing profitable business completely reduces the underlying risk involved. That gives me immense comfort. MGM ticks all the above criteria.
To me this is the exceptional opportunity and the way the market values companies like NUH give us a ‘road map” to what kind of valuations MGM should enjoy that are many multiples of its current value.