Why our confidence in EML has increased

News of a potentially highly effective COVID-19 vaccine has provided a welcomed boost for so called ‘out and about’ stocks which are viewed as key beneficiaries of an economic re-opening scenario. Over the past few months, the Montgomery Small Companies Fund has been busy seeking ‘vaccine insurance’ to position the portfolio further towards the re-opening trade.

Here, we have been focused on identifying well-run businesses with a clear and sustainable competitive advantage which ultimately should deliver strong market share gains along the journey back.

EML Payments (ASX:EML) screens particularly well from this standpoint so we have lifted our exposure within the Fund. The global Fintech was a market darling heading into the pandemic, demonstrating rapid growth and operating leverage across its capital-light, technology-rich digital payments processing platform which enables Fintech clients to disrupt their respective markets. However, the onset of the health crisis saw the stock aggressively sold off as the majority of EML’s earnings stem from the shopping mall gift card business (Gift and Incentive segment which includes malls represented 63 per cent of FY20 gross profit), predominantly within Europe and the US which were disproportionately infected.

FY20 results

At the FY20 results in August, the company confirmed that its malls business had suffered from closures, social distancing and unmanned kiosks over March through June, bottoming out in April which was down 87 per cent relative to February. Despite this, the company remained cashflow positive during the lockdown period which was a much better outcome than the market had feared. Recent trading has shown continued improvement. Encouragingly, EML’s higher-growth reloadable segment proved resilient throughout the pandemic, continuing to deliver double-digit organic growth, launching new programs and signing up new clients.

1Q21 trading update 

EML provided a solid 1Q21 trading update in October, highlighting ongoing strong reloadable growth, significantly improved trading in the Gift and Incentive segment and good cash generation. Notwithstanding a seasonally soft trading period, first quarter Gift and Incentive volumes recovered 41 per cent on 4Q20 and came in just 11 per cent below the prior corresponding period, well ahead of market expectations. 1Q21 EBITDA was $10 million, a strong result against a tough backdrop.

The Christmas effect

The December quarter (2Q) is the crucial trading period for EML’s Gift and Incentive division with around 45 per cent of segment volumes generated in November and December (Christmas sales). The near-term outlook remains highly uncertain considering rapidly rising COVID-19 infections and lockdowns across Europe which could be extended into December.

To help analysts setting their forecasts, EML disclosed that the 2Q seasonal uplift in gift card volumes in FY20 (pre-COVID) was worth around $0.4 billion generating c.$24 million revenue (6 per cent revenue margin) and $19 million gross profit (80 per cent margin). Consequently, annualising 1Q21 EBITDA of $10 million equates to a $40 million baseline and then analysts can make their own assumptions around the COVID-19 impact on the seasonal uplift occurring in 2Q21. With consensus FY21 EBITDA sitting at $53 million, we estimate an implied 30 per cent adverse impact to the second quarter seasonal spike. This looks reasonable although certainly not without risk.

Perhaps more importantly, the recent encouraging vaccine news materially increases confidence in a solid earnings recovery in FY22. Market estimates are for EBITDA to rebound 40 per cent in FY22 to $74 million, still well below pre-COVID expectations of $95-100 million.

Looking back, one positive arising from the pandemic was EML’s ability to reprice and restructure the Prepaid Financial Services (PFS) deal in late March, allowing the company to retain a strong balance sheet ($118 million net cash as at the end of June) which offers optionality for further acquisitions. Valuation remains attractive for the growth potential of the business, in our view, with the stock trading on 12x recovered EBITDA (FY23 EBITDA $93 million).

The Montgomery Small Companies Fund owns shares in EML Payments. This article was prepared 19 November 2020 with the information we have today, and our view may change. It does not constitute formal advice or professional investment advice. If you wish to trade EML Payments you should seek financial advice.

Our Funds

The Montgomery Fund

  • AUSTRALIA/NZ
  • Concentrated high conviction equities
  • From $25,000
Learn More

Montgomery Global Fund

  • GLOBAL
  • Concentrated high conviction equities
  • From $25,000
Learn More

Montaka Global Access Fund

  • GLOBAL
  • Access long/short global equity portfolio
  • From $50,000
Learn More

Montgomery Global Equities Fund (ASX:MOGL)

  • GLOBAL
  • Concentrated high conviction equities
  • No minimum investment - see your broker limits
Learn More

Montgomery Small Companies Fund

  • AUSTRALIA/NZ
  • Concentrated high conviction equities
  • From $25,000
Learn More
Close

Our Funds

Concentrated High Conviction Equities

Listed

Montgomery Global Equities Fund (ASX:MOGL)

Global
Available on the ASX as an Exchange Traded Managed Fund, invests in 15 to 30 quality global businesses for long-term capital growth with a target distribution yield of 4.5% per annum. Mirrors the strategy of the Montgomery Global Fund.
Unlisted From $25,000

Montgomery Global Fund

Global
Invests in 15 to 30 quality global businesses for long-term capital growth. Priced daily. Mirrors the strategy of the Montgomery Global Equities Fund (ASX:MOGL).
Unlisted from $25,000

The Montgomery Fund

Australia/NZ
Aims to provide long-term growth and income by investing in 20 to 40 high-quality Australian and New Zealand businesses trading at attractive valuations. Priced daily.
UNLISTED FROM $25,000

Montgomery Small Companies Fund

Australia/NZ
Aims to provide long-term growth by investing in 30 to 50 high quality, undervalued, Australian and NZ small and emerging companies with strong growth potential. Priced daily.
Unlisted from $1 Million

The Montgomery [Private] Fund

Australia/NZ
Seeks to deliver absolute returns from a portfolio of high-quality Australian and New Zealand businesses. Capital preservation is paramount. By invitation only.

Alternate Equity Strategies

New Fund

Montaka Global Extension Fund (ASX: MKAX)

GLOBAL
An ASX-quoted managed fund, typically, the Fund seeks to hold 15 to 30 long positions and partially offsets these with 10 to 40 short positions, operating with 130% exposure to its long portfolio and 30% exposure to its short portfolio, resulting in a net market exposure of around 100%. Features a target distribution yield of 5% per annum.
Unlisted from $50,000

Montaka Global Access Fund

Global
Aims to generate materially higher risk-adjusted returns, net of fees, than is generally available in the equities market over the medium term. Priced monthly. Provides retail investors access to the Montaka Global Fund.
Unlisted from $1million

Montaka Global 130/30 Fund

Global
Provides the opportunity to benefit from both the gains of extraordinary businesses and the declines of deteriorating businesses through a global equity active extension strategy, which has the potential to significantly outperform the broader equities market over time. Seeks to generate double-digit annual average returns, net of fees. Daily priced.
Unlisted From $1 Million

Montaka Global Fund

Global
Aims to generate materially higher risk-adjusted returns, net of fees, than is generally available in the equities market over the medium term. By invitation only.