Last week your columnist delved into the issues facing stocks such as Crown Resorts (ASX: CWN) that rely on the stroke of a regulator’s pen to stay in business.
Highlighting the risk, Crown has since become a takeover target with diminished bargaining chips.
As an extension of the theme, many companies rely on the whim of fellow enterprises to stay in business – or at least continue to operate in their current guise.
Single party risk comes in numerous guises. For example, a food and beverage maker can be ‘de-ranged’ by the supermarkets, leaving them with excess capacity and no alternative big enough to fill the gap.
Or an offshore brand name can cancel a local distributor agreement.
In the mining sector, offtake agreements can be cancelled – or service contracts scrapped – when commodity prices turn south (as they inevitably do).
Of course, companies protect their key relationships with long-term contracts, or their product or service to the customer cannot be replicated. For instance, we doubt the big Queensland coal producers using recently-listed Dalrymple Bay Infrastructure’s (ASX: DBI) terminal will be upping stumps in a hurry.
But no deals last forever and, well, stuff happens. On the positive side, the loss of a major customer contract can result in a more diversified business.
Retailer to lose out as Telstra moves to full ownership of stores As a case in point, retailer Vita Group (ASX: VTG) last month came a cropper after Telstra (ASX: TLS) decided to transition its retail stores to full corporate ownership by June 2025.
Vita is contracted to run 104 Telstra shops, with almost all of its revenue sourced from this franchise. The partnership dates back to 1995, when the company was founded by chief executive officer Maxine Horne.
Vita’s management has not been oblivious to the threat, with Telstra slashing Vita’s commission rate by 10% in 2017.
The company has branched out with a chain of “skin healing and wellbeing” outlets called Artisan, which is touted as the future source of wellbeing for the company as well as clients.
Vita’s revenues dipped a COVID-19 afflicted 25% to $323 million for the half year, with underlying earnings shrinking 27% to $16.1 million.
Artisan chipped in modest revenue of $15 million, up 37% as well as $2.2 million of underlying earnings (EBITDA).
Vita shares tumbled 30% after Telstra hung up on the company, but the stock has regained some ground since.
With net cash of $30 million, Vita has leeway to invest in a new future.
Online lotto reseller’s fate in hands of Tabcorp
Over at Jumbo Interactive (ASX: JIN), the online lottery ticket portal is highly dependent on retaining the right to sell Oz Lotto and Powerball tickets on behalf of Tatt’s, now Tabcorp Holdings (ASX: TAH).
With a five-year deal expiring in 2022, investors were nervous but in June last year the parties extended this reselling agreement by 10 years to 2030.
Phew! Unlike with the previous deal, though, Tabcorp now clips each ticket to the tune of 1.5%.
In the meantime, management has been reducing this single party risk by building up its lotteries management arm and its white label arm, which runs the raffles for Lotterywest and a number of charity lotteries.
Despite a dearth of jackpots, Jumbo’s December half revenue gained 9% to $41 million, but the new Tabcorp “service fee” confined underlying earnings to a 4% gain (to $24.1 million).
While Jumbo has almost a decade of breathing space, Tabcorp is under takeover offer and a new owner may take a different view on outsourcing the expanding digital channel to a third party.
But with the small but rapidly growing cloud and managed services arms, the $850 million market cap Jumbo is not leaving its future to chance.
Jumbo, by the way, faces the ongoing risk of governments opening the lotto business to rival operators. But going by the experience of new lottery entrant Intralot, which quit the Victorian market in 2014, investors can sleep soundly.
Smash repairer derives most of its revenue from one insurerCrash repairer AMA Group (ASX: AMA) is not quite a case of single party risk, but the lion’s share of its revenue now derives from insurer Suncorp Group (ASX: SUN), the owner of the AAMI and GIO brands among others.
That’s because AMA acquired 90% of Suncorp’s captive, the Capital Smart smash repair business, in late 2019 for $420 million (Suncorp retained the remaining 10%).
Funded by a $215 million capital raising and the remainder with debt, the deal almost doubled AMA’s share of the national smash repair market to 10%.
Crucially, Capital Smart also retains Suncorp’s “recommended repairer” status for a 25-year period, although the insurer can’t force all of its customers to use a Capital Smart repair shop.
A quarter of a century is a long time, although in your columnist’s experience, it can pass quickly. Thus, investors should hope that AMA gradually reduces its reliance on Suncorp in the interim.
AMA, by the way, is worth a look as a post-coronavirus recovery play as traffic – and bingles – return to pre-Covid levels.
The company’s average crash repair volumes fell 27% in the December half and 48% in Victoria, which had an extra lashing of lockdown.
Given the Capital Smart acquisition, the results are hard to make sense of, but in the first (December) half operating profit swung from a previous $1.6 million loss to a $7.09 million profit.
In the year to June 2019 – pre the Capital Smart purchase and the raising – AMA generated earnings per share (EPS) of $0.06 (and paid $0.037 per share divided).
In the year to June 2020, its EPS slumped to $0.01. Broker Canaccord has chalked in a partial recovery this year, to an EPS of $0.03.
Having traded at a pre-transaction peak of $1.48 in August 2019, AMA shares bottomed at $0.15 during the coronavirus outbreak a year ago and by November had recovered to $0.80.
The stock looks fairly priced around the current $0.60 level – implying a $450 million market cap – but looks keener value if the company can hammer out its dings and restore volumes to old levels.
AMA has two macro factors in its favour: wet weather and commuters’ aversion to using (allegedly) germy public transport.