Part 1 - Intelligent Monitoring Group ($IMB.AX) Thesis

Up 175% yoy. Room for more?

Before we start I should give flowers to Christian from Trident Opportunities for coming up with this idea and helping me in my research. Please check out his work!

Business Model and Competitive Position

How IMG Makes Money: Intelligent Monitoring Group (IMG), an ASX-listed security services provider, generates revenue through three main business segments: Monitoring, Protective Services, and Equipment Services.

1. Monitoring Services: This is IMG's primary revenue source, with 64% recurring. The company offers 24/7 alarm monitoring and video surveillance to over 210,000 customers, ensuring steady monthly income. In 2023, monitoring services brought in over A$81.6 million.

2. Protective Services: This includes providing security personnel for patrols, personal protection, and event security. These services are backed by long-term contracts, ensuring stable income.

3. Equipment Sales and Maintenance: IMG sells and installs security systems like CCTV and alarms. Although sales provide one-time revenue, maintenance contracts offer additional recurring income.

Competitive Position: IMG has a strong presence in the Australasia security market due to several competitive advantages:

1. High Customer Retention: With customers staying an average of seven years, IMG benefits from customer loyalty due to the difficulty and expense of switching providers.

2. National Coverage: As the largest independent monitoring provider in Australasia, IMG gained significant market share with its 2023 acquisition of ADT’s operations, which expanded its customer base.

3. Acquisition Strategy: IMG has grown through acquisitions, including ADT, Monitored 24/7, and Mammoth Security, increasing its scale, service offerings, and recurring revenue.

4. Brand Leverage: IMG benefits from the strong reputation of the ADT brand, which enhances its credibility and allows it to offer a wider range of security solutions.

Size

Mrkt Cap: $175.04M

Revenue: $121.79M

Price: $0.595

Number of Shares: 301,8M

Profitability and Growth

Profitability:

IMG has shown strong profitability, largely due to its focus on high-margin, recurring revenue, particularly from its monitoring services. By FY24, the company saw significant gains, mainly from the acquisition of ADT's Australasia operations. Monitoring services alone make up 67% of IMG's revenue, providing a steady cash flow.

• EBITDA Growth: After acquiring ADT, IMG's reported EBITDA grew from A$0.087 million to A$19.7 million in FY24. This growth reflects the benefits of scale and successful integration across its segments, including protective services and equipment sales.

• Margin Stability: IMG's focus on recurring monitoring services helps maintain stable gross margins, which stand at 47%. The company has benefited from economies of scale, supporting improved profitability over time.

• Return on Investment: Traditional metrics like ROE and ROIC are unclear since net income is still negative, and there have been years of negative equity. Instead, I’ve used the Owners Earnings Margin, which was 22% in FY24 and averaged 23.5% over the last 3 years. Interestingly, this aligns closely with their A EBITDA margin. To avoid falling into false precision I would frame it differently: this is a business that has reinvested all its cash and more at high double-digit rates.

Growth Trajectory:

IMG has followed a clear growth strategy centered on acquisitions to expand its presence in Australasia, which has boosted its revenue and market position.

• Revenue Growth: Revenue surged from A$24.273 million to A$121.796 million in FY24, which translates into a 401.8% growth, primarily driven by the ADT acquisition. It’s worth noting that they overdelivered on all EBITDA targets even after upgrades in those targets.

• Acquisition-Driven Expansion: IMG's key acquisitions, including ADT (Australasia), Mammoth Security, and Monitored 24/7, have increased market share, customer base, and service offerings. These acquisitions also create opportunities for cross-selling integrated security solutions.

• Future Growth Potential: Australia’s security market is less developed than markets like the US, where security adoption is five times higher, giving IMG room to grow. The company is also exploring opportunities in DIY security solutions, aligning with consumer trends toward tech-driven, home-managed systems.

Robustness

Equity Improvement: IMG's equity improved from -$1.7 million in FY23 to $27.5 million in FY24, moving back into positive territory and strengthening its balance sheet from an investor’s perspective.

Debt Levels:

• Gross Debt: IMG’s gross debt surged to $79.2 million from $29.1 million. While asset growth partly offsets this, the company is still highly leveraged, which could limit flexibility if cash flows don't improve.

• Net Debt: After adjusting for cash, net debt stands at $68.3 million, translating to a debt-to-EBITDA ratio of 2.0x. This is manageable but requires consistent EBITDA growth to avoid financial strain.

• Deleveraging Potential: The net debt-to-EBITDA ratio is expected to improve to 1.7x, thanks to the increased EBITDA from recent acquisitions, indicating a potential for lower debt levels in the future.

Goodwill and Intangible Assets: Goodwill increased significantly to $77.7 million from $24.1 million, reflecting the premium paid for acquisitions. This poses a risk if the acquired assets underperform, as goodwill impairments could negatively impact the balance sheet.

Capital Expenditures: CapEx rose to $18.5 million due to system upgrades (3G to 4G transition) and investments in medical alarm products. These expenditures are expected to decrease after FY25, relieving pressure on cash flows.

Financing and Refinancing Strategy:

• ADT Acquisition Financing: The ADT acquisition was largely financed through $80 million in secured debt, with a 10% cash interest rate and 5% payment-in-kind (PIK) interest. The debt matures in July 2026.

• Equity Raises: IMG also completed two equity raises to supplement the ADT acquisition financing and provide additional liquidity.

Refinancing Plans:

• Shift to Senior Secured Bank Facility: IMG plans to refinance its current debt with a senior secured bank facility in FY25, which is expected to lower interest rates and improve debt terms.

• Reducing Leverage: The company aims to reduce its net debt-to-EBITDA ratio to below 1.5x, with current pro forma net debt-to-EBITDA at 1.7x, showing progress toward this goal.

Cash Flow Focus: IMG expects strong free cash flow from the ADT business and tax losses worth $23.4 million to drive debt reduction. Significant cash flow improvement is anticipated in FY25 once acquisition and system transition costs subside.

While IMG is not perfect in terms of robustness, I would feel comfortable owning part of the business during a crisis due to its proven ability to access capital and its strong shareholder base (covered in the next section). I also expect them to achieve their refinancing goal, which, combined with strong free cash flow generation, could significantly improve their financial position and attract more attention from retail and institutional investors.

Management and Shareholder Base

Capital Allocation and Management's Focus

CEO Dennison Hambling brings significant experience in optimizing business value and capital efficiency. His priorities are generating cash for shareholders, building a sustainable, culture-driven platform, and carefully managing acquisitions. With 715,679 shares and 9.7 million performance rights valued at approximately $6.3 million (nearly three times his total annual compensation for FY24), Hambling is personally invested in IMG's success.

Hambling's Background:

• Former Head of Public and Private Equity at 360 Capital Group, with over 20 years of experience in capital markets.

• Held key roles at First Samuel Limited, Cooper Investors, and Goldman Sachs JBWere.

• Started his investment career in New Zealand as an Australasian Equity Analyst at NZ Funds Management.

• Currently a Non-Executive Director of a private medical business and the owner of Partners Capital Group, which focuses on private family businesses.

The largest shareholder, Peter Kennan, owns 47% of IMG and leads Black Crane Capital, an activist investment fund. Understanding his approach is essential for evaluating IMG’s potential.

Black Crane Capital: Strategy and Track Record

Investment Style: Black Crane follows a deep-value, activist approach, targeting undervalued companies with strong assets. They invest during market uncertainty when prices are low, conduct thorough due diligence, and provide capital to distressed companies. Their active involvement often leads to key corporate changes, such as recapitalizations, governance improvements, and mergers, to unlock value.

Track Record: Black Crane manages a focused portfolio of 6-8 investments, allowing them to deeply understand and manage risk effectively. Some notable successes include:

• Increasing their position in Elders hybrid securities during price drops, eventually realizing a 4x return as the market recovered.

• Their activism with Sabana REIT, which demonstrated their commitment to improving governance and closing valuation gaps.

Conclusion

IMG's management demonstrates strong alignment with shareholder interests, with no signs of dishonesty. Strategic acquisitions and a focus on returning cash to shareholders through dividends and buybacks reflect a long-term commitment to creating value. It’s also notable that Allan Gray owns a significant stake in the business (9.6%).

Hurdle Rate

I estimate A$3M for MCX, A$1M to maintain operations, and A$2M for the medical alarms they rent out to other companies for FY24. After deducting MCX and interest from their underlying EBITDA of A$40.2M, we arrive at A$26.3M in owner’s earnings. This would represent a 67% year-on-year growth in owner earnings per share based on my previous estimate.

We have 9.7M shares in performance rights, 18.7M in warrants, and 301.8M in ordinary shares, giving us a total of 330.3M fully diluted shares. At the current stock price of A$0.60, this results in an implied market cap of A$198.1M.

At these levels, the stock trades at 7.5x price-to-owner earnings (P/OE) or 6.6x enterprise value to EBITDA (EV/EBITDA). I'm generally cautious about relying on historical valuation metrics because our investment is about future returns. If we assume a 15% growth in owner earnings per share, which seems reasonable if they can refinance and continue integrating acquisitions successfully, we would be paying 0.5x P/OE/Growth.

Of course, these numbers are not precise, and I'm simply trying to determine whether this business appears undervalued. To me, it does seem to offer good value. Importantly, we don't need any multiple expansion to make this an attractive investment over the next two years. I'd be open to extending my time horizon if management continues to execute well and I become more confident in the business over time.

Why are they going to fail?

In this section I will try to lay down the key pillars of the thesis and what can break them.

1. High-Quality Management:
   The management team and Chairman appear honest and focused on delivering value. However, a concern arises from their frequent and generous guidance, which can lead to under-delivery. If they maintain integrity and the business performs well, any missed targets may only cause short-term price volatility. However, if they become overly optimistic or manipulate figures— a candidate for that are the non-cash charges in the FY24 presentation, which suggest a lower MCX than what seems reasonable—this could undermine the thesis and justify an exit from the position. Close monitoring of insider activity, particularly by Peter Kennan, is advised. Notably, the CEO recently made a modest open-market purchase of shares following the FY24 results.

2. Successful Integration of Acquisitions:
   Recent results indicate positive progress in integrating acquisitions, with a focus on improving operations and generating cash flow. However, if numbers stop adding up or there are more sales of acquired businesses, it could indicate management has been dishonest about the integration process, warranting an exit from the position.

3. Refinancing:
   The company’s ability to refinance ADT’s debt is crucial, not only to improve earnings but also as a test of management’s credibility. They’ve expressed confidence in achieving this, but any delays or failure to refinance could justify an immediate sale.

4. Continuous Profitable Growth:
   Management has delivered profitable growth on a per-share basis. If this growth stalls for an extended period, it could threaten the company’s financial stability and lead to long-term multiple compression. If the fundamentals no longer support the growth story over the long term, selling the position may be necessary.

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Thank you for reading. If you're interested in a deeper dive into IMG’s operations and want to explore the details of their business, subscribe to ensure you don’t miss part 2 of my research on this fascinating company and its management.