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FAX Capital finding value and opportunities in overlooked smaller companies 

Published: 13:00 16 Nov 2021 EST

Fax Capital Corp. -
“While we're focused on growth equity, we're built as a company with a lot of flexibility so we can invest across the capital structures of the businesses we invest in including owning the equity, debt, or hybrid securities," said CEO Blair Driscoll

FAX Capital Corp. (TSX:FXC) is finding big opportunities in the small and micro-cap sector in Canada, investing in companies that fly under the radar of larger investors. 

It is fertile ground for the family-controlled investment holding company headed by CEO Blair Driscoll. And he believes that it has a number of differentiating characteristics that give it the edge over competitors in the space, including traditional private equity investors. 

Three-quarters of Canada’s listed companies have a market capitalization of C$400 million or less, below the threshold that many institutional investors are mandated to invest in. Smaller funds that used to focus on small-cap investing have largely been squeezed out of the market by declining fees, higher regulatory costs and a growing preference for passive investment strategies that favour large-cap stocks.

At the same time, the growth in private equity investing has funnelled capital toward private companies. 

FAX is looking to redress the balance by focusing on investing in and building strong and sustainable businesses to create long-term value for all its stakeholders. 

WATCH: FAX Capital describes how the investment group unlocks value in small Canadian businesses

“In Canada, all the institutional capital is focused on larger-cap names that are only a small portion of our investible universe,” Driscoll explained. 

Today, FAX Capital has a market capitalisation of about $180 million and approximately $230 million of net assets. It intends to invest that capital in 10 to 15 high-quality public and private micro-cap companies. Although its focus so far has been on Canadian-listed securities and private companies, Driscoll said the company has the flexibility to invest across North America and overseas. 

Flexible investment structure 

“While we're focused on growth equity, we're built as a company with a lot of flexibility so we can invest across the capital structures of the businesses we invest in including owning the equity, debt, or hybrid securities. This is important as we look at underwriting our investments to the best risk-adjusted return,” Driscoll explained. 

Like private equity firms, FAX performs comprehensive due diligence on acquisition targets, whether public or private. Another key differentiator for the company is that, unlike most private equity vehicles, it is structured as a corporation rather than a fund. It invests directly off its balance sheet providing access to long-term permanent capital. 

“It’s what all private equity companies today are trying to achieve: getting longer-dated capital,” he said. 

“We have that; the money we raise goes on our balance sheet, and there's no redemption feature. That provides two important aspects: it allows us to take a long-term view and maximize the compounding of capital, while also taking advantage of volatility.” 

This also gives FAX an edge over mutual funds, many of which see their funds redeemed in volatile markets, forcing managers to liquidate securities at unfavourable prices in order to return capital to unitholders. 

“We don't have any of those issues; volatility is our friend,” Driscoll added. 

Also setting the company apart is its internal management structure. FAX doesn’t charge direct management or performance fees as a corporation, resulting in a further benefit for shareholders. 

“Being internally managed means were quite efficient, and very much aligned with our shareholders,” he said. 

Playing an active role 

Furthermore, FAX is an active owner in the public businesses that it typically takes a significant minority stake in. That can include board representation or board observer rights. In the case of private companies, Driscoll said FAX prefers outright control. 

“I don’t want that to be misconstrued as activism but I like the term active because we are not a passive shareholder,” Driscoll said. “We have knowledge and a skill set that we bring to the table, particularly from a capital allocation perspective. Through active ownership, we can help maximize value within a company.” 

Additionally, FAX is highly concentrated. A typical investment is 10% or more of its asset base, forcing it to be selective and to invest with high conviction. With 65% of FAX’s economic value in the hands of the Driscoll family, he said this provides further alignment with minority shareholders. 

“If our shareholders don’t make money, we don’t make money and I think that’s incredibly important,” he said. 

Three core areas of focus 

FAX has identified three core sectors where it sees secular tailwinds: i) healthcare, ii) technology, and iii) infrastructure and real estate services. 

Its first acquisition of a private company was Toronto-based Carson, Dunlop & Associates Ltd, a leading provider of proprietary technology-enabled education services and software for home inspectors across Canada and the US, as well as a leading provider of home inspections services in the Greater Toronto Area. 

It structured the deal so that it owns 78% of the business, with the company’s co-founder Alan Carson holding the remainder. 

It’s in the real estate services sector and has three primary business lines all focused around home inspection for residential homeowners. 

“We're the number one home inspector in Toronto,” Driscoll said. “We're the premium player and home inspection is an incredibly steady business.” 

Where the business model becomes extremely interesting to FAX is the other two segments, which are high margin, scalable opportunities. Carson Dunlop is also the number one education provider for home inspectors across Canada through an online private career college platform. 

“This has high incremental margins, and it’s a really wonderful business,” said Driscoll. “The third leg is we are also one of the leading mobile applications in North America for home inspectors, to access software to write home inspection reports.” 

Carson Dunlop conducts over 250,000 home inspections a year across North America through its Horizon software platform and owns all the data that results from the inspections, which Driscoll said is extremely valuable in terms of ancillary revenue opportunities. 

“We think there's a lot of fantastic opportunities to scale Carson Dunlop organically, and also through incremental M&A which we’re focused on,” he said. 

Among FAX’s listed investments, it owns 6% of TSX Venture-listed Quisitive Technology Solutions, Inc. and has a nominee on the board of the $430 million market cap company. 

Quisitive is a leading provider of Microsoft Azure cloud consulting solutions and also owns a proprietary SaaS payment solutions platform, LedgerPay, its own in-house software for small and medium-sized businesses. 

“Both those segments, cloud consulting and payment solutions have incredibly strong tailwinds and are growing at double-digit organic growth rates,” Driscoll said. 

“So, if you think about cloud consulting, there are big opportunities as companies continue to migrate to the cloud to lower costs and improve scalability. And on the global payment side, there’s huge growth in the movement to electronic payments and the shift to e-commerce which we think is an incredible opportunity.” 

“They made a very meaningful acquisition, a company called BankCard USA, on the payment side which will allow them to quickly commercialise their in-house LedgerPay end-to-end payments solution.” 

Cash on hand 

While FAX has a cash balance of about $80 million, Driscoll said the company is patient in its capital allocation. Throughout much of the coronavirus (COVID-19) pandemic, he said the company has been focused on public companies because of a massive dislocation that resulted in it finding assets trading at attractive valuations. Valuations of private companies were less affected unless they were directly impacted by COVID-19, he said. 

“However, now we're finding more opportunities on the private side, so we’ve shifted focus onto our private pipeline. Carson Dunlop is a priority, we want to grow it both organically and through M&A, with incremental capital deployment. We are building a property technology and real estate services platform, with Carson Dunlop being the lead foundational transaction in that space.” 

Driscoll said FAX’s pipeline is robust, and that’s going to be an area where shareholders should see meaningful capital deployment as it also continues to look for opportunistic deals on the public side. 

“There's no better market where you find opportunities when volatility or fear hits and we want to be in a position to be able to execute and deploy capital in that space opportunistically,” he said. 

As far as its performance goes, Driscoll said the company has achieved a 40% unlevered rate of return on its deployed capital since launch at the end of 2019. He attributed the gains to FAX’s high-conviction investments, which have resulted in growth of about 21% in its book value per share, a key metric that it believes shareholders should be focused on. 

The differential between its investment performance and the growth in its book value per share can be mainly attributed to the cash on its balance sheet, he added. 

“From a fundamental perspective, our strategy has paid off handsomely. From a share trading perspective, it’s been a bit more muted but that’s related to the fact that FAX tends to trade at a discount to our book value per share,” he said. 

“I’m highlighting that because I think it’s a really wonderful opportunity for investors to get involved with FAX today given the discount and given the fact that as we deploy capital and make further acquisitions it may be a catalyst to surface value in our shares. We just think it’s a great entry point to get involved in our company early on in our evolution," the FAX Capital CEO concluded. 

For more information on FAX, please visit its website at www.faxcapitalcorp.com

Contact the author at stephen.gunnion@proactiveinvestors.com

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