N2N Connect Berhad (KLSE: 0108) is incorporated on 10 August 2000 and is listed in the Ace Market of Bursa Malaysia on 29 September 2004. The company is principally engaged in the provision of trading solutions to financial services industry, mainly brokerage firms such as CIMB Securities, RHB Invest, Affin Hwang, etc.
It offers a range of trading solutions from front-office to back-office. Below is one of the company’s front-office product – TC Plus which is a web-based trading system:
If you have a CIMB brokerage account or RHB Invest, you would have experienced their trading system which allows you to access global market (i.e. NASDAQ, HKex, SGX, etc.) using the same platform.
What caught my attention to research this company is its share price which have been steadily increasing since the beginning of year 2012 from RM0.22 per share to RM1.07 per share, at the time of writing. This gives a compounded annual return of 30.4% over 6 years’ time!! While we shouldn’t chase high, we should attempt to understand why the share price increased and whether it is due to speculation or investors see value in this company’s business.
So, here are the 5 key insights you should know about N2N Connect Berhad before investing into it:
#1: Stable Income Stream
More than 90% of N2N’s revenue streams are recurring in nature. Its business model is to provide trading solutions to brokerage firms and charge a fixed monthly management fee for maintaining the trading system. On top of that, N2N also charge its client a percentage fee for every matched trade order executed via its online trading system. As such, the higher the trading volume in Bursa Malaysia, the higher matched trade fees that N2N will received.
As you can see the above chart, N2N’s revenue have been growing consistently at a CAGR of 19.1% since year 2009 after recovering from the sub-prime crisis.
#2: High Profitability
For the past 6 years, the company’s gross profit margin has been consistently above 50%. This usually mean that the company has a certain moat that allows it to command a higher selling price. The high gross profit margin is also due to N2N’s cost structure which are mostly fixed rather than variable. This is because there are no additional costs incurred to sell more as the software can be implemented to unlimited clients once it has been developed.
In addition, the company’s net profit margin has been increasing from 6.7% in year 2012 to 25.8% in 2017. The increase is due to rental income from its newly purchased office building in year 2012.
#3: A Turnaround Success Story
In the past, N2N’s trading solutions is provided through 3 mediums (i.e. mobile phones, PDA and computer). The company also sells mobile devices by partnering with Telco to offer these devices at a discount if customers subscribe to N2N’s trading solutions.
It was doing well until 2008, the sub-prime crisis have caused the global market to fall including Bursa Malaysia. Since then, the trading volume has been significantly low in Bursa Malaysia and this have translated into lower revenue and losses for N2N.
N2N’s losses is also due to the lack of management’s focus as the company is seen to be offering unrelated services such as sale of mobile devices. Consequently, the company has incurred a provision for doubtful debts of RM16 mil in year 2009.
Since 2010, N2N has started to turnaround in-line with the global market recovering from the sub-prime crisis. The company also scrapped the sale of mobile devices and refocus into the development of trading software by introducing new trading solutions to replace the old ones, e.g. TraderConnect Pro (or better known as TcPro) in year 2011.
#4: Growth is coming from the Acquisition of AFE Solutions Ltd (“AFE”)
On 31 March 2017, N2N has completed the acquisition of AFE for cash consideration of US$20.6 mil (equivalent to RM90.6 mil). AFE has 2 businesses mainly in Hong Kong, e.g. provision of financial information and trading solutions. Its business model is slightly different from N2N where a fixed monthly fees is charged to AFE’s customers.
Moving forward, we will see more growth coming from AFE as the management plans to change its business model into N2N’s “fees based on matched trade order executed”. As at 4Q 2017, revenue from AFE accounts for 50% of the total N2N’s revenue.
In addition, the acquisition of AFE is also part of N2N’s plan to penetrate into Hong Kong market. There are also plans to acquire 28% stakes in OurMoneyMarket – a P2P lending platform in Australia which is announced on 12 April 2018. This marks the beginning of N2N penetrating into Australia market.
#5: Inconsistent Dividend Payment
N2N is an example of what Peter Lynch described as fast grower type of company. The company does not pay a consistent dividend despite having a stable income streams over the past 10 years as it requires the cash for business expansion. Nevertheless, N2N have started to pay dividend upon successfully turnaround since year 2013.
With the acquisition of AFE and coupled with net cash position of RM72.2 mil, I foresee the current dividend payment of RM0.04 per share will continue in the future.
N2N’s growth story is definitely an interesting one but this is not to say that you should jump into it without taking into account of the risks that you could face.
One of the risk that you should take note is N2N’s business model that is very much dependent on the overall trading volume. Any black swan event such as the sub-prime crisis in 2008/09 could lower the trading volume of Bursa Malaysia or the Hong Kong Stock Exchange and this will have an impact on N2N’s matched trade fees.
In order to lower this risk, it all boils down into the price that you paid. The lower the price paid as opposed to N2N’s intrinsic value, the lower the risk. At the time of writing, N2N trades at a price-to-earnings (“PE”) of 23.5 times. Its closest competitor, Excel Force MSC Berhad, trade at a PE of 36.1 times. My next post will be an analysis on Excel Force MSC Berhad, so stay tuned!!
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