COG Financial Services (ASX:COG)

Following on from my decision to pass on Euroz another company I looked further into was COG Financial Services. Unitholders may be well familiar with this already as the second bidder for Diverger, and substantial shareholder of Centrepoint Alliance (Given I invested in both this says something about their capital allocation).

COG is another financial services business operating predominately in the space of asset finance brokering and lending. COG has a past as a serial acquirer (>50 transactions in the past 10 years) across several verticals including not only broking and lending, but also minority investments in Earlypay and Centrepoint Alliance. In early 2023 I wrote a one-pager on my Substack about COG and spoke about the on-market purchases by Cameron McCullagh (Executive and founding COO of Steadfast) and the institutional shareholder base.

I also mentioned that in the past half-decade asset finance has benefited from not only low interest rates, but also various ATO concessions including the instant asset write-off (IAWO), temporary full expensing, and small business general pooling. In many cases this has allowed businesses to use fixed medium-term debt and gain short term tax concessions including an upfront GST input tax credit and accelerated depreciation, making it highly compelling for the small business owner to finance their active assets. Whilst it was delayed the government confirmed the extension of the IAWO through to 30 June 2025 with a $20k threshold per asset. It is worth noting that the small business general pool can be depreciated at a rate of 15% in the first year and 30% in consecutive years, on a diminishing value basis, and when the WDV falls below $20k can be written off.

More recently, novated leasing has blown up due to the Fringe Benefits Tax (FBT) exemption for electric vehicles including plug-in hybrids (exemption ends 1 April 2025) and full EV’s (continues until atleast mid-2027) which was previously only available for high load vehicles such as Vans and Utes. This has some limitation including the Luxury Car Tax threshold, but the list of available vehicles under this threshold grows by the day, having the effect of increasing supply and alleviating an increasing demand in salary packaging for employees.

COG acquired the Paywise business in March 2023 for $30m which has since generated $5m in EBITDA in just over a year. It is worth noting that the initial transaction was somewhat of a reallocation of capital having divested 18% in the Paywise parent company for $15m to release funds and double down on Paywise as a subsidiary. In July 2024 Paywise acquired Community Salary Packaging for $2.1m increasing the group’s exposure to novated leasing further.

Financially the business mix shifted relatively dramatically this year away from traditional financial broking and their asset management, towards the novating leasing business. I believe that the droop in the former is structural given the loosening of tax concessions and increase in interest rates towards its long-term average, and the latter is buoyed by the FBT incentive which has medium term regulatory support.

Currently COG trades at $0.95/share and earned $0.1256/share in EPSA (adj. NPATA/Share), therefore trading under 8x earnings. The company pays ~70% of profits as a fully franked 13% dividend yield. Management has an incentive plan to grow EPS at a rate starting at 2.5% p.a. and maxing out at 10% p.a. but to avoid the gaming of this metric is insider/institutional ownership. Furthermore, on a look through basis is increased exposure to Centrepoint Alliance with COG’s 20% stake in CAF currently valued at $12m, or 7% of COG’s market cap.

Naos (the largest shareholder) wrote a deep dive on the business in their Q3 FY24 letter. They have made comments about the business in a positive light in recent updates but divested almost half of their holding earlier this month to a consortium of investors including several insiders and Thorney Opportunities. I would not take this sign to be a particularly bearish one as Naos has a very poor track record over the years whereas Thorney has outperformed significantly in comparison. Both are vehicles with permanent capital being LIC’s.

EDIT (8/10/24) : There was a letter that came from Sandon Capital Activist Fund in August explaining the sale