Description

Thesis

Avante is a unique and high-quality Canadian security business now orphaned because of a failed sale process and small float of about $12 million. Founder Manny Mounouchos returned as CEO in April and under his more focused leadership, I expect the company to generate at least $2-$3 million of adjusted EBITDA starting in the next few quarters. Within two months of his appointment as CEO, Manny has already cut $1.6 million of operating expenses (on a $17 million revenue business) by consolidating the company’s glitzy head office in Toronto’s Yorkville area into its operations centre in a far-less-glamorous part of the city.

Avante has $10 million of cash on the balance sheet following the sale of its Logixx subsidiary or about $0.38 per share which is half the current market cap. At an enterprise value of $10 million, the stock is trading for 3.5-5.0x EBITDA or about 1x annual recurring revenue. Churn is very low at Avante and there is no real competition. I think the stock is worth 50-100% more and could be privatized by Manny and Fairfax (currently own one-third of the stock) at $1.25 (+67%) using cash and financing available under the existing facilities without committing an additional dollar of equity. With the cash on the balance sheet and the recession resilient nature of Avante’s business and client base (in fact, a recession may be positive), downside is limited.

Background

Avante is a high-end residential security business founded by Manny Mounouchos in 1996. The company provides alarm and video monitoring services as well as patrolling and rapid response by Avante security personnel. Avante will check the exterior of a client’s property 3-6x per day and guarantees a six-minute response time if an alarm is triggered. The company services the highest-end neighbourhoods in Toronto, protecting some of Canada’s wealthiest families and on average charges $5-$6,000 per year.

The Avante business delivered about $17 million of revenue over the past few years. Approximately $10 million of this revenue is recurring (60% from alarm and video monitoring and 40% from patrolling and rapid response) with the balance from equipment installation. There is no real competition for Avante’s service. Churn is very low and many clients don’t even have contracts. The company sells in only a few of Toronto’s wealthiest neighbourhoods, requiring density to guarantee the six-minute response time while still earning a profit. Management believes they are about 20% penetrated in these neighbourhoods.

Founder Manny Mounouchos stepped away from the business in 2015 after a falling out with then-CEO George Rossolatos. Craig Campbell took over as CEO in 2018 after buying about 10% of the company and began to aggressively acquire commercial security businesses outside of the core Avante franchise. Under Craig’s leadership, the company underdelivered on its financial targets, leaving the stock rangebound. Craig kicked off a strategic review process in mid-2021 which culminated in a sale of the entire company to SSC Security for $1.60 per share (two-thirds stock), announced in early February.

Based in Regina, SSC has a colourful past, recently transforming itself from an agriculture streaming business into a security firm after a red flag riddled deal to sell itself collapsed.  Manny owns 13% of Avante stock and was dissatisfied with the sale to SSC, in part because he was upset about taking so much of the consideration in SSC paper but also, I think, because he is clearly passionate about the business he built and didn’t want to see it fall into the wrong hands.

Shortly after the SSC transaction was announced, Fairfax decided to convert their $8 million of debentures in Avante to a 20% equity stake and block the deal. The conversion occurred at $1.56 per share (the stock is now $0.75). The Fairfax debentures had a change of control provision that gave them the option to redeem in cash on the SSC transaction. So why block the deal only to see the stock cut in half? Fairfax CEO Prem Watsa is a long-time client of Manny’s at Avante and it is not difficult to imagine that he did this, at least in part, as a personal favour. Avante has since secured a $10 million, 5-year subordinated facility from Fairfax at 5% - great terms.

In lieu of a complete sale of the business to SSC, Avante agreed instead to just divest its Logixx subsidiary – the collection of commercial security businesses that former CEO Craig Campbell had built up through M&A. Logixx was sold to SSC for $23 million in cash, leaving Avante shareholders with the core Avante business and about $10 million of net cash on the balance sheet.

Manny moved fast to restructure Avante after returning as CEO. He immediately closed the company’s expensive Bloor Street head office, saving at least $1.6 million in annual operating expenses. All staff are now consolidated at the company’s operating headquarters in a much less expensive part of the city. Avante stated publicly that they will be EBITDA positive in the current quarter (July – Sep ’22) and I expect the company will generate $2-$3 million of annualized EBITDA in the relatively near-term. Going back a few years in the table below, prior to the company’s M&A push, Avante generated EBITDA margins in the low-to-mid teens on a business with less scale.

Further, the Avante segment generated $1.5-$2.0 million of EBITDA over the past couple years with corporate segment costs running in a similar to slightly lower range. Assuming all of the corporate costs stayed with Avante post-Logixx sale, those costs have now effectively been eliminated through the head office closure, leaving the $1.5-$2.0 million of Avante EBITDA to drop straight to the consolidated bottom-line.

Management will provide more detail on its plan for growth and capital deployment in the coming quarters. I expect the company will consider geographic expansion to Florida and Muskoka, where a number of existing clients own property. Avante will likely buy their way into these markets with a small acquisition to provide some initial mass (<$1 million purchase price). Avante will also look to sell additional high-margin offerings into its existing client base. For example, management is planning to sell a cybersecurity technology that defends a client’s home network against hackers.

Valuation

At the current $0.75 share price, Avante has a market cap of $20 million with $10 million of cash on the balance sheet for a $10 million enterprise value. I expect the company to generate EBITDA of $2-$3 million per year once restructuring is complete in the coming quarters (implies a margin of 10-15% on revenue of $17 million). A 3.5-5.0x EBITDA multiple for a business with very sticky revenue is too low considering modest capital intensity. The current valuation implies a multiple of only 1x annual recurring revenue. Though the business is focused on the mass market and so quite different, AlarmForce was acquired by BCE in 2017 for 3.1x recurring revenue. A similar multiple for Avante would put the stock at $1.50 (+100%).

With $10 million of cash, a $2 million revolver, and the recently announced $10 million facility from Fairfax one has to wonder why the company is public at all. Fairfax and Manny combined own about one-third of the stock. The remaining two-thirds of shares could be acquired at $1.25 (+67%) by Manny and Fairfax using existing cash and credit facilities without committing an additional dollar of equity. This would appear to be the most logical outcome for all involved.

Catalyst

Underlying earnings power will become more visible in the coming quarters.

Management will provide clarity on their growth and capital allocation plans in the coming quarters.