Buying alpha?
Is just a proposterous pun, you'll get it soon...
Disclaimer: The content on this website is for informational and educational purposes only. Nothing should be considered as investment advice or as a guarantee of profit. Please make sure to do your due diligence. The opinions expressed are those of the author and are subject to change without notice.
Disclosure: The author currently owns shares in the company as of 8 April 2024. The security could be sold at any point in time without prior notice.
The question I’ll try to answer today is how appropriate is it to value a growing industrial B2B platform with substantial moats and sticky customers, for 10x P/E today? (let alone a micro-cap?) For comparison in the US think WW Grainger.
The company of concern is Alpha Purchase - Ticker: 7115
(I know, presumptuous right?)
Market Cap: 10.6 billion yen
3-year revenue CAGR: 17%
P/E: 13x (10x cash adjusted)
EBIT: 6.7x
ROCE: 17%
Summary:
Alpha Purchase is valued at 13x P/E today and 10x on a cash-adjusted basis (both on fully diluted EPS) and what I believe are on depressed earnings. This has substantial moats, growing mid-teens, and enjoys the dynamics of a distributor ala WW Grainger (GWW) but without the capital intensity or inventory risk. The forward multiples it would trade in a few years imply no growth beyond that, which I doubt and it’s also valued at a huge discount to comps. Investors seem to disregard this underfollowed microcap because of its low margins but forget about its high ROCE and ROE. I think you can get a 25% IRR with modest assumptions.
Management communicated to the market flat profit growth this year to spin off its reno division and to launch a new module which is a temporary hit on margins, but looking beyond, profits should get back on track. Revenue is forecasted to grow ‘only’ 10% this year as they focus on onboarding a large global client that comes online in 2025 that could add a good chunk of stable revenue stream. The new modules should also drive strong growth from existing customers. While still new as a public company they’ve so far tended to be very conservative on what they promise, and I think they’ll exceed expectations again.
Looking further out, with an ERP Upgrade cycle upcoming in 2027 as SAP 6.0 reaches EOS (which many Japanese industrials use) this gives them a window of opportunity to go after prospects to adopt their solution which could accelerate market share gains. Alpha Purchase is investing heavily in growth as they should, but once they reach close to 100 bil in turnover, margins could double. I think it’s a real possibility that they can achieve this in 5-6 years, which if so, combined with teens revenue growth can drive >25% earnings growth. There are so far no “hard” catalysts in the immediate future, but with strong industry tailwinds and a long runway, if this business becomes anything like a monotaRO this could become a multi-bagger for the patient investor.
Ok, so, the business
Alpha Purchase, I’ll call it AP for short, was originally started by a US Private Equity shop Ripplewood (lol, so much for made in Japan), realizing that a WW Grainger equivalent hadn’t existed yet in Japan. It was sold to Askul in 2010 when Ripplewood exited Japan.
AP’s main solution is called APMRO an enterprise procurement platform for Maintenance, Repair, and Operations items (MRO). The customers they target are very large enterprises usually with sales of over 100 billion yen. What’s great about this is that MRO demand is stable through cycles. Revenues were steady during 2008 and Covid. Below are examples of products you can buy.
Sales trend since founding…
Note that they’re not a simple distributor model and is unique – as a small upstart 23 years ago, they had major resource constraints which forced a bit of creativity, and the company had to pursue a capital-light model. On one hand, AP is still distributor-like – the product is sold through them. Revenues, therefore are booked on a GMV basis. On the other hand, suppliers bear most of the inventory risk and the logistical costs. Whenever an enterprise client orders products through APMRO, its sent directly from the supplier to the customer. So they benefit from distributor-like dynamics while staying capital light.
Why do enterprises need a solution like this?
Purchase decisions were often siloed across departments and subsidiaries but can now be centralized through a single window. This lets organizations compare prices, negotiate, and improve governance & visibility. Dai Nippon Printing came out with a press release saying after implementing APMRO it’s reduced the number of required steps by 90% so the efficiency gains can be significant. It’s said that MRO purchases only represent 3% of dollar value but account for 30% of volume. This takes a lot of wasted labor hours which can’t be rationalized in a time where we’re facing a labor shortage. HQ can now have a single overview of their MRO spend.
They also have a Facility management division -FM- a newer segment that takes the same principle but geared towards retail chain operators with large store footprints. Here, they are the one-stop shop for procuring products and services during the full store lifecycle from new store opening, maintenance, and renovation. For new store openings and renovations, the company can handle the procurement of building materials for the entire group, nationwide. This is valuable for chains because procurement is normally handled separately by regional construction companies which lack scale and can’t realize much bargaining power. They also have a nationwide partner network of maintenance companies which can be requested any time for store upkeep.
Their main customers are also enterprises here and revenues depend on 5-6 chains. Mainly majors like McDonald Japan, Lawson, Duskin, and APA Hotel.
This is also a sizable business, but for today I’ll mainly focus on the MRO division.
Alpha Purchase Customers:
Sizing the opportunity
For APMRO, the core market is an enterprise which they define as those with sales larger than 100 billion yen. 706 enterprises are of this scale in Japan today (and 79 are customers).
The estimated immediate TAM is around 400 billion yen for standardized products. (for context their APMRO sales are about 37 billion now). This has the potential to expand and reach closer to 1 trillion. Right now the company doesn’t account for high-value items where customers usually require a quote or customization from suppliers. AP is adding a new module so suppliers can negotiate with customers directly on APMRO. This is already in the works and will be available for beta this summer.
The FM business is different. The market for convenience stores, drugstores, and business hotels is about 27 trillion JPY combined – of this 2% of it usually is spent on renovation so their TAM is said to be 500 billion yen.
However, the actual TAM is probably smaller because customers prefer exclusivity. Convenience stores for instance must share their sensitive store expansion plans with AP – if they are working with another competitor this puts them in a tricky situation. That said, their current turnover stands at 15 billion so even if the real addressable market is less than half of this there’s still plenty to grow into. Similar to APMRO there’s also the potential for this addressable market to expand as they add new offerings and expand into other verticals.
Overall, there’s still an unbelievable amount of inefficient manual processes in an industrial setting, so plenty of ways AP can help customers operate more efficiently.
..and they have multiple growth levers to pull for APMRO:
Onboarding new customers – they onboard only 2 to 3 a year since they’re so large. The lead time can be anywhere between 6 months to 3 years depending on size. This on the other hand provides them with some visibility. It also seems that they have a pretty rich pipeline of clients. I think we can potentially see strong revenue contribution from a large client in 2025.
Increasing average spend per customer - Once an enterprise customer starts, more group subsidiaries become AP’s clients each year providing a steady level of growth. AP estimates its current wallet share to be around 50% which keeps growing by 10% a year.
Expand offerings and services - AP offers an ever-increasing number of goods and services on their platform. For example, they’ll be providing a beta solution for suppliers to negotiate/tender offers to customers this summer which should also lead to higher-value items being purchased through the platform. Increasing their addressable wallet size (read = TAM) and average order value (AOV). Still early but if this works, the opportunity will be huge.
For FM growth will come from 5-6 main clients’ renovation/capex plans. Most of AP’s revenue trickles down from their client’s maintenance capex and should provide some stability. About a third of this division is for large-scale renos which adds some swings. The company thinks FM will grow at 10% a year on average with some ups and downs. There is a continuous pipeline of stores that need renovations and maintenance. Chains are also spending more on omnichannel-driven store formats which should also help drive more renovation spending going forward. This is something I hope to share more as I find more data.
AP has a multi-layered moat
What I like about this business, having had to cut its teeth for a long time is that they’ve already built several moats at an early stage of the business life cycle. I’ll highlight the main ones.
Network Effects: APMRO has >3000 suppliers totaling 60 million SKUs provided to a customer base of 79 Enterprise groups. These groups have subsidiaries (around 30 on average). Typically there are thousands of individual users per enterprise. This might still sound like the demand side of the network is concentrated but another strength makes this network hard to dissipate which is….
High Switching Costs: implementation at an enterprise level is highly complex. Each has its own ERP modules and AP will integrate with their customer’s system in the best way possible i.e. not a turn-key solution. I want to emphasize how complex the needs of an enterprise is (especially in Japan!) making the churn of customers after integrating close to 0%. (There are some exceptions where the customer uses this module alongside other suppliers, but this makes APMRO value proposition less attractive but only accounts for 0.5% of sales.)
Data Moat: On APMRO, customers can compare prices for the same products from different suppliers, this is not easy to do because each supplier usually adheres to different product coding systems for the same product. AP has built a database so that the Product ID is unified across all suppliers. APMRO continuously works to ensure that customers can compare prices of the same product from the widest range possible from any supplier.
Customer referrals: AP mentions that new enterprises have approached them through referrals of existing clients. They only started focusing on building an outbound sales team 2 years ago. AP is trusted by enterprises with more than 1 trillion in annual revenues and for those, having referral customers is a pre-requisite during an RFP. This provides 1) strong credibility and 2) cost-efficient marketing.
Economies of scale: This is an emerging moat, as the purchase is made through AP, the order value can be quite big as it grows, this triggers some powerful collective bargaining. It’s good to have close to 80 enterprise customers fuel your purchasing.
… and most importantly I think these moats can widen as they scale, creating a positive feedback loop.
(For its FM biz they have a partner network of 1600 maintenance companies that can provide nationwide coverage. They also have specific know-how into each customer’s expansion & maintenance process – making it inconvenient for customers to replace them.)
Management
I think the management team is pretty good but this might get the most scrutiny from investors given they don’t own many shares. With the risk of me rationalizing let me explain… The CEO has been with AP since the early days. He isn’t the founder but he’s been running it as CEO from 2006 and brought the business to where it is today. He’s got some experience working in Japan and the US and is MIT-educated with an MBA.
The issue is that he only owns 1.2% of stock which isn’t much and the rest of the team don’t own much either. He and the team do have quite a bit of unvested stock options which amount to 7.8% of shares-outstanding. It’s not ideal but still, some incentive to succeed. The hurdle to exercise them is quite high. A majority of the options have a strike price of 885 yen.