Investor Dialogue: Judges Scientific

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Disclaimer: This interview is for informational purposes only and should not be relied upon as a basis for investment decisions. In Practise is an independent publisher and all opinions expressed by guests are solely their own opinions and do not reflect the opinion of In Practise.

I think a good place to start is the relatively large new acquisition they have made. Does anyone have any thoughts on Geotek and when that hit press?

Analyst 1: I was happy to see a deal because it is one of the things that was a missed opportunity for Judges in the last few years. One of the reasons why it is such a good capital allocator is because they are so disciplined. But there is also a flip side where they may not be as active in periods where you want them to reinvest capital. That has definitely been the case in the last five years. I heard that it was something that was in the works for a while, from various investors that have spoken with David.

I was very excited but I was also curious to see how they came up with valuation of £6.5 million of pre-tax EBIT that they had. From what I've seen, at Companies House, for example, it seems as if there were a lot of variations, because of Covid. There is still a lot of risk, in that sense. But at first glance, I was very happy to see them putting their capital to work.

Isn't that a pre-Covid EBIT number? I think they've priced it on a normalized EBIT?

Analyst 1: I think it was averaged over three years and there were definitely some variations.

Analyst 2: I have similar thoughts. When you look at the last five years, the reinvestment rate had gone down. The internal discussion we have is, of course, the future return on Judges is dependent on the reinvestment rate and what sort of multiples they end up being. You can model different scenarios.

I would say, overall, it was definitely a big step in a positive direction. It could turn out to be an outlier case but we know how David operates. He is one of the managers I would say I trust the most, in terms of the whole portfolio, so I am not worried about misallocation of capital. I just want him to deploy as much as he can. The biggest question for Judges is, what will their reinvestment rate be, in the future?

This alleviates it a bit, saying they are willing to be a bit more aggressive, in the sense of paying a slightly higher multiple for the size. There are some parallels to Constellation, if you think about it. Overall, I see it as a positive. It doesn't fully answer the internal questions we have as to whether their reinvestment rate can be high because it's not VMS where you can do programmatic acquisitions; it's a different animal.

Analyst 3: I was surprised when I read the press release, thinking it was much larger than the typical deal and a slightly higher premium than they typically pay. I'm not sure what I think about it yet. On the one hand I think, yes, it's nice to see them going for it. But it's a large deal for them. I think the management team have earned a measure of confidence and support from shareholders; their track record is really good. When I talk to people about Judges, the first complaint I always here is, their acquisitions have really slowed down. To the comment that was just made, one investor I spoke with said, they need to do what Constellation has done and lower their internal hurdle.

When I was at the shareholder meeting, a couple of years ago, there was a shareholder in the audience who, for 10 or 15 minutes, held David to task. I think this was right after a two-year stretch where they hadn't done any deals. They asked what was going on? Maybe things have permanently changed and you guys are being too cheap? Maybe you just need to pay higher multiples. Agree or disagree, David stood his ground and said, I don't think things have permanently changed. We're aware of every deal that happens in our space; we know very well what is going on. We think there is a lot of cheap money floating around and prices are artificially elevated. He said he would rather return capital to shareholders than overpay for an acquisition.

The entire board, sitting up there with him, chimed in their support. They are very disciplined. I can't see them pulling a Constellation and lowering their hurdles. I think they are going to continue doing what they've done; it's worked so well for them.

I would be lying if I said I wasn't a little nervous about this deal because it's bigger and it's different. But they've earned my trust so I'm interested in seeing what happens with it. One other important point is that their organic growth has been pretty strong. David always gives Mark credit for that. Their organic growth has been interesting. I don't know what the latest number is. Last time I remember looking at it, it was high single digits. Judges is still relatively small; they still tout the pool of 2,000 candidates.

It's easy for outsiders to say, what are these guys doing? They just need to pay up and lower their hurdle. I'm going to defer to the guys that have done it and trust what they say and hope they can continue doing what they've done.

Why do you think David is so good? What about him makes his such a good capital allocator?

Analyst 3: I think the whole team is really strong. I have three interns working for me this summer and we've just finished reading Quality Investing and today is our last day discussing the outsiders. One of the points here is that charisma is over-rated. David certainly has a certain amount of charm, for sure. I have so much respect for Mark and Brad, but they're just competent guys; I think they do their jobs very well; it's not glitz and glamour. They are just laser focused on that order intake, that graph that they put together, on supporting their companies and investing in those that have the brightest prospects. David is laser focused on the deals.

If you go to the website under the acquisition section and David's name is on there. He is the one, I guess, still negotiating the deals. I think he just gets it. His background is a turnaround guy and, building this company from the beginning, he just understands. What they have done has worked; the formula has worked. He found the broker, who introduced him to the first company and found this little niche that is phenomenal. In my first conversation with him, back in 2018, I asked him how they had been able to create so much value via acquisitions when a lot of companies just vaporize value. The wording he used stuck in my head. He said, because I'm scared. Those were his exact words. He said, every time I sign on the line, I'm scared; I've got all my net worth tied up in this. I've got friends and family who are shareholders, and I'm scared we are going to do a bad deal.

He said, I know you are going to ask me about succession. He said, the biggest question for me is, can I find somebody who is going to be as scared as I am. I think he just wants to make sure they don't do a deal, just to do deal, that they don't overpay. They've done 20 deals; that's not a lot. I just think he's very, very careful. He had two years when they didn't do an acquisition, but there was a year when they did three.

I think he takes his job very seriously. He is still one of the largest shareholders and he has proven that he knows how to deploy it and that the model that they have designed works. I think he is successful because he is scared. He is very, very careful and he is an owner-operator. When I asked him what he was most proud of, he said, the value we've created for shareholders. He said, we could be a billion-dollar company if we wanted to be; the Street are always bringing deals to me. I could pay myself a million dollars a year, with a million-dollar bonus, but we would have issued so many shares, we would have diluted shareholders so much that the only people who would have made any money would have been the investment bankers. I think he gets it. He has so many things you look for; it's his legacy. It is about building a phenomenal company and creating value for shareholders and, in my opinion, nothing else.

Analyst 2: I completely agree with that and I think that his conservatism lets investors sleep at night. With Judges, you don't feel any stress. You know it is going to be business as usual. Internally, we think about it as, which of our company managers would you trust your wallet with and not worry about it. With Judges, I think David and the team would be right up there. Their integrity is top notch; I would rank them the highest, in our portfolio, in terms of integrity and consistency of what they say they do. That's rare.

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