Monday, September 17, 2012

The Dolan Company: Monopoly Businesses

The Dolan Company (DM) operates what appear to be several high-margin, monopoly-type businesses. And yet the company trades for a P/E of just 5! What gives?

Dolan runs a number of businesses including specialty publications (for various legal jurisdictions), litigation assistance (e.g. in the form of outsourced discovery) and foreclosure processing. In many cases, these businesses have moats that help the company generate strong margins. For example, the foreclosure business has fixed-price contracts with various law firms running out past the year 2020, while the niche publication business offers certain advertisers and subscribers the best way to access target markets and specialized information, respectively.

Be careful, however. Almost half of the company's revenue comes from processing mortgage foreclosures. Since it has been a very good few years in this business (government interference to reduce the number of foreclosures aside), revenues/earnings may have peaked as the housing market returns to normal, which could make one overestimate the company's earnings power based on its earnings in recent years.

Despite the high margins and monopoly-type businesses, however, Dolan generates rather unimpressive returns on capital. This apparent paradox unravels when you consider how Dolan has to come own the businesses under its domain. It didn't build them; it bought them! In so doing, it appears to have paid a premium, which makes margins look good but makes capital returns poor. For example, last year Dolan paid $68 million for a company that earned just $1.5 million from July (when Dolan took ownership) to December of 2011.

The good news is that none of these businesses are capital intensive. If revenues fall, it's likely pretty easy to cut costs (in the form of labour) in order to keep margins juicy. But the high-priced acquisitions are set to continue. Management is nothing if not honest, making it clear that the strategy is to grow. At the prices it pays for this growth, however, investors can probably do better elsewhere.

Disclosure: No position

H/T @manualofideas

Be careful when applying online for anything, be sure to read the small print

No comments: