Capital Southwest Corporation (CSWC) is a business development company (BDC) which I discussed in one of the articles in my BDC Review Redux series. It is unusual in that it makes long-term investments, usually in the form of equity, in a limited number of companies which it perceives as having growth potential. It is the quintessential "patient" investor holding on to positions for years and even decades - even after portfolio companies go public. It has a superb track record and periodically rewards investors with large special dividends. In my opinion, it is a very attractive core holding for a value investor. In many ways, its patient philosophy of value investing is reminiscent of Berkshire Hathaway (BRK.A) and, although it does not have comparable notoriety, its investment performance has been impressive.
CSWC is now available at a steep discount to net asset value. CSWC closed Thursday at $106.60 per share and net asset value was calculated in a release to be $165.36 a share as of December 31, 2012. I believe that the actual discount is understated because many of the assets are "hard" assets in the sense that their market value can be readily calculated and, when these assets are backed out at full value, the discount is truly staggering. The table below provides (in millions of dollars) the total net asset value of CSWC, the total amount of value attributable to balance sheet cash, debt instruments (valued per the company's statement) and holdings in three publicly traded companies - Encore Wire (WIRE), Hologic (HOLX) and Alamo Group (ALG), the value per share attributable to these assets, and the market cap of CSWC. The calculations are based upon share holdings as of December 31, 2012, as reported in the CSWC release referenced above and in its most recent semi-annual report and Thursday's closing share prices as reported by Yahoo Financial. An adjustment was made to the cash calculation because of the sale, in January, of CSWC's holdings in a portfolio company as reported here.
|NAV||Market Cap||CASH||WIRE||HOLX||ALG||Debt Instruments|
If we back out these hard assets worth $244.7 million from both NAV and market cap, we are left with a market cap of $150.2 million and a NAV of $383.4 million. This means that the rest of CSWC's assets are valued at $100.50 per share and we are essentially buying them for $39.53 per share. A very large proportion (roughly $200 million) of the remaining value of CSWC is concentrated in one company, the RectorSeal Corporation, and this poses some risk. RectorSeal itself seems to have diverse operations and CSWC has had a good record of selling holdings for the amount of fair value reported on its financials or more.
In addition, CSWC has a number of other investments in a diverse variety of industries and its track record at achieving appreciation in its investment positions is very impressive. For example, the position it sold in January for nearly $22 million had an original cost of $102 thousand and its $96.2 million in ALG stock had an original cost of $2.2 million. While the assets other than the "hard" assets presented in the above table are largely preferred stock and common equity in non-public companies, the 60% discount to calculated fair value is enormous and makes CSWC very attractive at this price level.
CSWC has a truly awesome track record for rewarding patient investors. In 2012, it paid a special dividend of $17.58 a share including a special dividend to reflect a large capital gain. CSWC has a good track record for valuing its investment accurately and thus the 60% discount discussed above provides investors with a very inviting entry point.
CSWC is somewhat lightly traded and so should be purchased using "limit" orders. There are also certain tax issues in that some of the distributions are treated as capital gains. An investor in CSWC should familiarize himself or herself with these tax matters. CSWC is a holding for patient investors not seeking immediate yield - the large dividends are not "regular" and cannot be budgeted into an annual yield budget. An investor who is patient and focused on long-term return will do very well with a position in CSWC. Needless to say, I am long CSWC.