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I am a value investor based in Cincinnati, OH. The MoS stands for Margin of Safety and sums up how I invest. Inspired by Graham, Buffett, Klarman, Neff, Burry, and other great investors, I primarily follow small cap or microcap stocks, though I will look at any stock that could potentially trade... More
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  • 3 Interesting Stocks Selling Below Net Current Assets

    Benjamin Graham liked cheap stocks. He especially liked stocks that sold below their net current asset value. Why?

    Let’s say you own a small, neighborhood bar.  You have a few regular customers, can get a good crowd if you can find a decent band to play on Saturday night, and despite the ups and downs, the bar generally brings in enough money to pay the bills. But would you sell if someone came in on a slow night and offered to buy it for less than the value of the cash in the register and the bottles of liquor on the shelf? The answer is no,  unless you were a very desperate seller.

    The stock market often prices companies below the value of cash, inventory, and receivables, minus debt- aka net current asset value (NCAV). Graham liked to buy a diversified basket of these companies he called “net-nets” at 66% of NCAV.

    In today’s market, it is difficult to find values that cheap, especially those that are not fraudulent or in risk of going out of business. You should look at the cash flow statements and balance sheets to find companies that have a history of positive operating cash flow.  It also helps to see what the insiders are doing. I like to see management owning a high percentage of stock.

    I recently scanned a list of NCAV stocks and found three companies for further research.

    Performance Technologies (PTIX)

    PTIX manufactures networking and signaling equipment for telecom companies, with Alcatel-Lucent, Raytheon, and Leap Wireless among its largest customers. PTIX shares fell from the mid-teens in 2003 to $1.88 today primarily because it competes in a crowded industry constantly disrupted by technology changes.  Don’t let the poor performance fool you.  PTIX has a history of positive cash flow as recently as Q1 2010.  With $1.66 per share of cash, the company currently trades at 85% of its $2.20 NCAV and 15% of the shares are held by insiders.

    Vicon Industries (VII)

    Vicon manufactures security cameras and video systems for use in office parks, schools, and prisons. VII has weathered the storm in a heavily cyclical business, showing positive cash flow in Q4 2010. The company caught the eye of other value investors and rose from a September low of $3.60  to a recent $5.00. With a whopping 40% insider ownership, the company still looks attractive selling at a discount to its NCAV of $5.75.

    Audiovox (VOXX)

    VOXX, an electronics company best known for its consumer audio products sold under the RCA and Jensen brands, is a perennial NCAV candidate. With a market cap of $189M, it is much larger than most NCAV companies.  Things may be looking up for the company as operating cash flow has been up for the last two years and should continue to increase in fiscal 2010. Famed value investors Seth Klarman and the Kahn Brothers are major holders of the stock, though Klarman has been a seller as of late. VOXX sports a rising Piotroski score and 10% insider ownership, along with its NCAV of $9.63 versus its current price of around $8.26.

    These companies are far from perfect. Each one boast several risks and compete in very difficult industries. Managing the risks are key. But remember when digging for “net-nets”, we aren’t looking for the next Arcade Fire. We’re just looking for a decent bar band that can bring a few dollars in the door while waiting for the overall market to get cheaper.

    Tags: VOXX, VII, Small Caps
    Feb 22 9:47 PM | Link | Comment!
  • Book Review: Warren Buffett and the Art of Stock Arbitrage

    Warren Buffett and The Art of Stock Arbitrage

    Mary Buffett and David Clark continue their series of “Buffettology” books by focusing on Special Situations with their latest,  Warren Buffett and the Art of Stock Arbitrage.  While Warren Buffett is known for investing in high quality businesses at low prices, much of his success has come from arbitrage or special situations. True “Buffettologists” will remember that in the days of the Buffett Parnership he categorized many investments as “workouts” which fall into this category. The book begins with a few chapters explaining the basics of arbitrage and why Warren Buffett invests in them.

    The authors cover several types of special situations, including:

    • Merger Arbitrage
    • Self-Tender Offers
    • Spin-offs
    • Liquidations
    • Reorganizations

    Special situation investing consists of making a relatively small profit over a short period of time, generating high annualized returns. For example, let’s say a company announces that it is buying back its stock through a tender offer at $15 per share and immediately the stock price jumps to $14.50. A successful arbitrageur can make a 50 cent profit per share or about 3.4%, which seems like a very small return. However, if this money can be made in a 1 month period, it equates to a 41% annualized return.  The book also explains how Buffett uses margin (borrowed money) to juice these returns even higher.

     

    As the authors point out, the key to successful arbitrage investing is “certainty”. Successful investors like Buffett analyze each situation to assess 1) the probability of the event occurring, and 2) how long it will take for the event to occur. In the example above, if it takes 8 months to receive the 50 cent profit, then the annualized return drops all the way to 5.1%. For beginners, the book includes an entire chapter on calculating the annualized return and weighting the probabilities.  Those familiar with the math can use a spreadsheet or online calculator like the one here.

    The strength of the book lies in the case studies. Every type of arbitrage situation includes at least one real-world example, most beginning with the public announcement and continuing to the event’s conclusion. The book is also written in a very easy-to-read style. It took me only a few sittings to get through the entire book.

    This breezy style may also be the book’s biggest weakness.  The book is targeted at beginners, so it glosses over some of the finer points of special situation investing.  It provides little detail on evaluating the likelihood of success, the length of time for completion, or the proper timing of the buy decision. It also skips demonstrating to readers how to properly value a spin-off. Most frustratingly, the book barely covers finding or researching an attractive situation other than “read the Wall Street Journal“. I would have liked a brief summary of key SEC filings and what to look for in those documents since they are the primary research tools for a special situations investor.

    Weaknesses aside, I think this book is worthwhile for those starting out in arbitrage or special situations investing and can serve as a refresher for those with a little experience. For those seeking an in-depth look at special situations and arbitrage, I strongly recommend Joel Greenblatt’s 1997 poorly titled classic You Can Be a Stock Market Genius, which covers much of the same territory but is a bit advanced for a beginner.

    Because of easy access to data and low trading costs, individual investors can profit significantly from special situations, and better yet they are uncorrelated with the general market. In times of high stock prices, these special situations can help generate positive returns while waiting for the price of quality businesses to fall. Buffett and Clark’s latest is a good introduction to special situation investing.

    Feb 03 8:42 PM | Link | 4 Comments
  • Stanley Furniture Follow Up: No Margin of Safety in this Armoire
    As value investors, we are always seeking a Margin of Safety. The MoS can be found in several different areas, including normalized earnings power, discounted cash flow, or hidden real estate or land values. I wrote 2 weeks ago, that based on discounted cash flows and an estimate of ongoing normalized earnings power that Stanley Furniture does not currently offer a margin of safety at its price of around $3 per share.  However, due to some recent corporate actions, it is possible that the assets of STLY could be worth more than what the stock market is currently quoting.

    According to a press release from December 20 (emphasis added),

    Stanley Furniture Company, Inc. (Nasdaq-NGS:STLY) announced today that it has pre-paid in full its outstanding debt under its note agreement with Prudential Insurance Company of America and other lenders. The amount prepaid was $15 million plus accrued interest. In connection with the prepayment, the lenders agreed to waive the yield-maintenance premium due on prepayment provided under the note agreement. The Company indicated that cash on hand after the debt prepayment was approximately $19 million.

    At the same time, STLY also announced they completed a recent rights offering by adding 4M new shares at a price of $3. This cash facilitated the debt prepayment.  Taking a look at the latest financial filing from October 2 and adjusting for the new cash balance and elimination of debt, the new Total Stockholders Equity, aka book value (assets minus liabilities) is $75.1M from the previous balance of $58M, an increase of nearly 30%.  Compared to the total market cap of $37M this looks like an outstanding investment.

    The problem is that 4M new shares were issued. This increases the shares outstanding by 40%, actually lowering the book value per share from $5.60 to $5.24. Though the stock is still trading below book value, over half of the assets are in inventory and property and equipment. Given the current competitive environment I’m not sure how reliable the estimates are for the value of the inventory or the equipment that makes it, thus lowering our perceived value even further. Further cash flow and earnings declines will also lower the asset value as cash leaves the balance sheet.

    One other interesting piece on STLY is the potential CDSOA payments I discussed in my previous post. CDSOA payments are coming slowly from the government and most are being held up through lawsuits. STLY believes they are owed around $30M in payments. If it was to receive those, this analysis changes completely. Though it may not be enough to jumpstart the business, it may be enough for an activist investor to get involved and distribute the cash to shareholders.

    Without any insight into the outcome of the CDSOA lawsuits or the government agency distributing the payments, I think that buying STLY on that premise would be speculative.  I will continue to monitor STLY for further developments as getting full access to those payments could result in a rewarding Special Situations play.

    Disclosure: I have no position in STLY


    Tags: STLY
    Jan 08 10:31 AM | Link | 1 Comment
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