Steady As She Goes (My Little Conglomerate 2018 Year-End Update)

Includes: CAI, CCL, CHL, RCL, SCIF
by: Gene Chan, CFA

How to navigate tumultuous financial markets.

A review of the superb performance of My Little Conglomerate and its subsidiaries.

Coming: a capital raise to fund future acquisitions.

Steady Sails

I have just returned from a relaxing cruise vacation in the southern hemisphere, where I spent Christmas in the summer wind, indulging on some of the world's best food, wine and entertainment.

But on top of all that, the thing I used to love the most about cruises was how I was off-the-grid, cut off from the worldly worries of the day.

Satellite internet changed all of that, of course.

As I looked outside the cruise ship window at the huge white waves - taller than most sail boats - crashing into one another, I couldn't help but to also sneak a peak at my mobile phone (connected to an extraordinarily overpriced on-board internet plan) and noticing the brutal storm that was ravaging the global financial markets. With all that going on, nobody can be blamed for getting a little sea-sick.

But the only thing more impressive than how vicious the waves were in the open ocean, was how little of them I felt as I sipped on a glass of bubbly Moscato. Modern cruise ships (like the ones operated by our portfolio business Royal Caribbean (RCL)) - as the Captain explained over the PA system - utilize advance stabilizers that steady the ship and insulate passengers from all the turmoil happening outside.

Likewise, a great navigator of the financial market is insulated from the market's tumultuous gyration, and the resulting emotional roller coaster, by formulating a solid methodology during the calm and then sticking to it during the storm.

My Little Conglomerate Performance Review

My regular readers know that the best methodology in investing is to invest like a business owner. As an owner of a business, you want to maximize its earnings and future cashflow, and you should care less about the market price of the business that you're running as a going-concern and have no plans to exit.

As a corollary, an investment portfolio should be run like a conglomerate of businesses. Around middle of last year, I created My Little Conglomerate - a real money account to track the results of an open experiment on precisely this investment philosophy. The overriding goal is to maximize the consolidated earnings of the overall portfolio (the "conglomerate"). Market value takes a backseat. From this lens, let's take a look at the portfolio's performance since inception:

Date Market Value Owner Earnings Owner Cashflow
Q2 2018 29,554 1,506 516
Q3 2018 32,712 2,367 553
Q4 2018 29,944 2,698 579

Annualized Owner Earnings of My Little Conglomerate increased 79% within the first 6 months since it all started. Annualized Owner Cashflow (cash paid to owners - mainly dividends and interests) increased 12%.

We try to purchase companies that are compounding machines, where skillful managers are in place who reinvest earnings internally as long as opportunities exist to grow the business, or otherwise pay the cash out to their boss (i.e. us) when they feel the capital is more useful elsewhere. As such, we are comfortable with (or even prefer) companies that pay out only a small percentage of earnings as dividends if it means the internally retained cash will drive even higher future earnings.

The total return of My Little Conglomerate (in terms of market value) during the last 2 quarters of 2018 was 1.3%, compared to S&P Total Return of -6.9% over the same period. In other words, we outperformed S&P by 8.2% since inception, or 17.1% annualized. Not too shabby!

While I have mentioned many times that short term performance on its own is quite meaningless, I am confident that significant outperformance will continue over the long term as we focus on maximizing the earnings stream of the conglomerate business.

Now let's have a quick update on the individual subsidiaries.

Review of Subsidiaries

Each position in the My Little Conglomerate is treated as a "subsidiary" of the "parent company" - the portfolio. While we give existing management a lot of leeway in running their business, we periodically check in on them to ensure they are moving in the right direction.

Royal Caribbean Cruise (RCL): Royal Caribbean continues to performs well despite the current economic climate, and the last quarter from them was a solid one. We updated our model to the mid-point of their raised 2018 guidance, with owners earning of 8.8 per share. Royal Caribbean's share price slid along with rival Carnival (CCL) as their guidance did not meet the optimistic expectations of the street. We say ignore the noise and stay the course.

China Mobile (CHL): We feel China Mobile's business is insulated from the trade war as it continues to push ahead with domestic 5G development and capitalizes on the largest mobile user base on Earth. No significant updates to our model other than updating for FX impact. Currently looking at owner earnings of approximately 3.94 per ADR share.

CAI International (CAI): CAI posted a superb quarter and the CEO continues to expect the trade war to be net positive for the container business as companies re-position their supply chain logistics. They also authorized a massive buy-back of up to 15% of their outstanding shares. We expect owner earnings of 3.38/share.

VanEck Vectors India Small-Cap Index ETF (SCIF): An index fund is not an ideal investment for the conglomerate as we prefer to purchase individual businesses. However, I explained my rationale for this particular case in my India analysis, and I see this as a placeholder for until we see a suitable Indian business to acquire. The owner's earning per share of 2.55 is calculated from the fund's average P/E and subtracting the management fees as per the ETF's website.

Below is a summary of the latest 2018 annualized expectations:

Investment Quantity Acquisition Cost Market Value Owner Earnings Earnings Yield Owner Cashflow Cash Yield
RCL 100 11,016 9,779 880 9.0% 260 2.7%
CHL 150 6,562 7,200 591 8.2% 312 4.3%
CAI 250 5,964 5,808 845 14.6% - 0.0%
SCIF 150 5,950 6,360 383 6.0% 8 0.1%
Cash & Accruals 797 797 - 0.0% - 0.0%
Total 29,944 2,698 9.0% 579 1.9%

Looking Ahead

In our previous quarterly update, I promised that I will inject $10k of fresh capital into the portfolio each year - a reasonable level of savings that can be mimicked by many of my readers. You can think of this as an equity issuance by My Little Conglomerate, where I personally bought all of the new shares.

The new money will be deposited into the account sometime in January this year, and it will be used to fund our next acquisition, which I will reveal (along with an in-depth analysis) in my next article. Follow me to make sure you are among the first to be notified. Until then, keep calm and bon voyage!

Disclosure: I am/we are long RCL, CHL, CAI, SCIF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.