Follow-up 2.0 Kingboard Copper Foil Holdings Limited

Today the announcement from the supreme court of Bermuda was made public. If you want some background to this legal process and Kingboard as a company see my earlier published checklist analysis post and follow-up & special situation analysis.

The Board wishes to update the Shareholders that the Court of Appeal of Bermuda had allowed the appeal and found in favour of the majority shareholders that have filed the appeal (the “Appellants”). A written judgment in respect of the appeal had been issued on 24 March 2017 (the “Appeal Judgment”). The judge deciding the appeal found, among other determinations, that the entry into the license agreement by the Company’s wholly-owned subsidiary, Hong Kong Copper Foil Limited, and Harvest Resource Management Limited (the “License Agreement”) was not oppressive conduct and did not unfairly prejudice the minority shareholders of the Company. It was also decided that the costs of the appeal and the court proceedings below are awarded to the Appellants.

This outcome of the legal process is not what I had expected, I must admit I’m really surprised. But when you are wrong the only thing to do is to admit that you were wrong and then review the current situation and any new facts that have been presented. So what do I do now?

The tender offer 0,40 SGD per share is still active and the intention to take the company private hasn’t changed. This morning the shares traded between 0,40 – 0,41 SGD. So the interesting question that I had to answer was: is there any upside left or should I sell today?

There might be some upside left due to the fact that the independent financial adviser has not yet commented on the 0,40 SGD buyout offer. However, because of the outcome of the court case in favor of the majority shareholder I believe there is now a much smaller chance of that review resulting in an increased buyout offer than I had predicted before. Reason being that it could earlier be argumented that the valuation of the tender offer as a premium to historical share price was a really bad staring point of valuation since Kingboards shares had traded at depressed levels because of the ongoing legal process and unfairly prejudice of minority shareholders. While I still think that historical share prices are not a relevant staring point for any valuation the premium can now arguably be seen as more “fair” than before as a court case didn’t find that minority shareholders had been mistreated (i.e less reson for the financial advisors to come up with a different valuation).

Another factor that might result in potential upside relates to the problem for majority shareholders to acquire enough shares to take the company private. So there might be an increased share offer price in order to succeed with this intention. There might even be a legal shareholder fight regarding the current buyout price being to much of a low ball offer. But again, because of the outcome of the legal process I have a hard time making an argument for this as a likely and successful outcome for minority shareholders. We also have the time factor to take into account as this can easily result in a another drawn out legal process.

To summarize and conclude, the court case announcement was both surprising and unfortunately really negative in relation to my predictions made in the special situation analysis. My main argument then was that all shareholders would likely to be bought out at the same price as the minority shareholders (‘the Pope entities’) as a result of the Bermuda court case. As a result of todays announcement we now know that my assumption and analysis was wrong and that it is now less chance of an increased buyout price. Therefore I decided to sell my entire position in Kingboard this morning at 0,405 SGD. I could of course have waited and tender my shares at 0,40 SGD at not transaction cost, but at a price of 0,405 SGD the transaction cost are already “included”. Also, selling today equals better CAGR on the investment but probably the most important factor of all; it saves me all the potential headaches that could arise with a Singapore-tender-offer in combination with a low cost focused stockbroker.

After brokerage fees and currency effects the return in Kingboard for my initial net-net position amounted to +45,7 %.

After brokerage fees and currency effects the return in Kingboard for my later initiated special situation position amounted to – 5,5 %.

Disclosure: The author doesn’t own any shares of SGX:K14 when this analysis is published.

CosmoSteel Holdings Limited – Q1 2017

Q1 2017– 0,136 S$– SGX:B9S

1kr50öreCosmoSteel Holdings Limited is a Singapore-based investment holding company. The Company’s segment includes Energy, Marine, Trading and Others. Its Energy segment includes oil and gas; engineering and construction; petrochemical, and power. Its Marine segment includes shipbuilding and repair. Its Trading segment includes traders purchasing goods and on-sell to end user customers. Its Others segment includes other industries, such as the manufacturing and pharmaceutical sectors. It offers various products, such as Pipes, Flanges, Forged Fittings, Outlet Fittings, Buttwelding Fittings and Others. Its pipes product includes electric fusion welded and spiral welded. Its flange product includes socket weld and threaded. Its forged fittings product includes elbow and Tee (equal, reducing and cross). Its outlet fittings product includes Nipple Olet and Buttweld Olet. Its Others product includes Plates and I Beams. Its services include fabrication capabilities, and validation and testing. – Google Finance.

1. The company is currently a net-net with an adequate margin of safety: 

a)

  • P/NCAV < 1x
    • 0,46x 
    • MoS = 54 %

Assessment of margin of safety:

CosmoSteel makes it through the net-net checklist without any difficulties. Beyond that statement there are five additional facts that in my opinion makes CosmoSteel at the current share price a good addition to a diversified portfolio of net-nets

First, CosmoSteel is today selling at a large margin of safety to NCAV, 54 %. In addition, looking at recent reports that margin of safety seems to be quite solid since the NCAV burn rate for QoQ is positive (2,3 %) and YoY only slightly negative (-2,4%). Second, regarding historical profitability. Although the company has posted negative results for the last two years (mainly due to the historically low oil price) that has not been the case historically. During the period 2014-2007 the company had an average profit margin of 6,5%, with a high of 10,5 % (2007) and a low of 3,5 % (2014). Third, regarding valuation in relation to historical average operating profitability. Taking into account the two last year’s negative results, the valuation multiples still look quite appetizing. The company’s 5y and 10y average operating earnings in relation to the current enterprise value amount to 7x and 4x respectively. Fourth, regarding capital allocation. The company has during the last nine years continuously paid a dividend to shareholders and although there has been some historical dilution of shareholders there is currently an active share buyback mandate for 10 % of the shares outstanding. Fifth, regarding ownership structure. Insiders together own about 16,7 % of the shares outstanding. That ownership is mainly related to the two brothers Ong Tong Yang and Ong Tong Hai which serve as directors of the company. Their father is the founder of CosmoSteel and he still serve as the CEO of the company. The Ong family definitely have skin in the game since the current value of their total ownership amounts to 4,7x their total annual compensation.

2. The risk of permanent loss is low:

2.1 The risk of bankruptcy is low (criterion a) or b) must be met):

a)

  • Debt/Equity < 25 %
    • 15 % 

b)

  • Z-score ≥ 3
    • 2,4 X

2.2 The company’s business model has historically been profitable (criterion a) or b) must be met):

a)

  • Positive retained earnings:
    • 43,8M S$ 

b)

  • Positive aggregate operating income for the last ten years:
    •   89,3M S$ 

3. The company does not have a shareholder unfriendly capital allocation:

  • Shareholder yield TTM ≥ -2 %
    • Dividend yield TTM = 4,2 %
    • Net buyback yield TTM = 0 %
      • =  4,2 % 

MoS

Disclosure: The author is long SGX:B9S when this analysis is published. Also note that SGX:B9S is a micro-cap stock (28 M$ in market capitalization). The trading is illiquid.

 

Follow-up: CDI corp.

10-K 2016– 7,50 USD– NYSE:CDI

After my thirteen months follow-up on CDI I have sold my position. After brokerage fees and currency effects the return amounted to 67,4 %. From a qualitative standpoint I still like the case, mainly due to the recent activist activity in the company (more about that below), but due to a high NCAV-burn rate and an increased share price development the company is no longer a net-net, i.e. I’m forced to sell.

See original checklist analysis of CDI here (in Swedish).

1kr50öreCDI Corp. provides engineering, information technology and staffing solutions. The Company operates in three segments: Global Engineering and Technology Solutions (GETS), Professional Staffing Services (PSS) and Management Recruiters International (MRI). It provides staffing services through its MRINetwork of franchisees. The GETS segment provides engineering and information technology solutions that involve the production of deliverable work products or services performed at its facility or at a customer’s facility. The PSS segment provides technical and professional personnel for discrete periods of time to augment the customer’s workforce in times of project, seasonal, peak period or business cycle needs. The MRI segment is a global franchisor that does business as MRINetwork and provides the use of its trademarks, business systems and training and support services to its franchisees. It serves the oil, gas and chemicals, aerospace and industrial equipment, and hi-tech industries. – Google Finance.

1. The company is currently a net-net with an adequate margin of safety: 

a)

  • P/NCAV < 1x
    • 1,5x X
    • MoS = N/A

Assessment of NCAV margin of safety:

CDI is today selling for a premium to NCAV. The reason behinds development since I initiated my position at 0,57x NCAV is a combination of positive share price development of 62 % and a NCAV burn rate of -40 %. Since CDI is no longer a net-net I will therefore sell my position. However, for an investor that are not following strict rules when investing, CDI might still be an interesting case. This is mainly due to the fact that there is an ongoing activist activity within the company with the aim to sell or merger with the highest bidder. Also, the quality of the company is in fact quite good (checks all boxes below and they had a net buyback yield of 5 % for the TTM).

2. The risk of permanent loss is low:

2.1 The risk of bankruptcy is low (criterion a) or b) must be met):

a)

  • Debt/Equity < 25 %
    • 0 % 

b)

  • Z-score ≥ 3
    • 4,8 

2.2 The company’s business model has historically been profitable (criterion a) or b) must be met):

a)

  • Positive retained earnings:
    • 179 M$ 

b)

  • Positive aggregate operating income for the last ten years:
    •   155 M$ 

3. The company does not have a shareholder unfriendly capital allocation (i.e. not diluting shareholders):

  • Shareholder yield TTM ≥ -2 %
    • Dividend yield TTM = 0 %
    • Net buyback yield TTM = 5 %
      • =  5 % 

MoS

Disclosure: The author doesn’t own any shares of NYSE:CDI when this analysis is published.

Follow-up & special situations analysis on Kingboard Copper Foil Holdings Limited

Last Friday Kingboard Copper Foil Holdings Limited (SGX:K14) announced that Excel First Investment Limited had placed a cash tender offer at 0,40 SGD for the shares in K14. Excel First is an subsidiary to the parent company Kingboard Laminates Holdings Ltd. (listed on Hong Kong stock exchange) which is also the parent company of K14 (owns 66,01 % of K14). Before the cash tender offer was announced the shares of K14 traded at 0,34 SGD (+17,7% tender offer premium) and after the announcement the stock is trading at 0,415 SGD, I will come back to both of these facts later in the post. If you read my analysis of K14 that i published in mid January you will notice that this development was not a lightning strike from a clear blue sky. Although, I had anticipated an offer first after the result of an legal appeal in March 2017 and that company would directly make use of its then newly implemented 10 % buyback mandate. I will come back to both of these factors later in the post as well. According to the offer announcement the reason behind the offer is to delist K14 from the Singapore stock exchange. In other words, the intentions are to privatize the company (this is an important factor to take with you when reading this post).

Does K14 still pass my net-net checklist requirements?1kr50öre

Yes, I have concluded that K14 still passes my net-net checklist without any difficulties. To the contrary, since I analysed the company in January the company has published its FY report for 2016. As of this report the company is posting good revenue growth, it is still profitable on the bottom level and the company is still debt free. Also, the net current asset value (NCAV) per share has increased from 2,09 HKD to 3,02 HKD, an increase of 45% (notice that the reporting currency is HKD but the stock is traded in SGD). In relation to the share price development of 51 % since I bought my position at 0,275 SGD, the 45 % NCAV increase has translated into an P/NCAV-multiple that is almost unchanged (P/NCAV = 0,72 vs P/NCAV = 0,75x). In other words, the margin of safety in relation to NCAV is the same even though the share price has increased 51 % since I bought my position. From the checklist point of view I will therefore not be “required” to sell my position. On the other hand, I don’t want/allow myself to be an owner of a private Singapore company so lets review what options that I currently have at my disposal for closing the K14 position.

Options for closing the K14 position

The way I see it I have three options:

  1. I can tender my shares at the 0,40 SGD cash offer. With this option I won’t have any transaction costs for the sale of my position.
  2. I can sell my position at the market price of 0,415 SGD. With this option I will have transaction costs of about 1 % but I will also gain about 3,8 % above the 0,40 SGD offer.
  3. The third alternative requires me to sit tight and wait for the results of the Court of Appeal in Bermuda that takes place March 6 and 7 2017 (yesterday and today) which might result in an increased tender or buyout offer.

I believe the third option needs a more in depth explanation than option 1 and 2… Before presenting my facts and arguments for option 3 here is short sales pitch for that alternative:

In my opinon there exist a high probability that the result of the appeal will not be in favor of the holding company of K14 (the defendants/majority shareholders of K14) and that this in turn may require them to increase the cash tender offer to ~0,67 SGD if they want to take the company private. In other words, I would argue that there is a potential +61% return on the table to take advantage of. That’s not even the best part, if I’m wrong in my analysis I can still tender my shares at the 0,40 SGD cash offer (option 1) without any transaction costs and only incur a small loss of -3,8%. I think Mr Market is aware of this potential outcome and that is why the company today is selling above the cash tender offer (0,40 SGD) on the market. So obviously I have chosen option 3 (in potential combination with option 1).

Explanation for the sit-tight-and-wait-option (Nr. 3)

As I presented in the analysis in January there has been a legal process going on since 2011. I won’t go into the history of the legal process as this has in been explained in detail by the blog ThumbTackInvestor and also in the articles linked to in my earlier analysis. But in short terms the legal process i about:

Kingboard Copper Foil entered into a license agreement with Harvest Resource Management after the Petitioner (Annuity & Re Life Ltd) had vetoed the proposed general mandate for interested person transactions at the AGM of the Company on 29 April 2011.

which has resulted in that:

The Supreme Court of Bermuda found that, as the majority shareholders failed to promptly initiate negotiations with the minority shareholders with a view to resolving the impasse and take into account the interests of shareholders as a whole following the blocking of the IPT Mandate, the license agreement was a commercially prejudicial means of enabling the Company to circumvent the Petitioner’s legitimate exercise of its right to veto the IPT Mandate.

What is more important to know is that the petitioners of the legal process is the company Annuity & Life Reassurance LTD. This company is a subsidiary of Pope Investments II LLC under which another company, Pope Asset Management LLC, can also be found. The Petitioner’s holdings in K14 together with those of the two Pope entities amounted to 80,251,528 shares by July 18, 2011 according to this supreme court judgement. Its is this judgement and the findings therein that the defendants, mainly Kingboard Chemicals and Kingboard Laminates, are appealing against as I write this post (March 6 and 7). It is important to note that K14 is only a third party in this legal process, and will therefor not bear any litigation costs or liability.

In relation to the above linked supreme court judgement the consultancy firm Ernst and Young (EY) was appointed to conduct an independent review. The independent review was presented in October 2016 with the outcome that supported the supreme court judgment. This is one of the main reason why I in my earlier analysis of K14 stated that the appeal is not likely to result in favor of the defendants. What was then unknown was how the case would play out for the minority shareholders that were not appealing in court and those who hadn’t signed a form as of 7 April 2016 stating that they would like there shares to be redeemed under the same conditions as the petitioner (the Pope entities). With the current cash tender offer of 0,40 SGD  with the purpose of taking K14 private we now know a bit more. But now to the really interesting part of the whole situation.

In the cash tender offer announcement the following can be found:

Requirements for delisting:

Under Rule 1303(1) of the Listing Manual, if the Offeror succeeds in garnering acceptances exceeding 90% of the total number of Shares in issue excluding treasury Shares, thus causing the percentage of the total number of Shares in issue held in public hands to fall below 10%, the SGX-ST will suspend trading of the Shares on the SGX-ST at the close of the Offer.

In connection to this requirement for delisting we can read the same thing but from a compulsory acquisition point of view and the value of shares:

Compulsory acquisition:

  1. (a)  obtained acceptances from shareholders holding not less than 90% in value of the shares in a Bermuda-incorporated company (“Target”) whose transfer is involved (other than shares already held, at the date of the offer, by the offeror, the offeror’s subsidiaries, and nominees of the offeror or its subsidiaries)

Finally, there is the 95% ownership level which would enable them to not only take K14 private but also entitles and binds them to acquire the remaining 5 % at 0,40 SGD tender offer:

Under Section 103 of the Bermuda Companies Act, the holders of not less than 95% of the shares in a Bermuda-incorporated company (“Purchasers”) may give notice (“Section 103 Acquisition Notice”) to the remaining shareholders of the intention to acquire their shares on the terms set out in the Section 103 Acquisition Notice. When such Section 103 Acquisition Notice is given, the Purchasers will be entitled and bound to acquire the shares of the remaining shareholders on the terms set out in the Section 103 Acquisition Notice unless a remaining shareholder applies to the Court to have the Court appraise the value of such shares.

So to summarize and conclude so far, if the parent company of K14 don’t manage to acquire more than 90 % of K14 it will fail in its intentions to take the company private. This notion translates into two milliondollar questions:

  1. Can the parent company acquire more than 90 % of K14?
  2. If the parent company fails to acquire more than 90 % of K14, what will then happen?

Can the parent company acquire more than 90 % of K14?

According to the cash tender offer announcement the parent company has control, direct and indirect, over 66,01 % of K14 (se picture one below). Indirect they also have control over another 10 % if we take into account full use of the company’s buyback mandate. Finally, if the Pope entities have their 11,1 % holding redeemed, the parent company will have the control over 87,11 % of the shares in K14. In other words, the parent company is relying on the cash tender offer and that it brings in another 2,9 %. Thats is, if the parent company manage to make full use of the buyback mandate, otherwise the tender offer will have to be more successful than just 2,9%. As of the pre cash tender offer announcement there have been no signs of the buyback mandate put to use. If we make the bold assumption that the 12,618,000 shares traded yesterday (well above the average trading volume of 15,000,00 shares) were all acquired via the buyback mandate they would just have managed to vacuum up 1,7%. In other words, if we hold my bold hypothesis true for the coming days it will take at about two weeks for the company to make full use of the buyback mandate. It should be noted that I don’t think it is very likely or fair assumption but more importantly, the volume of shares traded will most likely to decrease in the following days (i.e. the portion of shares that the company can potentially acquire per day is well below 1,7%). This assumption was already obvious today when only ~1,700,000 shares have been traded (0,2 %).

So to summarize and conclude, YES the parent company can theoretically acquire more than 90 %. However, I find it not very likely given what we know today and it will most certainly not happen over a night. Instead, I would argue that the current cash tender offer (0,40 SGD) is to much of a low ball offer to give minority shareholders the incentive to sell their share at the market or to tender their shares (i.e. the company will have a hard time putting its 10 % buyback mandate to use but also in succeeding to acquire another 2,9 % via the cash tender offer). Also, the fact that the appeal and the valuation for the redemption of the Pope entities holding is not jet decided upon I believe that many minority shareholders, me included, will sit tight in the boat and wait for the outcome of the court appeal. Together this leads us into the question of; what will then happen?

k14-holdings

shareholders-k14

Option Nr. 4 – The special situation case for K14

When I started to write this follow-up post I had not thought about the idea of acquiring more shares in K14 (this is the reason I postponed the post). However, I have come to realize that K14 has morphed into a very attractive special situation case. I have therefor increased my position in K14 under the special situations heading, not as an increased checklist net-net investment. As a result I therefor extend my earlier three options decision framework for closing the K14 position to include a fourth option. What I present below is options 4 – the special situations case for K14.

To start, I don’t believe it’s a coincidence that the cash tender offer at 0,40 SGD was announced last Friday. This belief is mainly related to the fact that the earlier mentioned appeal takes place March 6 and 7 and 2017 and that this will most likely, due to the EY report, result in favor of the petitioner (i.e the Pope entities). Also, as pointed out earlier there is still no announcement regarding the valuation at which the petitioners holding is to be redeemed at. This will most likely be announced in the connection of the appeal outcome. I would argue that the price the petitioner will be offered is well above 0,40 SGD. I would also argue that the minimum price is around 0,67 SGD since this represent the equity per share as of 31 December 2016 for K14. It might even be higher as a result of the company being profitable and debt free but also that the valuation will probably take into account loss of earnings as a result of the misconduct by the defendants.

Furthermore, one should note and be aware of that the defendants are charged under section 111. This translates into what is know as a “Class Remedy” for all shareholders. In plain English, the redemption of shares at a value jet unknown, but probably at the minimum of 0,67 SGD, is in theory not only applicable to the Pope entities and the shareholders that signed the 7 April 2016 form but in fact all minority shareholders. However, it is a bit unclear to me if the class remedy also holds true for investors that has become shareholders after the legal process started back in 2011 or not. What confuses me, as I’m not legal expert, are these two quotes that can be found in the supreme court judgment earlier referred to:

Statement from the court: “However, as I have already found above, the Petitioner is not entitled to seek relief in respect of shares in the Company purchased after the presentation of the Petition on August 3, 2011.” (p.85)

Statement from the respondents lawyer: “Mr Wong SC did not dispute the argument that section 111 is fundamentally a class remedy. In principle it seems to me that all minority shareholders must have a right to be heard at the relief stage of the present Petition.” (p.85)

However, lets say that the first quote is true and that is how the court is going to decided upon which shares get redeemed at the not jet disclosed valuation level. In that case, I would argue that this in fact doesn’t really matter for how the whole situation is going to play out for other minority shareholders like myself. I would argue that the 0,40 SGD is to much of an low ball offer to get minority shareholder exited and that the sneaky attempt by management to fool minority investors in order to attain the +90 % position needed to take the K14 private is not going to succeed, as discussed before. In other words, we may very well see an increased cash tender offer or an buyout offer at the same price as the redemption of shares for the Pope entities even though we might not legally be entitled to it. This in order for the parent company to succeed in acquiring the shares needed to delist the company and take it private, all according to its stated intentions.

Even if i’m drastically mistaken or wrong in my above probability guesstimates, reasoning and argumentation this is still an very favorable special situations bet. Reson being that at the current price of 0,415 SGD there is an estimated minimum upside of 61 % (0,67 SGD) at the same time as the downside is limited to -3,8 % (i.e. the 0,40 SGD price at which I can cash tender my shares). I think Mohnish Pabrai would would let me use the phrase “heads I win tails I don’t lose much” without to much complaints in this case.

MoS

Disclosure: The author is long SGX:K14 when this analysis is published. Also note that SGX:K14 is a micro-cap stock (173 M$ in market capitalization). The trading is illiquid.

Argo Group Ltd – HY 2016

LON:ARGO – 15,00 GBX

1kr50öreArgo Group Limited is an investment company. The principal activity of the Company is that of a holding company and the principal activity of the Company, along with its subsidiaries, is that of an investment management business. The Company operates through the asset management business segment. The Company’s investment objective is to provide investors with absolute returns in the funds that it manages by investing in, inter alia, fixed income, special situations, local currencies and interest rate strategies, private equity, real estate, quoted equities, high yield corporate debt and distressed debt, although not every fund invests in each of these asset classes. The Company’s subsidiaries include Argo Capital Management (Cyprus) Limited, Argo Capital Management Limited, Argo Capital Management Property Limited, Argo Property Management Srl and North Asset Management Sarl. – Google Times.

1. The company is currently a net-net with an adequate margin of safety: 

a)

  • P/NCAV < 1x
    • 0,39x 
    • MoS = 61 %

Assessment of why I think the margin of safety is adequate in relation to NCAV:

ARGO is a classic deep value stock, i.e. you can buy a dollar for fifty cents. In this case it is even better since you can actually buy a dollar for 43 cents (P/Net cash = 0,43x). With that in mind it is important to note that ARGO is an investment management company with an NCAV consisting of no inventory and only a small amount of accounts receivables (10%), the rest is cash (38%) and cash equivalents (52%). What I like about these types of net-nets is that the NCAV-burnrate (or more specifically the net cash-burnrate) tends to be quite low and/or directly beneficial to shareholders. What I mean by that is that the burnrate to a large extent can be controlled and managed by the company (employee costs for example) and/or benefit shareholders directly (dividend and/or buybacks). In the case for ARGO they have over the years used their cash to invest in their own market funds but also used significant amounts to pay dividend and buy back own shares. Nonetheless, ARGO’s NCAV-burnrate for the last twelve months has been positive , +49%.

So ARGO is a big pile of cheap cash, but what about earnings and profitability? Actually, the profitability has been quite good over the eight years that data exist for. On an operating income level ARGO has been profitable for seven out of those eight years, P/EBIT8y = 5x. Also, ARGO is selling for a P/E-ttm of 2x while not taking into account that the company has an negative enterprise value. In other words, ARGO is not only cheap on an asset basis.

When it comes to ARGO’s management there is quite a bit to be said, especially on the negative side. Both Alpha vulture and Wexboy have written about this so I won’t go into any details (see links to their posts below). Nonetheless, management today own about 54% of the shares outstanding and therefore control the company. Because of the of the current share buyback program that amounts to £2 million this position could materially increase in the future.

directors-ownership-argo
Source: Regulatory share information

Even though management today has control over the ARGO I would still argue that their interests are somewhat aligned with minority shareholders. The reason behind this argument can be found in the 4,840,000 options outstanding with an exercise price of 24 GBX (se picture below). In order for these to have any value for management the share price would have to increase by 60 % from the current price of 15 GBX. So even though the options would dilute minority shareholders with about 10% I don’t see this as negative factor given todays circumstances.

optioner-argo
Source: Half-year report

I would argue that the buyback programs that the management has implemented is one attempt to make these options valuable. With the current buyback mandate of £2 million the company could given todays market price in theory buy back ~28 % of the shares outstanding.  However, it seems that there has been some difficulties finding shares for sale as only 375,000 shares has been bought back as of current date. My speculation is that if this continuous to be a problem we might see a tender offer from ARGO to minority shareholders at a price at least in the range of the exercise price of options.

2. The risk of permanent loss is low:

2.1 The risk of bankruptcy is low (criterion a) or b) must be met):

a)

  • Debt/Equity < 25 %
    • 0 % 

b)

  • Z-score ≥ 3
    • 18,4 

2.2 The company’s business model has historically been profitable (criterion a) or b) must be met):

a)

  • Positive retained earnings:
    • -1,4 M$ X

b)

  • Positive aggregate operating income for the last five years:
    •   3 M$ 
      • Operating income data exist for the last eight years = 13,5 M$

3. The company does not have a shareholder unfriendly capital allocation (i.e. not diluting shareholders):

  • Shareholder yield TTM ≥ -2 %
    • Dividend yield TTM = 0 %
    • Net buyback yield TTM = +29 %
      • =  +29 % 

MoS

Other analysis of Argo Group Ltd:

Disclosure: The author is long LON:ARGO when this analysis is published. Also note that LON:ARGO is a nano-cap stock (9 M$ in market capitalization). The trading is very illiquid.

Follow-up: ADDvantage Technologies Group, Inc.

10-K 2016– 1,82 USD– NASDAQ:AEY

After yesterdays thirteen months follow-up on AEY I have sold my position. After brokerage fees and positive currency effects the return amounted to 10 %. From a qualitative standpoint I still like the case but due to the NCAV-burn rate for most recent quarters the company is no longer a net-net.

See original checklist analysis of AYE here (in Swedish).

1kr50öreADDvantage Technologies Group, Inc., through its subsidiaries, distributes and services a range of electronics and hardware for the cable television (Cable TV) and telecommunications (Telco) industries. The Company provides equipment repair services to cable operators. The Company has two segments: Cable Television (Cable TV) and Telecommunications (Telco). The Company’s Cable TV segment sells new, surplus and refurbished cable television equipment to cable television operators or multiple system operators (MSOs) or other resellers that sell to these customers throughout North America, Central America, South America and to other international regions. The Company’s Telco segment offers its customers a range of used telecommunication equipment across various manufacturers consisting of component parts to expand capacity, provides spares or replaces non-working components. The Telco segment’s switching equipment products originate, terminate and route voice traffic. – Google Times.

1. The company is currently a net-net with an adequate margin of safety: 

a)

  • P/NCAV < 1x
    • 1,1x X
    • MoS = N/A

Assessment of why I think the margin of safety is adequate in relation to NCAV:

The company is today selling for a premium to NCAV. In other words, there exist no margin of safety in relation to NCAV. Unfortunately, the reason why the company today is selling for a premium to NCAV is not because the share price has risen a lot over the last thirteen months. Its because of a high negative burn rate due to increased liabilities (mainly debt), YOY = -33% and QoQ = -24%. To summarize and conclude, AEY is no longer a net-net and therefor I will sell my position.

2. The risk of permanent loss is low:

2.1 The risk of bankruptcy is low (criterion a) or b) must be met):

a)

  • Debt/Equity < 25 %
    • 19 % 

b)

  • Z-score ≥ 3
    • 3,3 

2.2 The company’s business model has historically been profitable (criterion a) or b) must be met):

a)

  • Positive retained earnings:
    • 47,7 M$ 

b)

  • Positive aggregate operating income for the last ten years:
    •   49,1 M$ 

3. The company does not have a shareholder unfriendly capital allocation (i.e. not diluting shareholders):

  • Shareholder yield TTM ≥ -2 %
    • Dividend yield TTM = 0 %
    • Net buyback yield TTM = -0,6 %
      • =  -0,6 % 

MoS

Disclosure: The author doesn’t own any shares of NASDAQ:AEY when this analysis is published.

bebe stores, inc. – Q1 2016

Unfortunately I didn’t have the time to post this analysis earlier in the week when I managed to take a position. The reason I say unfortunately is that the company posted its Q2 earnings release yesterday. The figures below are therefor already dated but also note that the stock price jumped quite a bit on the release today.

NASDAQ:BEBE – 4,90 $

1kr50örebebe stores, inc. designs, develops and produces a range of contemporary women’s apparel and accessories. The Company’s product offering includes a range of separates, tops, dresses, active wear and accessories for a range of occasions. It designs and develops its merchandise in-house, which is manufactured to its specifications and it also sources directly from third-party manufacturers. The Company also offers accessories, which include jewelry, optical, fragrance, shoes and handbags. The Company operates stores in the United States, Puerto Rico and Canada. In addition, it has an online store at http://www.bebe.com that ships to customers in the United States, Canada, Puerto Rico, the United States Protectorates and internationally via its third-party providers, International Checkout and Shoprunner. It has international stores operated by licensees in South East Asia, the United Arab Emirates, Russia, South America, Turkey and other territories. – Google Times.

1. The company is currently a net-net with an adequate margin of safety: 

a)

  • P/NCAV < 1x
    • 0,78x 
    • MoS = 22 %

Assessment of why I think the margin of safety is adequate in relation to NCAV:

Although BEBE is a retail net-net, which many deep value investors stay away from, I believe this company has some favorable and interesting characteristics that makes it a good addition to a diversified net-net portfolio. For the majority of the last ten years the company has been profitable on an operating income level (6/10). Not too surprising, since the company today is selling below NCAV, the four non profitable years has been the most recent ones. Today the company is selling at record low levels since it was listed in 1998 and although the share price has been in a declining phase over the last ten years BEBE has not historically been a net-net (i.e. not a perennial net-net).

bebe1
Source: Google finance

If we believe in some form of mean reversion for BEBE’s business the current ten year average for operating income of 6,4 M$ looks really favorable in relation to both the market capitalization of 39 M$ (6x) and especially in relation to the current negative enterprise value of -8 M$ (-1x). Other positive historical facts is that the company has been a stable dividend payer (2004-2015) and a frequent buyer of own shares. Also, the recent NCAV-brunrate amounts to +43 % QoQ and only -4,1 % YoY.

Last but not least, what I find interesting is that the famous deep value and activist investor Lloyd Miller III has taken quite a big position in the company (Värdebyrån has written a good post about him). In November he initiated a 5,5 % ownership and has since then increased the position to 8 % as of late January 2017. What his intentions are I don’t know. It might have some connection to the fact that the founder and majority shareholder Manny Mashouf of BEBE in June 2016 declared that he intends to gradually sell his then 59 % ownership stake.

shareholders-bebe
Source: 4-traders

2. The risk of permanent loss is low:

2.1 The risk of bankruptcy is low (criterion a) or b) must be met):

a)

  • Debt/Equity < 25 %
    • 0 % 

b)

  • Z-score ≥ 3
    • 2,8 X

2.2 The company’s business model has historically been profitable (criterion a) or b) must be met):

a)

  • Positive retained earnings:
    • -27,5 M$ X

b)

  • Positive aggregate operating income for the last ten years:
    •   64,7 M$ 

3. The company does not have a shareholder unfriendly capital allocation (i.e. not diluting shareholders):

  • Shareholder yield TTM ≥ -2 %
    • Dividend yield TTM = 0 %
    • Net buyback yield TTM = -0,3 %
      • =  -0,3 % 

MoS

Disclosure: The author is long NASDAQ:BEBE when this analysis is published. Also note that NASDAQ:BEBE is a nano-cap stock (39 M$ in market capitalization). The trading is illiquid.