Quest Capital Corp (QC) - Update

Quest Capital has announced a normal course issuer bid under which it will repurchase up to 10% of its outstanding shares. In addition the company has repurchased $20M worth of their preferred share liability. I think that this bodes well for an investor in the company's common stock, as it shows they are making progress on resolving their loan impairments and that there has been significant cash flow generated by monetization efforts. Also, the insiders are still buying shares, acquiring roughly 7% of the company since the beginning of this year.

Disclosure: I own shares in QC.

SG

Warren Buffett's Hedge Fund Days...(or more politely "partnership")

Probably the best thing I've ever read.

Buffett Partnership Letters 1959-1969

SG

Monarch Services (MAHI) - Liquidation Update

We originally wrote about Monarch Services on September 4, 2009 because they had a plan to liquidate the company and appeared to be trading at a discount to the estimated amount of cash that would ultimately be distributed to shareholders. On November 5, Monarch confirmed the sale of their remaining asset, the Girl's Life Plantation Parcel (GLPP) to Baltimore County. Cash proceeds received were the full $624000 agreed upon. Net of fees this worked out to roughly $548000.

We had previously taken a 75% discount to the agreed sale price of $624000 in our estimate of cash proceeds, due to the impaired real estate market and to remain conservative. In light of this favourable development we have revised our estimate of liquidation cash proceeds upwards to $1253000 from $1173000.

Current Market Cap: $971772
Estimated Liquidation Proceeds: $1253000
Return Profile: 28.9%

Disclosure: I own shares in MAHI

SG

Walter Schloss Collection - From Valueinvestingpro.com

A collection of 13 articles written by Walter Schloss who has a 5 decade investment record averaging 16% annually and is touted by Warren Buffett as a superinvestor in his 2006 annual report.

Walter Schloss Collection

Young Warren Buffett - Writings from 1951 and 1952

Here are articles on 2 companies Warren Buffett wrote about in 1951 and 1952:

GEICO

Western Insurance Company

SG

Quest Capital Corp (QC)

(All data from quarterly June 30 2009)

Quest capital is a mortgage finance company in Canada. They focus on short-term (less than 2 years) mortgage lending, and therefore do not have significant exposure to interest rate risk. The investment thesis for this company is quite simple; the company was hit quite hard by the credit-crisis and is now trying to monetize its loan portfolio. They have stopped issuing new loans. The share price is trading at less than a reasonable estimate of what the company will be able to recover through its monetization efforts.

The market cap of QC is $170M or $1.12 per share with 151M shares outstanding. It appears as though this price is much too low; the shares are trading at 55% of adjusted book value.

The company has paid down all its debt and is working on the repayment of its preferred shares. The preferred shares carried a coupon of 13.5% that has now been renegotiated to 12.75% and will be reduced further to 12% on January 1st 2010. Preferred shares have been subtracted in the calculation of book value above.

The company has 49 loans outstanding with total principal of $369.8M. They have taken provision for loan losses of $20M. The company classifies loans as impaired when either principal or payment becomes past due by 90 days. 17 of the 49 (34%) loans outstanding have been deemed impaired as at the end of Q2. Total impaired principal is $162M (44%). However, management’s estimate of fair value of the collateral underlying these impaired loans is $171M.

There is also $6M of loans past due but not yet classified as impaired. For the purpose of this analysis I will assume this amount is already impaired. The $6M appears to be the last of the past due loans.

The nature of the business is such that the balance sheet can be used to determine the value of the business to a purchaser of the company’s common shares.

The majority of the loans outstanding should be partially recoverable, if necessary, through the monetization of collateral. Since the total collateral value is estimated at $171M, which is more then the total value of the impaired loans, it is reasonable to assume that most, if not all, of the principal will eventually be recovered. For this reason, I feel there is a higher probability for a positive outcome.

It seems as though the current price offers an appealing risk-reward scenario. Of course the success of this investment depends on stability in the real-estate market. Even if a relapse were to occur, it is not certain that a purchaser of the shares at these prices would suffer a permanent impairment of capital. The situation as it is along with the fact that the CEO is purchasing shares seems to provide a sufficient margin of safety to warrant an investment of capital in this situation as part of a diversified portfolio.

Disclosure: I own shares in QC. This is not a recommendation to purchase or sell securities.

Greenlight Capital and Pershing Square Q2 Letters

Here are the Q2 letters from David Einhorn and Bill Ackman, who are actually quite good friends. It is interesting to see how their approaches differ with regard to the structural risks the U.S. is still facing:

Greenlight Capital Q2 Letter to Shareholders

Pershing Square Q2 Letter to Shareholders

And It Doubles...

Arctic Glacier Income Fund (AG.UN) mentioned here yesterday, issued a press release last night at around 7:30:

Arctic Glacier Income Fund announced that its U.S. subsidiary, Arctic Glacier International Inc., has reached agreement with the U.S. Department of Justice. The agreement settles all charges related to allegations that three former employees conspired with a co-conspirator company from January 2001 through July 2007 to allocate packaged ice customers in southeastern Michigan and the Detroit metropolitan area. Arctic Glacier initially entered into this market in 2005 when it acquired shares of certain companies in that market. Because it acquired shares it assumes liability for such practices and conduct in those predecessor companies. Under terms of the agreement, Arctic Glacier International Inc. agreed to plead guilty and to pay a fine of US$9 million, payable in instalments over the next five years. Arctic Glacier has also agreed to cooperate with the DOJ's ongoing investigation of other companies and individuals. The agreement remains subject to court approval.

The shares opened up 120% this morning.

Unfortunately, I did not have a position. This is just another example of why it makes sense to bet against the crowd.

The entire company is now trading at $156M in the market. Average cash flow has been about $30M for the past 4 years. If you take out tax they will have to pay once they convert over to a corporation, whenever they decide to do it, they are likely to produce $24M of cash. Therefore, the stock still looks cheap at 6.5 times. The packaged ice industry is the type of stable industry you would expect to be trading closer to 13 or 14 times.

SG

Stocks On My Radar

Although I have not had much time recently to do any in-depth analysis, here are some stocks that appear to offer interesting characteristics and the potential for an attractive buy price:

World Color Press – Previously, “Quebecor World”, in the printing business. The company emerged from bankruptcy protection on July 21, 2009. It entered bankruptcy largely due to financial issues rather then fundamental business problems. The common stocks of recently reorganized companies sometimes offer attractive buying opportunities due to selling pressure by previous debt holders. Reorganization information is at this link (including management projections):

World Color Press - Plan of Reorganization Documents

Arctic Glacier Income Fund - Recently cut their dividend. They are now the subject of US Department of Justice Antitrust investigation. The accusation is that Arctic Glacier and its peers in the packaged ice industry had been avoiding competing with each other in the same geographical market. One of their competitors the Home City Ice Co. has already plead guilty and is facing a fine of between $24M and $48M USD. Arctic Glacier is a larger company and is likely facing a fine larger than that if proven guilty. The stock is trading at approx. 2 times avg. cash from operations valuing the entire company at about $69M CAD. It looks like this might be too low even given the antitrust investigation and warrants further investigation.

AG Growth International – What a horrible name for a corporation…Sounds like something out of my grandmothers’ mutual fund portfolio. That aside, the company makes agriculture equipment and grain storage products. They have recently converted from an income fund to a corporation via reverse merger, which may be a cause for undervaluation. I don't know anything about the agriculture industry, but the shares look cheap based on how much they are on track to earn this year. Revenue for the first 6 months of 2009 vs. 2008 is up 34%, partly due to price increases. 3rd quarter is usually strongest for their seasonal business.

TVA Group Inc. – Trading at 6.5 times LTM Earnings. They are a francophone media company operating in 3 businesses: television (conventional and specialty), publishing and movie distribution. They are the market leader (about 56% market share) in the francophone conventional television market and are expanding into the more profitable specialty channel industry (currently 8% market share). Recently purchased Sun TV is losing about $6M after tax, and may be written off soon which will result in earnings increasing by about 10%. A rebound in the publication segment could produce comparatively large gains in earnings based on recent margin expansion in this business segment. The distribution business operates as a sort of "option" and can produce large gains depending on if any blockbuster films are released in a given year. The subordinated voting structure is a potential risk. One person I talked to suggested that the management might be depressing the stock price in attempt to buy the entire company cheaply. It is possible but it seems like they would be doing many more things wrong if they were trying to depress the stock price, rather then booking record revenue like they did in 2008. They have repurchased about 10% of their shares in the last year and have filed an issuer bid to repurchase another 5%. My feeling is that 6.5x earnings is much too low. For instance, competitor Astral Media trades at 12x.

Other stocks looking cheap at first glance:
- Clublink Corp.

I'd like to mention again that I have in no way done in-depth analysis on any of these stocks besides TVA Group. Thus far, they are just things I am looking into.

Disclosure: The above is in no way an offer or recommendation to purchase or sell securities. I own shares in TVA Group Inc.

SG

Margin of Safety - Updated Link

I received several requests stating that the Margin of Safety link was broken. Here is an updated link:

Seth Klarman - Margin of Safety

SG

The Extraordinary Share Performance of Shell Companies

Thanks to The Manual of Ideas and Greenbackd for this link.

Here is some research that shows that shell companies have a 48.1% 3-month abnormal return after a reverse takeover is consummated:

October 2009 — Empirical Finance Newsletter on The Stock Price Performance of Shell Companies


Note: The above is not a recommendation nor a solicitation to purchase securities.

SG

Updated Version of Tweedy Browne's "What has worked in investing"

Tweedy Browne Company has compiled a booklet of empirical research demonstrating which investment strategies have produced exceptional returns. It is well worth a read:

"What has worked in investing" by Tweedy Browne

SG

Monarch Services – Undervalued Liquidation Play (OTC: MAHI)

Monarch Services is an undervalued asset play with a plan to liquidate and distribute remaining assets to shareholders. The company used to be in the publishing business producing a magazine called “Girl’s Life”, the rights to which have now been sold in exchange for a promissory note of $600000. Other assets included a restaurant business, “Peerce’s Plantation”, which has now been sold, and real estate adjoining the restaurant property. The company has not kept up to date with its regulatory filings due to the fact that it anticipates legal and accounting fees of up to $250,000 to accomplish this task.

In April 2008, the company published an 8-k report stating future business plans and containing pro forma financial statements for the year ended April 2008.

8-K

Analysis of these exhibits reveals cash balance of $698000 and remaining liabilities of $36000. There are also $941000 worth of assets held for sale, which consist of the housing (referred to as “GLPM”) and land real estate (referred to as “GLPP”) connected to the restaurant property. The company spent $479000 in administrative expenses between April 2007 and 2008.

Since April 2008 there have been several developments; namely the sale of the GLPM property for cash value of $560000 less $38000 closing expenses. Also, the company is in discussions with Baltimore County over the sale of the GLPP property for $624000 and is expecting closure in November 2009. The sale price could be substantially less than this value.

Also, the promissory note received in exchange for the sale of Girl’s Life magazine has substantially been written down to 0, implying the expectation of complete default. There is still the probability of receiving some denomination on this note although the value is probably negligible.

The $698000 cash balance was increased by $522000 due to the sale of GLPM, giving a pro forma balance of $1220000. Adjusting for a possible discount in the sale price of the GLPP property, 75% of the offer price is $468000. Assuming payment in cash, the balance increases to $1688000. Expenses in the year are likely to be less then the 2007-2008 period when the company spent $479000 in administrative expenses. However, in order to err on the conservative side, assuming there is no decrease in expenses the cash balance will be reduced to $1209000. Subtracting the $36000 in liabilities, the estimated cash available to the equity holder will be $1173000, calculated conservatively.

The current market value of Monarch Services: $891791.
Estimated cash available for distribution: $1173000.

This implies a substantial discount from realizable value. The possible gain is 32% in a few months, with no correlation to the overall market, if the November 2009 closing date is correct.

Aberdeen International (AAB) - Value Opportunity

Aberdeen is an international asset management company. They have been primarily focusing on equity investments in resource-based companies around the world. The company has been repurchasing shares. The value to be found here is based on balance sheet numbers. The company is trading at a discount to its investment portfolio:

Market Value of Aberdeen Intl: $24M CAD
Market Value of Equity Portfolio @ April 30 2009: $37M CAD

The company may be undervalued in the market because of an unfortunate and complex situation in which a $10M loan made to South African mining company Simmers and Jack may not be repaid . Even with no value attributed to this loan the equity is still undervalued. As per the debenture agreement, the company is supposed to receive a 1% net smelter royalty from Simmers and Jack, which they have in fact been paying. This royalty is held as a long-term asset and is valued at $38M on the balance sheet. I believe this is a bloated number due to the fact that the company used a 5% discount rate, which would imply a risk-free return. In fact, Simmers and Jack has proven that any dealings with them are not risk-free by refusing to repay the $10M loan. I am inclined to say that the smelter royalties " are worth more then 0" from a conservative stance. The company also owns several other assets which may end in defaults, but are not truly material in terms of their value.

There are warrants outstanding for 42M shares expiring in 2012, which may be another reason for the undervaluation. The warrants are currently valued at only $2M by the market. The total value in the market is therefore $26M. Which is still less then the portfolio of securities. I am going to say that the warrants offer a much better vehicle for capital appreciation, due primarily to their lower relative price (8 cents a share vs 27 cents for common) and the time interval till expiry.

Disclosure: I own warrants and shares issued by AAB.

Hudson Highland Group (HHGP) – Value Opportunity

Hudson Highland group is a specialized staffing agency. They provide permanent and contract based staffing solutions. Hudson was spun-off from Monster Worldwide in March 2003. That being said, the staffing industry is neither the most exciting industry nor is it unsatisfactory. The near term industry outlook is volatile, however, the longer term outlook is stable; people will always need jobs, just like they have in the past. For that reason I believe that HHGP’s past earnings record is sufficiently representative of the future to use it as a guide. As of right now the stock has a 51 M market cap and is trading at $1.93 per share.

First and foremost, the balance sheet in the recent quarterly report shows 46 million of cash and 11 million in borrowings. This leaves 35 million in net cash. Right away you can separate that cash from the operating business. If you take the cash value out of the market cap you are left with a value of 16 M for the operating business. This is far too low and I will show why.

The income account has been muddled up the past few years due to all sorts of reorganization expenses and acquisition integration expenses. The value of the company should be determined based on a valuation of each of the separate segments. The regional segments are Hudson Americas, Hudson Europe and Hudson Asia Pacific.

SEGMENT VALUATION

Hudson Europe and Hudson Asia Pacific are both satisfactory businesses that are profitable, even in the current climate. The loss reported as earnings is primarily a result of reorganization and losses suffered by Hudson Americas. The different segments should be valued separately.

I will allocate corporate overhead expenses roughly based on percentage of revenue basis for the purpose of valuation. Corporate overhead of 30 M is allocated as follows:

-Hudson Americas: 25% = 7.5M
-Hudson Europe: 37.5% = 11.25M
-Hudson Asia Pacific: 37.5% = 11.25M

I believe that the 2008 results are at minimum representative of the company’s long-term earning power because of the difficult climate. In other words, earnings going forward are likely to average at least as good as 2008 results.

Hudson Europe earned roughly 14 M in 2008 after adjusting for reorganization expenses and goodwill impairment charges. After deducting corporate expenses, after-tax earnings for Hudson Europe are roughly 4 M. Since the business has in fact grown over the last 5 years I’m inclined to use a satisfactory multiple of about 8. This gives the segment a value of 32M.

Hudson Asia Pacific earned roughly 14M in 2008 as well after adjustments. After corporate expenses income after-tax is roughly 4M. The valuation here is similar to Hudson Europe and I will also use a multiple of 8. This gives the segment a value of 32M as well.

Hudson Americas earned roughly -0.4M in 2008. After corporate overhead expenses the segment lost about 5.6M after-tax. This is not a horrible result considering the environment. Of course, if the segment were to continue losing money, it would have no going-concern value. Because Hudson Americas is borderline profitable I am inclined to say that the segment is not valueless. If it were trading in the market alone it would probably be valued based on current assets plus a premium for the prospect of profitability. At worst, I’d say this segment is worth 0, however, there is an embedded option which gives the chance for significant upside if the segment becomes profitable.

TOTAL VALUE

The total equity value is net cash + Hudson Europe + Hudson Asia Pacific + Hudson Americas. This calculation results in a value 35M + 32M + 32M + 0M (with possibility of upside) = 99M. At the current market cap of 51M this stock is trading at 50% of it’s value, leaving a wide margin of safety as well as a probably large gain.

US DOLLAR HEDGE BONUS

In addition, deriving the majority of sales overseas, the company is pretty good hedge against the US dollar which is likely to decline over the next 10 years.

Disclosure: I own shares of HHGP.

Forced conversion of Canadian income trusts creates attractive opportunity

The other day I had a pretty good idea. It is similar to the thesis for investing in spin-offs and re-organization securities.

The government of Canada recently implemented a tax law that removes the preferential tax treatment of income trusts, which were previously untaxed at the corporate level. Without the preferential tax treatment, financially, these "businesses" are better off under the corporate structure. And as of 2011 they must all be converted to the corporate structure.

These trusts were typically held because of their high annual cash distributions yields. When these trusts convert to the corporate structure they will either cut the dividend drastically in order to keep cash in the business or change to growth oriented model in which the dividend is cut completely. What happens here is that all the pension funds, insurance companies and dividend mutual funds that had owned units in these trusts are forced to dump the units because they must hold income paying securities. The forced selling causes downwards price pressure and the price becomes disconnected from the underlying value of the company. This is an attractive purchasing opportunity; eventually the market will weigh the proper value of the company and will be reflected in the per unit price.

SG

Being right for the wrong reasons -- XTENT Inc. (XTNT)

On May 15 XTENT Inc filed a preliminary proxy form stating the company's intention to liquidate and distribute all remaining assets to shareholders. The estimated liquidating distribution was 0.11 to 0.40, quite a wide margin. I bought this stock on May 17 for 0.30.



A look at the table stating how these numbers were estimated showed that the only major divergence was in a category called "Total estimated liabilites and reserves". A footnote stated that this category "Includes (i) approximately $0.7 million and $0.9 million in the high and low estimates, respectively, in accounts payable and accrued liabilities, (ii) approximately $0.5 million and $5.3 million in the high and low estimates, respectively, reserved in connection with resolution of pending and potential litigation, claims, assessments and related obligations and liabilities." Reading this I proceeded to attempt to find what the 5.3M liabilities consisted of in order to weigh the probability of these 2 estimates. The balance sheet showed only 1.76M total liability, plus a reference to commitments and contingencies.

A look at commitments and contingencies showed that most of the liabilities were based on payments that XTENT would have to make IF CERTAIN MILESTONES WERE MET. Since the company was liquidating these milestones were not likely to be met. There were also license agreements for minimum royalty payments, none of which added up to 5.3M. I could not find a scenario under which the company would be required to pay out that much in liabilities. Therefore, I thought the distributions were likely to come in at the higher end of the range, and I purchased the stock.

The estimated distributions did not include sale of any intellectual property rights, which I thought was also a highly likely scenario because they had recently received CE Mark approval for a system in March 2009. I figured that I was paying absolutely nothing for this option, since the normal distributions were likely to come in higher then 0.30.

On June 4th the company announced that it had received FDA approval for its stent system and the stock jumped up to 1.60 and then to 2.10. I averaged somewhere in between for a total return of 490%

In this instance I was right but for the wrong reasons. I'll gladly take the earnings.... but it is unlikely to be repeated.

SG

Read This Letter to Buffett!!

One of the major questions I always had while learning about Warren Buffett and reading his annual reports, was why he suddenly switched from investing in Graham type companies to the "great" companies he now speaks of. Some say it is Munger's influence, and I think it partly is. But I think another reason is because he simply had too much money to put to work in Graham type plays. I was always nervous investing in small, problematic companies even after I'd read Graham because it really doesn't make much logical sense. But the fact is, these companies are just simply more undervalued then the "great" companies that you can sometimes buy at a small discount to value.

This was the proof I needed:

Dardashti Letter to Buffett!!


SG

Seth Klarman - Shareholder Letters

Came accross a link to Seth Klarman's letters to shareholders from 1995-2001. Particularly interesting, is the breakdown of his portfolio allocation and returns. Also, he talks in great detail about the frothy market environment of the late 1990's. It's always interesting to see what strategies these experienced veterans are employing and how they turn out in different types of markets. Sadly there is no letter in this compilation from a year where there was a bear market. Anyways, here is the link:

Klarman Shareholder's letters 1995-2001

Thanks to distressed debt investing for this compilation.

SG

Neose Technologies (NASDAQ:NTEC) Liquidation

I took a position earlier this year in Neose Technologies after they had announced their intention liquidate. They were a development stage biotech company that had not been profitable since inception. I took the position after they announced that they had been able to find buyers for their 2 patents. I essentially thought this situation was a low-risk scenario, ie. heads I win a lot, tails I don't lose much. In their filing for the asset sale they described their intention to distribute proceeds of the sales to shareholders of record. Their was a table showing management's estimates of what the payoff would be. Essentially, the payoffs ranged from $0.36 a share to $0.52 a share. The stock was trading at $0.35.

An analysis of the estimated distribution table showed that the only thing the amount of the final payoff depended on was the company's ability to either renegotiate their office lease, or sublet the lease. I thought either of these situations were highly likely, and therefore the expected payoff could be closer to $0.52 rather then $0.36.

On March 24th NTEC announced their initial distribution of $0.33 a share. Shareholder's on the last date of record will have received this amount plus the remainder when all liability claims are settled. Management's estimate is still between $0.36 and $0.52 a share. Even if the payout comes in at the lower end of the range my position will still be profitable.

UPDATE

I sold my shares after the stock transfer books closed on the OTC market for .12 a share. I received in total .33 + .12 = .45 on a .35 investment. My return was 29%.

These opportunities are great because they have no correlation to market activity and can help lift a portfolio in a bear market.

SG

Forgent Networks (ASUR) - Arbitrage Opportunity

Forgent networks (NASDQ: ASUR) will be undergoing a going-private transaction. All holders of less then 750 shares will be cashed out at $0.34 per share, approx. 126% premium to today's price of $0.14. The transaction is still in it's preliminary stages and a definitive vote date has not yet been set. Probability of success is quite high as the stock will be forced to de-list, due to NASDAQ requirements, if the company is not voluntarily taken private. If the company is forced to de-list it will still have to incur expenses associated with regulatory reporting, whereas if the transaction is approved it will no longer have to file the required regulatory materials. Since the going private transaction is the more favourable of the alternatives, it can be expected to be approved.


SG
Disclosure: I own ASUR

Dr. Pepper Snapple (DPS)

“DPS was spun off from U.K.-based Cadbury PLC in May 2008. The Partnerships established their position at an average price of $23.84, which represents 12x estimated 2008 earnings. DPS exhibited many of the characteristics we have seen in successful spin-off investments, including favorable management incentives (which were struck while market participants were still wondering how bad the company’s initial outlook might be in the difficult industry environment), systematic selling by U.K. shareholders more interested in the global confectionary business and less so in the U.S. beverage business, and a conservative management posture. DPS is the third largest liquid refreshment beverage company in the Americas, with a portfolio of 50 brands including Dr. Pepper, Canada Dry, 7-Up and Snapple. The company is a combination of a high-margin concentrate business (like Coke and Pepsi, which trade at 17x earnings) and a lower-margin and more capital-intensive bottling and distribution operations (like Coca Cola Enterprises and Pepsi Bottling Group, which trade at 12x earnings). While the market seems to apply a discount for its bottling ownership, we believe that an integrated model affords DPS the opportunity to expand distribution of its underrepresented and newly-launched brands. Over time, DPS has the potential to generate meaningful earnings growth through new product extensions, increased use of its distribution capacity, further cost reduction, and increased exposure to single serve channels, where it is currently underrepresented. DPS shares ended the quarter at $26.48.”

David Einhorn (Greenlight Capital)

Seth Klarman - Margin of Safety

One of the all time best books on value investing! It is no longer in print. A quick search on amazon.com shows remaining copies are selling at close to $1000 USD. Not the typical price someone looking for value might pay! There are only a few remaining copies in existence. The New York City library has a copy in the rare books section (I believe in a protective casing).

I stumbled across a PDF copy of the book online, while looking up information on Klarman.

Margin of Safety by Seth Klarman

SG

Greenlight Capital - 2008 Annual Letter to Shareholders

David Einhorn, manager of Greenlight Capital, has been earning 26% average annual returns for his hedge fund over the past 10 years. He uses a long and short strategy, based on extensive research. I find it interesting to read some of the better managers' letters to shareholders. Here is a link to Greenlight Capital Annual 2008 letter to shareholders.

Greenlight Capital - 2008 Annual Report

SG

Cheung Kong Holdings LTD - Value Opportunity

Market environments like the current environment often create opportunities that are so obvious that in-depth analysis proves pointless. Take for instance Cheung Kong Holdings LTD, a company that trades on the Hong Kong stock exchange and on the American OTC market as depository receipts (OTC: CHEUY).

Cheung Kong is a real-estate conglomerate, mostly focusing on property development and property management. However, they also retain a controlling interest in CK Life Sciences which is a pharmaceutical company. They currently have operations in 56 countries around the world, with a large focus in Asia.

This investment hypothesis is based on several quite basic, and quite obvious concepts:

1. The company has seen growth averaging around 25% for the past 15 years.
2. The company has about 20 projects currently in development set to be finished in the next year, so the growth rate is sustainable in the short-term.
3. China’s GDP has grown about 7-9% over the past 10 years and this growth will translate into a long-term prosperity for Cheung Kong.
4. Real estate is a stable industry. While it is interest rate sensitive, the future economics of the industry will look similar to how they have in the past under normal circumstances.
5. The current low-interest rate environment should allow for improved financing position. Strong financial position should ensure Cheung Kong’s ability to secure financing.
6. This investment can double as a play on currently depressed real estate prices.
7. Li Ka-Shing and Li Tzar Kuoi (chairman and managing director) own in aggregate about 77% of outstanding shares in the company. This will act as an incentive to shareholders’ interests.
8. Trading at only 7 times last years earnings. Even if the company was not growing at 25% per annum this would be a bargain. With 25% growth the market is effectively putting a negative value on growth.
9. If the company is able to earn $13 HKD a share in the coming years, an extremely conservative estimate, the company is trading for only about 4.5 times earnings.
10. The company is trading at $62.8 HKD which is about 66% of book value per share $98.9 HKD, using fair value accounting for investment properties. Once again, the market is applying a negative value to the operating business and future growth effectively offering them for free.

At the current price of $62.8 HKD per share (about $8 USD) this company investment is a bargain. Typically investors will have to pay out the nose for growth. The recent financial turmoil has created situations such as this one, where the investor is effectively paying nothing for 20+ % growth.

SG

Disclosure: I do not own shares of Cheung Kong.

Check out Buffett on CNBC

Check out Buffett on CNBC this morning!

3 hr interview with Buffett

His comment about the economy going "off a cliff", has been all over the news today. The media has a delightful way of spreading pessimism. He also says that he sees the economic "machine" functioning well within 5 years, and that we have put systems into effect that should help us recover before then. Another interesting point is that he thinks the worst is over. He stated that he could not get the 10% preferred yields today that he got from Goldman Sachs and GE a few months ago.

SG

Prescient?

“Owners of Capital will stimulate the working class to buy more and more expensive goods, houses and technology, pushing them to take more and more expensive credits until the debt becomes unbearable. The unpaid debt will lead to the bankruptcy of banks which will have to be nationalized, and the State will have to take the road which will eventually lead to Communism.”

-Karl Marx, 1867

This is truly an incredible quote, and to think that it was said about 140 years is quite striking. Reading this quote, you almost think that it was something that could have been written today; an exact description of what we are currently facing!

SG

Warren Buffett's 2008 Letter to Shareholders

Here's a well written overview of Buffett's 2008 Berkshire Hathaway letter to shareholders. Written by fatpitchfinancials.com.
Warren Buffett's 2008 Letter to Shareholders



One of the most interesting parts in the letter is the debunking of the black-scholes formula for valuing long-term contracts. I agree with Buffett. In the short-term volatility is an accurate representation of risk, because the mark is unpredictable. And therefore, the Black-Scholes formula is about as good an indication of option value as possible.
However, in the long-term the economy will grow and the stock market will follow it. Therefore, volatility is no longer an accurate representation of investment risk. Investment risk in the long-term should be redefined as the probability of investment loss, and in the long term this risk, on average, will be next to 0%.

Of course, the definition of "long-term" depends on market valuation at the time of purchase. Purchases made 2-years ago, at the market peak, will not see break even levels for possibly 5-10 years. But Buffett's recently booked contracts were booked at depressed market levels and the contracts are set to expire in 10-25 years. Therefore, the probability of the market being at a level less then where it was recently, in 10-25 years is far less then 1%. These contracts can the be estimated at having a 99% probability of being profitable.


Disclosure: I do not own BRK shares.

SG

Interview with Walter Schloss - Legendary Value Investor

Here's the link:

Walter Schloss Interview
Source: Richard Ivey School of Business

Walter Schloss is a legendary value investor. He worked alongside Warren Buffett for Benjamin Graham at Graham & Newman Co. in the 1950s. The man sincerely believes that it is not necessary to do in depth research into a company before making an investment. He has earned an average 16% annual return over his long career. His strategy is extremely simple, as one can tell from this interview. A few ideas keep re-occurring:

1. Buy companies at a substantial discount to book value
2. Little to no debt in the capital structure
3. Management ownership (you can find this information in annual or proxy reports)

Thats about it! (Note how he puts absolutely no emphasis on the earning power of the company!)...Funny how the market works...

SG

Vanda Pharmaceuticals Possible Liquidation

Vanda Pharmaceuticals (NASDAQ: VNDA), an early-stage biotech company, has been urged by one of it's largest shareholders (approx. 14%) to liquidate and distribute the proceeds to shareholders.

Vanda Pharmaceuticals recently received notice from the FDA that their schizophrenia drug iloperodone was not approved for production and distribution. This drug has been the company's main focus over the course of the last 8 years. The company has still not earned a dollar of drug sales since its inception. Instead, like most development stage pharmaceutical companies it has been bleeding away shareholders dollars on RND and other expenses. Needless to say, the picture painted is quite bleak. There is no sustainable revenue stream in sight. Because of this, the liquidation request is quite likely to succeed.

The company is currently trading in the market for about $20 M. It has $51 M in cash and marketable securities, and only $4.5 M total liabilities. Therefore, net working capital is $46.5 M. This leaves about a 50% margin of safety under the estimated liquidation value, if an investor were to buy shares today. A forced liquidation will fully realize the value of this cash. Therefore, a position in this company is a WIN-WIN.

The hedge fund (Tang Capital Partners) involved in this liquidation has recently taken part in a similar event in the liquidation of Northstar Neurosciences (NASDAQ: NSTR). That event turned out successfully.

Coat-tailing these type of events can be extraordinarily profitable. An investor should buy shares in VNDA and hold until the result of the shareholder vote on the liquidation is concluded.

FOR MORE INFORMATION:
Communication from Tang Capital Partners to Vanda Pharma:
Shareholder Communication

Vanda Pharm Recent Quarterly Report:
Quarterly Report

UPDATE Feb. 23 2009

The board of Vanda Pharmaceuticals has responded to Tang Capital Partners request to liquidate. The board will fight the proposal and does not believe this type of action is necessary. I still believe that this event will occur, however, because the board in aggregate owns only about 5% of outstanding shares, while Tang Capital owns 14%. Not to mention there are other majority owners who will vote in favour of Tang should a proxy battle be necessary. Therefore, I am currently maintaining my position.

Disclosure: I own shares of VNDA.

SG

KATY Industries ARBITRAGE OPPORTUNITY

Katy Industries (OTC:KATY), maker of cleaning products, filed a definitive proxy today proposing a vote of shareholders. The intent will be in effecting a reverse stock split in order to take the company private. All shareholders holding under 500 shares will be cashed out at $2.00 per share at the closure of the transaction. The equity is currently trading at $1.15 in the marketplace.

In order for the reverse split to go through it must be approved by the shareholders. The board of directors owns approximately 40% of the company and they will vote all their shares in favor of the transaction. Therefore, it can be hypothesized that approval is quite likely.

A purchase of the shares right now, if the transaction is completed will result in a 76% return over 1 month. This is equivalent to 766% annualized return. Since the mathematical probability of the transaction completing is so high, this is virtually a riskless proposition.

The goal here for the company is to reduce filing expenses associated with a public company, especially the Sarbanes-Oxley related auditing costs.

Read more about the transaction in their definitive proxy: Definitive Proxy Solicitation Materials - Going Private Transaction

The vote date is set at March 19th, 2009.

Disclosure: I own shares of NTEC.

SG

Study on the merits of value investing

Here is a great research study on the merits of value investing. We've all heard that it outperforms in the long run, and there are numerous arguments that try to contradict this thesis. This study proves that value investing is a strategy that can be used to earn excess returns.

The study also shows that small caps outperform the others, which is a great area for individual investors as many large institutions are unable, due to regulations or asset size, to invest in them.


Tweedy, Browne Study

SG

Buying the Economy Cheap

Seems like right now the stock market is selling at firesale prices. But is it really? Buffett thinks so. Read this article on GNP vs Market Cap from FORTUNE:

"Buffett's buy signal"

The article supports the argument that market valuations are approaching historical lows, while still trading above the historical average valuation. However, the article fails to take into account the fact that interest rates are at historical lows, which theoretically should boost valuations. Therefore, it is definitely possible to make the argument that the market is selling LOWER then the historical average, when adjusted for interest rates.

SG

Sources and Opportunities

Profitable ideas are often far between but there are a few places to look:

SEC.GOV
SEC server with built in search features. Search for key phrases. Examples:

- "Plan of Liquidation"
- "Plan of Merger"
- "Tender Offer"
- "Going private transactions"

Some forms to keep track of:
- SC 13E3 (Very profitable, Going Private Transactions)
- DEFM14A (Definitive voting material for mergers ie risk arb)
- SC TO-C and SC TO-I (Relating to tender offers)
- Form 10 (spin-offs)

These are the easiest "free money" opportunities to identify for the individual investor.

Also, typically any reference library will have a copy of value line. Value line is great for quickly putting together a portfolio of undervalued equities. Value line also has historical 10 year financial statements (I ignore the projections).

SJG

Prospectus

Alright. So this is the new blog... I'll be posting anything of interest to the individual investor. The goal here is to expand the base of knowledge currently available to the small-time investor. Specifically, I will discuss instances where the individual investor may have a definite advantage over their larger institutional counterparts.

Of course, I am only learning myself and I must first acknowledge that I am not smart enough to predict the future. Therefore, all discussions on this blog in no way are recommendations.

Secondly, I will have to respectfully disagree with my teacher who liked to say, "There 's no free lunches guys."

That being said...Let's make some moniesss.