After a absurdly strong 2013, the market had another great year. The S&P500 index gained 11.39%. Our portfolio returned 46.61%. Since 2009, the market has returned 16.74% compared to our 25.30% annually compounded rate.
The outperformance was largely due to our focus on positions that were initially not discovered by the industry but slowly started getting more eyeballs. In general, we have started to look at companies where we have an edge. Given my small capital base, it has made it clear that I have a huge advantage where the market is not looking. This is in smaller cap companies and companies that are going through transformations.
Although 2014 was a good year, I think we should be able to beat the market given our current portfolio and be able to beat the market at a wide margin. I wouldn’t be surprised if 2015 results in similar returns as 2014. Although we are having a hard time finding new ideas, so once our current holdings work out it will be tougher to deploy the cash elsewhere.
One of the changes I made going into 2013 was fixing two of my big mistakes: being too lazy w/ my position and not focusing on “why”.
In the past I had fallen in love w/ my holdings. My biggest mistake was Goldgroup Mining. Even though I had friends bring up the negatives for the company, I was blind to my position. I kept a closed eye to any analysis of the company that was negative. I was too lazy to act even though it was clear the company had large debt issues and need to constant capital. Another mistake was Dolan Company. Where the negatives of the company’s revenue stream was discussed regularly in the conference calls. Although I heard these issues, I was blinded by the love of my holding.
The second mistake was never asking “why” I’m finding this company for a bargain. Why is the company so cheap, if my thesis is correct. This is also where I’ve realized my edge lies. For example, when I bought BAC Warrants it was clear why it was cheap. The market hated the legal issues and was too scared by the potential large payoffs. So the edge lied in looking past these issues and seeing the legal settlements had always been done for pennies on the dollars. Also the brand had huge cash generating potential once these one-time issues were resolved and the interest rates increased. Similarly, in 2013 I bought XPEL. This was a micro cap where not many were looking at. The company’s shares were extremely illiquid, many days going through no trades. Although the company was generating good cash flow, had a dominant position w/ its software, the brand was growing, and the industry was growing rapidly. There were huge tail winds for this company’s product. In both these situations, asking “why” gave me a valid reason where I could benefit on buying the shares and waiting for the market to come around.
Going forward, I’ve decided to focus on two type of investments: ignored companies and companies going through transformations. XPEL is a great example of “ignored companies.” ID Systems is a company going through a transformation w/ the co-founder coming in fix operations. For the most part, I’m finding more of these ignored companies. Although when we do find companies going through transformations we are buying a huge position.
A quick analysis of some of my current holdings:
XPEL: This is once an ignored company that is finally getting eyeballs. Once this company gets uplisted so funds can buy, the stock will have an unique situation. The insiders own over 40% of the shares and you have early investors owning around 10-20%. So the float is very small for funds to build a position.
The company’s revenues are growing rapidly and there is still huge growth. The international market is starting to get to a good size and I believe the international revenues will eclipse the US revenues. The company’s owned stores make huge cash and as the company builds more of these we will see large cash increases. The company’s growing cash balance will make the balance sheet a weapon, as M&A will pick up. I expect the company to spend lot more on international M&A than US M&A.
ID Systems: This is a company that has been going through a transformation w/ the co-founded stepping in to be CEO. The company is expected to finally be EPS positive in 2015. Also they have a very good operating leverage where additional revenue growth will have big impact on cash and earnings. I think 2015 will be very good for the company, as revenue will increase and company will be profitable. Also, this company is going to be a cash machine with little need for capital.
Sevcon: This is a company that is ignored by many. There is little trading volume, w/ Gabelli owning over 50% of diluted shares. Also the company has huge operating leverage, so cash generation won’t show until you see revenue hitting the income statement. Although, if you look at the prior year financials you can see the company has spent quite a bit on R&D. The fruits of the R&D are close to hitting the financials. We recently saw some fruits of it with the first sales deal for the China JV and a large $50 million contract w/ a Tier One Chinese auto manufacturer. Also, the majority ownership by shareholder friendly fund will ensure that the poor management team doesn’t waste time or shareholder capital.
I haven’t found many new ideas to add to the portfolio. I have made some changes in late 2014, most of them haven’t been large positions.
I sold out of 1347 Property Insurance and Kingsway Financials. I sold out of 1347 right after the news came out that they pulled out their application for the Florida market. The company’s decision not to pursue the opportunity in Florida was a big change in how I had envisioned the investment thesis working out. As for Kingsway Financials, I found other opportunities where I think the odds are better for me.
I bought a position in Sevcon. This is an obscure company that is not followed by many. Although there has been a major change with Gabelli Funds owning a majority of the shares and Ryan Morris as the Gabelli elected activist on the Board. The company is going through a transformation with Gabelli leading the investment into R&D. The company has a JV with a large Chinese manufacturer that should boost revenue. Signs so far show that the company’s transformation is going well and we are starting to see new sales coming our way.
I have also bought 3 other positions that I will leave undisclosed for now.
ACHI came out with its 2012 and 2013 financial restatements on Dec 30th. This was a huge milestone for a company. The financial revenue numbers weren’t a major concern for me. What I was interested in was the cash position, customers, and what the future projections are. On the cash balance, it was a huge let down. The company spend $70M on the restatements. This is an absurd amount of money that was wasted. Taro Pharma, one of prior investments, had to do restatements after Sun Pharma took over. I think Sun Pharma spent less than 35M on the restatements.
As for the customers, it was good to hear that the customers haven’t left the company. They lost 2 customers and one of them resigned with the company via different contract terms.
The future projections look good. The company expects 2014 to be slow, although they did see things pick up in late 2014. Also, for 2015 the company is expecting growth.
I sold out of my shares a few days after the restatement. The company’s future looks good. The industry it is in, will see a huge demand for their service. Also, now with the restatements done the company can focus on operations. But my initial investment thesis was the restatement would be good for investor perspective. The uncertainty would be gone and the strong cash balance would be verified against audited financial statements. This didn’t work out as planned, uncertainty was gone but the drop in cash balance was unexpected.
This was another special situation case in which the investment didn’t work out for me. We have sold the shares and are sitting on the cash for now. Although this had a negative return for us, our 2014 returns were good enough to eat the loss.
ACHI won’t be meeting its unofficial deadline of middle December to get the restated financials. Although the company now has a Dec 30th deadline and a conference call scheduled to discuss the restated financials. In investing you know that companies will struggle to meet deadlines. The question is about whether the company is making progress and if the value still exists. ACHI’s management is doing all the right things for the company’s future. The delay in the restatement is not a big issue. Now we have a specific deadline and a conference call. I would expect the conference call to be a guide as to where the management is planning to take the company in the future.
The company reported its Q3 numbers today and the growth story is chugging right along. Top line grew by over 70%. The net income grew by 58%, although you had many one-time expenses that clouded the net income number. Overall, this company is growing at an extremely rapid pace. The company’s inventory grew to over $5M, compared to over $2M in Q2. This is partly a result of the UK acquisition but also shows that the growth isn’t going to slow down anytime soon.
One of the interesting things in the financials is the professional fees. These fees have been growing the last couple of quarters. Part of these fees are related to the UK acquisition but a large amount is not clear what it is for. My hunch is that the company is preparing for an uplisting of the stock in the near future. When this happens, we will see lot more eyes on this stock and the price should appreciate drastically.
Accretive Health (ACHI) has been a quietly working on the financial restatements. This process has taken a very long time and has seen the company go through multiple CEO and CFOs in the process. In a recent SEC filing they company said they are looking at getting the restatements done by mid December.
“The Company is in the process of preparing an Annual Report on Form 10-K (the “Comprehensive Form 10-K”) that includes the following financial information: (1) audited consolidated balance sheets as of December 31, 2011 (as restated), 2012 and 2013; (2) audited statements of operations, cash flows and stockholders’ equity (or deficit) for the years ended December 31, 2011 (as restated), 2012 and 2013; (3) unaudited quarterly financial data for the eight quarterly periods ended December 31, 2013; and (4) selected annual financial data for the years ended December 31, 2009, 2010 and 2011 (each as restated), 2012 and 2013, of which 2011, 2012 and 2013 would be audited. The Company anticipates filing the Comprehensive Form 10-K by the middle of December 2014; however, the Company cannot provide any assurances that it will be able to do so.“
First of all, the company had in the past publicly stated when they would get their financials done and them went on to miss the deadline. So we should take the December deadline with a grain of salt. Although you have a new CEO and CFO at the helm and the company has gone through a lot of management changes to get to this point.
Although the restatement will show lower revenue, we will also see a large cash balance. The company has publicly stated they have around 220M in cash. I wouldn’t be surprised if the cash balance has increased. Also, the company’s revenue contracts are structured in a way where there is a lower margins initially and the margins improve over time. So even using the “net revenue” method will decrease revenues, I think going forward we should see better margins. Finally, the restatement will have a big impact in having more eyes seeing and buying the stock.
The company is in a sweet spot in the healthcare industry. Also, you have a CEO, CFO, and Chairman that have history at creating huge value for shareholders. So you have tailwinds from the industry and great operators running this company. I think 2015 will be a huge year for this company. I’ve recently been buying up many more shares.
It has been a long time since I’ve updated the blog. I’ve been busy making changes to my portfolio. One of the lessons learned from prior years is that laziness is not good for value investors with small capital. So I’ve been more active in monitoring my holdings and making changes.
Cheasepeake Energy: I sold out of CHK in Aug ’14. The main reason was the ability to find and buy other companies where the upside was huge.
Bank of America Warrants: I cut back my position on BAC warrants. Again, the upside I see in other positions was much more than what I see at BAC. Although this is still over 10% position for me, so I still believe there is plenty of upside left.
Derma Science: I sold out of the position that I bought in Q1. I still like this company and the Q2 numbers showed that there is lot of growth for this company. Although I think this will take a long time to play out, so I decided to move the capital elsewhere.
ID Systems: I bought a large stake in IDSY. After the new CEO taking over and seeing the Q1 results I bought a huge stake in the company. I then doubled the position after the Q2 numbers came out. The new CEO is fixing the mistakes from the prior CEO and investing capital into new products. Also the CEO is building the relationship and increasing “wallet size” with existing customers. I think there is huge upside to be had at current prices.
Accretive Health: We have been buying more shares in this position. I think we are only months away from restated financials. The company has been able to get a great CEO and a good CFO to join the company. The company has a huge cash position and revenues will grow once the restatement is behind them. Plus there is a huge tailwind for their services.
So far 2014 has been unexpectedly good. We knew our holdings were cheap but I didn’t except the move up to happen so quickly. We are up almost 40% for the current year, with plenty of upside still to come from some of my holdings. Although the downside of these returns is that I’m having a hard time putting cash to work. I’m not finding many new opportunities. But for now, I expect to have much more upside for 2014.
I’ve been doing quite a bit of trading in the last month or so. Although the trading has been around repositioning how the portfolio is setup, not about finding new buys. Currently my portfolio has been largely setup towards these long term plays, where the catalyst might take years to work out. My two biggest positions are BAC Warrants and XPEL. Both of these are long term plays that will take years to work out. Although I’ve been finding situations that can have good returns in short-term, 1 year or less. Over the past few months I’ve been wanting to switch the portfolio position to become a 50-50 split between long term plays and short-term situations. This is similar to how Buffett ran his partnership.
So in the last month, I’ve been moving capital out from longer term plays to buy these short-term plays. Currently the portfolio is at a 70-30 split, leaning towards the longer term plays. Getting to the 50-50 split will take time, as I will wait for these positions to work out, before I move capital around. Although I did trim my position in BAC and XPEL to put more capital to work at shorter term situations.
Recently, I’ve bought a new position in Derma Science (DSCI). I’ve been watching this company for a while but couldn’t buy because the share prices were high. Although after Q1 numbers came out, the stock dropped from $14 to $8ish. I built up a small position and I’m looking to buy more. The shares have started to move up, now over $10. So I will be patient until it gets into low-$9s. The company has a CEO who has been turning around the operations. There is a growing business which is getting masked by another mature business. Also, the company has a drug going through Phase III testing. If the drug works out then the upside is huge. But even w/ a failure on the drug the company is worth lot more than current market price.
I’ve also started buying 1347 Insurance (PIH). This is a spin off from KFS. The company is focused on writing home insurance policy in specific states where the CEO and management has strong experience. The company is currently doing a run-rate of $16M premiums annually. Although, the company will be at $40M+ run-rate by year end and should be doing $100M-500M in 4-5 yrs. If the company can write profitable business, this is going to be worth a lot more than the current $30M market cap. The company is doing a capital raise to get cash to expand in Florida. The capital raise is expected to be priced on Monday and I expect it to be priced less than current market price of the shares. So I expect the shares to drop and it will provide an opportunity to build up a full position.