Greenbackd

We’ve decided to exit our position in Kona Grill Inc (NASDAQ:KONA). We first posted about KONA on December 15, 2008 when the stock had last traded at $1.31. At Friday’s $2.46 close, our theoretical profit on the play of $1.15 equates to an absolute gain for holding KONA of 87.8%. The S&P 500 closed December 12, 2008 at 879.73 and closed Friday at 931.80 (+5.9%), so we’re up 81.9% on a relative basis.

We started following KONA because it was an undervalued asset situation with a potential acquirer – Mill Road Capital – raising its stake in the company through November last year. We’ve closed our position for two reasons:

1. KONA’s stock price has now risen to our estimate of its liquidating value of $14.8M or $2.47 per share. When we opened the position at $1.31 KONA had a market capitalization of just $7.9M, which meant it was trading at almost a 50% discount to its liquidating value. The discount is now gone, and that’s a good enough reason to close the position.
2. KONA has entered into an agreement to issue stock to the CEO’s father at a $1.19 per share. The price is a substantial discount to the market price for KONA stock at the time of the agreement, the price KONA solicited from Mill Road Capital and the current market price. Behaviour like this – issuing stock at a discount to liquidation value when competing offers are available – raises red flags for us about KONA management’s lack of regard for KONA stockholders.

Our holding period for KONA was 18 days, which was unexpectedly short, and ended before Mill Road Capital was able to persuade KONA to undertake some catalytic event. We mentioned in our About Greenbackd page that the market would occasionally spontaneously recognize the underlying asset value and remove the discount, and that seems to have happened here. By any measure, an 88% return over 18 days is an excellent return, but we caution that it was a happy accident and is unlikely to be repeated.