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Posts Tagged ‘Mill Road Capital’

The Official Activist Investing Blog has published its list of activist investments for December (the investments with links are to our latest update at the time of this post):

Ticker Company Name Activist Investor
ACLS Axcelis Technologies Inc Sterling Capital
AEPI AEP Industries KSA Capital
ARS Arris Group Shamrock Activist Value fund
ATML Atmel Corp. Microchip Technology
AVGN Avigen Inc Biotechnology Value Fund
BCSB BCSB Bancorp Financial Edge Fund
BIOD Biodel Inc Moab Partners
CAMD California Micro Devices Corp Dialectic Capital Management
CKEC Carmike Cinemas Mark Cuban
CPWM Cost Plus Stephens Investment Management
CRXX CombinatoRX, Incorporated Biotechnology Value Fund
CTO Consolidated Tomoka Land Co Wintergreen Advisers
DANKY Danka Business Systems PLC DCML LLC
DDS Dillard’s Inc. Barington Capital; Clinton Group
DIN DineEquity Inc Southeastern Asset Management
DPS Dr Pepper Snapple Group Trian Fund
DUSA DUSA Pharmaceuticals SRB Management
DVD Dover Motorsports GAMCO
ESIO Electro Scientific Industries Nieremberg Investment Management
FIC Fair Isaac Corp Sandell Asset Management
FSFG First Savings Financial Group Joseph Stilwell
GGP General Growth Properties Pershing Square Capital
GLOB.OB Global Med Technologies Victory Park Capital
HIFN Hifn, Inc Adaptec, Inc
ICGN ICAgen, Inc Xmark Opportunity Partners
INFS InFocus Corp Nery Capital Partners
ITP Intertape Polymer Group KSA Capital Management
JAVA Sun Microsystems Southeastern Asset Management
JTX Jackson Hewitt Tax Service Shamrock
KANA.OB Kana Software KVO Capital Management
KFS Kingsway Financial Services Joseph Stilwell
KONA Kona Grill Mill Road Capital
LAQ The Latin America Equity Fund City of London Investment Management Co
LCAV LCA-Vision Inc. Stephen Joffe
MAG Magnetek Inc Riley Investment Management
MATH.PK Mathstar, Inc Salvatore Muoio; Zannet Opportunity Fund
MGAM Multimedia Games Dolphin Limited Partnership
MGLN Magellan Health Services Shamrock
MOVE Move Inc. Nierenberg Investment Management
MVCO Meadow Valley Corp Carpe Diem Capital
NDD Neuberger Berman Dividend Advantage Fund Western Investment
NTMD Nitromed Inc Deerfield Capital
OFIX Orthofix International Ramius Capital;
OPTV OpenTV Corp. Discovery Equity Partners
ORNG Orange 21 Costa Brava Partnership
PHMD PhotoMedex, Inc. James Sight
PIF Insured Municipal Income Fund Bulldog Investors
PPCO PenWest Pharmaceuticals Perceptive Advisors
PRXI Premier Exhibitions, Inc Sellers Capital
RDC Rowan Companies Steel Partners
RHIE RHI Entertainment Baupost Group
RIVR River Valley Bancorp Davee Thomas
SLRY Salary.com Cannell Capital
SLTC Selectica, Inc Versata
SUG Southern Union Co Sandell Asset Management
SUTM.OB Sun-Times Media Group Inc. K Capital
TIER Tier Technologies Inc Discovery Equity Partners
TLGD Tollgrade Communications Inc Bradford Capital
TMI TM Entertainment & Media Bulldog Investors
TRGL Toreador Resources Nanes Delorme Partners
TRMA Trico Marine Kistefos AS
TXCC TranSwitch Corp Brener International Group
TXI Texas Industries Southeastern Asset Management
WBSN Websense Inc Shamrock
WEDC White Electronic Designs Corp Wynnefield Capital
WOC Wilshire Enterprises Bulldog Investors
WRLS Telular Corp Simcoe Partners

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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.

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Mill Road Capital has filed an amended 13D attaching a letter sent to Kona Grill Inc (NASDAQ:KONA). In the letter Mill Road Capital raises some concerns about the issuance of KONA stock to the CEO’s father at a substantial discount to the then current market price and the price that KONA solicited from Mill Road Capital in a December meeting. Mill Road Capital’s letter to KONA is set out below:

Marcus Jundt
Chairman & CEO
Kona Grill, Inc.
7150 East Camelback Road
Suite 220
Scottsdale, AZ 85251
Dear Marcus:

I am writing as a follow-up to our meeting on December 17, 2008. In that meeting which Rick Hauser attended, you outlined the following proposal:

•Mill Road Capital (“Mill Road”) would make a personal loan to Hauser and you for $6 million. This loan would be secured by Hauser’s and your personal assets including the stock in Kona Grill, Inc. (“Kona” or the “Company”).

•Hauser and you would use the $6 million to purchase 4 million newly issued shares of Kona at $1.50 per share.

•As compensation for making the loan, Mill Road would be allowed to buy 2 million newly issued shares of Kona at $1.50 per share, and Mill Road would be given one seat on the Board of Directors.

In that meeting, we rejected your proposal on two grounds. First, we believed it violated the Sarbanes-Oxley amendments to the Securities Exchange Act of 1934 prohibiting the Company from directly or indirectly arranging loans to management. We further rejected the proposal because it was not part of a competitive process that would ensure the highest value to the Company and all of its shareholders.

At the end of the meeting, we indicated that we would be willing to take part in any competitive process that the Company initiated in order to either raise funds or sell the Company. You noted that no such transactions would be completed before year end.

I note that in the 8-K filed by the Company yesterday, the Company said it had entered into a subscription agreement to sell shares to your father at $1.19 per share, a substantial discount to both the price of $1.50 per share that you solicited from us and the current market price of $1.57.

Mill Road Capital is the 2nd largest shareholder in the Company. We remain committed to seeing the Company undertake a fair and competitive capital raising process that would ensure the highest long-term value to all shareholders.

Is it your plan to subject that proposed transaction to the fully competitive process that we requested in the meeting on December 17th?

Sincerely,

Thomas Lynch
Senior Managing Director
Mill Road Capital L.P.

It seems that rather than undertake a fair and competitive capital raising process, KONA has issued stock to the CEO’s father, which is a disappointing outcome for KONA’s stockholders. The fact that the issuance was undertaken at such a discount to the prevailing market price for KONA stock raises a red flag for us.

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Kona Grill Inc (NASDAQ:KONA) is an undervalued asset situation with a potential acquirer raising its stake in the company through November. Mill Road Capital made a cash offer in March to acquire KONA for $10.75 when the stock was trading at around $8.76. Since the offer was rebuffed by KONA in April the stock has slumped 85% to close yesterday at $1.31. Mill Road Capital has continued to buy stock, raising its stake to 10% in November from 8.2% in June. At $1.31, KONA has a market capitalization of just $7.9M. We estimate that its assets in liquidation are worth around $14.8M or $2.47 per share. With KONA trading at a discount of nearly 50% to its liquidating value and Mill Road Capital continuing to buy stock, we believe it is an attractive opportunity.

About KONA

KONA owns and operates 18 restaurants located in 12 states in the United States. The restaurants feature a selection of mainstream American dishes, as well as a range of appetizers and entrees with an international influence, including a selection of sushi. The menu items also incorporate over 40 signature sauces and dressings that Kona Grill makes from scratch, creating appeal for the lifestyle and taste trends of a diverse group of guests. The menu offerings are complemented by a full service bar offering an assortment of wines, specialty drinks and beers. Effective September 14, 2008, the Company closed its restaurant in Naples, Florida. KONA’s investor relations website is here.

The value proposition

According to the most recent 10Q, KONA has been consistently generating positive cash flow from operating activities. In the year ending December 31, 2007, the company generated $5.7M and has continued to generate positive operating cash flow each quarter for the last year. The company continues to consume cash, however, as it invests in new restaurants. While we believe that KONA has value as a going concern, our analysis demonstrates that the market is pricing its stock  at a substantial discount to its liquidating value (the “Carrying” column shows the assets as they are carried in the financial statements, and the “Liquidating” column shows our estimate of the value of the assets in a liquidation):

kona-summaryKONA’s value lies in its restaurants, carried on the balance sheet in its $53.7M in net property, plant and equipment. Discounting that figure by a third to $36M equates to $5.99 per share in value. Deducting all liabilities from the discounted assets leaves a liquidating value of around $14.8M or $2.47 per share.

The catalyst

Mill Road Capital is seeking to take KONA private. This 13D filing details Mill Road Capital’s investment thesis for KONA:

[Mill Road Capital] acquired shares of the Common Stock based on their belief that the Common Stock represents an attractive investment opportunity. [Mill Road Capital] further believe that [KONA] would be better able to realize its full value as a private entity.

On March 28, 2008, Mill Road Capital sent to Kona a non-binding offer to acquire all of KONA at a cash price of $10.75 per share:

Re: Notice of Acquisition Proposal

Ladies and Gentlemen:

Mill Road Capital, L.P. (“Mill Road”) is a substantial shareholder of Kona Grill, Inc. (“Kona” or the “Company”), currently owning approximately 325,000 shares or 4.9% of the Company. Mill Road has closely followed Kona since 2006, and we are extremely impressed with management and the Company. We believe that the public market does not adequately value small companies such as Kona, and by staying public, the Company will continue to be subject to undue regulatory burdens and pressure to maximize short-term results at the expense of long-term performance. We believe Kona will be better able to realize its full potential value as a private entity and are, therefore, making an offer to acquire all of the outstanding shares of the Company.

Mill Road is pleased to submit a non-binding offer to acquire all shares of the Company’s stock at a cash price of $10.75 per share. This represents a 23% premium to the closing price of $8.76 as of March 27, 2008. We would anticipate that the transaction would be accomplished through a merger of a company organized by Mill Road with and into the Company, as a result of which all stockholders of the Company would be entitled to this cash consideration.

Mill Road is a Greenwich, Connecticut based investment firm with approximately $250 million of committed equity capital. Our limited partners include a prominent and highly respected group of state pension funds, foundations, endowments and insurance companies. The investment professionals of Mill Road are a core group of former Blackstone professionals who have successfully completed more than 20 control transactions in which more than $600 million of equity capital was deployed with total transaction value of several billion dollars. Additionally, we have significant industry experience as a substantial investor in many public restaurant companies and through my position on the Board of Directors of Panera Bread Co. (NASDAQ: PNRA) from 2003 to 2006.

Our industry and transaction experience will allow us to quickly complete due diligence and definitive documentation. Considering the amount of our investable capital, Mill Road can readily fund the entire transaction contemplated by this acquisition proposal.

We are prepared to commence negotiations immediately with respect to this acquisition proposal and wish to close this transaction as soon as possible. We look forward to the opportunity to discuss our proposal in more detail with the Board of Directors and management. It would be our pleasure to meet in person at a location of your choice.

You may contact me directly at (203) 987-3501. I look forward to discussing our proposal at your earliest convenience.

Sincerely,
Mill Road Capital L.P.

By: Mill Road Capital GP LLC
Its General Partner

By:

Thomas Lynch
Senior Managing Director

KONA responded to Mill Road Capital on April 18, 2008 indicating that the letter had been distributed to KONA’s board for discussion at its next board meeting. On May 1, 2008, KONA told Mill Road Capital that it was not interested in pursuing the transaction.

Mill Road Capital has continued to purchase KONA stock, paying between $1.85 and $6.91 according to the latest amendment to their earlier 13D. As of November 14, 2008, Mill Road Capital controlled 10% of KONA.

Conclusion

KONA is an undervalued asset situation with a catalyst in the form of a potential takeover from Mill Road Capital. Given the deterioration in KONA’s stock price since the rejection of Mill Road Capital’s initial bid, we would not expect Mill Road Capital to offer $10.75 again. We do believe, however, that any bid would be at a premium to the current stock price. If we are wrong and a bid does not materialize from Mill Road Capital or some other acquirer, the down side should be limited because KONA is already trading at a substantial discount to its value in a liquidation.

KONA closed Friday at $1.31.

The S&P 500 closed Friday at 879.73.

[Disclosure: We do not presently hold KONA.  This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only.]

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