Posts Tagged ‘Net Net Stock’

Digirad Corporation (NASDAQ:DRAD) has filed its 10Q for the quarter ended September 30, 2009.

We started following DRAD (see our post archive here) because it was an undervalued asset play with a plan to sell assets and buy back its stock. The stock is up more than 167% since we started following it to close yesterday at $2.35, giving the company a market capitalization of $36.1M. We last estimated the liquidation value to be around $32.5M or $1.73 per share. We’ve now increased our valuation to $32.9M or $1.77 per share following another very good quarter for DRAD. Year-to-date, DRAD has generated over $3.4M in cash from operations. DRAD has also started buying back stock under its previously announced $2M stock repurchase plan.

The value proposition updated

DRAD has continued its good year, generating $3.4M in operating cash flow year-to-date. Our updated estimate for the company’s liquidation value is set out below (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

DRAD Summary 2009 9 30Off-balance sheet arrangements and contractual obligations: The company hasn’t disclosed any off-balance sheet arrangements in its most recent 10Q.

The catalyst

DRAD’s board has announced a stock buyback program:

The Company also announced that its board of directors has authorized a stock buyback program to repurchase up to an aggregate of $2 million of its issued and outstanding common shares. Digirad had approximately 19 million shares outstanding as of December 31, 2008. At current valuations, this repurchase plan would authorize the buyback of approximately 2.1 million shares, or approximately 11 percent of the company’s outstanding shares.

Chairman of the Digirad Board of Directors R. King Nelson said, “The board believes the Company’s direction and goals towards generating positive cash flow and earnings coupled with an undervalued stock price present a unique investment opportunity. We are confident this will provide a solid return to our shareholders.”

According to the most recent 10Q, the company has now started to buy its own stock, albeit a relatively small amount:

On February 4, 2009, our Board of Directors approved a stock repurchase program whereby we may, from time to time, purchase up to $2.0 million worth of our common stock in the open market, in privately negotiated transactions or otherwise, at prices that we deem appropriate. The plan has no expiration date. Details of purchases made during the nine months ended September 30, 2009 are as follows (Edited to fit this space.):

DRAD Buy Back Detail 2009 09 30


DRAD is now trading at a reasonable 24% premium to its $32.9M or $1.77 per share in liquidation value. It’s off about 20% from its peak, and looks likely to continue to drop. We’re generally sellers of secondary securities trading at a premium to liquidation value, but DRAD seems to have the started generating cash. We’d like to see where it can go. We can see no other reason to cease holding DRAD in the Greenbackd Portfolio and so we’re going to maintain the position for now.

[Full Disclosure:  We do not have a holding in DRAD. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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We’ve recently been using the GuruFocus Benjamin Graham Net Current Asset Value Screener (subscription required) to generate regular watchlists of net net stocks. The GuruFocus NCAV screen has some superb functionality that makes it possible to create the watchlist from the screen and then track the performance of those stocks. We created our first watchlist on July 7 of this year using the July 6 closing prices. The performance of the stocks in that first watchlist over the last quarter has been nothing short of spectacular. Here is a screen grab (with some columns removed to fit the space below):

GuruFocus NCAV Screen

We know the market’s been somewhat frothy recently, but those returns are still notable. The average return to date across the nine stocks in the watchlist is 45.5% against the return on the S&P500 of 20.05% over the same period, an outperformance of more than 25% in ~three months. We’ve decided to run another screen today and we’ll track the return of that watchlist over the coming months. The stocks in the watchlist are set out below (again, with a column removed to fit the space below):

GuruFocus NCAV Screen 2009 10 13

We’ve done no research on these firms beyond running the screen. If you plan on buying anything in this screen, at the absolute minimum we recommend that you do some research to determine whether they are currently net net stocks and not just caught in the screen because of out-of-date filings. We’ll compare the performance of the stocks against the S&P500, which closed yesterday at 1,076.18.

[Full Disclosure:  We have a holding in FORD. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

Benjamin Graham Net Current Asset Value Screener

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Bespoke Investment Group (via The Reformed Broker) has a list of the biggest gainers for 2009. It should come as no surprise to regular readers of Greenbackd that a number of the stocks are former sub-liquidation value plays (most of which we missed):

Little ten baggersWe opened a position in VNDA and got a great return. We lost our nerve with BGP and missed out on a great return. We completely ignored ATSG, DTSG, SMRT, RFMD, PIR and CHUX although all appeared on our NCAV screen at some stage earlier this year. A little more evidence that diamonds can be found if you dig through enough trash.

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In the following video, legendary value investor Marty Whitman discusses Benjamin Graham’s net-net formula and his adjustments to it. We’ve previously covered those adjustments here, but we’ve added the video because we think it’s quite amazing to see the great man explaining his rationale for making them. The highlight, from our perspective, is this gem:

We do net-nets based more on common sense. As, for example, you have an asset – a Class A office building – financed with recourse finance, fully tenanted by credit-worthy tenants; That, for accounting purposes, is classified as a fixed asset, but, given such a building, you pick up the telephone and sell it, and really it’s more current than K-Mart’s inventories, for example, which is classified as a current asset. 

 Enjoy the rest of his wit below:



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Long-term readers of Greenbackd might remember our initial struggle to apply the net net / liquidation formula described by Benjamin Graham in the 1934 Edition of Security Analysis in the context of modern accounting. Putting aside our attempt to include and tweak the discounts to PP&E (kind of like fixing the smile on the Mona Lisa), most embarassing was our failure to factor into the valuation off-balance sheet liabilities and contractual obligations. The best thing that we can say about the whole sorry episode is that we got there in the end and we’ve been applying a more robust formulation for the last quarter. With that in mind, we thought it was particularly interesting to see the Financial Post’s article, Veteran tweaks Graham’s rule to find bargains (via Graham and Doddsville), which details the refinements legendary value investor Marty Whitman makes to Graham’s net-net formulation.

According to the article, Whitman makes the following adjustments to Graham’s 90-year old formula:

  • Companies must be well-financed

First and foremost, companies must be well-financed in keeping with the core tenet of Third Avenue’s “safe and cheap” method of value investing.

The goal is to own companies that are going concerns, not ones destined for liquidation. This difference is a crucial point of distinction between the focus of equity investors, who are often wiped out in liquidation, and bond investors, who have rights to the assets of a company in liquidation.

  • Whitman includes long-term assets that are easily liquidated

The second adjustment is to the assets themselves. Graham and Dodd focused exclusively on current assets when calculating liquidation value whereas Whitman includes long-term assets that are easily liquidated.

For example, roughly one third of long-term assets of Toyota Industries Corp. are investment securities, including a 6% position in Toyota Motor Corp. (TM/TSX), says Ian Lapey, portfolio manager at Third Avenue and designated successor to Whitman on the Third Avenue Value Fund.

These securities are therefore included in Third Avenue’s calculations of net-net.

Closer to home, oil and gas producer Encana Corp. (ECA/ TSX) has proved reserves of oil and natural gas that are not included in current assets, says Lapey.

“They are liquid in that there is a real market, current commodity prices notwithstanding, for high-quality proved reserves of oil and gas.” Encana is a top holding in AIC Global Focused Fund, sub-advised by Third Avenue and managed by Lapey.

  • Adjust for off-balance sheet liabilities

The third adjustment is the inclusion of off-balance-sheet liabilities. Here, U. S. banks’ structured investment vehicles readily spring to mind.

  • Include some PP&E

The fourth and final adjustment to Graham and Dodd is the inclusion of “some property, plant and equipment” for their liquidated cash value and associated tax losses that often produce cash savings.

Hong Kong real estate companies, such as top holding Henderson Land Development Co. Ltd. (0012/HK),are required to mark property values to market prices, so liquidation values are easily ascertained.

“In most time periods, the market for fully leased office buildings is quite liquid,” says Lapey, justifying their inclusion in net-net calculations of these companies.

The article also discusses one of Whitman’s current positions, Sycamore Networks Inc (NASDAQ:SCMR):

Sycamore Networks Inc. (SCMR/NASDAQ) is the most compelling example of a net-net situation in the United States offered up by Lapey.

The telecom equipment company has more cash — US$935-million in all — than the total value assessed to it by the market, in light of its US$800-million market capitalization and US$38-million in total liabilities.

“We feel that there is value to their technology that is being recognized by some of the large telecom carriers,” says Lapey of Sycamore Networks, but he acknowledges its current weak earnings power. Lapey is also attracted to the one-third of outstanding share ownership by management because it presents an important alignment of their interests with those of Third Avenue, who are by and large passive investors.

These large valuation discounts in the market are reassuring words for investors from the one of the finest practitioners of Graham and Dodd.

“We are holding these companies trading at huge discounts,” says Lapey, “and if these companies were to sell assets or sell the whole companies we think the result would be a terrific return for our investment.”

As we discussed in our review of our first quarter, we started Greenbackd in an effort to extend our understanding of asset-based valuation described by Graham. Over the last few quarters we have refined our process a great deal, and it’s pleasing to us that we already include the adjustments identified by Whitman. We believe that our analyses are now qualitatively more robust than when we started out and seeing Whitman’s adjustments gives us some confidence that we’re on the right track.

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Tweedy Browne, the deep value investment firm established in 1920, has updated its booklet, What Has Worked In Investing (.pdf). First published in 1992 and now updated for 2009, the booklet discusses over fifty academic studies of investment criteria that have produced high rates of investment return. Our interest in the booklet stems from its examination of a group of investment styles falling under the rubric, “Assets bought cheap,” in particular, Benjamin Graham’s “Net current asset value” method and the “Low price to book value” method.

Graham’s “Net current asset value” method

Says Tweedy Browne of Graham’s “Net current asset value” method:

The net current asset value approach is the oldest approach to investment in groups of securities with common selection characteristics of which we are aware. Benjamin Graham developed and tested this criterion between 1930 and 1932. The net current assets investment selection criterion calls for the purchase of stocks which are priced at 66% or less of a company’s underlying current assets (cash, receivables and inventory) net of all liabilities and claims senior to a company’s common stock (current liabilities, long-term debt, preferred stock, unfunded pension liabilities). For example, if a company’s current assets are $100 per share and the sum of current liabilities, long-term debt, preferred stock, and unfunded pension liabilities is $40 per share, then net current assets would be $60 per share, and Graham would pay no more than 66% of $60, or $40, for this stock. Graham used the net current asset investment selection technique extensively in the operations of his investment management business, Graham-Newman Corporation, through 1956. Graham reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20% per year

The booklet discusses a study conducted by Henry Oppenheimer, an Associate Professor of Finance at the State University of New York at Binghamton, in which he examined the returns of such stocks over a 13-year period from December 31, 1970 through December 31, 1983. Oppenheimer’s study assumed that all stocks meeting the investment criterion were purchased on December 31 of each year, held for one year, and replaced on December 31 of the subsequent year by stocks meeting the same criterion on that date. The total sample size was 645 net current asset selections. The smallest annual sample was 18 companies and the largest was 89 companies.

Oppenheimer’s conclusion about the returns from such stocks was nothing short of extraordinary:

The mean return from net current asset stocks for the 13-year period was 29.4% per year versus 11.5% per year for the NYSE-AMEX Index. One million dollars invested in the net current asset portfolio on December 31, 1970 would have increased to $25,497,300 by December 31, 1983. By comparison, $1,000,000 invested in the NYSE-AMEX Index would have increased to $3,729,600 on December 31, 1983. The net current asset portfolio’s exceptional performance over the entire 13 years was not consistent over smaller subsets of time within the 13-year period. For the three-year period, December 31, 1970 through December 31, 1973, which represents 23% of the 13-year study period, the mean annual return from the net current asset portfolio was .6% per year as compared to 4.6% per year for the NYSE-AMEX Index.

Perhaps most intriguing, though, was Oppenheimer’s conclusion about the relative outperformance of the loss-making stocks over the profitable ones:

The study also examined the investment results from the net current asset companies which operated at a loss (about one-third of the entire sample of companies) as compared to the investment results of the net current asset companies which operated profitably. The companies operating at a loss had slightly higher investment returns than the companies with positive earnings: 31.3% per year for the unprofitable companies versus 28.9% per year for the profitable companies.

We believe that Oppenheimer’s study presents a compelling argument for such an investment approach.

Low price in relation to book value

The second investment method falling under the rubric of “Assets bought cheap” is the “Low price in relation to book value” method. The booklet discusses a study conducted by Roger Ibbotson, Professor in the Practice of Finance at Yale School of Management and President of Ibbotson Associates, Inc., a consulting firm specializing in economics, investments and finance. In “Decile Portfolios of the New York Stock Exchange, 1967 – 1984,” Working Paper, Yale School of Management, 1986, Ibbotson studied the relationship between stock price as a proportion of book value and investment returns. To test this relationship, all stocks listed on the NYSE were ranked on December 31 of each year, according to stock price as a percentage of book value, and sorted into deciles. Ibbotson then measured the compound average annual returns for each decile for the 18-year period, December 31, 1966 through December 31, 1984.

Ibbotson found that stocks with a low price-to-book value ratio had significantly better investment returns over the 18-year period than stocks priced high as a proportion of book value. Tweedy Browne set out Ibbotson’s results in the following Table 1:


A second study conducted by Werner F.M. DeBondt and Richard H. Thaler, Finance Professors at University of Wisconsin and Cornell University, respectively, examined stock price in relation to book value in “Further Evidence on Investor Overreaction and Stock Market Seasonality,” The Journal of Finance, July 1987. DeBondt and Thaler ranked all companies listed on the NYSE and AMEX, except companies that were part of the S&P 40 Financial Index, according to stock price in relation to book value and then sorted them into quintiles on December 31 in each of 1969, 1971, 1973, 1975, 1977 and 1979. DeBondt and Thaler then calculated the investment return against the equal weighted NYSE Index over the subsequent four years for all of the stocks in each selection period. The four-year returns against the market index were then averaged.

The stocks in the lowest quintile had an average market price to book value ratio of 0.36 and an average earnings yield (the inverse of the P/E ratio) of 0.10 (indicating a P/E of 10). DeBondt and Thaler found a cumulative average return in excess of the market index over the four years of 40.7%. Meanwhile, the stocks in the highest quintile, those with an average market price to book value ratio of 3.42 and an average earnings yield of 0.147 (a P/E of 6.8), returned 1.3% less than the market index over the four years after portfolio formation.

Perhaps the most striking finding by DeBondt and Thaler, and one that accords with our view about the difficulty of predicting earnings with any degree of accuracy, was the contrast between the earnings pattern of the companies in the lowest quintile (average price/book value of 0.36) and the highest quintile (average price/book value of 3.42). Tweedy Browne set out DeBondt and Thaler’s findings in Table 3 below, which describes the average earnings per share for companies in the lowest and highest quintile of price/book value in the three years prior to selection and the four years subsequent to selection:


In the four years after the date of selection, the earnings of the companies in the lowest price/book value quintile increase 24.4%, more than the companies in the highest price/book value quintile, whose earnings increased only 8.2%. DeBondt and Thaler attribute the earnings outperformance of the companies in the lowest quintile to the phenomenon of “mean reversion,” which Tweedy Browne describes as the observation that “significant declines in earnings are followed by significant earnings increases, and that significant earnings increases are followed by slower rates of increase or declines.”

The booklet continues to discuss Tweedy Browne’s own findings confirming those of the studies described above, and a range of other studies that confirm the findings over different periods of time and in different countries. The findings form a compelling argument for an investment philosophy rooted in deep value and focused on assets, such as Greenbackd’s.

Buy my book The Acquirer’s Multiple: How the Billionaire Contrarians of Deep Value Beat the Market from on Kindlepaperback, and Audible.

Here’s your book for the fall if you’re on global Wall Street. Tobias Carlisle has hit a home run deep over left field. It’s an incredibly smart, dense, 213 pages on how to not lose money in the market. It’s your Autumn smart read. –Tom Keene, Bloomberg’s Editor-At-Large, Bloomberg Surveillance, September 9, 2014.

Click here if you’d like to read more on The Acquirer’s Multiple, or connect with me on Twitter, LinkedIn or Facebook. Check out the best deep value stocks in the largest 1000 names for free on the deep value stock screener at The Acquirer’s Multiple®.

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Seth Klarman, the founder of The Baupost Group, an exceptionally well-performed, deep value-oriented private investment partnership, is known for seeking idiosyncratic investments. The Baupost Group’s returns bear out his unusual strategy: Over the past 25 years, The Baupost Group has generated an annual compound return of 20% and is ranked 49th in Alpha’s hedge fund rankings.

Klarman detailed his investment process in Margin of Safety: Risk-Averse Value Investing Strategies for the Thoughtful Investor, an iconic book on value investing that is required reading for all value investors. Published in 1991, the book is long out-of-print and famously difficult to obtain. According to a 2006 Business Week article, The $700 Used Book: Why all the buzz about Seth Klarman’s out-of-print investing classic?:

The 249-page book is especially hot among those seeking jobs with value-oriented investment firms. “You win serious points for talking Klarman,” says a newly minted MBA who got his hands on a copy prior to a late-round interview with a top mutual fund firm. “It’s pretty much assumed that you’ve read Graham and Dodd and Warren Buffett.” (Benjamin Graham and David Dodd’s 1934 work, Security Analysis, is a seminal book on value investing, while Buffett’s annual letters to shareholders are considered gospel.) “The book belongs in the category of Buffett and Graham,” says Oakmark Funds manager Bill Nygren, a collector of stock market tomes.

In the book, Klarman carefully explains the rationale for an investment strategy grounded in the value school. He also discusses at some length several sources for value investment opportunities. Why is the book germane to Greenbackd’s ongoing discussion of liquidation value investment? One source of investment opportunity identified by Klarman is stocks trading below liquidation value.

Klarman’s attitude to liquidation value investment closely accords with our own, and so we’ve reproduced below the relevant portion of Chapter 8 The Art of Business Valuation in Margin of Safety, in which he provides the basis for making such investments and outlines his approach to assessing liquidation value:

Liquidation Value

The liquidation value of a business is a conservative assessment of its worth in which only tangible assets are considered and intangibles, such as going-concern value, are not. Accordingly, when a stock is selling at a discount to liquidation value per share, a near rock-bottom appraisal, it is frequently an attractive investment.

A liquidation analysis is a theoretical exercise in valuation but not usually an actual approach to value realization. The assets of a company are typically worth more as part of an going concern than in liquidation, so liquidation value is generally a worst-case assessment. Even when an ongoing business is dismantled, many of its component parts are not actually liquidated but instead are sold intact as operating entities. Breakup value is one form of liquidation analysis, this involves determining the highest value of each component of a business, either as an ongoing enterprise or in liquidation. Most announced corporate liquidations are really breakups; ongoing business value is preserved whenever it exceeds liquidation value.

How should investors value assets in a liquidation analysis? An orderly liquidation over time is virtually certain to realize greater proceeds than a “fire sale,” but time is not always available to a company in liquidation. When a business is in financial distress, a quick liquidation (a fire sale) may maximize the estate value. In a fire sale the value of inventory, depending on its nature, must be discounted steeply below carrying value. Receivables should probably be significantly discounted as well; the nature of the business, the identity of the customer, the amount owed, and whether or not the business is in any way ongoing all influence the ultimate realization from each receivable.

When no crisis is at hand, liquidation proceeds are usually maximized through a more orderly winding up of a business. In an orderly liquidation the values realized from disposing of current assets will more closely approximate stated book value. Cash, as in any liquidation analysis, is worth one hundred cents on the dollar. Investment securities should be valued at market prices, less estimated transaction costs in selling them. Accounts receivable are appraised at close to their face amount. The realizable value of inventories – tens of thousands of programmed computer diskettes hundreds of thousands of purple slippers, or millions of sticks of chewing gum – is not so easily determinable and may well be less than book value. The discount depends on whether the inventories consist of finished goods, work in process, or raw materials, and whether or not there is the risk of technological or fashion obsolescence. The value of inventory in a supermarket does not fluctuate much, but the value of a warehouse full of computers certainly may. Obviously a liquidation sale would yield less for inventory than would an orderly sale to regular customers.

The liquidation value of a company’s fixed assets can be difficult to determine. The value of plant and equipment, for example, depends on its ability to generate cash flows, either in the current use or in alternative uses. Some machines and facilities are multipurpose and widely owned; others may have value only to the present owner. The value of restaurant equipment, for example, is more readily determinable than the value of an aging steel mill.

In approximating the liquidation value of a company, some value investors, emulating Benjamin Graham, calculate “net-net working capital” as a shortcut. Net working capital consists of current assets (cash, marketable securities, receivables, and inventories) less current liabilities (accounts, notes, and taxes payable within one year.) Net-net working capital is defined as net working capital minus all long-term liabilities. even when a company has little ongoing business value, investors who buy at a price below net-net working capital are protected by the approximate liquidation value of current assets alone. As long as working capital is not overstated and operations are not rapidly consuming cash, a company could liquidate its assets, extinguish all liabilities, and still distribute proceeds in excess of the market price to investors. Ongoing business losses can, however, quickly erode net-net working capital. Investors must therefore always consider the state of a company’s current operations before buying. Investors should also consider any off-balance sheet or contingent liabilities that might be incurred in the course of an actual liquidation, such as plant closing and environmental laws.

A corporate liquidation typically connotes business failure; but ironically, it may correspond with investment success. The reason is that the liquidation or breakup of a company is a catalyst for the realization of the underlying business value. Since value investors attempt to buy securities trading at a considerable discount from the value of a business’s underlying assets, a liquidation is one way for investors to realize profits.

A liquidation is, in a sense, one of the few interfaces where the essence of the stock market is revealed. Are stocks pieces of paper to be endlessly traded back and forth, or are they proportional interests in underlying businesses? A liquidation settles this debate, distributing to owners of pieces of paper the actual cash proceeds resulting from the sale of corporate assets to the highest bidder. A liquidation thereby acts as a tether to reality for the stock market, forcing either undervalued or overvalued share prices to move into line with actual underlying value.

We’ll continue our discussion on Seth Klarman and his approach to liquidation value investment later this week.

Buy my book The Acquirer’s Multiple: How the Billionaire Contrarians of Deep Value Beat the Market from on Kindlepaperback, and Audible.

Here’s your book for the fall if you’re on global Wall Street. Tobias Carlisle has hit a home run deep over left field. It’s an incredibly smart, dense, 213 pages on how to not lose money in the market. It’s your Autumn smart read. –Tom Keene, Bloomberg’s Editor-At-Large, Bloomberg Surveillance, September 9, 2014.

Click here if you’d like to read more on The Acquirer’s Multiple, or connect with me on Twitter, LinkedIn or Facebook. Check out the best deep value stocks in the largest 1000 names for free on the deep value stock screener at The Acquirer’s Multiple®.

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Network Engines Inc (NASDAQ:NENG) has released its results for the quarter to December 31, 2008. We’ve adjusted our valuation down 7% from $25.5m or $0.59 per share to $23.8M or $0.55 per share. With the stock price at $0.51, we’re going to maintain our position for now, but we’re mindful that NENG is a perennial net net stock and so we might take the opportunity to exit if it gets to our target valuation of $0.55.

We started following NENG on January 13 when it was trading at $0.38, which gave it a market capitalization of just $16.5M. The stock is up 34.2% since our initial post to $0.51, which gives it a market capitalization of $22.0M. In November 2007, an activist investor, Trinad Management, pushed the company to “immediately [implement] a share buy-back program.” The company demurred and saw its stock sink to all-time lows.

The value proposition updated

NENG’s Q1 10Q shows an increase in cash, which seems to be largely as a result of reducing accounts receivable and inventories (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):



We are inclined to exit NENG if it gets to our $0.55 valuation. It’s a perennial net net stock, so we think there’s a good chance NENG will be back in net net land again. As we pointed out in our earlier post, Jonathan Heller of Cheap Stocks-fame mentioned it back in October 2005 in a list of the Top 20 Market Cap Companies Trading Below Net Current Asset Value. It was then trading around $1.30 against a net current asset value of around $1.31. Investors buying back in October 2005 had plenty of opportunity to unload the stock at a profit while it traded up to $3.17 in March 2006. We’re planning to do the same again, but at $0.55.

[Full Disclosure:  We do not have a holding in NENG. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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Audiovox Corporation (NASDAQ:VOXX) is a rarity in our universe: a profitable undervalued asset play. At its $3.73 close yesterday, VOXX has a market capitalization of $85.3M. We estimate the liquidation value to be 50% higher at around $128.4M or $5.60 per share. Howson Tattersal filed a 13D notice in September last year disclosing a 7.3% holding. While VOXX has been another perennial inclusion on lists of net-net stocks, we think it’s hard to ignore at this price.

About VOXX

VOXX is an “international distributor and value-added service provider in the accessory, mobile and consumer electronics industries.” The company markets its products under the Audiovox brand name and other brand names, including Acoustic Research, Advent, Ambico, Car Link, Chapman, Code-Alarm, Discwasher, Energizer, Heco, Incaar, Jensen, Mac Audio, Magnat, Movies2Go, Oehlbach, Phase Linear, Prestige, Pursuit, RCA, RCA Accessories, Recoton, Road Gear, Spikemaster and Terk, as well as private labels through a domestic and international distribution network. See the company’s website here. The company’s investor relations website is here.

The value proposition

VOXX’s sales, operating income and net income increased in the quarter ended November 30, 2008. Net sales for the third quarter were $195.6 million compared to net sales of $183.6 million reported in the comparable prior year period. Operating income was $10.7 million in the third quarter compared to $6.7 million in the preceding third quarter. Net income was $6.5 million compared to net income of $4.7 million in the comparable period. This doesn’t tell the full story however as operating activities used cash of $26.7M for the nine months ended November 30, 2008. The company used less cash for its operating activities compared to the prior year period ($92.9M), but it is still a concern for us. The balance sheet looks interesting (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

voxx-summaryWe’ve written down VOXX’s receivables by 20% to $144.2M or $6.30 per share and VOXX’s investory by 50% to $74.7M or $3.26 per share to arrive at a total current asset value of $236.7M or $10.35 per share. Deducting total liabilities gives a net current asset value of $119.1M or $5.21. We’ve discounted $46M in non-current assets to $9.2M or $0.40 per share, which, added to the net current assets, gives a liquidation value of around $128.4M or $5.61 per share.

Off-balance sheet arrangements and Contractual obligations

According to its most recent 10Q, VOXX does not maintain any off-balance sheet arrangements, transactions, obligations or other relationships with unconsolidated entities that would be expected to have a material current or future effect upon its financial condition or results of operations.

VOXX has around $42M in contractual cash obligations (including $11M in capital lease obligations and $31M in operating leases), around half of which falls due in the next 5 years and $23.7M falling due after 5 years. VOXX also has another $43M in unconditional purchase obligations falling due in the next 12 months.

The catalyst

Howson Tattersall Investment Counsel Limited filed its 13D notice on September 24, 2008 disclosing a 7.3% holding in VOXX. It seems from the filing that Howson Tattersall paid $18,825,883.44 for 1,508,075 shares in VOXX, giving them an  average purchase price around $12.50 per share. Given that Howson Tattersall has listed in the filing the “Date of Event Which Requires Filing of this Statement” as April 11, 2007, it’s possible that they are an example of the “reluctant activists” we referred to on Monday.


At $3.73, VOXX is trading at a discount to its net current asset value and around two-thirds of our estimate of its liquidation value of around $5.61 per share. We’ve got no particular insight into the business. The negative operating cash flow is an issue and its near term contractual obligations are significant. That aside, we think VOXX is a reasonable punt and we’re adding it to the Greenbackd Portfolio.

VOXX closed yesterday at $3.73.

The S&P500 Index closed yesterday at 789.17.

[Full Disclosure:  We do not have a holding in VOXX. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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Our posts on ValueVision Media Inc. (NASDAQ:VVTV) attract more attention than any other posts on this site, though we exited the position last year. We initially liked VVTV because it looked like a cheap net net with other potentially valuable assets. That was a mistake. VVTV has huge contractual obligations relative to its current assets.* Those contractual obligations are the difference between VVTV being a cheap net net and having no value in liquidation. Let us repeat that: VVTV has no value in liquidation. VVTV’s stockholders face an absolute loss of capital if VVTV fails. In other words, VVTV’s downside is 100%. We exited on that basis. Really, we should never have opened the position.

VVTV’s best chance to salvage some value for its stockholders lay in the auction process it was conducting. The auction process seems to have been reasonably extensive (the financial advisor contacted 137 parties and executed confidentiality agreements with 39 of them). It was also unsuccessful:

ShopNBC (Nasdaq: VVTV), the premium lifestyle brand in electronic retailing, today announced that the Special Committee of independent members of its Board of Directors has concluded its comprehensive review of strategic alternatives commenced on September 10, 2008, with the assistance of its independent financial advisor, Piper Jaffray & Co.

The Special Committee and Piper Jaffray broadly solicited expressions of interest in a purchase of or strategic relationship with the company and also evaluated several other strategic alternatives, including a distribution to shareholders through a sale of assets and liquidation of the company. While a number of parties engaged in the process and conducted due diligence, the Special Committee did not receive any final bids from any of the parties involved. In addition, the Special Committee concluded that a liquidation of the company would not likely result in any distribution to the company’s shareholders. Therefore, at the recommendation of the Special Committee, the full Board of Directors determined to continue and subsequently to conclude the strategic alternatives review process. As outlined in the accompanying press release, the company plans to continue its implementation of new corporate strategies designed to grow its EBITDA levels, increase revenues and decrease expenses.

Since September 10, 2008, Piper Jaffray contacted a total of 137 parties and executed confidentiality agreements with 39 of them. Initial indications of interest were received from 13 parties and, based on the credibility of their financing plans, four parties were invited to the second round of the sale process, which included in-depth discussions and meetings with management. Of the four, two were strategic parties and two were financial sponsors. Additionally, each of the four parties had access to an extensive electronic data room and the opportunity to conduct a thorough due diligence process.
The company encountered a number of external and internal issues that adversely affected the process, including current market conditions and economic circumstances, difficult retail and credit environments, the company’s recent operating performance and cost structure, uncertainty surrounding the status of the possible redemption of the Series A Redeemable Convertible Preferred Stock held by GE, and the early stage of the company’s cable and satellite distribution negotiations.
The Special Committee stated that after the conclusion of this extensive process, no final bids were received. “Over the last few months, we thoroughly explored a wide range of strategic alternatives and held extensive discussions with a number of interested parties,” commented George Vandeman, Chairman of the Special Committee and member of ShopNBC’s Board of Directors. “While we hoped to find a viable transaction through these discussions, no final bids were received. As a result, the Special Committee concluded and recommended to the Board that the best option at this time is to continue to operate the company as an independent entity.”

Notwithstanding the formal termination of the strategic alternatives process, the Special Committee and Board remain committed to maximizing shareholder value and will pursue any reasonable alternatives that present themselves.

The failure of the company to sell was obviously disappointing for those holding on for the conclusion of the auction process: the stock crashed from $0.52 to $0.28 on the day of the announcement and now trades at $0.26. There are now no other positive catalysts for the company in the near term. Those holding on for a turnaround in this particular situation might wish to consider two points:

  1. A position in VVTV carries the risk of a 100% loss of capital. From the press release: “The Special Committee concluded that a liquidation of the company would not likely result in any distribution to the company’s shareholders.”
  2. Of the four parties invited to the second round of the sale process, which included in-depth discussions and meetings with management, access to an extensive electronic data room and the opportunity to conduct a thorough due diligence process, none submitted a final bid.

*The obvious question is how we missed the contractual obligations. The answer’s not a particularly good one, but here it is: It was a rookie blunder. When we started applying Graham’s formula, we were applying it too narrowly and we missed anything that wasn’t carried in the financial statements, including VVTV’s huge contractual obligations. We figured it out after several commenters pointed it out first. We now make sure to at least consider whether a prospect’s contractual obligations, off-balance sheet arrangements or litigation could have a material effect on the asset value.

[Full Disclosure:  We do not have a holding in VVTV. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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