CASE STUDY: BIOREM (BRM.V / BIRMF)

November 24, 2024

BIOREM (BRM.V / BIRMF) has a mission to engineer, design, manufacture, and distribute the most innovative and effective air emissions abatement technologies in the world.

The company was established in 1990.  They are based near Guelph, Ontario (Canada) but they operate in 23 countries around the world.  BIOREM has done over 2,000 installations.  They have 50+ employees with an average tenure of 10-12 years.

BIOREM offers a full range of engineering and technical solutions.  The company is transitioning from being a capital equipment vendor to providing more services, such as upfront engineering, site work, or after sales market.

These are the areas the company works in:

    • Municipal Wastewater: collection system & headworks; liquid phase treatment; solid treatment.
    • Solid Waste Management: compost; anaerobic digestion; transfer stations; recycling facilities.
    • Industrial: pet food; chemical production; petrochemical; food & beverage; agribusiness; semiconductor; surface coatings; wood products.
    • Renewable Energy: biogas desulfurization; biogas conditioning; emissions abatement.

Here are the results from the third quarter of 2024 in Canadian dollars:

BIOREM reported record quarterly revenues for the third quarter of $14.9 million, an increase of 103% over the previous quarter and 170% higher than the same quarter in 2023.  Year to date revenues totalled $28.1 million, a 117% increase over the $13 million reported for the first nine months of 2023.  The increase in revenues is largely attributable to the increase in order bookings and continuing delivery of projects from the Company’s large order backlog.

The company commented:

During the quarter the Company booked $6.6 million in new orders resulting in an order backlog of $48.4 million on September 30, 2024.  This compares to an order backlog of $57 million on June 30, 2024 and $54.5 million as of September 30, 2023.

The Company expects order bookings to continue to grow and delivery of projects from the order backlog to continue generating strong revenue and earnings growth over the next 12 months.

“In the third quarter, delays related to industry-wide issues with construction projects eased somewhat, allowing BIOREM to catch up on orders in the Company’s backlog,” said Derek S. Webb, President and CEO. “Even as project deliveries accelerated, BIOREM’s sales funnel, outstanding bids, and order backlog remain robust with no signs of softening over the near- to medium-term.”

“Population growth and the need for significant increases in housing construction throughout North America is driving demand for municipal and industrial infrastructure projects that require air emission abatement systems.  BIOREM’s experience and performance in delivering both large and small successful air emission abatement projects makes them uniquely positioned to benefit over the long term from this growth cycle.”

Here are figures are in U.S. dollars: BIOREM reported EPS (earnings per share) of $0.12 on a fully diluted basis.  EBITDA is $2.18 million.  Cash flow is $3.17 million.  Revenue is $10.73 million.  The market cap is $31.1 million, while enterprise value is $28.5 million.

And here are the metrics of cheapness based on annualizing the most recent quarter:

    • EV/EBITDA = 3.27
    • P/E = 4.38
    • P/B = 4.36
    • P/CF = 2.45
    • P/S = 0.72

ROE is 59.7%, which is outstanding.

The Piotroski F_Score is 7, which is quite good.

Insider ownership is 16%, which is good.  Cash is $7.3 million while debt is $3.9 million.  TL/TA (total liabilities / total assets) is 59.0%, which is OK.

Intrinsic value scenarios:

    • Low case: If there’s a bear market and/or a recession, the stock could decline.  That would be a buying opportunity.
    • Mid case: BIOREM should have a P/E of at least 10.  That would mean the stock is worth $4.80, which is over 125% higher than today’s $2.10.
    • High case: Arguably, the company should have a P/E of 15.  That would mean the stock is worth $7.20, which is over 240% higher than today’s $2.10.
    • Very high case: If BIOREM can continue to grow its revenues and backlog, while also transitioning towards services instead of just capital equipment, the P/E could reach 20.  That would mean the stock is worth $9.60, which is over 355% higher than today’s $2.10.

 RISKS

    • If there’s a bear market or a recession, the stock would probably decline temporarily.
    • If the company does not continue to win new business, revenue and earnings would decline.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

The S&P 500 index is likely to decline 40% to 50% over the next 3 to 5 years

November 17, 2024

The Shiller P/E—also called the 10-year P/E or the cyclically adjusted P/E (CAPE)—recently exceeded 38.  This is in the top 0.5% of history.  The CAPE has only been higher one time—December 1999, when it reached 44.

However, according to John Hussman’s most reliable P/E ratio, the S&P 500 index today is at its most overvalued level ever, including December 1999.  John Hussman writes:

MarketCap/GVA is the ratio of the market capitalization of nonfinancial companies to gross value-added, including our estimate of foreign revenues, and is our most reliable gauge of market valuation (based on correlation with actual, subsequent 10-12 year S&P 500 total returns in market cycles across history).  The current level of 3.3 is the highest extreme in history, eclipsing both the 1929 and 2000 bubble peaks.

See: https://www.hussmanfunds.com/comment/mc240923/

The long-term average CAPE for the S&P 500 index is 17.  But even if we assume that the CAPE should be 20, that is still 47% lower than today’s CAPE of 38.

So the CAPE is likely to decline to somewhere in the range of 20 to 22.  This means that the S&P 500 index is likely to decline 40% to 50% over the next 3 to 5 years.

Warren Buffett, arguably the greatest investor of all time, has raised $325 billion in cash at Berkshire Hathaway.  So Buffett clearly thinks that market is overvalued.  In fact, Buffett says that total market cap to GNP is “probably the best single measure of where valuations stand at any given moment.”  Currently, the total market cap to GNP is 201%, one of its highest levels in history, comparable to December 1999.

When did Buffett last have so much cash as a percentage of Berkshire’s portfolio?

    • 2007 before the Great Financial Crisis
    • 1999-2000 before the internet bubble popped

 

INFLATION MAY PICK UP AGAIN

The consumer price index (CPI), which measures price growth across a basket of goods, ticked up to an annual pace of 2.6% in October – from 2.4% in September, which had been the slowest rate in more than three years.

Importantly, the 10-year treasury yield has increased from a recent September low of 3.649% to 4.445%.  The great macro investor Stanley Druckenmiller said just recently he trusts market prices more than he trusts professors.  The 10-year treasury is predicting that inflation will start increasing again, forcing the Fed to stop lowering rates and possibly to start raising rates.

If, in fact, inflation keeps increasing and the Fed has to keep rates high, that would probably be a catalyst for the S&P 500 index to start a 40% to 50% decline over the next 3 to 5 years.

That said, the catalyst for a bear market could be any number of things, including inflation inceasing, a possible recession, or something else the market is not currently considering.

 

BUBBLE HISTORIAN JEREMY GRANTHAM

As bubble historian Jeremy Grantham notes, there has never been a sustained rally starting from a 38 Shiller P/E.  The only bull markets that continued up from levels like this were the last 18 months in Japan 1989 and the U.S. tech bubble of 1998 and 1999.  Both of those great bubbles broke spectacularly.  Separately, there has also never been a sustained rally starting from full employment.

What happened to the 2021 bubble?  It appeared to be bursting conventionally in 2022—in the first half of 2022 the S&P declined more than any first half since 1939 when Europe was entering World War II.  As Grantham points out, previously in 2021, the market displayed all the classic signs of a bubble peaking: extreme investor euphoria; a rush to IPO and SPAC; and highly volatile speculative leaders beginning to fall in early 2021, even as blue chips rose enough to carry the whole market higher—a feature unique to the late-stage major bubbles of 1929, 1972, 2000, and now 2021.  Grantham writes:

But this historically familiar pattern was interrupted in December 2022 by the launch of ChatGPT and consequent public awareness of a new transformative technology—AI, which seems likely to be every bit as powerful and world-changing as the internet, and quite possibly much more so.

See: https://www.gmo.com/americas/research-library/the-great-paradox-of-the-u.s.-market_viewpoints

Grantham continues:

But every technological revolution like this—going back from the internet to telephones, railroads, or canals—has been accompanied by early massive hype and a stock market bubble as investors focus on the ultimate possibilities of the technology, pricing most of the very long-term potential immediately into current market prices.  And many such revolutions are in the end often as transformative as those early investors could see and sometimes even more so—but only after a substantial period of disappointment during which the initial bubble bursts.  Thus, as the most remarkable example of the tech bubble, Amazon led the speculative market, rising 21 times from the beginning of 1998 to its 1999 peak, only to decline by an almost inconceivable 92% from 2000 to 2002, before inheriting half the retail world!

So it is likely to be with the current AI bubble.  But a new bubble within a bubble like this, even one limited to a handful of stocks, is totally unprecedented, so looking at history books may have its limits.  But even though, I admit, there is no clear historical analogy to this strange new beast, the best guess is still that this second investment bubble—in AI—will at least temporarily deflate and probably facilitate a more normal ending to the original bubble, which we paused in December 2022 to admire the AI stocks.  It also seems likely that the after-effects of interest rate rises and the ridiculous speculation of 2020-2021 and now (November 2023 through today) will eventually end in a recession.

Grantham says to beware of FOMO (fear of missing out), which comes along at the end of every great bubble.  It’s incredibly seductive and hard to resist.

This bubble has crossed off all the boxes.  It’s done all the things that a super bubble typically does.

We had a 11-year bull market (2009 to 2020), the longest in history.

It requires crazy behavior—we’ve had some of the great crazy behavior of all time.

It needs to accelerate at something like 3x the average rate of the bull market.  It has done so.

At the end of every super bubble, the speculative stocks start to peel off and go down (even if the broad market goes up).  This has happened.  40% of all NASDAQ stocks are down over 50%.  This is the beginning of the end of the bubble: speculative stocks go down even as the market goes up. It’s a very rare condition that only previously happened in 1929, 1972, 2000.

Grantham concludes by asserting:

It is likely that we are at the beginning of a crash.

It would be unlikely that the market would not come down 50% from its peak.

And it would be unusual if the speculative stocks did not do worse than that.

 

CONCLUSION

Benjamin Graham and David Dodd, in Security Analysis (1934), wrote:

The ‘new era’ doctrine – that ‘good’ stocks were sound investments regardless of how high the price paid for them – was at bottom only a means of rationalizing under the title of ‘investment’ the well-nigh universal capitulation to the gambling fever.  The notion that the desirability of a common stock was entirely independent of its price seems incredibly absurd.  Yet the new-era theory led directly to this thesis… An alluring corollary of this principle was that making money in the stock market was now the easiest thing in the world.  It was only necessary to buy ‘good’ stocks, regardless of price, and then to let nature take her upward course. The results of such a doctrine could not fail to be tragic.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

The Kelly Criterion: Bet Big When You Have the Odds

November 10, 2024

As a long-term value investor, how does one maximize long-term returns? Being hyper-selective – choosing the top 0.1% of ideas – is essential.

But something else that is essential is bet sizing. There’s actually a simple mathematical formula – the Kelly criterion – that tells you exactly how much to bet in order to maximize your long-term returns.

Both Warren Buffett and Charlie Munger are proponents of the essential logic of the Kelly criterion: bet big when you have the odds, otherwise don’t bet.  Here’s Charlie Munger:

The wise ones bet heavily when the world offers them that opportunity. They bet big when they have the odds. And the rest of the time, they don’t. It’s just that simple.

As for Buffett, he famously invested 40% of his hedge fund into American Express in the late 1960s. Buffett realized a large profit. Later, Buffett invested 25% of Berkshire Hathaway’s portfolio in Coca-Cola. Buffett again enjoyed a large profit of more than 10x (and counting).

Some history of the Kelly criterion:

Claude Shannon was a fascinating character–he often rode a unicycle while juggling, and his house was filled with gadgets.  Shannon’s master’s thesis was arguably the most important and famous master’s thesis of the twentieth century.  In it, he proposed binary digit or bit, as the basic unit of information.  A bit could have only two values–0 or 1, which could mean true or falseyes or no, or on or off.  This allowed Boolean algebra to represent any logical relationship.  This meant that the electrical switch could perform logic functions, which was the practical foundation for all digital circuits and computers.

The mathematician Ed Thorp, a colleague of Shannon’s at MIT, had discovered a way to beat the casinos at blackjack.  But Thorp was trying to figure out how to size his blackjack bets as a function of how favorable the odds were.  Someone suggested to Thorp that he talk to Shannon about it.  Shannon recalled a paper written by a Bell Labs colleague of his, John Kelly, that dealt with this question.

The Kelly criterion can be written as follows:

    • F = p – [q/o]

where

    • F = Kelly criterion fraction of current capital to bet
    • o = Net odds, or dollars won per $1 bet if the bet wins (e.g., the bet may pay 5 to 1, meaning you win $5 per each $1 bet if the bet wins)
    • p = probability of winning
    • q = probability of losing = 1 – p

The Kelly criterion has a unique mathematical property: if you know the probability of winning and the net odds (payoff), then betting exactly the percentage determined by the Kelly criterion leads to the maximum long-term compounding of capital, assuming that you’re going to make a long series of bets. Betting any percentage that is not equal to that given by the Kelly criterion will inevitably lead to lower compound growth over a long period of time.

Thorp proceeded to use the Kelly criterion to win quite a bit of money at blackjack, at least until the casinos began taking countermeasures such as cheating dealers, frequent reshuffling, and outright banning.  But Thorp realized that the stock market was also partly inefficient, and it was a far larger game.

Thorp launched a hedge fund that searched for little arbitrage situations (pricing discrepancies) involving warrants, options, and convertible bonds.  In order to size his positions, Thorp used the Kelly criterion.  Thorp evolved his approach over the years as previously profitable strategies were copied.  His multi-decade track record was terrific.

Ed Thorp examined Buffett’s career and concluded that Buffett has used the essential logic of the Kelly criterion by concentrating his capital into his best ideas.  Buffett’s concentrated value approach has produced an outstanding, unparalleled 66-year track record.

Thorp has made several important points about the Kelly criterion as it applies to long-term value investing. The Kelly criterion was invented to apply to a very long series of bets. Value investing differs because even a concentrated value investing approach will usually have at least 5-8 positions in the portfolio at the same time. Thorp argues that, in this situation, the investor must compare all the current and prospective investments simultaneously on the basis of the Kelly criterion.

In The Dhandho Investor, Mohnish Pabrai gives an example showing how you can use the Kelly criterion on your top 8 ideas, and then normalize the position sizes.

Say you look at your top 8 investment ideas. You use the Kelly criterion on each idea separately to figure out how large the position should be, and this is what you conclude about the ideal bet sizes:

    • Bet 1 – 80%
    • Bet 2 – 70%
    • Bet 3 – 60%
    • Bet 4 – 55%
    • Bet 5 – 45%
    • Bet 6 – 35%
    • Bet 7 – 30%
    • Bet 8 – 25%

Of course, that adds up to 400%.  Yet for a value investor, especially running a concentrated portfolio of 5-8 positions, it virtually never makes sense to buy stocks on margin.  Leverage cannot make a bad investment into a good investment, but it can turn a good investment into a bad investment.  So you don’t need any leverage.  It’s better to compound at a slightly lower rate than to risk turning a good investment into a bad investment because you lack staying power.

So the next step is simply to normalize the position sizes so that they add up to 100%.  Since the original portfolio adds up to 400%, you just divide each position by 4:

    • Bet 1 – 20%
    • Bet 2 – 17%
    • Bet 3 – 15%
    • Bet 4 – 14%
    • Bet 5 – 11%
    • Bet 6 – 9%
    • Bet 7 – 8%
    • Bet 8 – 6%

(These percentages are rounded for simplicity.)

As mentioned earlier, if you truly know the odds of each bet in a long series of bets, the Kelly criterion tells you exactly how much to bet on each bet in order to maximize your long-term compounded rate of return.  Betting any other amount will lead to lower compound returns.  In particular, if you repeatedly bet more than what the Kelly criterion indicates, you eventually will destroy your capital.

It’s nearly always true when investing in a stock that you won’t know the true odds or the true future scenarios.  You usually have to make an estimate.  Because you never want to bet more than what the Kelly criterion says, it is wise to bet one half or one quarter of what the Kelly criterion says.  This is called half-Kelly or quarter-Kelly betting.  What is nice about half-Kelly betting is that you will earn three-quarters of the long-term returns of what full Kelly betting would deliver, but with only half the volatility.

So in practice, if there is any uncertainty in your estimates, you want to bet half-Kelly or quarter-Kelly.  In the case of a concentrated portfolio of 5-8 stocks, you will frequently end up betting half-Kelly or quarter-Kelly because you are making 5-8 bets at the same time.  In Mohnish’s example, you end up betting quarter-Kelly in each position once you’ve normalized the portfolio.

When running the Buffett Partnership, Warren Buffett invested 40% of the partnership in American Express after the stock had been cut in half following the salad oil scandal. American Express had to announce a $60 million loss, a huge hit given its total market capitalization of roughly $150 million at the time. But Buffett determined that the essential business of American Express–travelers’ checks and charge cards–had not been permanently damaged. American Express still had a very valuable moat.

Buffett explained his reasoning in several letters to limited partners:

We might invest up to 40% of our net worth in a single security under conditions coupling an extremely high probability that our facts and reasoning are correct with a very low probability that anything could change the underlying value of the investment.

We are obviously only going to go to 40% in very rare situations–this rarity, of course, is what makes it necessary that we concentrate so heavily, when we see such an opportunity.  We probably have had only five or six situations in the nine-year history of the partnerships where we have exceeded 25%.  Any such situations are going to have to promise very significant superior performance… They are also going to have to possess such superior qualitative and/or quantitative factors that the chance of serious permanent loss is minimal…

There’s virtually no such thing as a sure bet in the stock market. But there are situations where the odds of winning are very high or where the potential upside is substantial.

One final note: In constructing a concentrated portfolio of 5-8 stocks, if at least some of the positions are non-correlated or even negatively correlated, then the volatility of the overall portfolio can be reduced.  Some top investors prefer to have about 15 positions with low correlations.  Ray Dalio does this.

Once you get to at least 25 positions, specific correlations typically tend not to be an issue, although some investors may end up concentrating on specific industries.  In fact, it often may make sense to concentrate on industries that are deeply out-of-favor.

Mohnish concludes:

…It’s all about the odds. Looking out for mispriced betting opportunities and betting heavily when the odds are overwhelmingly in your favor is the ticket to wealth.  It’s all about letting the Kelly Formula dictate the upper bounds of these large bets.  Further, because of multiple favorable betting opportunities available in equity markets, the volatility surrounding the Kelly Formula can be naturally tamed while still running a very concentrated portfolio.

In sum, top value investors like Warren Buffett, Charlie Munger, and Mohnish Pabrai–to name just a few out of many–naturally concentrate on their best 5-8 ideas, at least when they’re managing a small enough amount of money.  (These days, Berkshire’s portfolio is massive, which makes it much more difficult to concentrate, let alone to find hidden gems among microcap stocks.)

You have to take a humble look at your strategy and your ability before deciding on your level of concentration.  The Boole Microcap Fund that I manage is designed to focus on the top 5-8 ideas.  This is concentrated enough so that the best performers–whichever stocks they turn out to be–can make a difference to the portfolio.  But it is not so concentrated that it misses the best performers.  In practice, the best performers very often turn out to be idea #5 or idea #8, rather than idea #1 or idea #2.  Many top value investors–including Peter Cundill, Joel Greenblatt, and Mohnish Pabrai–have found this to be true.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY: Perma-Pipe International Holdings (PPIH)

November 3, 2024

Perma-Pipe International Holdings (PPIH) makes specialty pipes which have coatings and linings for various harsh-condition transportation of oil, chemicals, and water. End markets are oil & gas, chemical, and infrastructure.  PPIH also makes leak detection systems.

In the company’s most recent quarter, it reported EPS (earnings per share) of $0.40 versus $0.13 in the prior year.  Furthermore, PPIH has a backlog of $75.5 million, which does not include $46 million in additional rewards secured subsequent  to the end of the quarter.

The company is poised to continue increasing its EPS if they can continue increasing their revenues.  This is a real possibility because PPIH provides products and services to Middle East regions that are investing in long-term infrastructure projects.

The market cap is $101.9 million, while enterprise value is $128.0 million.

Here are the metrics of cheapness:

    • EV/EBITDA = 5.42
    • P/E = 6.65
    • P/B = 1.49
    • P/CF = 6.78
    • P/S = 0.65

ROE is 28.3%, which is good.

The Piotroski F_Score is 7, which is quite good.

Insider ownership is 11.1%, which is decent.  Cash is $9.5 million, while debt $35.5 million.  Total liabilities to total assets is 51.9%, which is OK.

Intrinsic value scenarios:

    • Low case: If there’s a bear market and/or a recession, the stock could decline.  That would be a buying opportunity.
    • Mid case: The company should have a P/E of at least 12.  That would mean the stock is worth $23.06, which is about 80% higher than today’s $12.78.
    • High case: Arguably, the company should have a P/E of 15.  That would mean the stock is worth $28.83, which is over 125% higher than today’s $12.78.
    • Very high case: If PPIH can continue to ramp its revenues, the P/E could reach 20.  That would mean the stock is worth $38.44, which is 200% higher than today’s $12.78.

 RISKS

    • If there’s a bear market or a recession, the stock would probably decline.
    • If the company does not continue to win new business, revenue and earnings would decline.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY: PCS Edventures! (PCSV)

October 27, 2024

PCS Edventures! (PCSV) offers a large catalog of STEAM curriculum (Science, Technology, Engineering, Art, and Math) and materials in the United States.  Customers are schools and school districts from kindergarten through the collegiate level.  Customers also include providers of after-school programs, home-school programs,  summer programs, and corporate outreach programs.

PSCV differentiates itself in the very fragmented STEAM education market by being more professional and by providing excellent customer service.  Furthermore, the company has demonstrated an ability to create engaging new courseware for kids.  For instance, in 2016 PCSV quickly developed an education drone kit and curriculum when the company saw the drone market develeoping.  And PCSV was one of the first to create a podcasting for kids curriculum and kit.  This capability to speedily adjust and produce content valued by kids has been central to the company’s ability to win market share.

PSCV has many repeat customers.  They’ve also been able to win larger orders from government programs such as the U.S. Air Force Junior ROTC.

Although PSCV’s quarter-to-quarter results can be lumpy, they continue to add more customers on a yearly basis.

The market cap is $31.55 million.

Metrics of cheapness:

    • EV/EBITDA = 6.16
    • P/E = 6.34
    • P/B = 3.58
    • P/CF = 9.75
    • P/S = 3.28

Normalized ROE is 38%, which is sustainable.

The Piotroski F_Score is 8, which is excellent.

Insider ownership is 61.99%, which is outstanding.  Cash is $2.65 million, while debt is only $259k.  Total liabilities to total assets is 7.65%, which is superb.

Intrinsic value scenarios:

    • Low case: If there’s a bear market and/or a recession, the stock could decline.  That would be a buying opportunity.
    • Mid case: The company should have a P/E of at least 12.  That would mean the stock is worth $0.47, which is about 90% higher than today’s $0.25.
    • High case: Arguably, the company should have a P/E of 15.  That would mean the stock is worth $0.59, which is over 135% higher than today’s $0.25.
    • Very high case: The company could maintain its normalized ROE of 38%, in which case the stock could compound for many years.

 RISKS

    • PSCV may not continue to win customers.  This seems unlikely but it’s possible.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY: Zoomd Technologies (ZOMD.V / ZMDTF)

October 6, 2024

Zoomd Technologies (ZOMD.V in Canada and ZMDTF over-the-counter) is a marketing technology user-acquisition and engagement platform.  “The company operates a mobile app user-acquisition platform that integrates with various digital media outlets.  Its platform presents a unified view of various media sources to serve as a comprehensive user acquisition control center for advertisers and streamlines campaign management through a single point of contact.  It also offers app marketing services.  The company is based in Toronto, Canada.” Source of quote: https://seekingalpha.com/symbol/ZOMD:CA

Here is the company’s most recent investor presentation: https://tinyurl.com/32wrhas4

Mobile media budgets are rapidly expanding, making mobile media devices the primary screen for advertisers’ media expenditures.  Consumer spending in mobile apps is expected to continue its upward trend.

Zoomd helps companies navigate the complicated ‘outside the walled gardens’ space, where about half the marketing budget is spent.

Zoomd enables brands to expand globally with the least resources and the greatest impact, offering access to a substantial network of both global and local media channels through a single, unified service provider.

Zoomd is entrusted by global brands with customer acquisition.  Zoomd’s top ten clients have been with Zoomd for an average of three years.

Since Q2-2023, under the direction of new CEO Ido Almany, Zoomd has engaged in strategic refocusing and the company’s performance has improved, including net income growth for 5 consecutive quarters and solidly positive net income of $2.27 million in Q2-2024.  Also, revenue grew by 60% from Q1-2024 to Q2-2024.

Furthermore, from Q2-2023 to Q2-2024 under the direction of Almany, operating costs as a percentage of revenues have declined from 42% to 21%.

The market cap is $32.01 million, while enterprise value is $31.24 million.

Metrics of cheapness:

    • EV/EBITDA = 5.86
    • P/E = 11.09
    • P/B = 2.86
    • P/CF = 9.28
    • P/S = 0.94

ROE is 23.49%.  This appears to be sustainable.

The Piotroski F_Score is 6, which is decent.

Insider ownership is 22.95%, which is excellent.  Cash is $4.39 million, while debt is $3.63 million.  Total liabilities to total assets is 47.6%, which is pretty good.

Intrinsic value scenarios:

    • Low case: If there’s a bear market or a recession and/or if demand for the company’s products decreases, the stock could decline.
    • Mid case: Annual EPS could reach at least $0.09 if the most recent quarter’s net income is matched or exceeded.  With a P/E of 10, the stock would be worth $0.90 per share, which is 170% higher than today’s $0.3328 share price.
    • High case: The company’s performance could continue to improve.  Annual EPS could reach $0.12.  With a P/E of 12, the stock would be worth $1.44 per share, which is 330% higher than today’s $03328.

 RISKS

    • Customer concentration: The company’s top 10 customers represent the vast majority of the revenues.
    • Increasing competition and emerging technological changes could challenge Zoomd’s ability to stay relevant and to capture new customers.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY UPDATE: Journey Energy (JOY.TO / JRNGF)

September 29, 2024

Journey Energy is a Canadian oil and gas producer that is also becoming a significant producer of electric power.  Journey’s stock is extremely cheap and the company is poised for significant growth in 2025.

The CEO Alex Verge has a long history of creating value in the oil and gas industry.  And he has bought a great deal of Journey Energy stock on the open market.

The market cap is $109.7 million, while enterprise value is $143.4 million.

Metrics of cheapness:

    • EV/EBITDA = 3.04
    • P/E = 9.34
    • P/B = 0.46
    • P/CF = 1.86
    • P/S = 0.73

(The P/E is based on forward earnings.)

ROE is 3.85% but will increase in 2025.

The Piotroski F_Score is 5, which is OK.  This also will likely improve in 2025.

Insider ownership is 7.6%, which is solid.  Cash is $18.91 million, while debt is $64.29 million, almost all of which is due in 2029.  Total liabilities to total assets is 46.4%, which is decent.

Intrinsic value scenarios:

    • Low case: If there’s a bear market or a recession and/or if oil prices decline, the stock could decline. This would be a buying opportunity.
    • Mid case: NAV based only on proved developed producing assets is $3.70 per share, which is 105% higher than the current stock price of $1.80 per share.
    • High case: EV/EBITDA today is 3.04 but should be approximately 8.00.  That would mean an enterprise value of $377.37 million or a market cap of $343.67 million.  This means an intrinsic value of $5.64 per share, which is over 210% higher than today’s $1.80.

 RISKS

    • If there’s a bear market or a recession, the stock could decline temporarily.
    • Oil prices may even decline.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY: Daktronics (DAKT)

September 22, 2024

Daktronics Inc. (DAKT) is the domestic industry standard in live events large screens—in which it has over 70% market share—and the market leader in scoreboards, digital billboards, and other programmable display solutions—in which it has 45% market share.  The North American LED display market (90% of DAKT revenue) is expected to grow at a +20% CAGR and at a more rapid pace globally through 2028.

h/t deerwood on Value Investors Club: https://valueinvestorsclub.com/idea/DAKTRONICS_INC/7741731149#description

Moreover, the upgrade cycle from legacy LCD and older LED displays (SDR and 4-K) to next generation in HDR LED (higher resolution, more colors, better image clarity, content legibility, brightness, versatility, and durability) is still in its earlier stages with arena upgrades now much broader in size and scope.

Importantly, under the guidance of activists including Andrew Siegel, the board and, in turn, the company are very focused on margins, pricing discipline, and ROIC.

Also, keep in mind that roughly $100 million in orders per quarter never show up in the backlog due to short lead times.

The bottom line is that Daktronics has the best image quality and reliability in the industry.  They are the go-to for pro sports and live entertainment venues.

The market cap is $564.45 million, while enterprise value is $543.61 million.

Metrics of cheapness:

    • EV/EBITDA = 6.10
    • P/E = 10.69
    • P/B = 2.37
    • P/CF = 5.31
    • P/S = 0.69

(The P/E is based on forward earnings.)

ROE is 25.8%, which is excellent.

The Piotroski F_Score is 6, which is decent.

Insider ownership is 13.3%, which is solid.  Cash is $96.81 million, while debt is $75.97 million.  TL/TA is 54.8%, which is reasonable.

Intrinsic value scenarios:

    • Low case: If there’s a bear market or a recession, the stock could decline. This would be a buying opportunity.
    • Mid case: EPS should be approximately $1.45 to $1.55. With a P/E of 15, the stock would be worth $21.75 to $23.25, which is about 80% to 90% higher than today’s $12.13.
    • High case: The company can probably sustain its ROE around 25.8%, which means that an investor who buys and holds the stock can likely enjoy close to 25% annual returns over time.

 

RISKS

    • If there’s a bear market or a recession, the stock could decline temporarily.
    • While Samsung’s performance in large event installations has been mixed, it could bid aggressively for future contracts in order to gain commercial placement of its brand name in arenas.
    • Commercial Construction Slowdown: C&I lending activity will likely be a headwind for office and other sub-segments.  The company has very limited exposure to that area of commercial construction and overall new building.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

CASE STUDY: ADF Group (DRX.TO / ADFJF)

September 15, 2024

ADF designs and engineers complex steel structures including airports, stadiums, office towers, manufacturing plants, warehouse facilities, and transportation infrastructure.  Some of their sample projects include:

    • Miami International Airport
    • Lester B. Pearson International Airport (Toronto)
    • Logan Airport Pedestrian Bridges
    • One World Trade Center
    • Goldman Sachs HQ
    • M&T Bank Stadium (home of the Baltimore Ravens)
    • Ford Field (home of Detroit Lions)
    • Daimler-Chrysler Automotive Plant
    • Paccar (Kenworth Trucks) Assembly Plant Expansion
    • steel bridges and overpasses in Jamaica

Complex construction projects have higher pricing.  And there’s less competition for building them because few fabricators are equipped to do this work for these reasons:

    • A more specialized labor force is needed.
    • Strange angles mean more complex welding.
    • Larger components require a larger fabrication base and more lifting capacity.
    • Other special equipment is often needed.

ADF has two facilities – a 635k sqft plant in Quebec, and a 100k sqft plant in Montana.  Roughly 90-95% of revenues have come from the United States and only 5-10% from Canada.

Important Note: Although infrastructure spending can be cyclical, management believes that it has 3-5 years of revenue growth ahead of itself based on infrastructure spending needs across North America.

Here are the metrics of cheapness:

    • EV/EBITDA = 5.30
    • P/E = 8.6
    • P/B = 2.20
    • P/CF = 5.56
    • P/S = 1.10

The market cap is $288.83 million while enterprise value is $267.61. Cash is $56.3 million while debt is $34.9 million.

The Piostroski F_Score is 8, which is very good.

Insider ownership is 46%, which is outstanding. ROE is 30.67%, which is excellent.

Intrinsic value scenarios:

    • Low case: If there’s a bear market or a recession, the stock could decline 50%. This would be a buying opportunity.
    • Mid case: The current P/E is 8.6, but it should be at least 16.  That means fair value for the stock is at least $16.43, which is over 85% higher than today’s $8.83.
    • High case: Assuming a 10x EV/EBITDA for fiscal year 2025, the stock would be worth $22.69, which is over 155% higher than today’s $8.83.

 

RISKS

    • A Republican victory in the U.S. presidential election would be a negative for infrastructure spending.  However, ADF has not yet seen the benefit of the 2021 Infrastructure Bill, meaning that ADF’s revenue growth is not reliant on new government spending over the next few years.
    • A U.S. recession is quite possible, but ADF sees 3-5 years of revenue growth ahead.

h/t devo791 of Value Investors Club, who wrote up ADF Group here: https://valueinvestorsclub.com/idea/ADF_GROUP_INC/9574466948

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

 

 

 

Disclosures: Past performance is not a guarantee or a reliable indicator of future results. All investments contain risk and may lose value. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Boole Capital, LLC

There’s Always Something to Do

June 30, 2024

There’s Always Something to Do: The Peter Cundill Investment Approach, by Christopher Risso-Gill (2011), is an excellent book. Cundill was a highly successful deep value investor whose chosen method was to buy stocks below their liquidation value.

Here is an outline for this blog post:

  • Peter Cundill
  • Getting to First Base
  • Launching a Value Fund
  • Value Investment in Action
  • Going Global
  • A Decade of Success
  • Investments and Stratagems
  • Learning From Mistakes
  • Entering the Big League
  • There’s Always Something Left to Learn
  • Pan Ocean
  • Fragile X
  • What Makes a Great Investor?
  • Glossary of Terms with Cundill’s Comments

 

PETER CUNDILL

It was December in 1973 when Peter Cundill first discovered value investing. He was 35 years old at the time. Up until then, despite a great deal of knowledge and experience, Cundill hadn’t yet discovered an investment strategy. He happened to be reading George Goodman’s Super Money on a plane when he came across chapter 3 on Benjamin Graham and Warren Buffett. Cundill wrote about his epiphany that night in his journal:

…there before me in plain terms was the method, the solid theoretical back-up to selecting investments based on the principle of realizable underlying value. My years of apprenticeship were over: ‘THIS IS WHAT I WANT TO DO FOR THE REST OF MY LIFE!’

What particularly caught Cundill’s attention was Graham’s notion that a stock is cheap if it sells below liquidation value. The farther below liquidation value the stock is, the higher the margin of safety and the higher the potential returns. This idea is at odds with modern finance theory, according to which getting higher returns always requires taking more risk.

Peter Cundill became one of the best value investors in the world. He followed a deep value strategy based entirely on buying companies below their liquidation values.

We do liquidation analysis and liquidation analysis only.

 

GETTING TO FIRST BASE

One of Cundill’s first successful investments was in Bethlehem Copper. Cundill built up a position at $4.50, roughly equal to cash on the balance sheet and far below liquidation value:

Both Bethlehem and mining stocks in general were totally out of favour with the investing public at the time. However in Peter’s developing judgment this was not just an irrelevance but a positive bonus. He had inadvertently stumbled upon a classic net-net: a company whose share price was trading below its working capital, net of all its liabilities. It was the first such discovery of his career and had the additional merit of proving the efficacy of value theory almost immediately, had he been able to recognize it as such. Within four months Bethlehem had doubled and in six months he was able to start selling some of the position at $13.00. The overall impact on portfolio performance had been dramatic.

Riso-Gill describes Cundill as having boundless curiosity. Cundill would not only visit the worst performing stock market in the world near the end of each year in search of bargains. But he also made a point of total immersion with respect to the local culture and politics of any country in which he might someday invest.

 

LAUNCHING A VALUE FUND

Early on, Cundill had not yet developed the deep value approach based strictly on buying below liquidation value. He had, however, concluded that most models used in investment research were useless and that attempting to predict the general stock market was not doable with any sort of reliability. Eventually Cundill immersed himself in Graham and Dodd’s Security Analysis, especially chapter 41, “The Asset-Value Factor in Common-Stock Valuation,” which he re-read and annotated many times.

When Cundill was about to take over an investment fund, he wrote to the shareholders about his proposed deep value investment strategy:

The essential concept is to buy under-valued, unrecognized, neglected, out of fashion, or misunderstood situations where inherent value, a margin of safety, and the possibility of sharply changing conditions created new and favourable investment opportunities. Although a large number of holdings might be held, performance was invariably established by concentrating in a few holdings. In essence, the fund invested in companies that, as a result of detailed fundamental analysis, were trading below their ‘intrinsic value.’ The intrinsic value was defined as the price that a private investor would be prepared to pay for the security if it were not listed on a public stock exchange. The analysis was based as much on the balance sheet as it was on the statement of profit and loss.

Cundill went on to say that he would only buy companies trading below book value, preferably below net working capital less long term debt (Graham’s net-net method). Cundill also required that the company be profitable–ideally having increased its earnings for the past five years–and dividend-paying–ideally with a regularly increasing dividend. The price had to be less than half its former high and preferably near its all time low. And the P/E had to be less than 10.

Cundill also studied past and future profitability, the ability of management, and factors governing sales volume and costs. But Cundill made it clear that the criteria were not always to be followed precisely, leaving room for investment judgment, which he eventually described as an art form.

Cundill told shareholders about his own experience with the value approach thus far. He had started with $600,000, and the portfolio increased 35.2%. During the same period, the All Canadian Venture Fund was down 49%, the TSE industrials down 20%, and the Dow down 26%. Cundill also notes that 50% of the portfolio had been invested in two stocks (Bethlehem Copper and Credit Foncier).

About this time, Irving Kahn became a sort of mentor to Cundill. Kahn had been Graham’s teaching assistant at Columbia University.

 

VALUE INVESTMENT IN ACTION

Having a clearly defined set of criteria helped Cundill to develop a manageable list of investment candidates in the decade of 1974 to 1984 (which tended to be a good time for value investors). The criteria also helped him identify a number of highly successful investments.

For example, the American Investment Company (AIC), one of the largest personal loan companies in the United States, saw its stock fall from over $30.00 to $3.00, despite having a tangible book value per share of $12.00. As often happens with good contrarian value candidates, the fears of the market about AIC were overblown. Eventually the retail loan market recovered, but not before Cundill was able to buy 200,000 shares at $3.00. Two years later, AIC was taken over at $13.00 per share by Leucadia. Cundill wrote:

As I proceed with this specialization into buying cheap securities I have reached two conclusions. Firstly, very few people really do their homework properly, so now I always check for myself. Secondly, if you have confidence in your own work, you have to take the initiative without waiting around for someone else to take the first plunge.

…I think that the financial community devotes far too much time and mental resource to its constant efforts to predict the economic future and consequent stock market beaviour using a disparate, and almost certainly incomplete, set of statistical variables. It makes me wonder what might be accomplished if all this time, energy, and money were to be applied to endeavours with a better chance of proving reliable and practically useful.

Meanwhile, Cundill had served on the board of AIC, which brought some valuable experience and associations.

Cundill found another highly discounted company in Tiffany’s. The company owned extremely valuable real estate in Manhattan that was carried on its books at a cost much lower than the current market value. Effectively, the brand was being valued at zero. Cundill accumulated a block of stock at $8.00 per share. Within a year, Cundill was able to sell it at $19.00. This seemed like an excellent result, except that six months later, Avon Products offered to buy Tiffany’s at $50.00. Cundill would comment:

The ultimate skill in this business is in knowing when to make the judgment call to let profits run.

Sam Belzberg–who asked Cundill to join him as his partner at First City Financial–described Cundill as follows:

He has one of the most important attributes of the master investor because he is supremely capable of running counter to the herd. He seems to possess the ability to consider a situation in isolation, cutting himself off from the mill of general opinion. And he has the emotional confidence to remain calm when events appear to be indicating that he’s wrong.

 

GOING GLOBAL

Partly because of his location in Canada, Cundill early on believed in global value investing. He discovered that just as individual stocks can be neglected and misunderstood, so many overseas markets can be neglected and misunderstood. Cundill enjoyed traveling to these various markets and learning the legal accounting practices. In many cases, the difficulty of mastering the local accounting was, in Cundill’s view, a ‘barrier to entry’ to other potential investors.

Cundill also worked hard to develop networks of locally based professionals who understood value investing principles. Eventually, Cundill developed the policy of exhaustively searching the globe for value, never favoring domestic North American markets.

 

A DECADE OF SUCCESS

Cundill summarized the lessons of the first 10 years, during which the fund grew at an annual compound rate of 26%. He included the following:

  • The value method of investing will tend at least to give compound rates of return in the high teens over longer periods of time.
  • There will be losing years; but if the art of making money is not to lose it, then there should not be substantial losses.
  • The fund will tend to do better in slightly down to indifferent markets and not to do as well as our growth-oriented colleagues in good markets.
  • It is ever more challenging to perform well with a larger fund…
  • We have developed a network of contacts around the world who are like-minded in value orientation.
  • We have gradually modified our approach from a straight valuation basis to one where we try to buy securities selling below liquidation value, taking into consideration off-balance sheet items.
  • THE MOST IMPORTANT ATTRIBUTE FOR SUCCESS IN VALUE INVESTING IS PATIENCE, PATIENCE, AND MORE PATIENCE. THE MAJORITY OF INVESTORS DO NOT POSSESS THIS CHARACTERISTIC.

 

INVESTMENTS AND STRATAGEMS

Buying at a discount to liquidation value is simple in concept. But in practice, it is not at all easy to do consistently well over time. Peter Cundill explained:

None of the great investments come easily. There is almost always a major blip for whatever reason and we have learnt to expect it and not to panic.

Although Cundill focused exclusively on discount to liquidation value when analyzing equities, he did develop a few additional areas of expertise, such as distressed debt. Cundill discovered that, contrary to his expectation of fire-sale prices, an investor in distressed securities could often achieve large profits during the actual process of liquidation. Success in distressed debt required detailed analysis.

 

LEARNING FROM MISTAKES

1989 marked the fifteenth year in a row of positive returns for Cundill’s Value Fund. The compound growth rate was 22%. But the fund was only up 10% in 1989, which led Cundill to perform his customary analysis of errors:

…How does one reduce the margin of error while recognizing that investments do, of course, go down as well as up? The answers are not absolutely clear cut but they certainly include refusing to compromise by subtly changing a question so that it shapes the answer one is looking for, and continually reappraising the research approach, constantly revisiting and rechecking the detail.

What were last year’s winners? Why?–I usually had the file myself, I started with a small position and stayed that way until I was completely satisfied with every detail.

For most value investors, the investment thesis depends on a few key variables, which should be written down in a short paragraph. It’s important to recheck each variable periodically. If any part of the thesis has been invalidated, you must reassess. Usually the stock is no longer a bargain.

It’s important not to invent new reasons for owning the stock if one of the original reasons has been falsified. Developing new reasons for holding a stock is usually misguided. However, you need to remain flexible. Occasionally the stock in question is still a bargain.

 

ENTERING THE BIG LEAGUE

In the mid 1990’s, Cundill made a large strategic shift out of Europe and into Japan. Typical for a value investor, he was out of Europe too early and into Japan too early. Cundill commented:

We dined out in Europe, we had the biggest positions in Deutsche Bank and Paribas, which both had big investment portfolios, so you got the bank itself for nothing. You had a huge margin of safety–it was easy money. We had doubles and triples in those markets and we thought we were pretty smart, so in 1996 and 1997 we took our profits and took flight to Japan, which was just so beaten up and full of values. But in doing so we missed out on some five baggers, which is when the initial investment has multiplied five times, and we had to wait at least two years before Japan started to come good for us.

This is a recurring problem for most value investors–that tendency to buy and to sell too early. The virtues of patience are severely tested and you get to thinking it’s never going to work and then finally your ship comes home and you’re so relieved that you sell before it’s time. What we ought to do is go off to Bali or some such place and sit in the sun to avoid the temptation to sell too early.

As for Japan, Cundill had long ago learned the lesson that cheap stocks can stay cheap for “frustratingly long” periods of time. Nonetheless, Cundill kept loading up on cheap Japanese stocks in a wide range of sectors. In 1999, his Value Fund rose 16%, followed by 20% in 2000.

 

THERE’S ALWAYS SOMETHING LEFT TO LEARN

Although Cundill had easily avoided Nortel, his worst investment was nevertheless in telecommunications: Cable & Wireless (C&W). In the late 1990’s, the company had to give up many of its networks in newly independent former British colonies. The shares dropped from 15 pounds per share to 6 pounds.

A new CEO, Graham Wallace, was brought in. He quickly and skillfully negotiated a series of asset sales, which dramatically transformed the balance sheet from net debt of 4 billion pounds to net cash of 2.6 billion pounds. Given the apparently healthy margin of safety, Cundill began buying shares in March 2000 at just over 4 pounds per share. (Net asset value was 4.92 pounds per share.) Moreover:

[Wallace was] generally regarded as a relatively safe pair of hands unlikely to be tempted into the kind of acquisition spree overseen by his predecessor.

Unfortunately, a stream of investment bankers, management consultants, and brokers made a simple but convincing pitch to Wallace:

the market for internet-based services was growing at three times the rate for fixed line telephone communications and the only quick way to dominate that market was by acquisition.

Wallace proceeded to make a series of expensive acquisitions of loss-making companies. This destroyed C&W’s balance sheet and also led to large operating losses. Cundill now realized that the stock could go to zero, and he got out, just barely. As Cundill wrote later:

… So we said, look they’ve got cash, they’ve got a valuable, viable business and let’s assume the fibre optic business is worth zero–it wasn’t, it was worth less than zero, much, much less!

Cundill had invested nearly $100 million in C&W, and they lost nearly $59 million. This loss was largely responsible for the fund being down 11% in 2002. Cundill realized that his investment team needed someone to be a sceptic for each potential investment.

 

PAN OCEAN

In late 2002, oil prices began to rise sharply based on global growth. Cundill couldn’t find any net-net’s among oil companies, so he avoided these stocks. Some members of his investment team argued that there were some oil companies that were very undervalued. Finally, Cundill announced that if anyone could find an oil company trading below net cash, he would buy it.

Cundill’s cousin, Geoffrey Scott, came across a neglected company: Pan Ocean Energy Corporation Ltd. The company was run by David Lyons, whose father, Vern Lyons, had founded Ocelot Energy. Lyons concluded that there was too much competition for a small to medium sized oil company operating in the U.S. and Canada. The risk/reward was not attractive.

What he did was to merge his own small Pan Ocean Energy with Ocelot and then sell off Ocelot’s entire North American and other peripheral parts of the portfolio, clean up the balance sheet, and bank the cash. He then looked overseas and determined that he would concentrate on deals in Sub-Saharan Africa, where licenses could be secured for a fraction of the price tag that would apply in his domestic market.

Lyons was very thorough and extremely focused… He narrowed his field down to Gabon and Tanzania and did a development deal with some current onshore oil production in Gabon and a similar offshore gas deal in Tanzania. Neither was expensive.

Geoffrey Scott examined Pan Ocean, and found that its share price was almost equal to net cash and the company had no debt. He immediately let Cundill know about it. Cundill met with David Lyons and was impressed:

This was a cautious and disciplined entrepreneur, who was dealing with a pool of cash that in large measure was his own.

Lyons invited Cundill to see the Gabon project for himself. Eventually, Cundill saw both the Gabon project and the Tanzania project. He liked what he saw. Cundill’s fund bought 6% of Pan Ocean. They made six times their money in two and a half years.

 

FRAGILE X

As early as 1998, Cundill had noticed a slight tremor in his right arm. The condition worsened and affected his balance. Cundill continued to lead a very active life, still reading and traveling all the time, and still a fitness nut. He was as sharp as ever in 2005. Risso-Gill writes:

Ironically, just as Peter’s health began to decline an increasing number of industry awards for his achievements started to come his way.

For instance, he received the Analyst’s Choice award as “The Greatest Mutual Fund Manager of All Time.”

In 2009, Cundill decided that it was time to step down, as his condition had progressively worsened. He continued to be a voracious reader.

 

WHAT MAKES A GREAT INVESTOR?

Risso-Gill tries to distill from Cundill’s voluminous journal writings what Cundill himself believed it took to be a great value investor.

INSATIABLE CURIOSITY

Curiosity is the engine of civilization. If I were to elaborate it would be to say read, read, read, and don’t forget to talk to people, really talk, listening with attention and having conversations, on whatever topic, that are an exchange of thoughts. Keep the reading broad, beyond just the professional. This helps to develop one’s sense of perspective in all matters.

PATIENCE

Patience, patience, and more patience…

CONCENTRATION

You must have the ability to focus and to block out distractions. I am talking about not getting carried away by events or outside influences–you can take them into account, but you must stick to your framework.

ATTENTION TO DETAIL

Never make the mistake of not reading the small print, no matter how rushed you are. Always read the notes to a set of accounts very carefully–they are your barometer… They will give you the ability to spot patterns without a calculator or spreadsheet. Seeing the patterns will develop your investment insights, your instincts–your sense of smell. Eventually it will give you the agility to stay ahead of the game, making quick, reasoned decisions, especially in a crisis.

CALCULATED RISK

… Either [value or growth investing] could be regarded as gambling, or calculated risk. Which side of that scale they fall on is a function of whether the homework has been good enough and has not neglected the fieldwork.

INDEPENDENCE OF MIND

I think it is very useful to develop a contrarian cast of mind combined with a keen sense of what I would call ‘the natural order of things.’ If you can cultivate these two attributes you are unlikely to become infected by dogma and you will begin to have a predisposition toward lateral thinking–making important connections intuitively.

HUMILITY

I have no doubt that a strong sense of self belief is important–even a sense of mission–and this is fine as long as it is tempered by a sense of humour, especially an ability to laugh at oneself. One of the greatest dangers that confront those who have been through a period of successful investment is hubris–the conviction that one can never be wrong again. An ability to see the funny side of oneself as it is seen by others is a strong antidote to hubris.

ROUTINES

Routines and discipline go hand in hand. They are the roadmap that guides the pursuit of excellence for its own sake. They support proper professional ambition and the commercial integrity that goes with it.

SCEPTICISM

Scepticism is good, but be a sceptic, not an iconoclast. Have rigour and flexibility, which might be considered an oxymoron but is exactly what I meant when I quoted Peter Robertson’s dictum ‘always change a winning game.’ An investment framework ought to include a liberal dose of scepticism both in terms of markets and of company accounts.

PERSONAL RESPONSIBILITY

The ability to shoulder personal responsibility for one’s investment results is pretty fundamental… Coming to terms with this reality sets you free to learn from your mistakes.

 

GLOSSARY OF TERMS WITH CUNDILL’S COMMENTS

Here are some of the terms.

ANALYSIS

There’s almost too much information now. It boggles most shareholders and a lot of analysts. All I really need is a company’s published reports and records, that plus a sharp pencil, a pocket calculator, and patience.

Doing the analysis yourself gives you confidence buying securities when a lot of the external factors are negative. It gives you something to hang your hat on.

ANALYSTS

I’d prefer not to know what the analysts think or to hear any inside information. It clouds one’s judgment–I’d rather be dispassionate.

BROKERS

I go cold when someone tips me on a company. I like to start with a clean sheet: no one’s word. No givens. I’m more comfortable when there are no brokers looking over my shoulder.

They really can’t afford to be contrarians. A major investment house can’t afford to do research for five customers who won’t generate a lot of commissions.

EXTRA ASSETS

This started for me when Mutual Shares chieftain Mike Price, who used to be a pure net-net investor, began talking about something called the ‘extra asset syndrome’ or at least that is what I call it. It’s taking, you might say, net-net one step farther, to look at all of a company’s assets, figure the true value.

FORECASTING

We don’t do a lot of forecasting per se about where markets are going. I have been burned often enough trying.

INDEPENDENCE

Peter Cundill has never been afraid to make his own decisions and by setting up his own fund management company he has been relatively free from external control and constraint. He doesn’t follow investment trends or listen to the popular press about what is happening on ‘the street.’ He has travelled a lonely but profitable road.

Being willing to be the only one in the parade that’s out of step. It’s awfully hard to do, but Peter is disciplined. You have to be willing to wear bellbottoms when everyone else is wearing stovepipes.‘ – Ross Southam

INVESTMENT FORMULA

Mostly Graham, a little Buffett, and a bit of Cundill.

I like to think that if I stick to my formula, my shareholders and I can make a lot of money without much risk.

When I stray out of my comfort zone I usually get my head handed to me on a platter.

I suspect that my thinking is an eclectic mix, not pure net-net because I couldn’t do it anyway so you have to have a new something to hang your hat on. But the framework stays the same.

INVESTMENT STRATEGY

I used to try and pick the best stocks in the fund portfolios, but I always picked the wrong ones. Now I take my own money and invest it with that odd guy Peter Cundill. I can be more detached when I treat myself as a normal client.

If it is cheap enough, we don’t care what it is.

Why will someone sell you a dollar for 50 cents? Because in the short run, people are irrational on both the optimistic and pessimistic side.

MANTRAS

All we try to do is buy a dollar for 40 cents.

In our style of doing things, patience is patience is patience.

One of the dangers about net-net investing is that if you buy a net-net that begins to lose money your net-net goes down and your capacity to be able to make a profit becomes less secure. So the trick is not necessarily to predict what the earnings are going to be but to have a clear conviction that the company isn’t going bust and that your margin of safety will remain intact over time.

MARGIN OF SAFETY

The difference between the price we pay for a stock and its liquidation value gives us a margin of safety. This kind of investing is one of the most effective ways of achieving good long-term results.

MARKETS

If there’s a bad stock market, I’ll inevitably go back in too early. Good times last longer than we think but so do bad times.

Markets can be overvalued and keep getting expensive, or undervalued and keep getting cheap. That’s why investing is an art form, not a science.

I’m agnostic on where the markets will go. I don’t have a view. Our task is to find undervalued global securities that are trading well below their intrinsic value. In other words, we follow the strict Benjamin Graham approach to investing.

NEW LOWS

Search out the new lows, not the new highs. Read the Outstanding Investor Digest to find out what Mason Hawkins or Mike Price is doing. You know good poets borrow and great poets steal. So see what you can find. General reading–keep looking at the news to see what’s troubled. Experience and curiosity is a really winning combination.

What differentiates us from other money managers with a similar style is that we’re comfortable with new lows.

NOBODY LISTENING

Many people consider value investing dull and as boring as watching paint dry. As a consequence value investors are not always listened to, especially in a stock market bubble. Investors are often in too much of a hurry to latch on to growth stocks to stop and listen because they’re afraid of being left out…

OSMOSIS

I don’t just calculate value using net-net. Actually there are many different ways but you have to use what I call osmosis–you have got to feel your way. That is the art form, because you are never going to be right completely; there is no formula that will ever get you there on its own. Osmosis is about intuition and about discipline and about all the other things that are not quantifiable. So can you learn it? Yes, you can learn it, but it’s not a science, it’s an art form. The portfolio is a canvas to be painted and filled in.

PATIENCE

When times aren’t good I’m still there. You find bargains among the unpopular things, the things that everybody hates. The key is that you must have patience.

RISK

We try not to lose. But we don’t want to try too hard. The losses, of course, work against you in establishing decent compound rates of return. And I hope we won’t have them. But I don’t want to be so risk-averse that we are always trying too hard not to lose.

STEADY RETURNS

All I know is that if you can end up with a 20% track record over a longer period of time, the compound rates of return are such that the amounts are staggering. But a lot of investors want excitement, not steady returns. Most people don’t see making money as grinding it out, doing it as efficiently as possible. If we have a strong market over the next six months and the fund begins to drop behind and there isn’t enough to do, people will say Cundill’s lost his touch, he’s boring.

TIMING: “THERE’S ALWAYS SOMETHING TO DO”

…Irving Kahn gave me some advice many years ago when I was bemoaning the fact that according to my criteria there was nothing to do. He said, ‘there is always something to do. You just need to look harder, be creative and a little flexible.’

VALUE INVESTING

I don’t think I want to become too fashionable. In some ways, value investing is boring and most investors don’t want a boring life–they want some action: win, lose, or draw.

I think the best decisions are made on the basis of what your tummy tells you. The Jesuits argue reason before passion. I argue reason and passion. Intellect and intuition. It’s a balance.

We do liquidation analysis and liquidation analysis only.

Ninety to 95% of all my investing meets the Graham tests. The times I strayed from a rigorous application of this philosophy I got myself into trouble.

But what do you do when none of these companies is available? The trick is to wait through the crisis stage and into the boredom stage. Things will have settled down by then and values will be very cheap again.

We customarily do three tests: one of them asset-based–the NAV, using the company’s balance sheet. The second is the sum of the parts, which I think is probably the most important part that goes into the balance sheet I’m creating. And then a future NAV, which is making a stab (which I am always suspicious about) at what you think the business might be doing in three years from now.

WORKING LIFE

I’ve been doing this for thirty years. And I love it. I’m lucky to have the kind of life where the differentiation between work and play is absolutely zilch. I have no idea whether I’m working or whether I’m playing.

My wife says I’m a workaholic, but my colleagues say I haven’t worked for twenty years. My work is my play.

 

BOOLE MICROCAP FUND

An equal weighted group of micro caps generally far outperforms an equal weighted (or cap-weighted) group of larger stocks over time. See the historical chart here: https://boolefund.com/best-performers-microcap-stocks/

This outperformance increases significantly by focusing on cheap micro caps. Performance can be further boosted by isolating cheap microcap companies that show improving fundamentals. We rank microcap stocks based on these and similar criteria.

There are roughly 10-20 positions in the portfolio. The size of each position is determined by its rank. Typically the largest position is 15-20% (at cost), while the average position is 8-10% (at cost). Positions are held for 3 to 5 years unless a stock approachesintrinsic value sooner or an error has been discovered.

The mission of the Boole Fund is to outperform the S&P 500 Index by at least 5% per year (net of fees) over 5-year periods. We also aim to outpace the Russell Microcap Index by at least 2% per year (net). The Boole Fund has low fees.

 

If you are interested in finding out more, please e-mail me or leave a comment.

My e-mail: jb@boolefund.com

 

 

 

Disclosures: Past performance is not a guarantee or a reliable indicator of future results. All investments contain risk and may lose value. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Boole Capital, LLC.