The Rational Cloning: Weekly Ideas #29
Micro Cap Letter on Bebe; Conor Maguire on DOLE, WTW, WIX; More Tweets That Make You Go… Hmm 🤔
Welcome to the 29th edition of the Rational Cloning Newsletter (Weekly Ideas Series).
Helping you discover the best ideas of others.
Happy cloning.
Weekly Investment Ideas
(1) Micro Cap Letter Edition 16: Bebe Stores
If we accept the above picture of Buddy’s financial contribution to bebe, we now have a full understanding of all the assets an investor receives exposure to for purchasing bebe stock at the current price of $8.50 per share. This share price yields an implied market cap of $109 million and with $19 million of net debt outstanding a total value for the enterprise of $128 million. Against this value the investor accesses a healthy and modestly growing royalty cash flow stream of $11 million, estimated $8.6 million of Buddy’s EBITDA, and ~$300 million of historical NOL’s.
I’m not a fan of attempting to arrive at a precise price target, especially when dealing with such an eclectic mix of assets as bebe owns. However, I believe that it is uncontroversial to say that this collection of assets and cash flow streams could easily be worth twice the current stock price and these earnings can comfortably cover the current 7.1% dividend yield on the stock.
It would be no exaggeration to describe the current broad market set up investors are faced with as extremely treacherous. We are likely at the end of a forty-year progression of ever lower interest rates and ever higher Shiller P/E multiples, while elevated inflation and extremely dangerous geopolitical risks have arrived on the scene quite boldly. No one can credibly claim to know how markets and economic developments will play out from here. My strategy with my personal investments is to heed Seth Klarman’s famous advice to invest with a margin of safety.
I believe that bebe stores offers incredible margin of safety through disparate cash flow streams that together support a valuation well in excess of the current stock price. The icing on the cake is a royalty model for most of the value (inflation in wages and product costs are the licensees’ problem, bebe gets paid a percentage off the top line that arguably should grow in lockstep with inflation) and an exceptionally strong dividend yield that pays the investor to wait for the stock price to catch up to fundamental value.
Sometimes an investor needs to look to the superficially dangerous (here the remaining rubble of a failed mall-based retailer) and away from the safety of conventional wisdom (i.e., US treasury bonds at negative real return), to preserve wealth and earn attractive investment income. In the case of bebe stores I think it is worth a look.
(2) Conor Maguire: Q1 2022 Situation Review
Conor’s substack is full of ideas- if you’re not subscribed you are missing out. Below are just 3 of his ideas:
DOLE
DOLE’s stock price continues to disappoint in contrast to the actual business and management’s performance. As I’ve discussed DOLE’s FY21 results release and FY22 outlook recently, I won’t repeat myself here other than to say I believe my DOLE thesis remains intact after reviewing the latest results and guidance - there is nothing to suggest that DOLE’s business is challenged. Rather, it remains fundamentally mispriced by the market for lack of clean historic financials, a misperception regarding DOLE’s ability to manage cost inflation, a lazy projection by the market of peer FDP’s weaknesses onto DOLE and a lack of familiarity with DOLE’s management team (i.e. they are not David Murdock’s people).
As the global market leader in an essential staple business (2x bigger than nearest peer) with its own vertically-integrated supply chain and inflation-offsetting price increases agreed with customers for FY22, I suggest DOLE should trade at a premium to peers. Yet it’s currently valued at 6x EBITDA vs. 9x - 15x for US listed peers on a NTM basis. DOLE is just too cheap.
WTW
WTW reported solid FY21 results recently (discussed here) which confirmed to me that the value thesis for this situation remains intact. Management are progressing with the turnaround (post-AON merger collapse) and capital return plan and FY21 results were in line with my model - notably YoY growth for FY21 was ahead of WTW’s historic average and operating margins improved by nearly 2% in a sign that management are executing on the plan.
It’s again important to emphasise that WTW is a 2023/24 value creation story and nothing in the FY21 results that suggests the company is not on this trajectory. With activist investors Elliot Management and Starboard Value on the shareholder register I’m comfortable that management will stick to the plan and a re-rating will follow as the business returns to growth and ~30% of WTW’s market cap is returned to shareholders over the next 2-3 years.
Finally, I think its worth mentioning again that I see WTW as something of an inflation-hedge given that insurance pricing tends to rise with inflation and as a brokerage WTW’s fee income is tied to rising gross premiums. This inflation-linked model is further supported by the capital-light nature of the brokerage model and so WTW’s strong cash generation will not be absorbed by heavy capex requirements in an inflationary environment. I believe this is a further support in driving a re-rating of WTW’s stock price within the next 2-3 years.
WIX
WIX is my most recent high conviction name and addition to the Model Portfolio, and is a classic Greenblatt-style spin-off situation. I won’t repeat the thesis here since I’ve published it so recently and discussed the company’s FY21 results just last week but I will comment on how I think about the growing cost-of-living crisis in the UK impacts the WIX thesis.
Certainly, WIX should see some impact from squeezed consumer incomes but I believe it is more insulated than conventional retailers in the following respects:
The DIFM order book is 2x larger than last year, which should support that segment through FY22 (20%-30% + of total revenues).
WIX’s DIY segment is focused on providing essential, in-demand products at the value-price end of scale which allows it price very competitively vs. competitors. This should mitigate some consumer spending pressures.
UK housing stock remains quite aged and certain levels of repair and maintenance will continue regardless, supporting both DIY and local trade segments.
WIX’s track record (and the DIY market itself) has proven to be resilient through previous recessions - through the GFC and UK housing market crash in 2008/09 (UK GDP - 4.5%, UK house prices -18.7%) WIX grew revenues +5% and grew market share; similarly post-Brexit and through the COVID pandemic (UK GDP -9.4%) WIX continued to grow, becoming the #2 player in the UK.
The combination of WIX’s highly-efficient, lower-cost operating model and its proven resilience through previous down-cycles gives me comfort that it will successfully navigate through any challenges in the current environment.
(3) Open Insights: Homer Simpson, 2nd Level Thinking & Peanuts
Zoltan, is Zoltan Pozsar, a native of Hungary, for the past 7 years, he’s been with Credit Suisse (“CS”), as their Global Head of Short-Term Interest Rate Strategy. Prior to CS, he was a senior adviser to the US Dept. of Treasury and before that the Federal Reserve Bank of New York. He’s steeped in the Fed and the intricacies of central banking. Unsurprisingly he writes about macroeconomics, central bank liquidity, and monetary policy. Lately, he’s been writing about money, commodities and Bretton Woods III, which coincidentally is the title of his missive dated March 31, 2022.
It’s essentially what he’s calling Bretton Woods III. If you recall Bretton Woods II was deflationary because of globalization, open trade, just-in-time supply chains, etc. In contrast, Bretton Woods III, which we will embark on, will be inflationary as de-globalization, autarky, just-in-case hoarding of commodities and duplication of supply-chains occur. All of these things in Bretton Woods III simply costs more. More money, more capital, more manpower and more time. Moreover, as nations become protectionist, hoarding/coveting the scarce resources they possess, these “real” things (i.e., commodities) become increasingly more expensive and prized. The value of “real things” outpacing money and that becomes the dominant thing dominating world trade. In Homer parlance, peanuts = money.
…
Ultimately, where do we come out after all of the mental gymnastics? If we’re truly beginning a period of time where we’re globally short of commodities (which we believe we are), then we’ll have to reframe how we think about the expansion and contraction of liquidity. The factors and inputs are different, and what we historically look to for guidance will shift. Central banks still matter, but they will have less say in how this all goes because as we paraphrased earlier . . .
You can print money, but you can’t print commodities.
If this new world is forcing the cost of (and the cost to trade) peanuts higher, then prepare yourself for that. Said another way . . . hoard as many peanuts as you can.
Explain How?!
Buy peanuts.
Tweets That Make You Go… Hmm 🤔
