The Rational Cloning: Weekly Ideas #70
Horizon Kinetics & Greystone Capital 2022 Q4 Commentary, Tweets & Substacks That Make You Go… Hmm 🤔
Welcome to the 70th edition of the Rational Cloning Newsletter (Weekly Ideas Series).
Helping you discover the best ideas of others.
Happy cloning.
Weekly Investment Ideas
(1) Horizon Kinetics - 4th Quarter 2022 Commentary
Newer Holdings
Much as we wrote last year at this time, portfolios have been positioned in companies with business models we believe to be uniquely structured to benefit from an extended inflation, whether commodity-scarcity based or monetary-debasement based. In the past year, land companies were added to some strategies.
Land is the ultimate perpetuity and its per-capita scarcity value increases over time. Yet there are no land companies in the major stock indexes. That is both a deficit or ‘negative exposure’ for the indexes, and engenders a valuation discount benefit for independent investors. REITs which are the index version of real estate, because they can be packaged in large, liquid form, are an entirely different economic proposition. Contrary to popular belief, they are generally not good inflation beneficiaries. They also tend to be overpriced during periods of low interest rates, because they are sought by income-oriented funds for their dividend yields. They must pay out most of their earnings as dividends, so can’t accumulate capital for reinvestment to compound their value internally. Expansion requires external funding, via share issuance or borrowing. The first choice is dilutive to per-share values; the second, if excessive, can expose the REIT to rising debt costs at a time when operating costs might rise or exceed the revenue growth from rent escalation clauses or longer-dated lease expirations.
The value of land can increase without any further investment. In the right location (the three Ls of real estate) the value can be enhanced manyfold over time through sequential levels of development. In the case of Saint Joe Company JOE 0.00%↑, with vast property along 80 miles of the Panama City section of Florida’s west coast, diversified real estate development is ongoing. Tejon Ranch TRC 0.00%↑, has almost 300,000 acres strategically located by and across one of the nation’s busiest intersections on the I-5 corridor one hour north of (overly congested and priced) Los Angeles. It is earlier in its development phase, having only just received approvals for a number of master planned communities, after many long years of effort, in addition to its commercial and industrial real estate.
Additional royalty companies were also added this year, bringing exposure to iron ore, copper, a range of electrification and battery metals, and even fertilizer, and even wind and solar power projects. Why, do this, aside from diversifying into a broader array of inflation vectors? Because they’re too cheap. Why too cheap? Because, A) investors generally remain unaware of the true inflation risks, so they don’t yet value such companies appropriately, and B) most such companies are decidedly not to be found in the world of indexed securities – call them index-unavailable.
As to volume growth possibilities, rare earth metals—praseodymium, neodymium, terbium, dysprosium— are required for the strong permanent magnets in wind turbines and electric vehicle motors. Copper is needed for everything electrical, iron ore for steel for any utility-scale construction of anything, and potash for fertilizer. As to the prices of commodities, it will not be a matter of whether Wall Street is bullish or bearish on them, or what analysts’ consensus opinion is. Commodities valuations are not determined like IT growth company valuations. Ultimately, the bottom limit of pricing is the cost of production. Want some wheat? If it costs 20% more to produce, the farmer can’t not charge 20% more, otherwise no more farmer and no more wheat. That will be the price.
(2) Greystone Capital 2022 Q4 Letter
Portfolio Commentary
Heading into 2023, our top five positions make up somewhere between 60-70% of client accounts and consist of RCI Hospitality RICK 0.00%↑ , Basic-Fit $BSFFF, Currency Exchange International $CURN , Griffon Corp. GFF 0.00%↑ and IDT Corp. IDT 0.00%↑. There was one change to this group from 2022 with the addition of Griffon Corp., replacing Polished.com toward the back half of the year. Our businesses range in market caps from $40mm to nearly $2.5B and possess my desired characteristics of cash generation, fair valuations and growth potential, while being run by people who have our best interests in mind. Over a long enough period, I would expect to avoid losing money owning these types of companies, although mistakes will certainly be made. That statement held true during the year as almost none of our smaller positions worked, and there were times when I overstayed my welcome, didn’t move fast enough, and where my analysis was just plain wrong.
Griffon Corp. GFF 0.00%↑
Griffon Corp. is made up of two businesssegments, Consumer and Professional Products (‘CPP’) and Home and Building Products (‘HBP’). CPP manufactures popular home accessories and garden tools through quality brand names such as ClosetMaid and Ames. HBP is one of the leading manufacturers in the US of residential garage doors and rolling steel doors, with a nearly 50% market share through their Clopay and CornellCookson brands. CPP has struggled under the weight of poor acquisitions, lack of cohesiveness and underinvestment, but possesses strong market share in garden tools and has typically done well through various business cycles. Griffon’s HBP segment has cockroach-like elements, with a history of strong organic growth and resilience over multiple decades. Today, Clopay and CornellCookson are responsible for nearly half of Griffon’s revenue and around 60% of EBITDA. Given their strong characteristics of resiliency, cash flows and returns on capital, these businesses make great acquisition candidates and recent industry consolidation adds a valuable element to the mix. Valuing HBP using an EBITDA multiple in line with similar businesses as well as recent transaction comps reflects a per share price that could exceed Griffon’s current enterprise value.
RCI Hospitality RICK 0.00%↑
As our largest positive contributor to performance during the year, RICK continues to weather the economic storm by moving over, around and through any barriers put in front of it. On the back of incredibly strong operating results and phenomenal capital allocation, RICK grew revenues and EBITDA by 37% and 44% during the year, at a time when many restaurant and consumer related businesses struggled with elevated costs and reduced demand. Importantly, there seems to be no signs of slowing down as the company makes it no secret that they’re in the market for deals, where they believe there is capacity to deploy hundreds of millions of additional capital during the next few years. As one of the most attractive buyers both in terms of industry knowledge and their ability to offer favorable terms such as seller financing, M&A should be a key part of the strategy moving forward.
Basic Fit (BSFFF)
Basic-Fit was the rare situation this year where most of the share price decline was attributed to a self-inflicted wound during the company’s Q3 2022 trading update. As part of the update, guidance for FY22 surrounding membership totals, club count, revenues and EBITDA were all reduced, despite no mention of any deviations just two months earlier during their H1 2022 update. Compounding this blunder were the adverse macroeconomic conditions in Europe where high inflation, rising energy costs and consumer weakness caused market participants to panic, while making Basic-Fit’s growth plans seem ambitious to say the least. Fearing the worst, Basic-Fit stock became an easy sell, with shares declining nearly 50% from peak to trough.
Currency Exchange International (CURN)
Moving on to Currency Exchange, this boring, yet incredibly profitable business ploughed through 2022 on their way to record operating performance following years of internal initiatives and investments that are now beginning to pay off. CURN was one of our best performing holdings for the year and represented a situation where share price activity actually followed strong business execution.
During the year, Currency Exchange generated a record $66mm in revenues, up 117% from 2021, on the back of strong travel demand and demand for US dollars, exceeding their pre-COVID run rate by 60%. Increases in international travel, market share gains and increased penetration in global banknotes through participation in The Federal Reserve Foreign Bank International Cash Services Program (FBICS) drove the strong results. As one of only three businesses approved for international currency distribution inside of FBICS through their Exchange Bank of Canada, CURN uses this advantage to source cost effective dollars from the Fed as well as win new and larger bank customers within their banknotes segment. I believe CURN can eventually gain a double-digit percentage share of this market on their way to continued growth driving high incremental profitability. Importantly, on the back of significant top line growth, Exchange Bank of Canada generated its first full year of profitability, opening the door for favorable borrowing opportunities from here. Turning to the Payments segment, whose merits deserve more than one sentence, top line growth remains strong, with revenues increasing 61% during the year while reflecting strong operating leverage and driving both diversification and resilience in the business away from banknotes.
IDT Corp. (IDT)
As another one of our largest detractors from performance this year, my assumptions surrounding the IDT investment thesis had to be rigorously tested in the same vein as Basic-Fit. Re-underwriting my valuation assumptions led to a change in my estimate of fair value to the downside, and I adjusted the position accordingly. As the year went on however, IDT’s operating results exceeded all of my newly underwritten projections, and I repurchased a large chunk of the position. Separate from business performance (as you’ll see), IDT remains a peel-back-the-onion story that requires analysis of each respective business unit to fully grasp the attractiveness of the opportunity. As capital markets weakness persisted during 2022, the perceived catalyst of a subsidiary spin-off was removed, and IDT stock sold off along with the broad market.
Substacks/Newsletters That Make You Go… Hmm 🤔
Tweets That Make You Go… Hmm 🤔
