Price 13.75 pence £10.2m market cap (7/18/2011)
I'm on a small vacation in sunny south Florida and reading the book Free Capital: How 12 private investors made millions in the stock market which is mainly about 12 British investors who have made millions in UK small caps. The book is good, it's a nice light read which is perfect for the pool and beach. I've been squeezing in a chapter here and there between playing in the waves with my son. In the spirit of the book I decided to do a post on a UK small cap.
Argo Group is an investment management company that runs five emerging market funds. The company is headquarters in Isle of Man but claims its main place of business is Cyprus. The funds the company runs are headquartered in a variety of countries ranging from Cyprus, Romania, and Singapore to the UK. The company is listed in the AIM yet uses the US Dollar as its functional currency even though it has no operations or tie to the US. The company has been managing funds since the year 2000 and has 26 employees.
The funds Argo manages:
Argo Fund - A fixed income fund that invests in corporate and sovereign debt in addition to currencies. This fund is quoted on the Irish exchange and was founded in Oct 2000.
Global Special Situations Fund - Deals in distressed credits and special situations across all levels of the capital structure.
Capital Partners Fund - A closed-end fund founded in 2006 which aims to invest with a two to three year time horizon. The fund invests in stocks, bonds, PIK loans, warrants, convertibles and shareholder loans.
Real Estate Opportunities Fund - A fund quoted on the AIM (AREOF) committed to property investments in Romania, Moldova and Ukraine.
Distressed Credit Fund - A bottom up distressed credit fund founded in 2008.
The company is a spinoff from Absolute Capital Management (ACMH) and was party to a lawsuit from before the spinoff. It seems that the legal dispute was a very big weight on the shares, the case was dismissed a few months back.
Napkin sized investment thesis
-Fundholder lawsuit was dismissed in June ending the legal liability overhang as well as ongoing litigation costs ($614k in 2010 and $866k in 2009).
-Trading at a 40% discount to discounted NCAV
-Trading at a 38% discount to net cash
-Turned an operating profit of $1.2, net income of $1.7m in 2010
-$932k in CFO and $924k in FCF
-The company pays a 1.2p dividend yielding 8.8%
-Management is buying back $2m worth of shares
-Insider ownership is around 35%
This is a pretty clear net-net investment, the company is trading at a discount to it's net cash position and in addition is showing a small profit and free cash flow. Here is my net-net worksheet, note the USD/Pound conversion.
The company seems to be doing a lot of things right in the absence of dynamic growth, they are returning cash to shareholders by paying out a generous dividend in addition to buying back shares.
While profitability and revenue have been declining for the past few years the company still sports impressive margins.
-Operating margin: 11%
-Net margin: 16%
-FCF margin: 8.4%
Why is it cheap?
I think there are a few things working against Argo that are causing the shares to trade below NCAV.
-The company is small, £10m market cap
-The company is closely held with a public float of £6.5m outstanding
-Argo was a spinoff which usually face indiscriminate selling and a short operating history.
-There was a lawsuit which was proving to be a slow cash drain, and had the possibility to threaten the business.
-The company is generally misunderstood, it's traded in the UK yet is based in Cyprus and uses the USD as its functional and presentation currency. A cursory look via FT.com will give incorrect values.
I don't own any shares of Argo yet, but I'm strongly considering adding them to my net-net portfolio. Just a small warning, the company is small with an average trading volume of £8k and appears to be pretty volatile in trading.
Talk to Nate about Argo
Disclosure: No position in Argo, I am doing further research and might initiate one at any time.