A sum of the parts..Renault

Renault (RNO.France)

Price: €26.35 (11/29/2011)

This is an unusual finding for me, a large cap trading at such a discount.  I'm not adverse to buying large caps, my portfolio has a few, but I tend to avoid writing about them because a lot of ink is already spilled following the largest companies.  In the case of Renault I haven't been able to find much about this except for a brief mention in this past weekend's Barrons.


In the late 90s the automotive industry was experiencing a consolidation wave, instead of merging Renault decided to form a new type of alliance with Nissan.  Renualt bought 34% of Nissan's outstanding shares with the agreement that Nissan would purchase part of Renault when financially able.  Nissan had hit a financial rough patch and had a near bankruptcy experience in 2000.  Nissan recovered and purchased 15% of Renault in 2001.  Eventually Renault increased their stake in Nissan to 44%.

The idea behind the alliance is that both companies can operate independently and retain their branding yet share key strategic technologies.  The cross shareholding structure encourages both companies to act in the best interest of themselves and the partner company.  A partnership structure like this seems very strange to US investors, but it was actually very common in Japan in the 60s and 70s but less so today.  A company would purchase shares of suppliers and distributors creating an incentive to work together.  At times the crossholdings could also lead to a certain nepotism where a company would use their preferred supplier even if the supplier had a higher price and worse execution.

Outside of the Nissan stake Renault also owns stakes in Volvo AB which is a truck manufacturer, and a stake in AvtoVAZ which is a Russian car company.  Renault looks at both holdings as strategic alliances but not to the same level as the Nissan holding.

As a note when looking at Renault's statements they use the equity method under IFRS to consolidate their statements, if anyone is unfamiliar with this method here is a great link.

Sum of the parts breakdown

Renault has a holdings in three public companies, Nissan, Volvo AB, and AvtoVAZ, since all of the holdings are public it's easy to piece together the current value of what Renault owns.  I have it broken down the values and translated to Euro in the following spreadsheet:

What's pretty clear right away is that the total of Renault's public equity holdings is twice the current market cap and amounts to €49.78 a share.  If we assume that Renault's market cap is an accurate reflection of their current operations alone and add back their holdings the total is €74.38.

A discount to such a tangible asset value is rare especially for a large cap.  Just a simple analysis like this is really enticing, this is the elusive $1 for $.50, but with a caveat.  The problem is the liquid assets most likely aren't realizable (I discuss below), and in a down market the value of all the holdings will shrink because Volvo, Nissan and AvtoVAZ are all automakers.

I think the better way to look at this investment is an investment in Renault with a sizable margin of safety.  At this point I'm not comfortable enough with my own understanding of Renault's operations to make an investment.  I think this is more of an investment in Renault with downside protection than an asset play.

Why does this exist?

In a lot of my recent posts I've been asking the question "why is the stock cheap?" as a way to examine if the stock is deservedly cheap.  The reasons for the Renault cheapness I think are a bit more straightforward and probably even more warranted.

The first thing is that Renault has no intention of liquidating the Nissan stake to unlock value.  Renault looks at the Nissan holding as a strategic relationship, where selling off Nissan would almost be like spinning off a subsidiary company.  I think the market reaction would actually be negative regarding a share sale instead of something positive that unlocks value.  I think this is true especially considering the fact that both parties talk about how great the relationship is to their related businesses.

The second reason I think this disparity exists is that the market judges both Renault and Nissan on their own respective operations.  The joint holdings have existed for more than a decade meaning this isn't some sort of hidden asset.

I'm not sure if either reason is a good reason for Renault to be selling at such a discount, I'd actually be interested if someone out there knows how long this condition has persisted.

Talk to Nate about Renault

Disclosure: No position

Adams Golf has a margin of safety and a catalyst

Adams Golf (ADGF)

Price: $5.54 (11/25/22)

Note: This post appeared in some RSS feeds prematurely because I accidentally hit the wrong button while working on it.  This is the completed version, sorry for the confusion.

Adams Golf is a small golf manufacturer located in Texas, they make the full range of clubs and associated accessories such as bags and hats.  I haven't ever played on an Adams club, so I went online looking for reviews.  Most agreed with the statement that the irons were about average and the hybrids were really nice clubs.  I wouldn't mind adding a hybrid to my set, so if a very generous reader out there wants to buy me a Adams hybrid I will be sure to put it through a few rounds of "testing".  I talked to some relatives who are more "in the know" with golf gear, and their opinion was that Adams Golf made some decent stuff.

The attraction to the stock is that it came up in a list of stocks selling below NCAV.  Here is my back of the napkin investment thesis for Adams Golf:

-A NCAV of $4.94 with a tangible NCAV of $2.77 against a price of $5.54
-EV/EBIT of 4.8
-EV/FCF of 14.5
-No debt
-Room for margin expansion, current net margin 5.53%, net margin in 2006 was 11.84% and 2007 9.94%.

Balance Sheet

The balance sheet is what got me interested in Adams Golf, here is my net-net worksheet:

A few things stand out, the first is that for a manufacturing company Adams Golf has a very small amount of property plant and equipment.  The reason for this is that the manufacturing facilities are leased and found under contractual obligations.  The facility operating lease is up in 2013, so there is a potential that costs could slightly tick up for the facility.

The other aspect is that inventory and receivables make up the bulk (80%) of NCAV, this is expected for a manufacturing concern.  Both inventory and receivables as a percentage are at reasonable levels compared to past history. 

The balance sheet is good, I think all of the values on the worksheet are reasonable in a liquidation scenario.  Golf clubs tend to sell relatively quickly, and even models a year old sell pretty easily.  The difference between a 2010 and a 2011 club isn't all that great no matter what the marketing people would want you to believe.

Business Quality

For any business selling below NCAV we have to assume there's a problem, if there isn't a problem the stock probably isn't selling cheap.  The case with Adams Golf is a little interesting, I think there are a few reasons the stock is selling cheaply.

The first and most benign is that the company has a history of lumpy profitability.  In the last ten years they've been profitable 60% of the time.  The company has a high degree of operating leverage so when they hit a high volume the profits and cash roll in.  On the other hand a slight downtick in volumes can result in a loss.  The lumpy profits means uncertainty on Wall Street, and Wall Street hates uncertainty giving Adams a lower multiple.

The second reason is that Adams was involved in a class action lawsuit related to their IPO in 1999; they ended up losing with a verdict of $16.5m issued against them.  Insurance paid out $11.5 million, and Adams paid out $5m which was accrued in 2010.  In addition there is still a patent infringement lawsuit outstanding which is currently in discovery.  The outcome of the lawsuit is uncertain, and if it goes against them a negative verdict could require either a payment, a club sales halt , or a redesign of certain models, all costly solutions.

The third reason is that management isn't exactly viewed as shareholder friendly.  For the past ten years shares outstanding has been steadily increasing due to executive compensation.  Compensation that isn't always deserved considering the company has only been profitable 60% of the time, and had free cash flow 50% of the time.

The following picture gives a nice overview of the past ten years.  I show the cash flow (operating, capex, and free cash flow), in addition to the book value.  I also show the ROIC with the positive ROIC in bold.  

What the spreadsheet reinforces is that when times are good and volume comes in ROIC can be high, very high (60% in 2004).  ROIC for the past twelve months isn't all that high, but it is positive.  Considering that Adams is coming out of a downturn there is a lot of room for improvement.


What makes Adams Golf a very interesting investment is that a few large shareholders are starting to agitate for action.  Two shareholders who own around 35% of the outstanding shares submitted a 13D/A pledging to do the following:

(a) appear at each such meeting or otherwise cause the Covered Shares to be counted as present thereat for purposes of calculating a quorum; and
(b) vote (or cause to be voted), in person or by proxy, or deliver (or cause to be delivered) a written consent covering, all of the Covered Shares:
(i) in favor of an increase in the authorized number of directors of the Company and the election as directors of the Company of each of: 
-Roland E. Casati; and
-such additional persons as the Gregorys may nominate or support for election as directors at such meeting (understanding that it is the current intent of the Gregorys to not vote in favor of the election as directors of Oliver G. (Chip) Brewer III or Russell L. Fleisher at such meeting);
(ii) in favor of an increase in the authorized number of directors by up to two (and possibly more if necessary in response to actions that the Company might take);
(iii) in favor of a stockholder proposal to declassify the Company’s Board of Directors;
(iv) in favor of the Company’s proposal to ratify the appointment of BKD, LLP as the Company’s independent auditors for the year ending December 31, 2012; and
(v) as instructed by the Gregorys on all other matters presented to a vote of the stockholders at such meeting.

Here are two more relevant links: brief post discussing the activism
A letter to the major shareholders which initiated the action

After the filing the price moved up a bit, but there is still a lot of room to move, especially if the company starts to move in a more shareholder friendly direction.

I think Adams Golf has a lot of potential, especially for margin expansion and some possibly shareholder friendly moves.  I think the current assets also provide a nice bit of downside protection.  I haven't invested in Adams Golf yet but I'm watching this situation closely.

Talk to Nate about Adams Golf

Disclosure: No position

Why Sycamore Networks?

Sycamore Networks (SCMR)

Price: 19.39 (11/20/11)

I want to apologize for the slowdown in posts, I've been working on finishing (remodeling) our basement which has sucked up pretty much all of my free time.  I'm just about done framing, so I only have a bit of electrical and drywall left, hopefully I'll hit my goal of completing by Christmas.  Until then I'm hoping to get a post out once a week or so.  

Onto Sycamore Networks..

This is a stock I first saw discussed in a Marty Whitman shareholder letter (my wife has the Third Avenue Value fund in an IRA) as a net-net the fund had purchased.  I took a look but the stock wasn't selling below NCAV, and I didn't see any other attraction at that time.  This weekend I saw an article in Barrons that mentioned Seth Klarman's hedge fund had started to purchase shares in Sycamore Networks and I decided to take a look again.

After digging into the 10-K I can't figure out why Marty Whitman or Seth Klarman have invested, the thesis is somehow beyond me.  These are two very smart investors, so I'm presuming that I have somehow overlooked something hidden that's really big and important, if you know what that is please email me or leave a comment at the end of the post.

The business

Sycamore Networks builds specialized switching equipment that helps reduce network congestion.  The company sells products for the fixed line market, mobile, and broadband networks.  There are a few problems Sycamore is trying to solve, the first is general network congestion, this is where the traffic amount is larger than the bandwidth available.  The second is peak demand, a network might be able to handle traffic for most of the day but if there is a spike due to some external event network traffic might grind to a halt, as an example I remember trying to get to CNN.com on 9/11, no matter how many times I hit refresh nothing would load in any reasonable speed.  

The sweet spot for Sycamore is a customer who wants to stretch their existing network a little bit more without having to upgrade the infrastructure completely.  In a computer network there are a few important pieces, the wires, the routers, repeaters and switches.  The wire in the ground might be able to support 600Mbps or even 1Gbps the limiting factor with regards to maximum speed are the endpoint switches and repeaters.  To upgrade a network segment all of the switches and repeaters need to be upgraded to the higher standard.  This can be costly considering in some situations repeaters are buried underground, or in hard to access locations.  Secondly if a provider upgrades the network there is no guarantee clients will be willing to pay for increased speeds in an amount that will cover the upgrade cost.

Sycamore helps this by working to streamline traffic on a congested segment.  The company website has all sorts of great marketing spin videos explaining their secret sauce but it boils down to a simple technology, QoS or Quality of Service.  Each packet sent from a computer over a network has a priority code, normally each packet is treated equally. A packet containing banking information is given no higher priority than a packet destined for YouTube.   Video and gaming are very high demand applications, but often low priority.  A video can drop a frame or two and it will be almost indiscernible to the user, whereas a dropped packet from a website might mean the site won't load at all.

QoS isn't anything extraordinary, the Linksys router I have in our basement has a very rudimentary version of it allowing me to statically state that web traffic is more important than Kazaa, or video game traffic.  The shortfall is there isn't much configuration available, and the routing is based on the port, not the content of the packet.

What makes Sycamore devices valuable is the software installed can intelligently determine what is inside of a packet and prioritize dynamically.  This means if a network segment starts to become highly congested packets destined for YouTube can be de-prioritized and web traffic prioritized.  Or on a telephone network calls can be routed differently to avoid busy signals.

I'll be the first to admit the technology is cool and very innovative.  I'm sure Sycamore has a building full of very bright people up in Massachusetts figuring out these problems, and it seems like there's demand for a product like this with broadband usage exploding and mobile data usage growing quickly.

The history

The company IPO'ed back in 1999 during the height of the dot-com boom, they did a follow on offering in 2000.  It seems that they've been working down the IPO cash ever since.  This is where the mystery of the attraction starts to begin for me.

Since the IPO the company has never recorded an operating profit, only once they recorded a profit which was due to other income.  The company was cash flow positive 2006, 2007 and 2008, and had a meager amount of free cash flow in each of those years.

The one bright light I can see in this stock is that gross margins have been increasing which is good, the problem is R&D expenses track pretty well with gross profit.  That means that by the time SG&A comes along the company is already in the red.  

Valuation details

I don't really have much to add here, the numbers speak for themselves, so I'm just going to dump out some stats.

-P/S 11.3
-EV/Sales 3.3
-Gross Margin: 52.8 TTM
-Book Value 15.71
-Revenue Growth: 3yr -25%, 5yr -11%, 10yr -18%
-NCAV of $15.34, Net Cash of $14.63/sh

None of these numbers jump out at me as a screaming buy outside of the high cash value per share.  The problem is the company is constantly eating into the cash balance each quarter as sales fail to cover expenses.


I can understand the appeal of Sycamore Networks as a story stock, broadband and mobile data are growing rapidly and the company has a solution that can save carriers a lot of money.  The problem to me is that broadband has been growing since 1999 at a fairly rapid clip, and the company has never been able to turn an operating profit, and they've only been cash flow positive in three of the last ten years.  And the last ten years have been prime years for data growth  If Sycamore hasn't been able to capitalize in the past when conditions were ripe what will be different going forward?

The one thing I do get is the high cash balance, but there are other router and networking companies with high cash balances selling at cheap valuations.  

I guess my confusion lies with the fact that two renowned value managers have positions in this stock.  I recognize they're far more intelligent than I am, so I'm presuming I'm missing something.  If you have any ideas on what I'm missing please send me an email or leave a comment.  

Disclosure: Long Third Avenue Value fund, and by proxy long Sycamore Networks.

What was cheap gets cheaper

Vianini Industria (VIN.Italy)

Price: €1.27 (11/8/11)

I posted about Vianini Industria previously, it was one of my first posts about international net-net's.  Since the post I'd kept my eye on it, but not very closely.  A few days ago I received a comment on the post which made me revisit the stock.  Here's the comment:

Mauro said...
Hi Nate,

it has been years since I'm following this stock and I've decided to buy it today...
now VIN is at 1.15,about €35mln in market cap. VIN holds now €30mln in cash, about €26mln in good stock shares(who are on their lows) and total liabilities about €7mln,so no debt... not to mention all the credits,physical assets that it owns.
In the June2011 semester report there's a little note saying that there's an additional €46mln in fixed assets which have been totally depreciated,thus not resulting on the book: about €11mln of these are buildings and land. With a very very conservative calculation,I think that this €46mln can have a value of around €10-15mln to add on the book...
with my analysis VIN's value is around €80-90mln,thus between 2.6-3.0 per share.

VIN is a deeply undervalued stock but should be considered because:
-the company is relatively stable and the losses it had are made by financial loss with it's stock portfolio
-the assets are tangible and very liquid
-in economic crisis people want to trade liquid stocks to get out quickly,so only the bigger ones...thus the small ones get dumped without much thought
-after years of inactivity the company is in work progress to install a huge solar power plant,thus a way to invest the huge cash it has and hopefully producing a decent income(and dividends)...and of course it will be more visible to investors.

My concerns when I looked at the company previously were the quality of earnings, and margin of safety.  I want to take a look at both of those items seven months later.

Asset Value

This is really the main driver for the investment, Vianini Industria is selling at an incredible discount to it's asset value.  Here is my net-net worksheet:

Right away the first thing that hits me is that the discounted NCAV is almost double the current price, this is rare.  What's even rarer is the composition of assets that the company has.  On the balance sheet €60m is in cash and publicly traded securities, liquid assets that could be sold today and fair value realized.  The securities are holdings in two companies Assicurazioni Generali SpA and Cementir Holding SpA, both Italian securities.

Taking this right off the bat we have a stock with €60m in cash and securities with €7m in liabilities (none of it debt), or a net-cash position of €53m against a market cap of €38m.  The company is selling at a discount of about 28% to the net cash value.  

What I really like about Vianini Industria is something Mauro pointed in the comment was that the company has some hidden assets.  The details are found on page 29 of the HY report in note 1.  The note discusses the property plant and equipment account, following the discussing of the balance sheet values is the following translated text, "The following are the values of tangible assets fully depreciated but still in use.
Cost                           30.06.2011
Buildings                          11,771
Plant and machinery         33,282
Industrial and commercial  2,509
Other assets                          340
Total                               47,902"

This is an interesting note, basically the company has €47m in assets that are being used to create cement products that aren't reflected on the balance sheet at all.  These assets consist of the the land the cement plants sit on throughout Italy and the cement facilities themselves.  Even though these assets don't have an actual balance sheet value they have a very real world value, these are the assets the company is using to generate it's non-financial returns.

In my net-net worksheet I only give these assets a value of about 10%, but that's probably on the low side.  In reality the assets are probably worth a bit more, my question would be who is interested in the properties and equipment.  I'm not sure how many other cement companies are operating in Italy that would be interested in swallowing the Vianini Industria operations.  Secondly the land appears to be in some very rural places, so I'm not sure if a ready buyer would emerge quickly.  Discounting 90% takes all of this into account and gives a wide buffer for error.

Overall on an asset basis Vianini Industria is very attractive, and selling at a deep discount.

Earnings Value

When I previously looked at this company one of the things that concerned me was that most of the company's earnings was from financial income, or dividends of holding companies verses operating earnings.  The operating earnings record is quite poor and very lumpy as seen below.

For the trailing nine months EBITDA is barely positive, and after taking a depreciation charge operating earnings are negative.  This was a big concern I wasn't able to overcome previously, but my thinking has changed some in the past seven months.

First and foremost I always want a stable margin of safety, the last thing I want to do is invest in a company that is destroying the margin with a large cash burn or terrible acquisitions.  I don't see either with Vianini Industria.  The operations of the company are very poor, but the difference is made up with dividends from other cement holdings.  In addition the company has a high amount of operating leverage, meaning if the cement market starts to have an upturn earnings could shoot up dramatically for the company.

The company currently has a backlog of about €8m in projects, with the possibility of €9 more in extensions.  The company also has started supplying cement to a new energy plant which Mauro mentioned and is mentioned in the HY report.  Taken together this is about another year or year and a half of earnings at the current pace before new works needs to be found.

I would prefer that the company earn a 15% ROE and have great operations but that's unrealistic considering I'm able to buy the assets for less than 50%.  With Vianini Industria I'm buying the assets, and my hope is that the operations aren't acting against me, which they aren't.  

Margin of Safety

The margin of safety for Vianini Industria is very obvious, the company has a large amount of liquid assets in excess of its market cap, additionally they have some hidden assets, and a business that isn't eating at the asset value.

I keep trying to think of the worst case scenarios for Vianini Industria in an attempt to kill the stock.

The cement business hits a downturn - This is already true, I guess it could be even worse and there is a complete stop to railroad construction in Europe.  I believe this is already priced into the stock, and additionally even at low levels of production the company is squeaking by and just barely covering costs.  Secondly most of the company's earnings don't come from the cement operations, they come from dividends of other cement companies.

Their equity cement holdings could eliminate their dividends - This is a risk, although considering the market environment and they fact they're still operating and able to pay a dividend currently I think it's probably fair to say they'll be able to continue in the future.  Even if the holdings cut their dividends 50% Vianini Industria will be able to record a profit.

All cement production in Europe ceases - This is truly the worst case scenario, Vianini Industria would be operating at a loss, and so would the equity holdings.  In this case if they didn't cut any staff or costs they have enough cash to survive a complete halt for five years.

The Caltagirone family takes it private or takes the cash and securities - This is probably the biggest risk, the family holding the company takes it private at some low multiple.  The family already has control of the company, and the company supplies the other family companies.  While this is a risk I see it as a unlikely risk.

If none of those scenarios play out the company has enough cash to weather a very long dry spell in the cement business.  I feel that I'm adequately protected against a loss by buying the assets at such a big discount, additionally once earnings turn around I think the stock could begin to rise quickly.

Why is it cheap?

There are some obvious reasons why Vianini Industria is cheap, and the reasons are pretty good, I'm just going to list them out.

  • The company is 66% controlled by the Caltagirone family, only 33% of the float is public.
  • The actual business is pretty bad, low margin, loss making, terrible return on equity.
  • The stock has a small market cap, and is priced around €1, not much institutional interest.
  • There are a lot of related party transactions with other family controlled companies, it's possible Vianini Industria isn't getting the best prices for their goods, or they are overpaying for materials and supplies.
All of the above reasons are perfectly valid, and if I was looking at Vianini Industria as an investment into the cement making business I would probably avoid it.  The key to this stock is that the value doesn't reside in the business, it resides in the assets, and the hidden assets.

The question I asked when looking at Vianini Industria is do I think that cement production will completely halt in Europe for five years?  That's my worst case scenario, and the scenario where this is a losing investment.  I don't think that will happen, I have an adequate margin of safety protecting my investment and the company has the resources to wait out the downturn.

Disclosure: Long a small stake in Vianini Industria looking to increase it over the next few days.