Adams Golf gets a buyout and other net-net thoughts

I saw this morning that Adams Golf (ADGF) received a buyout offer at $10.80 a share, this is up from $5.54 when I first wrote about them.  I wrote in that post that Adams Golf had both a margin of safety and a catalyst, plus they were trading very close to NCAV.  I wish I could say that I am sitting on a two bagger and selling my gains today but that's not the case, I never ended up pulling the trigger on Adams Golf.

So why didn't I buy in?  When looking at why I didn't invest in Adams Golf investment I can identify two mistakes I made:

1) I mis-identified the margin of safety.  

When I looked at Adams Golf I was thinking about the company as a net-net.  I was looking for balance sheet safety and a tangible liquidation value.  I wasn't looking at liquidation value because I thought the company would be liquidated but because this would provide an absolute downside for my investment.

What I missed was that a margin of safety existed in the business.  The company was profitable and had a product that was well received in the niche hybrid golf club market.  I never examined the product or talked to any customers so I missed that people liked these clubs.  The products had brand value that another company in the market would want to acquire (as evidenced this morning).

2) For whatever reason the stock never felt comfortable to me.  

This is the hard one for me to quantify, but usually with an investment as I'm researching things will start to jump out at me and eventually I know the company I'm looking at is the type of company I want to own.  I never had that sense with Adams Golf, but I never stumbled on anything that would make me want to avoid them either.

This reason seems strange, especially for a value investor.  We're told over and over that the best investors are devoid of emotion, and we should learn to ignore our emotions.  I'm going to go against the grain here and say that I'm a very emotional investor.  When I see an undervalued business that fits what I'm looking for I get excited.  I get excited in the same way that I would if someone offered to sell me a successful restaurant on a busy intersection for pennies on the dollar.

Some investors can be mechanical, following checklists and investing by stringent rules.  That's not my personality, I go with guidelines and intuition.  Guidelines keep me focused, intuition is built on experience with similar businesses or similar investments.  If I can't get excited about a company or an investment I'm prone to forget about it six months later even if it's in my portfolio.  Not sure how much of my personality comes out in the blog, but I'm a pretty carefree, last minute decision, go with the flow person.  I think sometimes my investment style reflects that.  One day I'll be looking at a pink sheet company, the next a German hidden champion, then a Japanese net-net.  No reason, just following whims for value.  The advantage of this personality is that when I get excited about something I get focused and mildly obsessed.


Changes going forward?

As I've watched net-net's since the bottom of the crisis and invested in them worldwide my view has slowly changed in what makes a good net-net.  Initially my thought was that I wanted to buy $1 in cash for $.50.  This led me down the path of being attracted to cash heavy companies, shell companies, and utterly junky net cash stocks.  Some of these investments worked out ok, others not as much, and some were just disasters.

The problem was the market rarely rewards a cash position, the market rewards a business.  I had foolishly thought that since a company had a dollar on it's books the market should have that stock trading at face value.  The reality is that there is no rule governing the market that says that all companies must eventually trade at NCAV.  A company can sell below cash value forever, or it can sell above cash value forever.

In looking back at the net-net's I've owned that have done well I found that my best performance didn't come from companies suddenly trading up to asset value, but rather from improved business performance.  I can't actually think of any net-net's I've owned or followed that suddenly drifted up to NCAV for no reason, all of them had some sort of turn around, or perceived turnaround in the business that excited investors which in turn made the share price increase.

With Adams Golf I kept thinking in terms of asset safety, and less in terms of business value and turnaround potential.  Asset safety is important especially if a company is on the verge of liquidating or is burning cash and a liquidation seems likely.  If a company is profitable and has turn around prospects assets are important for a downside, but business performance is more valuable for the company to eventually trade at net asset value.

At this point you're probably wondering how the other net-net's in my portfolio look, will I be doing a wholesale purge?  Amazingly enough outside of one Japanese net-net all of the net-net's I own conform to this pattern.  They all have a downside protected by assets with varying degrees of liquidity but all have businesses that either have the potential to improve or are improving.

My last thoughts are that I've already been putting this process in place as I look for Japanese net-net's again.  I'm looking for assets that provide a downside, but my focus is on cash flow generation and hidden business value.  Hopefully I'll have a few companies to post about in the near future.

Talk to Nate about Adams Golf, or net-nets

9 comments:

  1. Nate,

    When you looked at them originally, did you come up with a "fair value" for the company, and was $10.80 close to it?

    Or did you not bother because you were analyzing it "as a net-net" and don't think in those terms when doing that?

    Meta-analysis question: are you sure you made a mistake just because they got a buy-out offer? What if this company goes on to crater and the people taking it private are making a mistake?

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    1. Taylor,

      Great comment, you were able to clarify my post a bit actually. I have been thinking about your comment for about a day, it's that good.

      So when I looked at Adams I thought the value was somewhere near $7, considering the earnings and cash. After I posted it soon ran up to ~$6 and there wasn't enough of a discount for me to invest.

      I think this post and the comments have made me think about isn't that I got my analysis wrong, it's maybe that I didn't fully value the business. I think that's what I missed.

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  2. Say it with me:

    "Hindsight bias hindsight bias hindsight bias"

    Just because they got a buyout offer doesn't mean you did anything wrong.

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    1. Yeah.... you and the next commenter both hammered this home.

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  3. "For whatever reason the stock never felt comfortable to me."

    A pitch came by, and you didn't swing, and there is absolutely nothing wrong with that. At the end of the day you have to do what will allow you to sleep at night, as Walter Schloss liked to put it.

    You are looking at this idea from the present looking into the past, and of course, that is causing you to think that you did something wrong. No one knows the future, and when you were looking at the facts that lay before you, you felt better off by passing in the company.

    Another pitch will come by, don't worry.

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  4. Nate -

    I wrote the letter to ADGF's largest shareholders that you referenced from Seeking Alpha in your Nov 2011 post. I thought you might appreciate my perspective, as well as the struggles I frequently encountered throughout my ownership of the company's equity.

    I invested in ADGF in early 2009, when it truly was a net net opportunity. At that time (stock in the $3 range), I thought it was worth $5-6. In the ensuing quarters, while the business performance improved, I consistently struggled to determine a range of fair value. When the stock jumped to nearly $8 last May, I felt that certainly was a fair value, but before I had an opportunity to liquidate my position, the stock sold off to the $5 range. By that point, I still believed >$8 was fair value, and I was so fed up with the board's willingness to grant equity for poor returns on capital that I penned the letter as a final straw before I threw in the towel.

    Luckily, the letter appears to have prompted the major shareholders into action. From that point, enough good news piled up (proposed shake-up of the board by the major shareholders, large legal settlement, announcement to explore strategic alternatives) that I felt a fair market value would be imposed upon the business by the market itself.

    That being said, I certainly wrestled with the ongoing question of value throughout my ownership. I've been in your shoes with other potential investment opportunities, where you see a stock jump to a level that no longer, in your estimation, provides you with sufficient prospective returns. This is compounded when dealing with small, illiquid businesses, where the bid/ask spread must be considered, as well as the trading impact of building and exiting a substantial position.

    I'm glad I came across your blog, as I enjoy uncovering other obscure opportunities.

    Regards,

    Jay Schembs

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    1. Jay,

      I'm glad you found my blog, and thanks for responding! I enjoyed reading your experience with Adams Golf, I know the feelings you went through. I remember reading somewhere that most people who end up owning stocks that go up 3x or greater usually at most thought the stock is 50% undervalued most of the time. It's just that undervaluation keeps sliding up and suddenly they're sitting on a nice gain.

      Have you ever played on a Adams club? Do you feel that you're still finding value in the US markets? I'm finding I'm going more and more obscure to find solid undervaluations.

      Thanks for being a reader, I'm sure we probably cross paths on a few stocks.

      Nate

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  5. certainly wrestled with the continuous concern of value throughout my possession. I've been in your footwear with other prospective financial commitment possibilities, where you see a inventory leap to a stage that no more, in your evaluation, provides you with adequate prospective profits.

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  6. Hi Nate, I bought at 5.50 after it came up on a stock screener I use. It was one of very few US stocks that appeared at the time, and none since have met the criteria. I reviewed the financial statements and appeared to me to be undervalued. I then saw your article which reflected my own thoughts but the shareholder activism story in particular really generated interest. Thank for making it available and sorry that you passed on it but can understand why.

    I decided I needed to carry out more offline and online qualitative research. I spoke with golfer friends. I was pleasantly surprised they knew about Adams, it had very good brand recognition for a small company. There seemed to be a lot of respect for the brand, especially the hybrid clubs, #1 hybrid on PGA tour and highly rated by a wide range of golf magazines globally (found reviews from US, UK, Ireland, Sweden etc). They had a strong niche with older golfers, and sponsored golf legend Tom Watson on the senior tour. they also sponsored the ladies world #1, Yani Tseng. The clubs were in my local golf shop in a small Irish town, another positive sign! I watched any videos I could find, I was impressed by their R&D in particular. Being a relatively small investor thousands of miles away I had to satisfy myself with that limited scuttlebutt but I felt there were a lot more positives that outweighed my concerns about management. Fortunately the activism did prove to be the price catalyst but that was never certain it would happen!

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