Many investors avoid net-nets because they fear being stuck in an investment like Alco Stores. A company headed nowhere with a management whose heads are stuck in the sand. With a dour story and low valuation investors lose hope as their IRR trends towards zero. This is the what many people envision when they think of a net-net.
The company's story started to get exciting in July of 2013 when management announced a going private transaction at $14 a share. The going private offer was 63% higher than where shares had traded previous to the offer. The only problem was shareholders didn't quite see the deal as fair. Management's $14 per share offer valued the company for slightly more than NCAV, a classic take-under.
Two things happened in the ensuing three months. The company's management sent a number of notices to shareholders reiterating that institutional proxy companies endorsed the deal. But more importantly observers were offered a glimpse of what investors thought the company was worth. Much more than $14 per share. The vote to go private failed with only 39% of shareholders voting for the deal.
The company is currently trading for $33m against a NCAV of $29.4m and a book value of $84m. Substantially all of the company's current assets are comprised of inventory. There only other asset of note are their storefronts.
It's not hard to see why this company is a net-net. Their balance sheet consists of inventory and real estate, most in less than desirable rural locations. Their earnings are spotty and inconsistent. The company's biggest problem is their gross margins have been trending downward.
With a going private transaction off the table shareholders now have two paths forward. The first is the company continues business as they have and hopefully generate consistent profits at some point in the future. The second is that some of the larger shareholders get involved in the company and force an acquisition or sale at a much more equitable price for shareholders.
I wanted to show how even a very small change with the company's gross margins or SG&A could result in a much higher valuation. I've been playing around with ThinkNum the past few days. The site is an online DCF tool that's free to retail investors. I put together two models, the first is what happens if nothing changes for the company in the future:
Under a nothing changes model the company's stock is worth $9.37 according to the DCF calculator. I then adjusted SG&A expenses. If the company were to reduce their SG&A expenses 6% the valuation jumps to $32 a share.
Likewise increasing their gross margin to 33% gives them a value of $36 a share.
A DCF model is prisoner to a number of assumptions, but the model is useful in showing that even a very small change in in the company's cost structure could result in a much higher share price.
The company's management sees value in what they're running, otherwise they wouldn't have tried to purchase the company. Heartland Advisors, a value based fund also sees potential, they've build an 11% position in the company.
Where things go from here is anyone's guess. The company's SG&A, a significant expense this past year, have been slowly shrinking. Maybe expenses can't be cut anymore, although I somehow doubt that. Director compensation alone ran $300k last year. Executive compensation for the three named executives topped $1m. Those are quite large pats on the back for merely staying in business. I would imagine there are other expenses that could be cut if management had the will to do so.
The good news is that management knows shareholders are alert. They can't try to buy the company on the cheap. I'm not sure that Alco Stores is worth book value, but do know they're worth more than 54% of book value, which is what management offered. Is Alco in play now as value investors start to get interested? Or will it continue to amble along and remain in the market's dustbin? It remains to be seen...
Disclosure: No position