Regular readers of Livewire will have been following our feature on ‘value investing’. What we’ve learned is that while labels may be dispensable, having robust and repeatable processes are essential disciplines for successful investing. Of the five fund managers we’ve approached in this series, each has had a defined set of criteria for identifying opportunities and an equally, if not more rigorous process to sort the wheat from the chaff. So we’ve read the theory, now it’s time to see the process in action. In the final part of this series, we asked each contributor to present an example of a high quality value stock that they think looks compelling in today’s market. Responses come from Clime Asset Management, Montgomery, Hunter Hall, NAOS and Peters MacGregror.
Largest finance broker in the market at half intrinsic value
Ben Rundle, Portfolio Manager, NAOS Asset Management
Armidale Investment Corp, which is building a major asset finance business, represents compelling value at current levels. Over the past 2.5 years it has grown the equipment rental-leasing book from $30m to $85m. Recently the companyannounced 2 acquisitions in the finance broking space, which will make AIK the largest broker in the market by a considerable margin. We think this will result in more of the $3 billion that AIK writes in leases to flow through to their rental-leasing book. If we use book value of the leases and then apply an average multiple of competitors on the earnings from the broking business we arrive at a valuation of $0.35 versus the last traded price of $0.14.
Information security business with over 20% ROE
John Abernethy, Chief Investment Officer, Clime Asset Management
An example of what we see as an attractive investment opportunity is Citadel Group. CGL is an Information and Communications Technology managed services company specialising in securely handling communications in complex environments, often when security and/or confidentiality is critical e.g. Defence, Government or healthcare.
We see the business generating a >20% ROE in an industry that is growing independently of the broader economy. The balance sheet is in a net cash position and is managed by an experienced, passionate team that has a sizable ownership stake. While not cheap in the traditional sense of value investing (i.e. low P/E or P/BV), our assessment is the businesses is attractively priced on a P/BV basis when taking into account its ability to reinvest retained earnings at an incrementally higher ROE, and resulting in its “Intrinsic Value Growth” exceeding 10% p.a.
More growth ahead for Vitagroup
Roger Montgomery, Chief Investment Officer, The Montgomery Fund
Vitagroup is a chain of Telstra stores and Telstra Business Centres commenced over 20-years ago under the stewardship of a genuine human Eveready battery, Maxine Horne. The company’s double-digit like-for-like sales are the result of staff productivity improvements, and overall sales growth is a function of a constant process of replacing the bottom 10% of performing stores with new and better locations.
We are confident of double digit like-for-like EBITDA’s for at least two years just from productivity improvements that Management have identified. Last year’s underlying EBITDA was $62m and consensus analysts have $71m forecast for 2017. Therefore the market is only anticipating five per cent organic growth from $67m to $71m. Yet there’s a visible $5.7m to be added in 2017 just from the most recently acquired stores.In addition to the organic growth, many analysts have believed Telstra would limit the company to 100 retail stores. At the full year results announcement the company emerged with 103 stores as Telstra divested and allocated more stores to Vitagroup.
Value opportunity opens for the 'Google of China'
Wayne Peters, Chief Investment Officer, Peters MacGregor
With Google banned in China, Baidu is perceived as the ‘Google of China’. Its profits come from advertising linked to the results and clicks of users searching the Internet using Baidu. Baidu has an 80% share of the search market, and had been growing rapidly until a University student died recently after receiving an experimental cancer treatment that he learned about from one of Baidu's paid advertisements. Management expects it will be two or three quarters before growth resumes due to the changes it's been forced to make in response. Long-term this produces a more sustainable, higher quality business (i.e. less reliance on dodgy businesses advertising their wares), and short term has created an attractive entry price, as the search business is trading on ~12x earnings once you back out other investments. Most similar businesses with high margins and low capital expenditure requirements are trading well above 20x earnings.
Robin Li, the founder and 20% shareholder (54% voting rights), is also investing heavily in other businesses at the expense of current profits. It will take time before these businesses have enough scale to produce large profits, but with $6bn in net cash on the balance sheet the company can afford to take a long-term view on new ways to increase profits from its huge user-base.
A value stock from the spicier end of the market
Peter Hall, Chief Investment Officer, Hunter Hall Global Value
When searching for value in a frothy market, it can be better to start looking in the sectors that are out of favour. Within those sectors, it can then be the small end which can reveal some of the best opportunities. Asking for a classic value stock, Livewire recently interviewed London-based Peter Hall, Chief Investment Officer, at Hunter Hall Global Value. He outlined a value stock that his fund bought at just 10% of its Net Tangible Asset backing, a compelling initial value proposition. The company has significant operational leverage given the price of its product has gained over 80% already, and is expected to increase further. The stock has gained 400% since Hunter Hall made its move, but in the interview below Peter Hall outlines why he anticipates further significant gains from here: https://www.youtube.com/watch?v=ZRO8u2P8tSM
https://www.livewiremarkets.com/wires/33302
