Why I Bought Senvest Capital

I've had trouble finding good values in the Canadian currency portion of my portfolio. In it I owned Andrew Peller (TSX:ADW.A) a Canadian wine producer for the last 1½ years. In that time the stock has returned 15%. However, that is still an overall loss in my "base" currency which is USD. The Canadian dollar depreciated by about 20% in the same period versus the USD.

Wine makers are in a very competitive capital intensive business anyway. I doubt ADW can have outstanding gains in the coming years. Don't get me wrong, it is a decent investment, but nowadays when I make an investment I expect to beat the market.

For this reason, I traded in my ADW for Senvest Capital (TSX:SEC). Senvest Capital is a Canadian investment firm, it owns several subsidiaries. The biggest two are basically hedge funds. One is Senvest Master Fund LP which operates out of New York, and Senvest Israel Partners which invests in Israel. Senvest is a well-known secret in the financial blogsphere. There are numerous writeups about it; I list them below. This article will mostly just summarize what has been written.

Senvest got attention several years ago when it was having very good results and growing equity nicely. I first read the glowing reviews about it 1½ years ago. Since then the the company results have exceeded the most optimistic expectations. The company grew equity from CDN$ 358M in 2012 to CDN$ 630M in 2013. After the first 9 months of 2014 equity grew to CDN$ 684M. The company's 2014 year end results are not out yet, but the fund's results are out. The Master Fund grew by 79% and 22% in 2013 and 2014 respectively. And the Israel Fund grew by 43% and 1%. This hints that the parent company's 2014 results are at least satisfactory. Since inception more than 10 years ago both funds returned more than 20% net of fees!

The parent company Senvest Capital owns 43% of the Master Fund and 48% of the Israel fund. The Master fund is a long/short fund, with about USD$1.4B in over 100 holdings. The fund holdings are known because as a US based company it is required to report its holdings. They are an eclectic bunch of companies with a lot of exposure to tech and pharma/biotech.  SEC does not require funds to reveal short positions but it is around $300M. Whatever the fund is doing is original and excellent. And it is even better that I don't understand it, because if I did I could buy those holdings myself without a middleman.

The Senvest Israel Fund is also attractive investment to me because Israel is an growing and stable emerging market. I have looked into some Israeli companies. But nothing really attractive stood out. And even if I found something, investing in Israel is not easy. The one brokerage that I can use to invest there charges about USD$130 per transaction plus the currency exchange and spread. So, something like the Israel fund is my best way to ride with Israel at a reasonable cost.

The two funds however are still hedge funds, and as all hedge funds, they are expensive. The fee is 1.5% expenses plus 20% of gains as performance incentive fee. I don't think hedge funds in general are a good proposition for that reason. But admittedly, even with that, the Senvest funds have merit.

But there is even more reason that Senvest is a great investment. At the current price of CDN$163, it is selling for 2/3 book! Since I heard about the company, I estimate book value increased by 60% and the share price increased by the same. So in that time the company is equally mispriced. It does appear odd that such a mispricing exists. But I don't fret as to why. As a value investor my job is simply to profit off mispricing.

Seeing as Senvest is a business that makes money from capital gains and dividend income, I found it instructive to see how much of the gains flows back to the Senvest Capital shareholders. The Senvest Capital parent company owns RIMA Senvest Management which manages the investments of the hedge funds and gets the fund's 1.5% and 20% fees. However it keeps only 60% of the fees, the remaining 40% goes to Richard Mashaal whose family owns half of Senvest. So 20%*40%=8% of the investment gains goes to Richard Mashaal as a performance incentive and shareholders can claim the remaining 92% of the gains — for simplicity I ignore salaries and incentives for the other members of the management team. The previous several years report shows that the company's gains are taxed at about 10% rate. This means the shareholder keeps about 82% of the investment gains. And because the stock price is 2/3 of book value, the shareholder gets actually gets 82% ÷ ⅔ = 123% of the investment gains. The following tables compares Senvest Capital stock versus investing directly in the Senvest holdings versus someone who is able to invest in a hypothetical mutual fund that does the exact same thing as the funds and therefore gets the same performance before fees.

	Investment in Funds	Senvest Capital	Mutual Fund
Equity	100% (neglecting expenses)	150%	100%
Gains	80%	123%	100%

Admittedly there is a lot of hand-waving approximations in these calculations. But it shows that the Senvest Capital stock is so cheap that it outweighs the tax penalties of investing through a corporation and the high hedge fund fees.

The biggest risk in this investment, in my opinion, is the performance of the funds. While in theory hedge funds are suppose to hedge the upside and downside, Senvest's funds do the opposite. They are more volatile than the market; the performance will exceed the market during up years and be much worse during down years. That has served the company well in the last two decades, but I fear the funds may suffer some awful permanent loss of capital in a future downturn. But of course the company does have the margin of safety. As well, the company has other investments outside of the hedge funds. For example, it owns unlisted companies as well as REITs. These hopefully will have some uncorrelated risks to the hedge funds. In addition, the rest of my portfolio should have uncorrelated risks from Senvest. I run a relatively concentrated portfolio with about 20 main holdings. And as such I consider risk management paramount.

Below are some useful articles on Senvest.

A recent Barron's article. An earlier Barron's article.
A dated article by oddballstocks
Value Investors Club 2014 article.
Barel Karsan 2015 article.

Recent Portfolio News

IEHC recently reported Q3 2015 results. Q3 revenue was $4.73 M versus $3.66 M the same period a year ago. Income was $0.59 M versus $0.19 M the same period a year ago. EPS was $0.26 versus $0.08 the same period a year ago. EPS for the first 9 months was $0.65 versus $0.51 a year ago. So the company is on track for another record year!

The gains came from increased revenue and improved margins. Gross margin was a eye-whopping 39.8% in Q3 versus 31.2% a year ago. It was 35.9% for the last fiscal year, which was a record year. If the company can maintain a close to 2% margin improvement in the current year that would mean a more than 20% income improvement even if the revenue is flat.

The company credits the commercial space for the great quarter. While the military business is a more traditional customer for IEHC, I feel it has plateaued. Instead, I feel the growth will come from the commercial space, in particular the medical and transportation areas.

I feel IEHC is a $8 stock.

Tachibana Eletech just reported earnings that show it is also having a record year. The company earned ¥ 203 for the first 9 months versus ¥ 133 for the same period a year ago. Tachibana is a distributor of factory automation and electronics equipment made by Mitsubishi Electrics. Tachibana serves the Asia region and China is a lucrative market as it modernizes. Exports to China is made even easier because the Chinese Yuan is virtually pegged to the US dollar as it appreciates against the Yen.

Tachibana stock has doubled in local currency in the two years that I've owned it. And to get a better sense of why, I compiled the following data on both companies. The chart shows Tachibana's revenues and that of Mitsubishi Electric. It also shows the revenue of the Mitsubishi Factory Automation (FA) group and the Electronics group. But if we focus on the red and purple bars which are the Tachibana revenues and the Mitsubishi FA revenues, we see they move in tandem. That is very reasonable as FA accounts for almost 50% of Tachibana's revenue. Mitsubishi's stock (TSE:6503) has also doubled in local currency in the last two years. So, Tachibana's success has really been the result of Mitsubishi's success.

Putprop announced it will do a R100M (US$9M) capital raise to buy more properties and diversify away from Larimar, the bus operator that is responsible for 80% of the company's revenue This is a rights subscription to buy shares at R6.30 whereas the stock is at R7.00. So, I feel it is in the shareholder's interest to participate, or sell the stock before the deadline. This capital raise should increase the company market cap from US$20M to US$30M. I haven't decided on my choice because earlier this month the company announced that Larimar was late with the rent. Larimar seems to have some financial troubles and needs a few months to be current with the rent payments. Maybe this is nothing but it caused the stock to drop 10%, and it is factoring into my decision for the rights description right now.

How I Track Website Changes

Several months ago I failed to act on a pop with New Century Group HK. It was a painful lost opportunity. While I am a long-term investor, I realize it sometimes helps to be prepared to act fast. On that day several things went wrong. One was I didn't get any notice of the early earnings announcement posted on the company website the previous Friday. If I had, I would have been more prepared for the next market open and at least wouldn't have been caught napping, literally. I only found out about the announcement after the pop when I went to the website because I knew something was up.

All US listed companies are required to promptly file any material investor announcements with the SEC. And websites can track the SEC edgar website and alert users of any changes. I use secfilings.com. But I have problem with my small foreign holdings or US companies not required to file with the SEC. All such companies that I own are responsible companies which report anything relevant to the public on the investor portion of their website. But I generally cannot get notifications from them. In the past, I just count on going regularly to the website to check, especially around the time of their quarterly announcements.

I've occasionally thought about tackling the problem of how to track website changes. I researched online and tried some of the nicer online tools, but they all charge for the service — for example, visualping.io. That is reasonable since the tool can only know of changes by brute force query of the site at periodic intervals.

But the New Century fiasco spurred me to action. Instead of paying, I decided — as with everything else I do related to investing — to go DIY. To do this method requires a computer that runs Linux or an unix-like system such MAC OS or Android. And if you must use Windows PC you can install cygwin on Windows. The computer must be connected to the internet, and preferably should be always on. I have a Linux home computer connected to the internet 24/7.

This method checks the websites using a simple Perl script. Perl is a basic command line tool offered in virtually all installations. But if Perl isn't installed, you can easily install it manually. The script, when run the first time, will create a base copy of each website that I want to track. Then every hour it checks those websites again and compares the current webpage with the base copy. If the script detects a meaningful difference, it will stop. The next time the I check on the script window I'll know what website changed. To resume, I can first command it to overwrite the old base webpage copy with the new changed webpage file.

The first part of the script is a list of website URLs. For each URL, I also give it a name and keywords to ignore. The ignored keywords prevent the script from excessively flagging minor changes such as the date or the current stock quote. See below.

$url[$i]{url} = "http://www.putprop.co.za/content/1997/1982/sens-announcements";
$url[$i]{name} = "putprop";
$url[$i]{exception} = "Parsing Time:";

The second part of the script iterates through all the URLs in the database. For each URL, it does downloads a copy of the webpage into temp.html. Next the script filters out any exceptions. Then it compares the temp.html with the previously stored base copy of the webpage. In the above example, the base copy is putprop.html.

$urls = $url[$i]{url} ;
$o = $url[$i]{name} ;
$o .= ".html";
$ret = system ("wget -O temp.html $urls "); }
$temp = $url[$i]{exception};
if ($temp ne "") {
$temp = "-v -E \'$temp\' " ;
$temp = " grep $temp temp.html \> xx ";
print ("exception: $temp\n");
system (" $temp ");
system (" mv xx temp.html");
}

print ("======================================\n");
if (compare("temp.html",$o)==0) {
print ("they are equal $o\n");
} else {
print ("they are NOT equal $o $urls\n");
exit(1);
}
print ("======================================\n");

As the code shows, if the two files match the scripts proceeds. But if they differ, the script aborts. Then I'll know next time I check the script that I should check out that website.

The final part of the script is a loop which wakes up once an hour and repeats the above process. I won't show that portion of the code, but below is a snapshot of how the program looks on my linux-box. Note that it last woke up at 9:24 AM and it has run for 16 iterations without finding any differences. The last URL it looked at belonged to Combined Motor Holdings, a South African company.

If you'd like a copy of the script, please make a request in the comment section.

Some Reading Material and Thoughts on 2015

Here are some interesting articles I read recently:

How You Know explains that although we may forget the details of all that we've read, the net effect of all we've read shapes our worldview and intuition.

An informative article that explains why microcaps stocks consistently outperform all other larger stocks.

The Best Calls of 2014 on Wealthtrack This is an year end look at the most prophetic guests on the show in 2014.

Ed Hyman's 2015 predictions on Wealthtrack is surprisingly bullish.

Howard Mark's thoughts at year end on oil and the markets: The lessons of Oil

Race to the Bottom is an article Howard Marks wrote in 2007 foreshadowing the financial crisis. I think it is good to occasionally study that period so that we don't make the same mistakes again. I can't help but get a sense that the investor euphoria is slowly creeping back. In the blogsphere, I have heard several people say with a straight face that they target 60% or 40% or whatever. Below is an quote from the article which in turn is a quote from Ken Galbraith.

Contributing to . . . euphoria are two further factors little noted in our time or in past times. The first is the extreme brevity of the financial memory. In consequence, financial disaster is quickly forgotten. In further consequence, when the same or closely similar circumstances occur again, sometimes in only a few years, they are hailed by a new, often youthful, and always supremely self-confident generation as a brilliantly innovative discovery in the financial and larger economic world. There can be few fields of human endeavor in which history counts for so little as in the world of finance. Past experience, to the extent that it is part of memory at all, is dismissed as the primitive refuge of those who do not have the insight to appreciate the incredible wonders of the present.

No doubt you'd have guessed I am not as bullish on 2015 as Ed Hyman.

I highly recommend The Economist Magazine in general. But the Jan 3, 2015 issue called Workers On Tap was especially insightful for me. It helps me think of the economy of the future a bit different. Below is an excerpt:

The other great force is changing social habits. Karl Marx said that the world would be divided into people who owned the means of production—the idle rich—and people who worked for them. In fact it is increasingly being divided between people who have money but no time and people who have time but no money. The on-demand economy provides a way for these two groups to trade with each other.

I've also stumbled upon an article of that analyzes the bond/equity ratio mix in a portfolio. I've thought extensively about this topic. Benjamin Graham advised it as a key tool for his readers in The Intelligent Investor. Graham only discussed the topic in heuristic terms. But I tried to put some empirical substance behind it by doing some simulations. And this is the first time I've seen any articles discussing it empirically. I have taken away a lot of ideas to modify my own simulations. I can't wait to implement them when I get the time. When I do and if the results are useful, I'll post.

Edit (Jan 18): Since I posted this a week ago, I noticed some more excellent material.

Jeffrey Gundlach gives his views and predictions for the coming year on behalf of Doubleline: (1, 2). Gundlach gives lots of non-typical observations and facts. I highly recommend the videos.

Ed Hyman's 2015 predictions on Wealthtrack part 2. Another interesting takeaway, Ed Hyman is bullish on Japanese equities!

Some observations about diversification from an excellent blog.

Tachibana Eletech Splits Stock

Tachibana Eletech is having a good year operationally. After three quarters, the operating profits are on track to be 10% more than last year. And revenues are on track to be 5% more. However, management also threw in a surprise. They said the company will report an ¥ 62 per share extraordinary profit from acquiring Takagi Shokai Corporation. So, the company expects to a ¥ 204 per share profit for the year versus previously estimated ¥ 142. Takagi Shokai Corporation is a distributor of electronic components similar to Tachibana. Tachibana used to own 48% and recently paid ¥ 703M to increase the stake to 81%. Making Takagi Shokai now a subsidiary of Tachibana.

	TSE:8159
Price	¥ 1715.000
Market Cap	¥ 37044.77 M ($ 307 M USD)
P/E TTM	7.0 x
Div yield	1.3 %
P/BV	0.82
ROE	11.7 %
ROIC	12.9 %

But how can a company make a profit from an acquistion you say? The reason is simple. Tachibana earned ¥ 1.6B of negative goodwill from buying Takagi Shokai Corporation. Goodwill is the difference between the cost of an acquisition and the book value of the acquisition. Typically, goodwill is positive because the cost is greater than the book value. This is the first time I have heard of a company acquiring another for less than book value. But while goodwill is normally kept on the book as an intangible asset, it isn't so if the goodwill is negative. It is recorded as income on the books.

Going from 48% to 81% ownership changed the treatment of Takagi on Tachibana's books, which prompted the negative goodwill. The goodwill includes all of the value above cost, including cost for the 48% ownership previously purchased. The bottom line is that Tachibana Eletech increased its book value by ¥ 1.6B from this transaction.

Management also announced that they will do a 5 to 6 share split in April 2015. It seems like a rather odd thing to do. Maybe management feels the current stock price is getting too high and they want to lower it, but not too much.

Now I sense the company is doing something to increase shareholder value. This stock has doubled in the less than two years that I owned it in local currency. But in USD, it is up only 61%. That's one thing to keep in mind, the Japanese stocks and indices look great in the last two years but it is partly, if not mostly, due to the monetary easing by the Abe administration. And what works can also turn on you. If the yen strengthens, the market will probably tank. But I don't think too much about currency because it is almost impossible to predict. But regardless of the currency, I am very pleased to see the stock trading closer to book. And the company's balance sheet may also be understating the true book value as this acquisition shows. The company has small holdings in 30 other companies worth ¥ 8B. These holdings are carried at cost and may be worth much more. In any case, I feel that the book value is the fair intrinsic value for Tachibana. I will only consider selling when the stock reaches book value.

And finally, Happy New Year!

My Trip to the McRae Industries Annual Meeting

After owning McRae (MCRAA) for two years, I've seen the stock double. After such a runup, it is always prudent to re-evaluate the investment. To help me re-evaluate MCRAA I decided to trek to North Carolina for the company's annual meeting held on Dec 18.

The trip was a success for me. First and foremost, I got a basic education about the company. I am surprised at how little I know about the company! I mainly put the most weight on the the financial statements for my investment decisions. But McRae's core business of selling boots has nearly doubled in the last 5 years. And anyone that invests in the company now must understand what the company does. The company is no longer a simple balance sheet purchase like it was when I bought two years ago; the stock is so much higher now.

The following from the company's website sums up its history well.

McRae Industries was founded in 1959 by Branson J. McRae with the primary focus of manufacturing high quality children’s shoes. In 1966, during the height of the Vietnam War, McRae received a contract award from the U. S. Government to manufacture military combat boots for the United States Army using the “direct molded sole” design. As a result, McRae Industries’ Footwear division has provided quality combat boots to the men and women serving in the U. S. Army for more than 40 years.

In a strategic move in 1996, McRae Industries purchased American West Trading Company, a manufacturer and seller of a variety of western boot products. During the 2002 to 2006 time period, the array of western boot products was significantly enhanced by the acquisition of several popular brand names – Dingo, Dan Post and Laredo. Also, during this same period of time, the company’s name was changed to the Dan Post Boot Company to more closely identify our products in the western boot market. In 2005, Dan Post Boot Company became a licensee of John Deere and began to design and market men’s and women’s work boots along with a line of children’s shoes and boots. Dan Post continued to expand its product mix in 2008 with the addition of the durable, price effective McRae Industrial line of work boots.

The company gets 1/3 of its sales from its commercial line and 2/3 from its western/lifestyle line. But the latter only started in 1996 and really took off in the mid 2000's when it purchased several companies in financial troubles. So the company, despite being in business for over 50 years, really took off in the last 10 years or so. And it makes talk about expansion more believeable. The company's FCF is around $6-8 mil a year, and management is thinking of using that money prudently for expansion. Initially, I was skeptical because I didn't realize that the company's western sales only got started in the last 20 years. And I thought if you haven't successfully expanded much in 55 years, why do you think you can now? But now I am willing to think of the company in the present form as only about 15 years old. It was only in the last 15 years that Gary McRae has run the company and has divested itself of the printer and bar code machine business. And most importantly in the last 15 years the company bought the various western boot businesses.

I personally don't have knowledge of the western boots that McRae is known for. In the future I'll definitely pay more attention to the boots that women wear, especially when I am in the South. So, I do not have an informed opinion of McRae's industry. Anyway, fashion market and trends are difficult to predict even for the experts. So really the only thing I can go by is the past results. And the past results show that McRae has expanded prudently, the company has executed well and management has been spot on diving into a lucrative market. The company did $104 M, $97M and $76 M in revenues in 2014, 2013 and 2012, respectively. The company also just reported Q1 revenue of $29.2M versus $31.7 M a year earlier. I wouldn't be surprised if revenue is slightly down this year versus 2014. However, this is still satisfactory considering where revenues were just a few years ago. If earnings plateau, the stock is a reasonable value. But if management can grow revenues and earnings over the next several years like they have for the last several years, this company can turn into a growth stock and would be ripe for acquisition. In that scenario I think a larger player must offer at least $60 a share for company. Compare this with Justin, one of the biggest players in the western boot business. Justin was a public company until 2000 when Warren Buffett bought out the company for $600M. At the time of his purchase, Justin was selling at about 20 times earnings and two times book. To buy McRae with those kinds of multiple would mean more than $60 a share.

I think this trip was invaluable for me. It also didn't feel like work. It was more like a learning experience and vacation rolled together. I saw the factory where they made their military boots — their western boots are outsourced to overseas suppliers. The management is very respectful and friendly towards the employees. But they are also capable of making the tough but necessary decisions to move manufacturing jobs overseas.

I also learned their VP of finance Marvin Kaiser will be stepping down. His replacement-in-waiting is now bringing up the Enterprise Resource Planning (ERP) software. Management is making an effort to improve the company. Ultimately, the results should show up in the books through improved margins, lower inventory levels, etc. Margins have dropped slightly in the last year and it definitely isn't due to pricing pressure. Management told me they are working on reversing the margin trend. This is probably my biggest area of concern.

Microcaps like this have very little coverage and insight into management. Furthermore, management in largecaps probably have no time for small individual investors. But for small companies this isn't so. I have heard of several successful smallcap money managers who regularly visit company management. Warren Buffett in his younger days used to drive around the country visiting management. Lynch also used to crisscross the country when he ran the Magellan Fund, And Francoi Rochon of the Giverney Capital also visits management regularly. This is my second company visit and I hope in doing so to emulate a bit of their success.

What Just Happened in Hong Kong?

On Monday morning Nov 24th Hong Kong time, the market opened with New Century Group Kong Kong (HK:234) opening up slightly at around HK$ 0.16. But 15 minutes into the trading session, all hell broke loose. The stock jumped to HK$ 0.40! That is a 160% rise! But it was too good to last. After two hours it fell back to around HK$ 0.25, which was still up 66%. There it stayed for the rest of the day.

The spike was ostensibly because of an early announcement that H1 earnings are up 390% yoy which, on the face of it, sounds great, until you realize that still means only 0.65 HK ¢. But I guess some investors didn't bother to download last years H1 to see what the announcement really meant, and bid up the stock to HK$ 0.40. For the next three weeks the stock slowly drifted slower to just HK$ 0.166! The falling chart shows the painful descent.

HK:234 Daily Closing Stock Price

And no, I didn't sell it all at the top! I was napping when it happened! Now that the stock is back to just 10% above the level before all this happened, I wonder how could a stock spike up 150% and then drop 60%. Who could have made such a colossal mistake by buying at such high levels? In hindsight, I am sure I didn't miss some behind-the-scenes event. My theory is it happened partially because some buyers did not understand initially that earnings was just up to 0.65 HK ¢, and partially because of an influx of new buyers from Shanghai through the Shanghai-Hong Kong Stock Connect.

The Shanghai-Hong Kong Stock Connect is a pilot program to help China open up its capital markets. Up until Nov 17, Chinese citizens cannot normally invest outside China, nor can outsiders invest in exchanges in China. When I say China I am referring to mainland China excluding Hong Kong. So many chinese companies list on foreign exchanges to get access foreign capital. Alibaba is probably the most well-known example.

The Connect allows any investor in the Hong Kong Exchange to buy certain securities in the Shanghai Exchange. It also allows qualified investors in China to invest in Hong Kong Stocks through the Shanghai exchange. This is the path for China to be a free capital market. However, there is a caveat. On each day there is a limit of how much Shanghai stocks and Hong Kong stocks can be bought by the other market. And there is also an aggregate limit. The aggregate limit is RMB 300 bil for Shanghai to purchase on the Hong Kong Exchange and RMB 250 bil for Hong Kong to purchase on the Shanghai Exchange. The aggregate limit is like the seating limit in a restaurant. Once the limit is reached, waiting customers have to wait for seated customers to leave before getting service. So, once the RMB 250 bll limit is reached, investors in China can no longer purchase Hong Kong stocks until investors in China sell some Hong Kong shares. This means the maximum outflow of capital from China is RMB 250 bil, which is a just 1% of the total RMB 24 bil market capitalization of the Hong Kong exchange. But this may just be enough to tip stocks significantly higher, like what happened to New Century Group. After all, Chinese retail investors are probably less savvy than Hong Kong investors and are much more prone to speculation. And what happened is clearly a case of speculators gone wild.

The current aggregate quote for purchasing Shanghai stocks is RMB 241 bil out of RMB 250 bil. So, it is at the limit meaning there is still pent up demand for Hong Kong stocks.

The current aggregate quote for purchasing Hong Kong stocks is RMB 235 bil out of RMB 300 bil.

	HK:0234
Price	HK$ 0.166
Market Cap	HK$ 957.82 M ($ 123 M USD)
P/E TTM	16.1 x
Div yield	3.9 %
P/BV	0.65
ROE	4.0 %
LT Debt/Equity	0.11

New Century Group has three main lines of business. One is cruise lines; they own two cruise ships. But that business is low margin and often not profitable. The other is real estate, mostly hotels in Hong Kong and Singapore. One contributor to the increased earnings was the disposal of a hotel in Indonesia. The company properties are valued at HK$629M. The third line of business is securities trading. The biggest contributor of the increased earnings was fair value gains in this line of business. The value of the cash and securities on the books is HK$993 M. The company's equity is HK$1.5 bil, the market cap is HK$ 957M. Note that the market cap is less than the cash and investments on the books! So a shareholder can pay for his shares with the liquid assets on the books and get the profitable real estate minus a small amount of debt for free!

In hinhsight, I should have sold the shares at HK$ 0.25 when it was trading about book, but no point in crying over split milk. I think the shares now are undervalued because of the price to book ratio. In addition I feel Hong Kong stocks can be a play on a more open China capital market as the events of the last three weeks showed. And finally, I feel the Hong Kong stock market is undervalued in general, so investing in this company is like buying a undervalued close-ended equity fund.

I Just Bought My Second South Africa Stock

In the last year or two the US economy has been looking stronger and stronger. It is quite clear by now that it is in the middle stages of a recovery from the recession that began in 2008. Unemployment is going down as smoothly as a plane coming in to land. The fiscal deficit is down from the abnormal levels at the height of the recession. Housing inventory is no longer full of bank-owned foreclosures. US manufacturing is making a comeback and US is producing record amounts of oil. Consequently the US dollar is at the highest level in four years. The market appears to be fully aware of this and the US market valuation reflects this economic situation. So though the economy still has room to run, US companies are probably fully valued. Indeed, I am finding it harder and harder to find those knock-out bargains of two or three years ago. That is why I have been buying outside the US recently. This is all a drastic change from 5 years ago, when news pundits were saying that the US will become a banana republic. Well I have a saying: You're never as good as everyone tells you when you win, and you're never as bad as they say when you lose.

I also find it interesting that the market has taken the opposite view of the emerging markets six years ago and today. In the last year or two, money has consistently flowed out of emerging countries. The headlines are full of bad news everywhere you look. Greece has 20% unemployment. Russia doesn't respect shareholder's and will steal or confiscate at will. China has a colossal property bubble. Hong Kong is too close to China to be immune. In fact that goes for every other country in Asia. Japan is growing old and will forever be in recession. Brazil, Indonesia and South Africa all have their own problems which has resulted in high inflation and capital flight. This juxtaposition of emerging markets and the US may be partially based on fact but I think it is also very much a matter of psychology. Someone always has to be a darling and someone always has to be the dog.

One often overlooked market is South Africa. South Africa is the second largest economy in Africa, which is the most underdeveloped continent. Parts of Africa have the most potential to achieve spectacular growth in the coming decades, possibly like what China achieved in the 80's and 90's. South Africa is also friendly towards foreign shareholders. It has an Anglo-Saxon system of law and corporate governance. All financial documents are in English.

	CMH
Price	R 13.000
Market Cap	R 1216.80 M ($ 107 M USD)
P/E TTM	7.8 x
Div yield	6.0 %
P/BV	2.15
ROE	27.7 %
ROIC	12.8 %

South Africa does have the drawback that it is a relatively mature economy. Its GDP growth has slowed in the last year. And the country has suffered some major setbacks in the last year. South Africa is known for having a restive labour force. Strikes are common and can get violent. But this year has seen the most damaging strikes in South Africa history. The economy even shrunk in the first quarter because of the strikes. By now, however, the strikes have ended and the media seems to indicate that South Africa will have a more productive coming year. In view of this, I want to maximize my exposure to the South African consumer. And so I bought Combined Motor Holdings (JSE:CMH).

Combined Motor Holdings owns several related businesses, with the majority of revenue and profits coming from car retail. Car retail in a developing country caters to wealthy and upwardly mobile consumers. In any up and coming country, the people yearn for a taste of the luxuries that they have only seen from afar in the past. In addition, they want to differentiate themselves from their less well-to-do peers. Furthermore, cars in South Africa are even more critical than in more developed countries because South Africa has a primitive road and public transport system.

The Group's other subsidiaries are Car Hire, Marine and Leisure, Financial Services and Corporate/Other. These other businesses are 12%, 0%, 13% and 5% of profits respectively. The Marine and Leisure subsidiary is troubled and it accounts for only 1% of total revenue of the group. Management hinted that it may be sold or closed down.

In the the company report, the CEO describes the company philosophy:

The Group’s management style remains one of decentralised operating and marketing complemented by centralised cash flow monitoring, accounting controls and internal audit. Remuneration of management and staff is linked to performance benchmarks, all of which are closely monitored using internally-generated measurements, and peer group review. The Group operates in sectors which produce very low margins, so tight control over expenses and cash flow is vital to success.

This kind of operation reminds me of Buffett's operations and the businesses described in The Outsiders by William Thorndike. The company focuses on cash generation and increasing value for shareholders.

CMH is a company with good profits but also with a large balance sheet. At any given time the company has more than a billion Rand of inventory. But this is still just a month's turnover. The company has an impressive 27% ROE. And I estimate the company's ROIC is 13%. These numbers hint that the company is profitable in part because of a high debt exposure. However, management has said that all debt is short term. Most of the company's R$ 1.5 bil liabilities is accounts payable or short term borrowings. And all the borrowings are in Car Hire division, secured by its car fleet. I take this to mean that the parent CMH does not guarantee the debt. The rest of the liability is mostly payables for their cars held for sale.

I read the annual reports going back the last five years. The management consistently articulates the company's situation well. The CEO and Chairman have run the company since 1976 when it was a single car dealership.  The directors combined own 70% of the company. They have aggressively used cash to increase shareholder value; they pay a high dividend (6%) and earlier this year, the company bought back 15% of the float at R 13. Share buybacks is a second trait that Buffett likes, and it is the MO of The Outsiders . I think it is possible that this company can be the type of exceptional company described in The Outsiders.

The following shows the per share performance of the company:

CMH - units of Rand per share

As one can see, the company does pretty well for all shareholders even though it is very closely owned.

Riken Keiki Q2 Update

	7734
Price	¥ 1036.000
Market Cap	¥ 24.04 B ($ 208 M USD)
P/E TTM	9.2 x
Div yield	1.7 %
P/BV	0.77
ROE	8.4 %
ROIC	12.2 %
Gross Margin	47.4 %

Riken Keiki recorded yet another outstanding quarter. That is a string of improving results over that last few years. The first half sales increased 7% but income increased 32%. And what strikes me about the recent company performance is the steadily improving margins. So far this half the gross margin is 47.4%. And from 2009 to 2014 the margins were 40.3%, 42.9%, 40.0% 42.6% and 46.7%, respectively. Operationally, the company must be doing something right, or it could be favourable effects of the exchange rate, or both. Foreign sales are just 22% of total sales.

For any foreign investor in Japanese stocks, any recent good news is overshadowed by the terrible Q2 GDP numbers. The country slipped into recession as it followed the previous quarter's 7.3% GDP drop with a 1.6% GDP drop. This caused a even further slide in the exchange rate. Today a dollar costs ¥106. However, I am stinking to Japanese investments for now because I don't think there can be sustainable pressure on the Yen. The Japanese current account is still positive this year, meaning that more money flows into Japan than out. In fact, I think I am going to buy some more Riken Keiki shares!

IEHC Q2 Update

	IEHC
Price	$ 4.910
Market Cap	11.31 M
P/E TTM	9.0 x
Div yield	0.0 %
P/BV	1.04
ROE	11.5 %
ROIC	15.6 %

IEHC reported Q2 earnings that I felt was quite reasonable. The company EPS for the 6 months this fiscal year is $0.35 versus $0.44. Revenues fell slightly (3%) but the bigger reason for the earnings drop is that margins fell from 63% to 61%. But last year earnings petered out in the second half and year-end EPS was $0.63. I expect earnings this year will be at least as good. So this is a long-term growth stock that is trading at 8x forward earnings. Apparently, other shareholders didn't agree with me and sold off the stock after the earnings. The stock dropped 10% on the news and I used this opportunity to double my position.

In other news, I closed my KCLI and ITIC positions. KCLI has run up a bit and it is a cigar butt that probably has one or two inferior puffs left. But I think I can better deploy my capital elsewhere. And I sold ITIC because I felt my original thesis was a mistake. The company had great margins in 2013 due to unusually low claims, and not surprisingly, this is not looking to be the case in 2014.

McRae Posts Second Consecutive Strong Year

McRae Industries reported year end earnings that was flat compared to a year earlier. Both 2013 and 2014 earnings were $7.5M despite a revenue increase from $97.1M in 2013 to $103.6M in 2014. The reason was that margins fell from 70.9% in 2013 to 69.6% in 2014 which negated the $ 6.6M increase in sales. The margin compression was due to higher cost of imported products, and management feels this will continue next year. However, I wonder if management is too pessimistic as the recent higher US exchange rate should lower import costs.

	MCRAA
Price	$ 31.500
Market Cap	76.55 M
P/E TTM	10.1 x
Div yield	1.7 %
P/BV	1.23
ROE	12.1 %
ROIC	18.7 %

The company's two sales segments were both strong. The western/lifestyle products business grew from $62.8M to $66.3M and work segment sales grew from $33.3M to $37.0M. Management foresees both segments continuing their strong performance in 2015. Management expects strong demand in the lifestyle segment which is not surprising considering that the US consumer is coming off five years of deleveraging and high unemployment. As the US economy rebounds in the coming year, consumer optimism will only increase pent-up demand for fashionable items such as boots. The work segment relies heavily on just a few military contracts and so this segment is more predictable short-term. And here management feels the current contracts will give this segment a strong 2015.

At current valuation, the numbers for McRea are quite impressive. The ROIC is 18.7% ! This number shows that the company has a lot of ancillary investments and cash on hand and the company is a lean operation. McRea does minimal advertising, if at all. This means the company cannot drive its growth; it just goes with the flow of the business cycle. I am just happy after an awesome 2013, the company maintained its results in 2014. If the company keeps this up, it will grow book value by $7M a year. Then, they will probably have to give a special dividend. I estimate this company's intrinsic value at $40.

2014 Good Year for Insurance

My insurance holdings are all doing well in 2014. I am not a swing-for-the-fences type of guy. I'd much prefer staid consistent returns. And insurance companies give me that — for now. Insurance companies are strictly regulated in the US. An insurance company requires a license from state regulators in whatever state it wants to operate. The regulators set guidelines for drawing up the liabilities, i.e., the reserves. This is especially true for life insurance companies. People's life expectancies are very well understood, and when a company combines thousands of policies together, the result is a very predictable income and payment stream. Life insurance is also a commodity because there is little room for innovation. For these reasons, life insurance companies are in a competitive low-margin business. On the other hand, many trade considerably below book. Kansas City Life (KCLI) is a case in point. The company's 3 month and 9 month earnings so far this year are in line with last year. But this is just a 4% return on equity! This is a paltry return for a company with no top line growth.

I also own AIG. AIG specializes in both life and property and casualty (P&C). The company's third quarter results was pretty much inline with a year ago period. AIG is now in its first quarter without Benmosche as CEO since 2009, when he steered the company out of the financial disaster. AIG's return on equity is better than KCLI but its relative market to book value is about the same, as shown below. But AIG is a more dynamic company and has much greater potential to improve results despite its larger size.

For comparison purposes, I have also included in the table two life insurance companies that I do not own. Independence Holdings (IHC) sells life and health insurance, and National Western Life (NWLI) sells life insurance along with a lot of annuities. The final insurer in the table is European Reliance (EUPIC). This company sells life, health and car insurance, among other services. It looks better than the others by all metrics. The downside to the company is that it is in Greece. But I bet few would know that after four years of negative GDP, the country is poised to be positive again in the coming quarter. And in my opinion, the dirt cheap stock price gives me ample margin of safety against the company's risks; I EUPIC is a much better stock to own than KCLI. And therefore, I plan to close my KCLI position and use the proceeds to add to my EUPIC position.

	KCLI	AIG	IHC	NWLI	ATH:EUPIC
Price	$ 50.000	$ 54.000	$ 14.220	$ 271.970	€ 1.440
Market Cap	548.40 M	75.60 M	249.96 M	988.88 M	€ 39.60 M ($ 49 M USD)
P/E TTM	19.5 x	8.5 x	10.9 x	9.4 x	3.9 x
Div yield	2.2 %	0.9 %	2.5 %	0.1 %	0 %
P/BV	0.72	0.70	0.85	0.64	0.60
ROE	3.7 %	8.2 %	7.8 %	6.9 %	15.5 %
ROA	0.62 %	1.68 %	1.95 %	0.94 %	3.25 %

ITIC also reported earnings. The company earned $7.0M for the first 9 months versus $13.0M last year. This dramatic drop was not because of a drop in revenue, which was only slightly down, but due to positive effects of claim provisions last year. ITIC sells title insurance; however, I don't really think of it as an insurance company like the other five mentioned in the earlier table. Title insurance claims are a tiny fraction of the premium — less than 10% — and they don't take long to occur. If a claim is made on a policy it usually happens within a few years after purchase. Also, part of the cost of the title insurance policy is the title search that the insurer must perform. So, ITIC can be considered a service company as much as an insurance company.

And my fifth and final insurance company, Wellpoint, reported Q3 revenues up 4% and income up 3%. And most importantly, year end EPS guidance is now around $8.88, up from $8.81. The stock has gone up almost 40% year-to-date. Even the midterm elections last week couldn't drag it down. The Republicans now control both houses of Congress and now can ram through legislation to repeal Obamacare. Their rhetoric says they will too. Of course if they do president Obama will veto it and the Republics do not have the votes to override the veto.

Still, I was pleasantly surprised at the lack of reaction from the market. But I am really not at all concerned by the election results. Obamacare is most widely know for the individual mandate, which is mostly provided by the public exchanges. But the public exchanges only provide 750k customers out of 37M. Wellpoint is doing well now mainly because of better management and the benefits from medical insurance expansion through many aspects of Obamacare. If the Republicans do succeed somehow in changing healthcare, it will only be to tweak this system of private insurance with subsidies for the poor. But the spirit of Obamacare is here to stay. So Wellpoint will benefit no matter which party runs the government after Obama leaves in 2017.

Seaboard Q3 Earnings

SEB
Price	$ 3072.000
Market Cap	$ 3594.24 M
P/E TTM	10.2 x
Div yield	0.4 %
P/BV	1.36
ROE	13.4 %
LT Debt/Equity	0.00

Seaboard Corp (SEB) recently reported Q3 results. Revenue was $1622.6 M versus $1648.1 M the previous year. Income was $104.7 M versus $26.0 M the previous year. So revenues dropped slightly but profit quadrupled. This was not a total surprise because of the jump in pork prices over the last several months. The pork division increased its operating income by $45M. The recent disease that hurt the pig industry has subsided. And pork prices have pulled back from the highs of the summer. However, my reading of the industry tells me that the pig crop won't be much higher next year because of the low birth rates this year. So, I expect higher pork prices for another year or so resulting in continued good performance from this division.

But pork wasn't the only division benefiting from commodity prices. Poultry prices are also at record highs this year, and so the Butterball operating income increased by $18M. Both meat divisions are benefiting from lower feed prices also.

The marine division and the sugar division increased their incomes by $10M and $6M, respectively. The marine division narrowed its loss this quarter in part because of cheaper fuel.

I have held this stock for close to a decade and have watched its performance ebb and flow with commodity prices. However, I think we are at a good point in the cycle. Feed crops such as soy and corn are now lower because of increased production and less emphasis on ethanol, which I think was a tremendously misguided effort by American government to use more renewable energy sources. At the same time, I don't think commodity prices are so low that producers like Seaboard will be unprofitable. So, Seaboard is going to a few more good years yet!

Hanover Foods 2014 Results

HNFSA
Price	$ 110.000
Market Cap	$ 82.08 M
P/E TTM	12.0 x
Div yield	1.0 %
P/BV	0.37
ROE	3.1 %
LT Debt/Equity	0.003

Hanover Foods just released its 2014 year-end results. Revenue was $429.0 M versus $443.8 M the previous year. Income was $6.9 M versus $12.1 M the previous year. Gross margins fell to 10.5% from 11.6%. Management did not make a single comment to explain the drop.

However the report did clarify the matter of the total outstanding shares. Apparently, the internet and blogsphere has been confused what that number is. It is a total of 746k A and B shares. A and B shares have same economic value but only B shares have voting rights. The company also gave hints as to the value of the shares. The company has a small amount of outstanding B shares in its employee incentive plan. The company at times buys back these shares when vested from the employees at $155. This is a $45 premium over the most recently traded A share price. The company does this probably because there is no real market for the B shares. I own the A shares, which are much more commonly traded on OTC.

The company made progress to reduce long-term debt to virtually zero. It also increased cash by $3M. So at least management isn't squandering earnings. But there is no getting around the fact that this is a low-return business. A 3.1% return on equity means that this business is no better than 10-year treasuries. Despite this I own this stock because it trades at less than 1/2 book. This is the classic cigar butt. I think and hope that this company can be acquired for twice the market value. But I have no idea whether the Warehime family want to sell. But while we all wait for some kind of an exit scenario, the company must work on improving operations. I have yearly data going back 4 years and it shows a distributing pattern. See below (all numbers are millions).

	2014	2013	2012	2011
Revenues	428.9	443.8	439.0	425.1
COGS	383.9	392.3	380.2	371.6
Gross margin	10.5%	11.6%	13.4%	12.6%
Operating margin	2.4%	3.8%	4.8%	4.3%
Net income	6.9	12.1	13.6	12.3
Equity	221.1	213.3	200.9	188.8

Again, I don't know the reason(s) for the decline. I can only speculate that commodity prices may have played a major role over the last 4 years. But commodities prices are coming down worldwide. I will closely watch the results in the coming quarters. I certainly hope and expect it to improve.

My Trip to the IEHC Annual Meeting

IEHC just held their annual shareholder meeting on Thursday and I was there. I decided to trek 3000 miles to attend because IEHC is a tiny company with a $12M marketcap and, not surprisingly, has little coverage in media. The company went up 75% in the 1 1/2 years that I owned it, and I needed more information to decide what to do next. So, I went mainly to see the company and its people in the flesh. Besides, I badly needed a vacation, even if it was for just 4 days.

So on the day of the meeting, I found myself in a busy business area of Brooklyn with a huge prison or military type building on one side. As I walked towards the company address in the rain, I found that prison or military building is the company's location! And the building is huge, the lobby has a 10-story high ceiling that makes you feel like you are in a train station. As I entered, I paid careful attention to my surroundings, because every impression can be a clue about the company. Next I had to ask someone where is the IEHC suite in this mammoth building. The person told me to go through an atrium which evidently used to be a railway platform because there is still the railroad tracks on each side, and there is even a WW2 era train car on one of the tracks! I even took pictures just in case anyone doesn't believe me. See below. If you look closely you can see weeds on the tracks. Look even closer and you can see that the surroundings were wet. That is because the atrium ceiling was leaking!

Entrance to IEHC; the office is on the 8th floor on the left

Now I will move on to the meeting. It was in a small partitioned conference room. I was one of three shareholders present, the other two being local to the area. The CEO Michael Offerman and his son David were there, as well as Robert Knoth, the CFO, the legal counsel and Jerome Rosenberg the long-time auditor. We started the meeting with the boilerplate legalese and voting formalities, then we spent about an hour on questions and discussions. I didn't expect to get any material nonpublic information, and I didn't. But it was extremely informative at the same time. I saw the interaction between the David and Michael, which was harmonious. Michael was a sharp, hands-on and knowledgeable for a 73 year old CEO. David, who is the marketing VP, also was passionate and knowledgeable. He appeared to be a person who deserves his position and I would gladly see him take over from the elder Offerman someday.

In the meeting us shareholders raised the issue of dividends and Michael Offerman said he has considered it but he was non-committal. But I learned that the IRS apparently pressures companies to have a clear path to either use retained earnings for capex or to distribute it. I got the impression management is still developing the growth strategy for the next few years as the company builds up more and more cash. The company increased equity by $1.8M last fiscal year but spent only $0.35 M in capex. If the company continues to perform well as it has done in the last few years, I think the company will accelerate capex spending. But it will still be in the same ballpark as it is now, maybe $0.5M. So then, given the about $2 M dollar expected cash flow in the coming years, management will have no choice but to give out at least a token dividend. I think 2% will make investors very happy. It will make me very happy.

After the meeting David gave us a brief tour of the factory. At this point, I just wanted reassurance that this small company really makes what it says it makes, and that it does employ over 100 employees as stated on its 10K. But it was during this tour that I met a most interesting 90 year old woman. This petite woman has been an IEH employee for 67 years! She originally worked for David's grandfather in the 1940's and not only has she worked for IEH for her entire life, but she has also brought her children and grandchildren into the company. This woman's presence told me more about the company management than anything I learned so far that day. As a shareholder in a company where the CEO owns more than 50% of the company, my biggest worry besides the health of the company is whether the insiders are treating the minority shareholders fairly. I know that Michael Offerman is paid $240,000 per year. And the company has a stock option plan but that plan is totally untapped. So I know the management compensation is very reasonable. And, after I met this lady, I am sure that the insiders will not take advantage of minority shareholders. A boss who can get that kind of loyalty from employees will not be out to screw the minority shareholders!

So, when I left the company, I felt very good about my IEH investment. I met the management and liked them. I saw the operation and it appeared efficient, well managed and low-cost, which leads me back to the company's building. This building I found later was the Brooklyn Army Terminal used in WW1 and WW2 to supply ships bound for Europe. The building now belongs to the City of New York who rents it out to businesses. And while it sure doesn't look impressive for an office building, I like it because it must be cheap. To me a company's premises should be as cheap as possible so long as it doesn't scare the customers and potential employees away. Below is a picture of the Brooklyn Army Terminal from the outside.

Why I Bought Sears Holdings and Promptly Sold It

Sears Holdings (SHLD) and I go back to late 2007, when I read the famous bullish Barron's article. After I read the article, I got the stock at $135 per share. Later, I managed to average down in the following year. I sold out the last of my position last year, and overall probably broke even. Last week, the stock hit a recent low when CEO Eddie Lampert announced he would lend Sears $400M for a short term through entities that he controls. That piqued my interest in the company again. The stock reached a low of $24.50 last week. From the time when I first bought seven years ago to now, they have spun off Sears Hometown, OSH, Sears Canada and Lands End to shareholders. I have heard people estimate these spinoffs at $23 per share. That means the stock has dropped 64% from when I first bought.

As the original Barron's article suggested, it is the real estate and other assets that makes SHLD attractive to investors. SHLD owns or leases about 2000 locations in the US. Sears also owns the Kenmore, Craftsman and Diehard brands. The company also operates the Sears Auto Centers. But in the last seven years we have not really seen any large-scale monetization of the real estate. The company has closed hundreds of stores because of underperformance. In the process, the company may make a gain on the sale of the real estate or on the sale of the lease if the store is not owned. Right now, the company's equity is less than $1 B and it has lost more than $5 B in the last 3 years alone!

So the company's income and balance sheet steadily declined over the last 7 years. No wonder then that the company stock has dropped 64%. Even if investors believed in the real estate story, it is very unclear how long it takes. And many gave up, myself included. But in investing, I can like any security at the right price. And I like SHLD at $24.

In my analysis, I am trying to be objective. Bad mouthing Eddie Lampert or being hysterical doesn't serve much purpose in making the correct decision. As I mentioned earlier, Sears has shed several businesses that it owns. Sears is still left with its main assets which has the most optionality. The following summarizes Sears' real estate associated with their full-line stores only and shows their change over the last two years.

Date	No. of Stores	Total Sq ft (mil)	Owned vs. Leased
Sears Domestic 2012	867	116	60%
Kmart 2012	1305	125	16%
Sears Canada 2012	122	16	11%
Sears Domestic 2014	798	109	60%
Kmart 2014	1221	115	16%
Sears Canada 2014 (prorated 51%)	59	8	11%

The company has gradually been downsizing. In the process it had gains of $0.67 B and $0.47 B and $0.06 B in 2013 2012 and 2011, respectively, from property sales or sale of leases. The company also closed 145, 60 and 247 stores in 2013, 2012 and 2011 respectively, at a cost of $0.14 B, $0.16B and $0.34 B respectively.

Because Sears is bleeding money so badly the company is openly discussing harvesting the real estate value. The consensus view is that the company will have negative operating cash flows between $1B - $2B per year. The CEO resorted to lending the company $400M because of this urgent need for cash. Whatever the CEO was trying for the last seven years to revive the company has proven to be a failure. The is no other out for the company but liquidation or major downsizing of the Sears' retail business. The following lists Sears' financial position and how I estimate it would fare in a liquidation.

	Value (bil)	Total value (bil)
Market cap	2.6	Total EV: 18.3
Long-term debt	2.8
Pension and other liability	4.7
Current liability	8.2
Inventory and current assets	8.4	Liquidation value: 20.7
Sears Canada	0.5
Trademarks	1.8
Store Real Estate	8.5
Other Property	0.5
Auto Center	0.5
Home Warranty & Repair	0.5
Difference		2.4

I used $8.5 B for the store real estate because that is a number I've heard floating around. That means the company can realize a gain of about $4 M a store or $40 per square feet. The above also does not put any value on Sears online though Sears is the third biggest online retailer today! So the reader may argue that I am being too conservative, but that's my nature. And to me the overall $2.4 B potential gain is too small a margin considering it is bleeding so much cash everyday. Also there is just so much unknown regarding value of the company's real estate. Are the remaining store locations more or less valuable on average versus the hundreds that were closed before? A retail investor like me simply does not have the resources to research the answer.

With that in mind, who is backing the company becomes a major consideration for me. The company is owned by three of my most respected value investors: Eddie Lampert, Bruce Berkhowitz of the Faireholm Fund and David Chou of the Chou Funds. Berkowitz and Chou have two of the best track records over the last two decades in the USA and Canada. And both of them have a sizeable 10% position in their funds.

So, there I was on Friday, thinking about the issues with SHLD. I also reminded myself that I spent more money at Sears than any other retailer in recent years — mostly for appliances and at the Sears Auto Center. I then decided to reopen a position. However, I hadn't completed this blog entry and I didn't have the entire analysis clearly in mind. When I completed this entry during the weekend, I reconsidered my purchase and thought that the problems outweighed the potential upside. By Monday, I decided to put SHLD in the too-hard pile and sold my position.

This was a small mistake that didn't harm me, thankfully.

Autumn Reading Material

Time flies, we are now in the pivotal September / October time frame when bad corrections usually happen. This year it looks muted. I have been finding more and more reading material that interest me. Calpers, the huge California pension fund, has decided to scrap hedge fund investing. That is not surprising if you read this negative article on the industry.

I also enjoyed this following succinct article that explains what is risk.

I am also starting Silent Investor, Silent Loser by Martin Sosnoff, which is a little-known book written by a money manager's in the 80's. I am not really sure what is the point of the book, but the stories from that time period gives me a very important sense of perspective.

I discovered this thorough analysis of Sears Holding's real estate by Baker Street Capital. It is a must-read for anyone contemplating buying Sears.

Another older book I found is The Go-Go Years: When Prices Went Topless by John Brooks. I read a chapter here and there to get a perspective from the last market excess before the dot-com era.

And finally, I am reading yet another book on Warren Buffett: Of Permanent Value: The Story of Warren Buffett by Andrew Kilpatrick.

My next reading material post will be a list of links to articles about Warren Buffett Partnership investments.  Enjoy this list for now.

Globus Martime H1 2014 Resuls

Globus Martime, a Greek microcap shipping company, reported a loss for H1 due to impairment charges. Without the impairment charges, the company would have profited $0.13 per share. Revenue was roughly flat versus a year ago.

The company has shifted five of its seven ships to the spot market. Apparently, this is a strategic move to take advantage of the expected recovery in charter rates. The CEO George Karageorgiou said in the report that by next year, when rates are higher, the company will move the ships to longer term charters. The CEO appears to have a much more positive tone compared to last several years. He even said he intends to grow the fleet in the next few years.

The company reported a $1.7M impairment charge for H1.  This impairment has been fluctuating recently because one of the company's ships is held for sale. And its value changes every quarter due to mark-to-market accounting. The impairment has even been negative in the past.

An investor in Globus Maritime must weight two issues. One is the charter rates, which one can gauge using the benchmark like the Baltic Dry Index (BDI). And the other is the company's debt. BDI right now is above the average of the last few years; see here. But it is still depressed, though the CEO is optimistic. The debt issue looms quite large. The company has $85M in debt and $60M of equity. The company's adjusted EBITDA is 5.5 times the interest expense. However, EBITDA doesn't include depreciation. With depreciation, then the interest coverage is an unacceptable number.

In other news, IEHC's CEO wrote a shareholder letter along with the 2014 annual proxy. In the letter, he summarized the published 2014 results. But more importantly, he stated that, at this point in Q2 FY2015, the company's order backlog is $8M. This is the highest level ever and a $2.1M increase since FY2014 end. The company is buying equipment to increase capacity to meet this demand. The stock jumped 12% to $5.10 per share on the news.

Putprop Earnings Looks Too Good

Putprop finally came out with the year end results after two pre-annoucements. The company earned 2.48 Rand per share which, on the face of it, is fantastic for a company priced at 7.35 Rand per share.

Putprop is a South African real estate company primarily engaged in renting to businesses. South Africa follows the IFRS accounting standards, as is most of the world but notably not USA. IFRS defines what is the standard regular earnings, but it also allows companies to report a variation called headline earnings. I read that companies use headline earnings to present a more meaningful measure of operations. For Putprop, regular earnings is equal to headline earnings plus its share of associates' earnings plus fair value gains on property. In other words, headline earnings removes the effect of mark-to-market accounting and focuses only on the core company's earnings. But the mark-to-market gains are huge, worth 39% of the regular earnings. The company's gains from the associated companies Belle Isle Investments Proprietary Limited and Pilot Peridot One Proprietary Limited are also large at 26% of the regular earnings.  This leaves headline earnings per share of only 0.86 Rand.

Company management emphasized they have been diversifying away from renting to the bus business which is their largest customer by far. To that end, the company acquired shares in other rental companies. This made a dramatic contribution to the bottom line, adding 19 M Rand to earnings versus 1 M in 2013. This is the bulk of the 0.74 Rand earnings per share increase between 2014 and 2013.

I think the regular earnings per share is the most useful number to gauge the company. But doing so implies the company trades at 3 times earnings! How is that possible? Well, my impression is that the market uses the headline earnings as the gauge. A month ago the company pre-announced that its earnings this year would rise significantly over a year ago. The stock shot up 30%. However, two weeks later the company revised its pre-annoucement. It maintained its regular EPS but removed the associates' income from the headline earnings. The stock then dropped back to its previous levels. See the table below.

	Official EPS	Headline EPS	Subsequent Price
2013 results	1.74	0.87	7.00
1st Pre-accouncement	2.40	1.50	9.00
2nd Pre-accouncement	2.40	0.86	7.35
2014 final results	2.48	0.86	7.35

The company also announced it will maintain its dividend, which is a 5% yield. And the stock trades at 56% of book with no long-term debt. I don't know why this stock hasn't doubled yet.

My 3rd Annual Schedule of Investments

I have written my blog for two years (!!) and once a year I list my largest holdings. So the following are my largest 13 holdings. Because I run a relatively concentrated portfolio, these stocks form the vast majority of my portfolio value. As a comparison, my last year holdings are here.

Position	Category	Business
Wellpoint (WLP)	US Large cap	Health insurance
McRea Industries (MCRAA)	US Microcap	Footwear
Tachibana Eletech (TSE:8159)	Japanese Small cap	Electronic Distributor
Seaboard Corp (SEB)	US Mid cap	Food Conglomerate
Installux SA	French microcap	Manufacturing
AIG (AIG)	US Large cap	Insurance
Investor Title Insurance Company (ITIC)	US Small cap	Title insurance
Petsmart (PETM)	US Large cap	Pet retailer
Bruce Fund (BRUFX)	Mutual fund	Mid-cap value
Putprop	South African Microcap	Real estate
New Century Hong Kong (HK:0234)	Hong Kong Small cap	Hotel, cruise line
Hanover Foods (HNFSA)	US Small cap	Processed food
Philip Morris International (PM)	US Large cap	Tobacco

My largest positions are little changed. But I did trim my WLP and SEB positions, and I added to Tachibana during a dip.  In the last year, I continued my shift from large caps to small and microcaps. My new positions include Hanover Foods, ITIC, New Century HK and Putprop. Since I started moving from large caps to small caps two years ago, I have probably done more trades than the previous decade. I think I have a good mix now and I will trade a lot less in the coming year.

I am sure any reader is curious about my rate of return. My answer has always been: I don't know. Money flows into my accounts from paychecks and dividends. Money flows out for expenses and taxes. I can't keep track of it all. But I am not unhappy with anything on my list. If I was unhappy I would have sold it. And I did sell OiBr. I last sold it around $2 and it is $0.60 today! Whew, that was a close call. But still, OiBr is my biggest mistake of the last six years.

I first bought OiBr 8 years ago and loved the 10% dividends as well as the stock appreciation. But three years ago I failed to follow the stock closely and didn't even notice the drop. It isn't trivial tracking a stock that merges multiple times, pay a 10% dividend and is denominated in Raeis. I also failed to notice the deteriorating economic situation in Brazil and BRIC's in general. Most importantly, I feel now that OiBr has inadequate corporate governance, but I didn't see that early on. This lack of care cost me. Since then, I have identified and corrected my errors in judgment with OiBr.  My investments of the past year reflect this.

I built up this list over many years. The stocks in the list appear to be an eclectic bunch from all corners of the globe. But there is a method to the madness. I focus mainly on profitable companies with great balance sheets; in other words, the best cigar butts. A reader would notice that my company writeups do not emphasize the company's operations or area of business. I purposely do this because I learned my lessons when bought stocks in the tech companies where I used to work. I found that the knowledge I gain about a business' products can easily make me overconfident about the company's future. So I don't spend my time reading too much into it anymore.

My research on a company focuses on the balance sheet and income statement. I use the simplest and most common accounting measurements. I am an engineer by profession, and in my work I always keep in mind a fundamental principle for any task: Keep It Simple and Stupid (KISS). You'd be amazed at how many practitioners in engineering and finance forget that. When an investor reads too much into some trend or data, he can easily put too much weight in conclusions based on information of little or no value.

It is for this reason that my investments and analysis may appear somewhat superficial. For example I compare companies mostly by the PE ratio. I feel no single metric gives so much information for lightly levered companies. And after the OiBr experience I will avoid capital intensive and highly levered companies. Leverage is simply too risky and too complex for me.

The lifetime of my blog has coincided with a raging bull market. But my investing approach isn't all about bull markets. When the next market correction comes, and it will, I think this blog will make even more interesting reading. But of course, I hope for the best, and I ask the market gods to give me another year like the last two!

S&P 500 Triples in 5 Years!

It was a little over five years ago that the S&P 500 index hit the intraday low of 666. A few days ago it reached 2000. That means the stock market tripled in 5 years! After two crashes in the last 15 years I don't blame the average person for not noticing. But sooner or later, the public will recalibrate their thinking of the stock market and the economy. Maybe this expansion is here to stay and we are in the middle or early stages of a secular bull market.

I am no economist and I know my opinion and even the opinion of experts are only vague guesses at what the future holds. But I must pay attention to the overall market and economy as it is one of many factors in my investing decision process. I remember five years ago at the depths of the financial crisis, I told anyone who would listen that we are in a once-in-a-lifetime opportunity. Today I am very unsure where we are. But instinctively I feel that this bull market cannot last much longer. We have had probably the best five year bull market in history; if not then definitely one of the three best? Maybe?

Then again, I think I don't really know for sure and I should find out. So I decided to find out if my belief is reality. I don't know of a published source for this information so I decided to derive it myself based on Robert Shiller's market data. This is the data source for the Cyclically Adjusted PE (CAPE) by the recent Nobel prize winner. From the data, I used the S&P index going back to the late 1800s factoring in inflation and assuming that dividends are always reinvested. I feel factoring dividends and inflation is the best way to compare returns in different periods¹. And I came up with the following table of the best 5 to 9 year real annualized returns with reinvested dividends. The results for each period must be non-overlapping.

5 Year Period	Sept 1924 — Aug 1929	27.4%
	Jul 1932 — Jun 1937	25.5%
	Dec 1994 — Nov 1999	22.8%
	Aug 1982 — Jul 1987	20.8%
	Mar 2009 — Feb 2014	17.3%
6 Year Period	Aug 1923 — July 1929	25.1%
	Apr 1994 — Mar 2000	18.8%
	Jul 1949 — Jun 1955	17.0%
	Jul 1932 — Jun 1938	15.5%
7 Year Period	Jan 1922 — Dec 1928	19.0%
	Jun 1949 — May 1956	16.5%
	Jul 1992 — Jun 1999	15.9%
	Aug 1982 — Jul 1989	13.9%
8 Year Period	Sept 1921 — Aug 1929	21.7%
	Jan 1991 — Dec 1998	15.4%
	Mar 1948 — Feb 1956	14.3%
9 Year Period	Aug 1920 — Jul 1929	18.7%
	Nov 1990 — Oct 1999	15.0%
	Jul 1950 — Jun 1959	12.3%

The results are fascinating. The last five years only ranks 5th overall. The table gives a sense of perspective which is paramount in investing. But I am not using it to make any strong conclusions about the market over the coming years. But I can say that the current bull market can return 10% for the next two to three years and we still would not be breaking the record. The table shows that the best two 7 or 8 year periods have returned more than 15%!

The US economy appears to have room to expand based on unemployment and other economic results. The retail investor may suddenly see this and notice the market run up and forget the pain of the last fifteen years and finally jump in. To me, this scenario is as plausible as the stock market crashing, which is what most retail investors have been expecting for five years. I sure hope they get tired of waiting and dive in!

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1. The S&P 500 index does not include dividends. To know the market index with dividends one should use the S&P 500 Total Return index.

Summer Quarterly Updates

Tachibana Eletech reported Q1 total income increased 18.9% yoy; revenue increased 6.7% yoy. This improvement was partly the result of strong industrial demand in Japan. The results are even more impressive because the market presumed that last quarter's results were good because customers moved forward purchases to avoid the impending consumption tax increase. Q1 results were the first that included the consumption tax increase, and the results would have been impressive even if there was no tax increase!

The company also upped its year end EPS guidance from ¥161.41 to ¥170. The stock has rallied recently but it is still selling for only 8 times EPS guidance.

Riken Keiki reported earnings increased 19% yoy. Revenue increased 6.6% yoy. This company is firing on all cylinders. Last year its earnings increased 14% and the year before it increased 22%. This is my best performing Japanese holding, increasing by 90% in the 18 months that I've held it. When I initially bought the stock 18 months ago, the fact that it was a netnet was my margin of safety. Now it has risen 90% and is no longer a netnet. The market has priced it more as a earnings growth engine. But the stock still trades below book and and at 11x EPS guidance. This is Ben Graham's value investing at work: buy a good cheap stock, and usually something good happens!

Fujimak reported a ¥ (38.39) loss per share versus ¥ 3.5 a year ago. Revenue decreased 5% yoy. This was a surprise...no... a shock! The company said much of this was the result of a natural pullback from its knockout Q4, when it earned ¥ 99 a share, and to a lesser extent the consumption tax increase.

The company gave an EPS guidance of ¥98, which I hope is true but I also fear may not be met. The company trades at 8x EPS guidance.

Now on to US stocks. Seaboard Corp had one of its best quarters in history. Because of record pork prices, EPS was $79 versus $33 a year ago. H1 EPS was $119 versus $81 a year ago. The stock didn't budge after the earnings reports. In fact it dropped a bit because of plunging pork futures. Pork meat was regularly around $0.80/lb for the last several years, then it suddenly jumped to a high of $1.30. Today, futures for delivery in the next several months is back at $0.90s. Next year delivery dropped but now is back in the 90s also! So the weak stock performance is understandable.

Kansas City Life Insurance reported Q2 earnings slight down. Q2 EPS was $0.77 versus $0.98 a year earlier and premium revenue was down 5%. Book value has grown steadily and now the stock trades at 2/3 book. It also pays a 2% dividend. I feel this is one undervalued and neglected company.

Investors Title Insurance Company reported earnings were down 20% yoy. Premium revenue was flat yoy, which is encouraging considering the exceptional refinancing activity last year. The decrease in earnings was primarily the result of increased commissions. The company now trades at 1.1x book.

Putprop pre-announced that the company's earnings will be approximately ZAR$1.50 vs ZAR$0.86 a year ago! That is a 75% increase and even after the stock jumped by 30% from my initial purchase, it is still trading at 6 times earnings!

IEHC reported Q1 EPS $0.17 versus $0.23 a year ago. Sales was down 4% yoy. I would've liked to see better yoy results, but last year's Q1 was exceptional. I don't really know what to make of this tiny company. I had hoped based on my reading that this company's sales would take off in the last several quarters. But this hasn't happened. The company's sales are quite erratic. I'll pay close attention to this one in the coming quarters.