To the clients of Mittleman Value Partners:
After a long period of unusual fixity, our investment portfolio experienced significant change in 2024. There are seven new holdings which occupy 25% of the representative account value as of 8/31 and eighteen positions held in total. Six of the seven new names have risen in value since our purchase, with all seven netting about 4.4% of performance contribution year-to-date. While those names are all new, the value-oriented investment discipline applied in selecting them remains unchanged, and four of the seven new entrants operate within industries in which I’ve invested successfully in the past.
Our performance turned positive during the rally in small caps which began in July with our rep account surging to a 14.75% gain year-to-date (8/31), up from a loss of about 2% YTD through the end of Q2. While ahead of the Russell 2000 TR YTD 8/31 (+10.4%), we’re still trailing the S&P 500 (+19.5%).
Joe Rosenberg, the longtime Chief Investment Strategist for the Tisch family’s Loews Corp. (NYSE:L), died at age 91 on April 29, 2024. I had read in a Barron’s article in the early 1990s where Joe said that the secret to beating the market was to “Have opinions at extremes and wait for extreme moments.” That line impressed me as a young value investor, but apparently no one else found it memorable, as I’ve not read of anyone else ever referencing the quote in the 30+ years since that article appeared.
Regardless, I took Joe’s advice to heart and have attempted to become informed enough to have valid opinions, patient enough to wait for those extreme moments, and thus to be prepared to try to deploy capital only when the risk/reward ratio appears truly compelling, if not compulsory. I believe that discipline is driving the opportunistic new buys I’ve made this year, but of course only time will tell.
New holdings
Grifols SA
Our largest new buy is now a 9% portfolio weighting in Spanish firm Grifols SA ADR (NYSE:GRFS, $9.34), an ADR which consists of one non-voting class B share that is locally listed in Spain (GRF/P SM, €8.42), and which trades at a 16% discount to the voting shares (GRF SM, €10.02). Our average cost is about $7.00 (€6.25) which with 687.6M shares outstanding equals a market cap of €4.3B, only 8.6x FCF (11.6% FCF yield) on a not yet fully normalized €500M in free cash flow that this business should produce on about €1.7B in EBITDA (excluding €300M in EBITDA attributable to minority interests) in 2025. I think fair value is at the very least $13.00 per ADR (16x FCF, 10x EBITDA) implying an 86% potential gain on our average cost, and 39% above the last trade of $9.34 on 8/30/24. Yet even 15x EBITDA ($27 per ADR) would not be hard to imagine, given the comps.
The largest player in Grifols’ field, CSL Ltd. (ASX:CSL, A$307), is valued at 21x EV/EBITDA and 37x FCF. And large take-over deals saw Baxter’s plasma spin-off Baxalta Inc. (BXLT) bought out by Shire Plc (SHP LN) in 2016 for 25x EBITDA, before Shire was bought by Takeda Pharma. (JP: 4502) for 16x EBITDA in 2019, making Takeda of Japan the 3rd largest in this business. 15x EBITDA for Grifols would be nearly $27.00.
With €7B in sales expected in 2024, Barcelona-based Grifols is the 2nd largest producer globally of biological pharmaceuticals derived from blood plasma. Through nearly 400 donation / collection centers worldwide, of which about 300 are in the U.S., Grifols pays “donors” about $50 for an hour of their time to extract and separate the plasma and return the blood cells to the donor mixed with saline. The donor’s lost plasma will regenerate in a day or two but the FDA limits donations to once a week. Grifols then sells the valuable proteins found in plasma like Immunoglobin (IG), Albumin, and blood clotting factors for various therapies which have seen steady overall demand growth of more than 6% per year for decades.
About 12 years ago we had a successful investment in Biotest AG (BIO3 GR), a smaller German firm in the same business, which we exited long before Grifols bought Biotest in 2021 from a Chinese firm, Creat Group, which had bought Biotest in 2017. The business has high barriers to entry, steady demand growth, reliable raw material supply availability (except in pandemics), and good free cash flow conversion. Grifols sales grew at a 10% CAGR over the past five years (with acquisitions), and projected sales CAGR is roughly 6% over the next five years with no acquisitions, roughly in-line with the industry organic growth rate.
Under prior management (a new CEO started April 1, 2024), Grifols became overleveraged from acquisitions and the stock peaked at $25.73 in February 2020 just before COVID-19 hit and the supply chain froze up, crushing margins and crimping sales. On Jan. 9, 2024, a short-seller, Gotham City Research, issued a report calling Grifols a “fraud” worth “zero” based on accounting games and related-party transactions which knocked the ADRs down from $11.13 on Jan. 8, 2024, to as low as $7.27 (-35%) on that day. The short seller then closed almost their entire short position on that day the report was released.
But some valid points were raised, and Grifols made changes to address those issues, including taking the Grifols family out of the executive suite, and putting in a reputable new CEO, Nacho Abia, who had been successful in his prior roles over more than 20 years at Olympus Corp. (JP: 7733), and a new CFO as well.
The company addressed all near-term debt maturities through 2025 with the €1.6B sale of a 20% stake in a Chinese plasma business (retaining a 6.58% stake, implied value of €526M) which closed in June, leaving no major debt maturities now until 2027. The company remains highly levered with net debt of roughly €9B, which is 5.3x EBITDA of €1.7B, but manageable given their resilient growth and free cash flow profile.
Other non-core assets could be sold to further delever the balance sheet, like Grifols’ blood diagnostics business which they bought from Novartis in 2013 for €1.24B (1.7x sales of €740M then) and is likely worth no less than that today despite that division having exhibited flat-lined sales over the past decade of Grifols’ ownership. There is no sign that selling that unit is in Grifols’ plan, but it’s sensible that it might be.
The Grifols family owns 32% of the voting shares, representing 20% of total shares outstanding, and is in recently announced talks with Brookfield Corp. (TSX: BN) about a potential MBO (Management Buy Out) which might catalyze a fair value for the share price, but more likely would be an attempt to buy out Grifols minority shareholders at an unfairly low price. No offer has been announced yet, but at least one article cites rumors of a very low €10 to €13 ($11 to $14.50) bid-ask price range, which would imply a 57% to 107% gain on our $7 cost, but deprive us of the likely large post-MBO upside: https://thecorner.eu/news- spain/spain-economy/government-could-attach-conditions-to-brookfields-takeover-bid-for-grifols/115618/
Spanish take-over rules would require 90% of the voting shares to be owned by the buyer before a squeeze-out of the remaining shareholders could be enacted. But given that more than 10% of the voting shares are held by a handful of smart, value-oriented investors like Brandes, I don’t think the rumored MBO/delisting would garner the acceptance needed without a much better price than the rumored range.
One unusual feature and benefit to the non-voting B shares underlying the GRFS ADRs we bought is that they should receive the same value as the voting shares in a take-over scenario, which is certainly not the norm, especially in Europe, or when voting shares are mostly owned by a controlling family as seen with Paramount (PARA) and Shari Redstone recently as her voting shares look to get $23 vs. $13 for the rest.
That is because our GRFS ADRs were issued as part of Grifols’ takeover of Talecris Biotherapeutics (TLCR) for $3.4B in 2011, and since Cerberus (Stephen Feinberg) was the largest shareholder of Talecris and would become the largest shareholder of Grifols ADRs upon the closing of that deal, he clearly wanted to be protected in case Grifols pursued a take-private transaction. Feinberg then sold his entire 70M share stake in GRFS during 2012, from $8 to $17, but the protections he obtained for GRFS cl. B shares carry on.
From Grifols’ Articles of Association (https://www.grifols.com/en/articles-of-association) Article 6 Bis.- Terms and conditions of the Class B Shares.- 1. General.- Each Class B Share shall be treated in all respects, in spite of having a lower nominal value, as identical to one Class A Share, and Class B Shares shall not be subject to discriminatory treatment regarding Class A Shares, although, as an exception to the foregoing, the Class B Shares (i) are not entitled to voting rights; and (ii) they have the right to preferred dividend, preference liquidation share and the remaining rights set forth herein.
(A Spanish newspaper story out on Sept. 5th knocked GRFS down nearly 5% on the day by claiming that Brookfield will make any takeover deal contingent on changing those bylaws so they could pay less for the Class B shares underlying our GRFS ADRs, but that would require a 50%+ vote in favor by the Class B / ADR holders, which seems unlikely given smart value investors own about 30% of those ADRs.)
NCR Voyix
Our next largest new holding, NCR Voyix Corp. (NYSE:VYX, $13.49) was bought during the current quarter (Q3) at about $12.50 per share and is just over a 5% portfolio weighting in the representative account.
NCR, then National Cash Register, founded in 1884, was the largest IPO ever when it first came public via a $55M IPO led by Dillon, Read & Co. in 1926. NCR invented the first mechanical cash register, and 90 years later they rolled out barcode scanners in 1974, among other major innovations. After a disastrous merger with AT&T in 1991, the company came public again in 1996. In October 2023 the company spun off its ATM business as a separate company (NCR Atleos, NYSE: NATL) with legacy NCR renamed NCR Voyix Corp.
NCR Voyix announced Aug. 6th the sale of its digital banking unit for $2.45B (3.7x sales, 9x EBITDA, 20x FCF), with net proceeds after tax of about $2B that will pay down debt from 4.1x to 2x net debt to EBITDA. What remains is a leading provider of mission-critical software and services to restaurants like Wendy’s and Chipotle, and retailers like Walmart and Sainsbury’s, at only 7x EBITDA and 12x FCF on our cost.
The NCR brand name is increasingly invisible at the point of sale because they have shifted to third party POS terminal providers which may be a factor in investor disinterest or lack of awareness. For example, customers paying with a card at Chipotle swipe or tap on a terminal made by Equinox, but it’s part of the NCR Aloha POS service that NCR Voyix provides to Chipotle, which is also a 20% EBITDA margin business, like NCR Voyix, but trading at 30x EBITDA vs. 7x EBITDA for NCR Voyix.
Granted, NCR Voyix is not growing like Chipotle, and has ceded some market share to the newer entrants. But NCR is catching up with innovations in self-serve check-out at retail, pay-at-table at restaurants, and the shift to cloud services. Part of the lackluster sales growth lately is due to the transition from upfront sales to a recurring-revenue SaaS model. And while 75% of their sales are already recurring revenues, that is mostly traditional software licensing, so only 18% of customers are on the SaaS-based cloud platform.
Switching costs and risks benefit NCR, and the faster growers have largely won in the SMB (small-medium sized business) space based on ease of use, but they generally lack the breadth and depth of services that NCR’s Aloha POS provides and that larger enterprise scale customers require. That said, PAR Tech (PAR) did win Burger King’s U.S. POS business away from Global Payments’ (GPN) Xenial/SICOM POS in late 2023, so there is a risk of NCR losing a big client, but retention remains high, and they’re winning new accounts.
Snapshot from a recent report by Needham shows how cheap NCR Voyix (VYX) is compared to its peer group:
Oracle bought MICROS Systems a decade ago (MICROS retained Burger King’s International POS, despite PAR winning BK’s U.S. POS from GPN). It was smaller than NCR Voyix is today and with a similar 20% EBITDA margin, but Oracle paid 17x EBITDA. At 7x EBITDA NCR Voyix is being priced as if it will not grow much if at all, but that seems unlikely given the industry overall should grow substantially over the long term as the upgrade to kiosk and hand-held device order-entry and self-pay at restaurants, and self-serve check-out at retail all bode well for a long-term upgrade cycle for digital commerce investments at restaurants and retailers. Even if NCR’s market share declines, it can still grow nicely in a growing sector.
I think fair value for NCR Voyix is likely $20.00 which would be about 10x EBITDA of $400M (pro-forma 2024, based on 20% EBITDA margin on $2.15B sales, $430M minus $30M in SBC (stock-based comp), and 23x FCF of $140M ($170M -$30M SBC). That would be a 60% gain from our $12.50 average cost.
Some insiders bought recently, like Exec. Chairman Jim Kelly who bought 14,800 shares at $13.41 on 8/27. Jim has a great track record at Global Payments and then as CEO of EVO Payments (EVOP) from 2012 to 2023 (Madison Dearborn bought in at $750M EV in 2013, IPO’d 2018, EVO sold to Global Payments for $1.83B in 2023). Jim took EVO from a regional credit card processing / merchant services company to a global player during his eleven years there and gave public shareholders a very good return in the process (a 17% CAGR vs. 10% from S&P 500). In fact, it was Jim’s elevation to Executive Chair of the NCR Voyix Board in May 2024 that sparked my interest which ultimately led to my first share purchases in July 2024. I believe Jim’s involvement as Exec Chair will be more akin to a Co-CEO role, and his expertise will help to get NCR more from the payments processing business and expand their non-U.S. sales (33% of total now).
Evertz Technologies and Haivision Systems
Two of our seven new holdings are competitors in the same field, and both are Canadian companies which brings our total number of Canadian holdings to 5 out of 18 total (28%) and 30% by market value of the representative portfolio. No, I am not obsessed with Canada, but there are a lot of cheap stocks up there.
We bought a 2% weighting in Evertz Technologies (TSX:ET, C$13.35/US$9.90) in Q2 for C$12.52/US$9.22 and a 2.5% weighting in Haivision Systems (TSX:HAI, C$5.46/US$4.05) bought in Q3 for C$4.33/US$3.18. These companies both provide equipment and increasingly software for the production and distribution of live video broadcasts and streaming. Live broadcasting and streaming are a growing business serving sports, news, concerts, gaming, esports, video podcasts, drones, and other content producers. The shift to Ultra-HD2 (4K-->8K), 5G transmission, and the proliferation of Free Ad-Supported TV (FAST) channels are some of the factors converging to drive growth. A major industry-wide trend is a shift towards providing software and services via the cloud (SaaS) in addition to and in replacement of equipment sales or rentals.
Much like our Grifols investment harkens back to a profitable investment we made in Biotest 12 years ago, these two investments also echo a successful investment we made in this same field back in early 2012 when we bought Miranda Technologies (TSX: MT) for about C$11 and saw it taken over for C$17 in cash (C$341M, 9.3x EBITDA, 16x FCF) by Belden Cable (BDC) less than three months later. Belden mismanaged what was a new business line for them and sold it for a loss in 2020 and Miranda is now part of a private equity-backed player called Grass Valley, which is a major competitor. Evertz was around the same price in early 2012 that we just bought it for this year, but the valuation was much higher at 10x EBITDA back then, vs. the 7.7x EBITDA we just paid. Haivision didn’t come public until 2021, so it wasn’t an option in 2012, and we just recently paid 5.6x EBITDA for Haivision.
The opportunity to buy shares of these two companies was created by an overreaction to a weak earnings report by Evertz in June. There was an extreme move down in the price of both stocks that was in my opinion unwarranted. The business can be lumpy with swings in equipment rental for live broadcasting events concentrated around big events like the Olympics (the weak quarter was before the Paris Olympics).
These are two growing businesses at value prices with strong market positions (both with award-winning products at the main trade shows), net cash balance sheets, and heavy insider ownership with the owner- operators at the helm, high ROIC, 60% to 70%+ gross margins, 20%+ EBITDA margins (despite 20% to 25% spent on R&D each year) and excellent FCF conversion due to very low cap-ex needs and partially due to investment tax credits from the Canadian government in reward for the heavy R&D spending.
I estimate fair value for Evertz is C$20.00 which is 13x EBITDA of C$125M (est. for calendar year 2025) and 16x FCF of C$100M and a dividend yield at that price of 4%, which implies a 66% total return from the C$12.50 cost of our representative account. The consensus price target of three analysts following it is C$17.17. Insiders own 63.4% of Evertz’s shares split evenly between the Executive Chair and the CEO.
I think Haivision is worth at least C$7.60, which is 10x EBITDA of C$22M (est. of 4 sell-side analysts) for FY ending 10/31/24, and 14x FCF of C$16M, implying 75% upside from the C$4.33 cost in our rep account. Consensus target price = C$7.49. Insiders own over 30% of Haivision’s shares.
Evertz and Haivision focus on different aspects of their industry, but with some overlap, and some collaboration as well. Evertz is the industry’s 2nd oldest and largest public player, founded in 1966, it IPO’d on the TSX in 2006. Its trailing 12-month sales were C$515M, gross margin 59%, EBITDA C$116M (22.5% margin), FCF C$106M, dividends= C$58M (6.1% yield on our cost), and C$60M net cash on balance sheet.
Evertz has grown organically and through acquisitions. Its next largest competitors are also Canadian companies, but privately held, Ross Video and Grass Valley, both with more than C$400M in revenues. They are both formidable competitors, but at that scale they are among only a handful of players, so pricing is rational, and the entire industry (at least the public players with visible results) shows similar economic characteristics: 60% to 70% gross margin, 20% EBITDA margin (after 20% of sales spent on R&D), high ROIC, and high free cash flow conversion.
EVS Broadcast Equipment (EVS BB, €30), is public comp which is based in Belgium and reporting in Euros. In Canadian dollar terms (for ease of comparison) they are at run-rate C$300M in sales (vs. C$515M for Evertz and C$141M for Haivision) with similarly attractive economics and valuation. I like it a little bit less based on its domicile and product mix.
Harmonic (HLIT, US$14.45) also has a division in this space which is almost the same size as EVS at about C$270M sales, but it's only about 35% of HLIT's total sales, and HLIT has been trying to sell that division.
See some of what Evertz does at this link: https://www.sportsvideo.org/2023/08/29/evertz-io-helps-broadcasters-launch-new-channels/ And for a deeper dive the annual report conveys not just the results but the appealing almost Midwestern ethos of the entity; the straightforwardness, simplicity of presentation, and level of detail: https://evertz.com/resources/investor/2023_Annual_Report.pdf
Like Evertz, Haivison is debt-free, but with an even higher gross margin over 70% over the past 7 years, and sales growth at a 15.7% CAGR over the past 5 years (C$68M in 2018 to C$140M in 2023) but significantly aided by acquisitions. EBITDA margin is only 12% TTM due to recent acquisition integration costs but projected to rise to 16% in 2024 as the business scales while continuing to spend over 20% of sales on R&D every year (R&D % roughly in line with peers, except Evertz spends 25%+) on its way to a normalized 20% EBITDA margin. Liquidity in the shares is torturously tight with a market cap of only C$156M and insiders owning 30% of that, but manageable given our low-end portfolio weighting (2.5%) and my reduced AUM.
Buffett once said he could probably do 50% a year in returns if he was back to managing a very small amount of money, and I think being able to engage with some tiny market caps like Haivision was part of what he meant by that. https://finance.yahoo.com/news/buffett-could-50-maybe-not-202934055.html
Haivision is small for a public company, but it is a significant player in its field. They introduced an important technology in 2013 called SRT which Google AI describes as: "Secure Reliable Transport (SRT) is an open-source video streaming protocol developed by Haivision that has become the industry standard for low latency streaming in the broadcast and streaming industries. SRT was originally developed in 2013 for Haivision's Makito video encoders and decoders, and open sourced in 2017." Haivision estimates that it targets the high-value segment of the global video streaming infrastructure market which they believe was a US$5B market in 2022 that will grow to US$15B by 2033.
Haivision's recent investor presentation is worth a look, which shows a blue-chip customer list and a diversity of growth vectors. https://s27.q4cdn.com/530080808/files/doc_presentations/2024/Jun/12/haivision-investor- presentation-june-12-2024.pdf They provide mission critical video solutions for live video broadcast for clients like the NFL. https://www.haivision.com/blog/broadcast-video/how-the-nfl-espn-and-microsoft-are-using-srt-to-save-time-and-money/
Haivision's stock has risen another 20% during these first few days of September on a major contract win from the U.S. Navy announced on Sept. 3rd : https://www.haivision.com/about/press-releases/us-navy-production-agreement/ The magnitude of the sales boost likely requires fair value estimates be revised up.
Haivision at 20 years old is a relative newcomer in its industry, founded in 2004, it IPO’d on the TSX in 2021. Its projected sales for 2024 are C$141M, gross margin 72%, EBITDA C$22M (16% margin), FCF C$16M, no dividend. Haivision's Chairman, President & CEO, and founder Miroslav ("Mirko") Wicha owns 13.5% of the shares, a 3.9M share stake worth over CAD 21M at price on 8/31. Other insiders own another 17%.
Evertz made a hostile bid for Haivision at C$4.75 per share in early 2023 (our cost C$4.33, last trade C$5.46) but was rejected and Haivision installed a poison pill. Evertz then dropped their bid and sold the 10% stake in Haivision’s shares that they had accumulated before announcing their bid into the open market. (This is the kind of situation I had hoped to get Aimia involved with, in this case maybe as a potential white knight.) Given the appealing characteristics of these businesses they should be attractive to strategic buyers and private equity, and I expect ongoing M&A will catalyze growth and share price appreciation.
I've been following this space ever since that bit of luck with Miranda Tech in 2012, and I think this is the right time and valuation to re-enter. The sentimental taint of the sector's association with traditional linear broadcasting is wrongfully weighing on valuation because live broadcasting is still growing, and while streaming took money from traditional broadcasters, online streaming and FAST TV channels use Haivision and Evertz's services as well. So, while the end customer profile has evolved a lot since 2012, the industry overall has grown and looks likely to continue to grow.
I have very rarely owned two companies in the same line of business at the same time, but when I have it has worked out well for both investments. I owned Carnival Corp. (CCL) and P&O Princess Cruises (POC) after 9/11 in 2001-2003 and Carnival ended up buying Princess Cruises leading to great returns on both stocks. We also owned Avis Budget Group (CAR) and Avis Europe Plc (LSE: AVE) from 2007-2013 which after enduring huge losses during the GFC, Avis Budget bought Avis Europe in 2011 and both investments ended up very well for us. Hopefully this tandem strategy with Evertz and Haivision will be similarly successful, but without the 97% drawdown Avis initially inflicted upon us before ultimately paying off richly.
Bel Fuse
Another new position bought on the heels of an overreaction to a disappointing quarter was Bel Fuse Inc. Class B (NASDAQ:BELFB, $67.83), bought at $50.27 in the representative account as it was off nearly 30% on the day we started buying it in late February from a weaker than expected earnings report, and the shares snapped back quickly. It’s now about a 2% weighting. Our non-voting class B shares trade at a 21% discount to the less liquid voting shares (BELFA, $86.16), and while we don’t have the protections against discriminatory treatment in favor of the voting shares in the event of a takeover like we have with Grifols, the situation is appealing enough to endure that incremental risk.
Bel Fuse was founded in 1949 and has grown to make a lot more than just fuses these days. See its website for the list of electronical connectors and other products they produce: Investor Relations - Bel Fuse Inc. I first became aware of this company in 1992 while doing research on a larger competitor, Littelfuse (LFUS), as my employer then, PaineWebber, led LFUS’ 1992 IPO. I failed to buy either stock then, but I learned about the industry and that led me to admire the various players. So, when Tyco (now JCI) bought AMP (then the world’s largest in that field) in 1999, I took notice. When Tyco’s stock collapsed in 2002 on short- seller claims it was a fraud like Enron, it was Tyco’s ownership of real businesses that I knew like AMP that gave me the confidence to invest and ignore the hyperbolic fraud claims. Tyco was a big win for us from the summer of 2002 to 2005. So, I’ve had an eye on Bel Fuse over 30+ years of not owning it, until now.
Bel Fuse is a play on the electrification of everything. I think it's worth $87.50 (+74% from rep acct cost) at 11x EBITDA of $100M, 16x FCF of $70M. Larger comp Littelfuse (LFUS $272) is at 13.5x EBITDA, 23x FCF. And the giant TE Connectivity (TEL $154), formerly AMP spun out of Tyco, is 12x EBITDA, 17x FCF.
A new CFO, Farouq Tuweiq, joined Bel Fuse in Feb. 2021 after being an investment banker at BMO, and he has had a major impact in refocusing the company on improving margins through reduction in SKUs, improving free cash flow, and capital allocation. For the first time since the company went public in 1967, they announced a share buyback of $25M on the day before we started buying the stock (when it was down 30% on Feb. 22) and they have bought back $14.2M worth of stock at about $60 per share, with another $11M remaining on the buyback authorization. The company has a balance sheet with $80M of net cash. Farouq owns $3M worth of shares, and President/CEO Daniel Bernstein (age 70, working there since 1986) owns $35M worth. Bel Fuse sells primarily through high quality distributors like Mouser Electronics (owned by Berkshire Hathaway).
Alibaba Group
The NYSE-listed ADRs of Alibaba Group (BABA, $83.34) entered the portfolio (rep acct.) at $74.03 in Q1, and now represent a 2.3% weighting. I reviewed the investment thesis in my 2023 Investment Review letter dated Feb. 12, 2024, and my estimate of fair value remains the same at $126 which would be 10x EBITDA (USD 25B, excludes $3B Stock Based Comp), and 15x FCF (USD 16B, excludes $3B SBC).
Alibaba seems to have finally won its way back into the Chinese government’s good graces, after completing and passing a 3-year anti-trust review and having paid a fine of $2.8B in 2021. Also, its major competitor Temu (owned by PDD Holdings (PDD)) has recently faced legal issues of its own on top of sharply slowing sales. A recently announced deal to allow Alibaba ecommerce customers to pay with Tencent’s WeChat Pay as a payment option should further boost Alibaba’s competitiveness.
I continue to believe that BABA is a classic example of how a “growth” stock with a high multiple can become a “value” stock with an unduly low valuation if its growth rate slows enough, and yet provide outstanding returns to the value-oriented investors who have the temperament to enter the investment during the fear phase when slowing growth dominates the narrative. Patience is needed to endure the transition in market focus from growth alone to a better appreciation of all the components of total return (free cash flow yield, share buybacks, cash dividends, and growth).
Alibaba has been buying back about USD 10B in stock per year, and I remain impressed by the massive (USD 200M) insider buying of BABA’s stock by its co-founders during Q4 2023. https://finance.yahoo.com/news/200-million-insider-bet-massive-130146819.html
The concerns about China’s slowing economy are clearly valid and increasingly manifest. But GDP is not the most important predictor of stock market returns. Consider Japan, which saw a big slowdown in GDP growth during the 1970s, which did not stop the stock market from growing at even better rates:
- 1960s: 10% Japan avg. annual GDP growth rate - Nikkei 225: 10.4% CAGR (excluding dividends)
- 1970s: 4% - 10.8%
- 1980s: 4% - 19.5%
So, if China, which saw GDP growth average more than 10% annually from 2010 to 2020, is now experiencing less than half of that rate, it is by no means a death sentence for their stock market. That is especially true in this case, as the Hang Seng Index is down 27% on price (up 3.4% with dividends, a 0.33% CAGR) over the past decade, and the CSI 300 Index has a 5.8% CAGR, both measuring 8/31/14 to 8/31/24, vs. the S&P 500 +12.95%, R2000 +8.00%, and MSCI ACWI +9.35% CAGRs during that same 10-year period.
Perion Network and Nexxen International
The smallest portfolio weighting of our new holdings, Perion Network Ltd. (NASDAQ:PERI, $8.55) started out as a 2.5% weighting at our $11.41 cost but declined in value to a 1.6% weighting and is the only loser of the seven new positions in terms of price movement in this brief YTD interval. After relating earlier in this letter how rare it is for me to invest in two companies in the same industry at the same time in reference to Evertz and Haivision, it is surprising that Perion joins our existing holding, Nexxen, in the advertising technology space. But in this case the business focus and the overall situations are so different that I don’t see much redundancy in the added exposure.
Our position in Nexxen International (NASDAQ:NEXN, $7.81, formerly Tremor, TRMR) is up over 54% YTD through 8/31, outperforming all of its major peers like The Trade Desk (TTD +45%), Magnite (MGNI, +48%), and PubMatic (PUBM -4%), but that is only after underperforming all of those names severely in 2023. I still see Nexxen as unreasonably cheap at current valuation of roughly $400M which is only 5x EBITDA ($80M excluding $20M in SBC) estimated for 2024, which compares to 45x for The Trade Desk, and 10x for MGNI.
Perion is down 72% YTD, although only down 25% from our $11.41 cost (in rep acct.) during Q2, with the stock at $8.55 as of 8/31. Perion lost its biggest customer (40% of sales in 2023), Microsoft Bing, earlier in 2024, and thus most of its search business and its earnings. But it still has attractive positions in ad tech verticals like Connected TV (CTV), retail, and particularly in servicing Digital Out of Home advertising (DOOH) via its $100M acquisition of Hivestack in December 2023: https://wp-cdn.perion.com/wp- content/uploads/2023/12/12111017/Perion-PR-Hivestack-acquisition-VF.pdf
And the stock trades at a market value now of only $402M, against $383M in net cash on the balance sheet, an EV of only $19M for a collection of businesses that should produce $216M in net sales, $44M in EBITDA, and nearly as much in free cash flow in 2025, according to the consensus expectations of the six brokerage firms that follow it. If results anywhere in the general vicinity of those expectations are actually achieved, then the pessimism in the current valuation will have proved to be a great opportunity. The current valuation could be warranted if the cash is somehow not really there (which would be unusual but not unprecedented), or if the company doesn’t adjust its cost structure quickly enough in reaction to the Microsoft revenues lost, or if they engage in value-destructive M&A.
As for the cash being real, their auditor since 2004 is Kost Forer Gabbay & Kasierer of Tel Aviv, Israel, a member of Ernst & Young Global which audits some very large firms in Israel like NICE Ltd. (USD 10B mkt. cap) and Phoenix Financial Ltd. (USD 10B mkt. cap). Perion, like Nexxen and many ad tech companies, is headquartered in Tel Aviv but gets almost all of its sales from outside of Israel, and mostly from the U.S.
This snapshot from a Needham report shows valuations as of 5/31/24, when PERI was $12.50 (above our cost of $11.41, and nearly 50% above the last trade of $8.55 on 8/31/24, and NEXN was $6.60 vs. $7.81 now.
While our seven new holdings in 2024 combined comprise just over 25% of the representative account, Greatview Aseptic Packaging (HK: 468) remains our single largest holding now at roughly 23% of the account value by itself, despite sales during the year to fund the new purchases. Greatview’s 38.6% total return YTD through 8/31/24 was 32.8% capital appreciation and 5.6% dividend yield (with two cash dividends paid on July 26th). Greatview vastly outperformed the Hang Seng Small Cap Index -14.1% YTD. This follows Greatview’s +27% performance in 2023 against a Hang Seng Small Cap Index -22.4%.
As mentioned in my Investment Review letter dated Feb. 12, 2024, I had expected dividend payouts to resume, which had not been announced at that point, and was gratified to see that happen. I also expected that the battle for control of Greatview would intensify, and that too appears to be happening.
On May 8, 2024, Greatview’s smaller competitor, Xinjufeng (301296 CH), offered to buy all of the roughly 73% of Greatview that they don’t already own, at the same price they paid to Jardine Matheson for the 27% that they bought from Jardine, at HKD 2.65. Besides being a small 26% premium to the prior day price of $2.10, it’s an absurdly low valuation of 5x TTM EBITDA (USD 70M), and 6.5x TTM FCF (USD 56M). SIG Group (SIGN SW, CHF 18) and Elopak (ELO NO, €42.75) are at 11x and 7.5x EBITDA respectively.
On August 6, 2024, Greatview’s co-founder and CEO, Jeff Bi, and co-founder Hong Gang, who together own nearly 15% of the stock, announced they were considering making a counter bid, but voluntary in nature so those wishing to stay invested might be able to do so. No indication yet as to what price that counteroffer might be, if it comes to pass at all.
Interim half-year results were announced on 8/30 and while sales were down and lower than expected, profitability was much better than expected, with EBITDA coming in at $70M (14% margin) vs. $60M expectation, and FCF at $56M, vs. $40M estimate. I continue to think a 15% EBITDA margin is sustainable long term, which is lower than their historical 20%+ average EBITDA margin pre-COVID.
Applying the same 10x EBITDA on the higher $70M in EBITDA raises my fair value target from HKD 4.00 to HKD 4.50 (USD 0.58), which is 70% above Xinjufeng’s hostile offer of HKD 2.65, and 82% above the last trade of HKD 2.47 (USD 0.317). 10x $70M in EBITDA = $700M minus $112M in net cash = $588M EV which is only 10.5x FCF of $56M. But I don’t expect FCF / EBITDA at 80% perpetually, so at a more normal 60% then FCF would be $42M on $70M in EBITDA and the price / FCF would be 14x at HKD 4.50.
Since neither the current management (with nearly 15% of the stock) nor the hostile bidder (with 27%) can possibly get to the 90% ownership necessary to squeeze out the remaining shareholders without one party acquiescing to the other, the best either can do is to get to a level of ownership over 50%. Unless maybe a strategic buyer comes in over the top with an offer that both sides feel is compelling enough to accept, or one side partners with a private equity firm to provide the other with a compelling price at which to cash out. Co-founder Jeff Bi partnered with Bain Capital in building up the company when it was private in 2006, before its Goldman Sachs-led IPO in 2013 at HKD 4.30 per share. Bain made an outstanding return, so maybe Jeff can get them back in for another go. Then again, China is not as popular today as it was when Bain invested in Greatview in 2006.
Hong Kong takeover rules will not allow this battle to go on indefinitely, so I would expect some clarity if not resolution before year-end. My expectation is for a transaction that assists the stock price in reaching fair value and yet also allows us to maintain our investment at some level going forward.
Aimia
Our second largest holding, Aimia Inc. (TSX: AIM, CAD 2.65 / USD 1.96) at an 11.8% weighting in the rep acct., continues to weigh heavily on our performance, down over 17% YTD, after dropping 12% in 2023.
NAV per share has declined, and I see it now at CAD 5.00/USD 3.70 which is 89% above the current price. Jefferies analyst Surinder Thind in an Aug. 13th report dropped his NAV per share estimate from CAD 6.33 to CAD 5.38. In another report issued that day, TD Cowen analyst Brian Morrison updated his NAV per share estimate to CAD 4.95, almost unchanged from his prior estimate of CAD 4.99 and still in-line with my view. Weak results at Cortland (Tufropes) were the main drag, along with cash burn on legal fees and other wasteful spending like the unfathomable act of cashing out Paladin’s carried interest on May 17th for C$22.9M (C$10.3M in cash and C$12.6M in Aimia stock (5.04M shares) issued at C$2.50 per share).
I covered Aimia extensively in my letter of February 12, 2024, so I won’t retread that ground here. I continue to hold the stock because I think it’s worth nearly double the current price and that value should grow over time. And with CAD 766M in a mix of NOLs and capital loss carryforwards, I don’t think applying a 20% discount to NAV for a target price is necessary here, as there would be no tax leakage if the assets comprising NAV were liquidated, thus I think NAV is close to a liquidation value in this case.
While litigation between Mithaq and Aimia seems in stalemate, control of Aimia has been effectively taken by the Jefferies/MassMutual team, led by Vice Chairman of Jefferies LLC, Andrew Whittaker, and Roger Crandall, CEO of MassMutual as the largest investors in that group, along with Tom Finke, also of MassMutual, who is now Executive Chairman of Aimia. After 18 months of activism and two AGMs (2023 & 2024), Mithaq (with a 28% stake bought at C$4.00+) has no seats on the Board, and Andrew Whittaker’s team (with 10.8% issued at C$3.10, or 16% with the 5.2% issued at C$2.50 to Paladin) has control.
Hopefully the Jefferies (Andrew Whittaker) / MassMutual (Tom Finke, Roger Crandall) team will do something smart with their control of Aimia. They did as a group invest C$32.5M for their 10.8% stake issued at C$3.10 per share (however wrongfully obtained against a now likely C$5.00 NAV), and they have free warrants for another 10.8% to be issued at C$3.70 should the price rise above that level. If we can suspend our moral outrage that those who diluted other shareholders like us so savagely to obtain control remain in control, they are clearly successful financial executives who are incentivized to make this work.
If they seek to misbehave again, Mithaq’s 28% stake should afford Mithaq some degree of negative control with the ability to likely block the most major transactions that would require a supermajority (66.67%) of the shareholder vote in Canada. So Mithaq should be able to provide a check against any further bad deals, like the unprecedented investing of C$440M+ of Aimia’s cash as seed capital for a start- up private equity fund (Paladin), but with Aimia getting no stake in the GP in return, and then buying out Paladin’s carried interest less than 18 months later. Mithaq’s 28% stake and that blocking power should be a considerable deterrent to any further attempts to transfer any more value from Aimia to associates of Jefferies, MassMutual, and their friends like Tariq Osman of Paladin Private Equity.
Aimia’s recently promoted President & CFO, Steve Leonard, who is in fact a great talent there, gave a presentation on August 14, 2024 at the Canaccord Growth Conference which is viewable at this link: https://www.aimia.com/wp-content/uploads/2024/08/Canaccord-Growth-Conference-Final.pdf
Aimia’s Strategic Review Committee should declare a game plan and name their financial advisor by the end of this quarter. The NPV of Aimia’s C$766M in tax losses goes up with the speed at which they are utilized, which argues for large scale M&A as the best solution for maximizing Aimia’s value quickly.
Cineplex
Our 4th largest holding (Grifols is #3) is Cineplex Inc. (TSX: CGX, CAD 10.95 / USD 8.12) which is now an 8.1% weighting in the rep. acct. and was up 28% YTD through 8/31/24 as Canada’s largest movie theater company by far (75%+ market share) benefited from a rebound in film releases after the strike in Hollywood had curtailed production. I think fair value is CAD 20 / USD 15 which is 83% higher than current price and would be a valuation of 9x EBITDA of CAD 245M and 14x free cash flow of CAD 125M.
AMA Group
Our 5th largest holding now is AMA Group Ltd. (ASX: AMA, AUD 0.055 / USD 0.0374) which is now a 7.5% weighting in the rep account. The bad news is that AMA continues to fail to achieve price increases from its largest insurance customer, Suncorp, sufficient enough to allow AMA to make a normal EBITDA margin, which I consider to be the pre-COVID level of nearly 10%. Instead, AMA is making just over half of that level, at 5.3%. For the largest collision repair chain in Australia & New Zealand by far, it’s an unacceptably low number. I had hoped the new CEO as of December 2023, Mat Cooper, having been promoted from COO, would be capable of getting much needed price relief from Suncorp, but it still has not happened.
On the positive side, AMA recently completed an entitlement offer to eligible Australian and institutional shareholders which raised A$125M and essentially fully equitized the balance sheet, meaning the company is now essentially net debt-free. That came at an immense cost of huge dilution since the capital raise was done at AUD 0.042 per share, near the recent low price.
Using the same 10x EBITDA target multiple with AMA’s new balance sheet drops my estimate of fair value from AUD 0.17 (USD 0.11) to AUD 0.10 (USD 0.068) which is still 82% higher than the last trade on 8/31 of AUD 0.055. Further upside should be attainable as the business gets back to normal margins, but the current outlook sees that occurring much more gradually than I’ve been expecting.
Encouragingly, the capital raise at AUD 0.042 per share attracted significant interest from insiders and well-known investors from Australia and elsewhere. Australian billionaire Alex Waislitz is now the largest shareholder with 11.5% (worth about A$33M today) primarily held via his Tiga Trading (7.5%) and Thorney Opportunity Fund (3.6%). His initial cost basis was much higher than ours, and he has massively averaged down into this capital raise.
Washington H. Soul Pattinson (ASX: SOL) is often called the Berkshire Hathaway of Australia, and for good reasons: https://www.firstlinks.com.au/secrets-australias-berkshire-hathaway. They also increased their stake in AMA and much more so than shown below as the latest change column in green only shows the very most recent changes, and doesn’t show the much larger increase due to their primary entitlement subscription and their over-subscription on top of that.
We can also see the recently appointed Chairman of the Board, Brian Mark Austin, having increased his stake to 1.5% (worth about AUD 4.25M now), and the insurance company of which he is also Chairman, PSC Insurance, with a new stake of 1.67%. Brian has returned to AMA’s board as Chairman starting June 2024, after having served as a director of AMA from 2015 to 2020 when the business and stock price had performed very well.
Also returning to AMA’s Board is Ray Smith-Roberts who rejoined the Board in March 2024 after having served from 2014 to 2019, again during a great time for the business and stock price, which rose from A$0.20 to A$1.00. Hopefully this recent influx of directors with proven experience and skin in the game will finally get AMA Group on a faster path back to a normal EBITDA margin, free cash flow, and growth.
Cut-off in the screenshot above, former CEO Ray Malone shows up as having bought 40M+ shares as of 8/2/24. Ray was CEO from 1/23/09 to 6/28/18, when the stock price went from A$0.03 to A$0.76 (25x).
The presentation of July 18, 2024 in conjunction with the capital raise highlights the strong market position and improving fundamentals: https://wcsecure.weblink.com.au/pdf/AMA/02829092.pdf The 2024 results presentation of Aug. 23th adds details: https://wcsecure.weblink.com.au/pdf/AMA/02842143.pdf
Canaccord Genuity (Australia) analyst Warren Jeffries also lowered his price target to A$0.10 in a report dated Aug. 19, 2024, see excerpts below:
You can see that the business is only earning an EBITDA margin of around 5% now, when pre-COVID it was nearly 10%. I believe there is a much faster path back to pre-COVID margins and hopefully the new team, with some important players from AMA’s best years back on the Board, is finally going to get it there
The new and the old names
I’ve briefly described the investment thesis for our seven new holdings (25% of the rep account), and also shared news on our #1 (Greatview Aseptic), #2 (Aimia), and #4 (AMA Group) positions (50% of rep acct). I’ve thus reviewed 10 of our 18 holdings and 75% of the account by position weighting. I plan to provide updates on the other eight holdings sometime after the end of this quarter (Q3).
In the new and the old names that we own, some consistent characteristics are not hard to discern. Whether large cap or small, recognizable or obscure, based here or abroad, these businesses in which we’ve invested are major players in their industries. Eight out of eighteen are #1 in market share, ten of the eighteen are #1 or #2, and twelve out of eighteen are in the top three by market share. High current market share is no guarantee of future success, as Eastman Kodak, Sears, or Nokia can attest, but our market leaders don’t face such existential challenges, as far as I can see, and I think market leadership is a signpost of quality that the market and investors in general are missing in how they view our holdings.
For example, that NFI Group Inc. (TSX: NFI, C$18.50 / US$14.32) is the largest (52% market share) manufacturer of transit buses in North America, a rapidly growing 35% of which are zero-emission (battery or fuel-cell electric), with only one U.S. competitor left standing (Gillig Corp., 48% mkt. share, privately held), is not well recognized by investors and not at all seemingly factored into its valuation at roughly 6x EBITDA of USD 400M (my estimate for 2025, above consensus of $363M) and 10x free cash flow of USD 160M, my estimate, above consensus of $127M) despite the 38% price gain YTD. NFI is our seventh largest position, at a 5.7% weighting in the representative account.
Insider ownership is very high in nearly all of our holdings and usually an owner-operator is at the helm. Leadership at almost all of our companies is attentive to capital allocation and most show what Buffett has called “a reverence for the shares” via buybacks and personal purchases.
Almost all of our companies have generated significant free cash flow over a complete business cycle, and the valuation at which we’ve made the investment would provide a high cash-on-cash return if we could buy the entire company at that price. That is part of my long-professed “private equity mentality applied to public market investing.” I don’t buy a share if I wouldn’t buy the entire thing at that price. The margin of safety afforded us by the low entry valuation is usually due to abysmal market sentiment surrounding the stock that I think will prove transitory, or sometimes just a general obliviousness about the unfamiliar.
Big market share, high insider ownership, free cash flow, capital allocation skill, and a low entry valuation. That is by no means a complete checklist, but I think it’s important to remember that those traits are almost always present in each of our investments, especially the ones that are the most foreign or unfamiliar to you, otherwise a heretofore painful situation like AMA Group could be flippantly misunderstood and dismissed as just a reckless penny stock speculation gone wrong. These businesses in which we own shares are of a far higher quality than a cursory view might suggest.
Macro
As usual, I will keep my pontifications on the macro stuff to a merciful minimum. I will note that while the disparity in valuation between the magnificent market averages and the disregarded masses of mostly small-cap shares has compressed slightly over the past couple of months, it remains gaping, with the difference still close to an all-time high. Mindless extrapolation increasingly masquerades as analysis in a stock market where the voting machine is on fire from overuse, while the weighing machine gathers dust.
Meanwhile in Washington, D.C., complacency over debt and deficits at levels once viewed as unthinkable leaves the average voter somehow unperturbed by the clearly unsustainable fiscal trends, as seemingly illiterate hucksters spar for executive power with no credible solutions in tow. And the band played on…
If the center ultimately does not hold, whatever macro-economic storm or geopolitical crisis may come to bring about our national comeuppance for decades of dereliction, for squandering our exorbitant privilege, higher inflation and higher interest rates are the most likely the outcome, particularly given our aging population. While such an unpleasant scenario is not a prerequisite for our outperformance, value- oriented and small-cap and foreign (from U.S. perspective) stocks tend to do well against such a backdrop.
The last major inflationary cycle might be instructive; a 17-year period from 1965 to 1982 when the Dow Jones Industrial Average went from 1,000 to 600 to 1,000 while inflation rose from 1.9% to 14.8% to 3.8% and the 10-year US Treasury note went from 4.63% to 15.84% to 10.39%.
At the end of 1965 U.S. households held nearly 29% of their financial assets in stocks, but by 1982 it was down to 9.4% (today the level is nearly 42% https://fred.stlouisfed.org/series/BOGZ1FL153064486Q ).
The average investor is likely unaware of how much of their index-related returns are due to just a handful of very expensive shares, and that historically such periods of concentration in the indices has not ended well for index returns over the ensuing decade.
1965 to 1982 was a terrible time for index hugging investments, but a great time for a variety of value investors who made life-changing fortunes for their investors and themselves during that horrific period for the index-oriented investor.
In addition to having very high active share (almost no overlap with major market indices) our value- oriented investment holdings also lean towards recession-resistant businesses, and the margin of safety in the valuation of our investments gives us a much better chance of success in investing over the next decade than someone owning any major market index fund, in my opinion, at this extreme.
Feel free to call (212-535-0415) or email ( [email protected] ) with any questions you may have.
Sincerely, Chris
Christopher P. Mittleman
Chief Investment Officer
Mittleman Value Partners LLC
422 East 72nd St., 25E, New York, NY 10021
Office: 212-535-0415 | Mobile: 917-951-1782
www.mittlemanvalue.com