News, Views and Stocks
Two stock ideas and some thoughts on markets
Introduction
Sitting in my garden on a sunny Saturday afternoon, reading the Weekend FT, the best newspaper in the world, having a glass of wine, I thought that it might be fun to do a round-up of news and views. So here goes. Let me know what you think – should this be a regular section; should it be for free subscribers or only for paid, as certain letters do? It would be nice to give even greater value to those who finance this project.
Bear Market
It’s official, it’s a bear market – that’s the FT’s headline, although for many private investors with outsize exposure to tech stocks, the signal is way out of date. How long this will last and how much further markets may fall is always hard to say. As I explain later, I think there is value around in pockets and I can also see some great short opportunities. A good time to launch a hedge fund, as most are recovering from losses. Melvin Capital finally closed, victim of the meme stock vogue and an absence of risk management. Without looking at the index, I guessed we were in a bear market when Deere reported good results and guidance and the stock went down; that’s what happens in such markets. Target missed and the stock cratered; the FT quoted Wayne Wicker, CIO of MissionSquare Retirement:
“The management didn’t provide any indication that they were going to have such a miss”
Wayne, that’s why it’s a miss. Seriously…
ESG
Stuart Kirk, HSBC Asset Management’s Head of Research and of Responsible Investment (ie ESG), is in trouble after making a funny-ish speech suggesting that central bankers were overstating the financial risks from climate change. Kirk was complaining about too much regulation and making a point that we needed a balanced approach. His presentation style – who cares if Miami is 6 ft under water, Amsterdam manages – may prove too much for many. Speculation that he may not last till Monday is a shame as he is one of those rare original thinkers. I disagree with his views and am with Sir Chris Hohn on this (see below) but it’s always good to have a debate. Unfortunately, it’s a bit late for that in the battle against climate change.
Dimon’s pay
Shareholders voted against JP Morgan’s proposed $200m packet for its top 6, although notably not Norges; the world’s largest investor promised last week to be more critical of outsize executive pay for unexceptional performance, but felt Dimon was an exception. Forbes puts Dimon’s net worth at $1.6bn which seems quite good for an employee.
THG
Shares bounced 25% on Friday, after the company confirmed a 170p offer from Belerion Capital and King Street Europe which the board unanimously rejected. Belerion is a venture and equity investor while King Street is a credit investor with forays into equity, although my contact there says they are out of equities right now, for obvious reasons. So a private equity bid for 100% of a company looks out of character for both firms.
Belerion’s founder, Iain McDonald, is a non-executive at THG, and apparently pally with its founder Matt Moulding. Presumably, he could have just texted. Meanwhile, also on Thursday, Nick Candy’s venture arm announced that it was thinking of making an offer for THG. Such a statement in advance is unusual, its motivation is hard to understand and Candy Ventures has never made such a release in the past. Neither has it a history of bidding for public companies, or of doing anything other than venture.
A founder of a heavily shorted stock who had a lot of margin calls might suggest to friends that they should make a “bid approach” in order to squeeze the shorts and get the share price up. We know that Matt Moulding has paid off his margin loans (disclosure is required) and I am sure that he would not resort to such tactics. But this is an odd situation and the market is likely to remain as cautious of THG as of the UK retail sector which is bombed out.
UK Levelling Up
Northern Gritstone, a UK fund focused on university spinouts, this week raised £215m from institutional investors, including Lansdowne Partners. I discussed this topic in my podcast with Pete Davies of Lansdowne and it’s worth a listen. The fund is chaired by Baron O’Neill of Gatley, or Jim as he prefers, who is on this month’s podcast.
Podcast
Jim coined the term BRICs 20-odd years ago and correctly predicted that they would drive world economic growth in subsequent decades. Of course, the China driven commodity boom boosted Brazil and Russia in the following decade but lower prices dimmed their growth in the last ten years. We discuss why, for the first time in 30 years of close study of the country he is puzzled on Chinese policy, and what inevitably lower Chinese growth means for the global economy.
Of course we discuss his beloved Manchester United, kids’ education (a cause close to both our hearts), and how his involvement in the anti microbial review was the most interesting work he has ever undertaken. Jim is quite critical of central banks who he thinks are behind the curve and he gives his assessment of the long term outlook for inflation. Listen to the end to learn why he calls himself a spoilt brat.
The Main Event
I attended the London Value Investor Conference this week. Three things stood out for me:
We may be in a bear market, but the mood was noticeably more cheerful than in past events – I attended 2017-2019; the market may be going down but value investors can see opportunity and they are not being left behind by growth. I think this will continue, but I don’t entirely buy into the dot.com crash narrative that some of the speakers were peddling; last time, value outperformed in 7 of 10 years and it took years for the fallen growth angels to recover. Today, some growth stocks are big, high quality, companies at a reasonable price. Value with a sprinkling of cheap growth is my approach.
There were lots of speakers and lots of good ideas. The speakers mainly pay to speak (not Joel Greenblatt and other big names obviously) – it’s an asset gathering event. They are therefore incentivised to pitch good ideas and I heard quite a few, many of which I shall share over coming weeks in this letter.
There was a huge range of ideas, from bombed out UK retailers (always popular) to a Ukraine stock (!) via some US blue chips. My feeling is that markets could go lower but there is value on offer and that should not be ignored. It’s impossible to pick the bottom, but be careful about earnings downgrade risk.
I shall cover this conference and some more of the ideas in the coming weeks. I shall also pick out some commentary from investing star speakers like Greenblatt, Peter Davies and Sir Chris Hohn. He talked about climate change and we had an interesting debate in public and later in private about Berkshire’s attitude to climate disclosure, which I shall tell you more about next week.
Stock ideas I am not researching further
Forgive me for starting with two ideas in a similar space that I didn’t like as much as some others. The conference was yesterday and I would like a little more time to do some research on what I initially thought were the better ideas. I hope that makes sense. It’s worth sharing these, because they come from good managers and I would like to explain my thought process. And I would be interested in readers’ views, because many of you will disagree.
Crown Holdings
Jennifer Desisto is the CIO of $10bn AUM Anchor Capital in Boston. She recommended Crown, a manufacturer of drinks cans, on the basis that:
It has better margins and returns than its larger competitor but trades at a discount
Aluminium drinks cans are ESG friendly
The US market is capital constrained
The company was founded in 1892 and paid a dividend for the first time last year and has started a $3bn buyback (20% of the market cap). I don’t dislike this idea. I really like the company’s long history, the capacity constraints and the industry structure:
Global Market Share
Ball 30%
Crown 20%
Ardagh Metal 11%
Can-Pack 4%
Other 35%
Source: Anchor Capital Advisers LLC
The market is apparently growing at 5% vs 2-3% historically, presumably because aluminium is sustainable packaging. The supply constraints are interesting with the US importing 10bn cans from South America last year. Crown’s capacity is due to increase by 50% to 2025, and I wonder what the competition will do – this would be my first area of investigation.
The manager sees a 70%+ return or a 20% IRR to 2025 on the investment, based on a target multiple of 13x EBITDA or a 15x P/E. The P/E sounds fine but the EV/EBITDA sounds high to me. My concerns include that the recession threat may weigh on this stock – it and peer already have a downward trend in earnings revisions - and it has not fallen as far as its larger peer, as you can see in these two charts:
Crown Earnings Estimates
Ball Earnings Estimates
The manager feels that the relative valuation gap should close. This is certainly possible, but these stocks have traded in a clear relationship for the last several years, with an average EV/EBITDA of 9.4x for Crown and 11.6x for Ball. In industries with two heavyweights and a significant premium for the larger player, I often like to buy the cheaper #2. But I like see a clear catalyst for the gap to close – a more shareholder friendly management looking to buy back stock and pay dividends could be the reason, but I didn’t hear much on this in the presentation. The chart shows that there has been a significant valuation gap in the last several years which has already partly closed.
Source: Behind the Balance Sheet from Sentieo data
The manager estimates that revenues will accelerate to 6.3% pa growth (which is actually a shade behind consensus) and that EBITDA will grow to $2.5bn, in line with consensus (implicit is slightly higher margins) and that the buyback will shrink the share count by 17%. The buyback is c.25% of today’s market cap but I would be surprised if the share price didn’t respond to that large a buyback. I would prefer more conservative numbers so would shave her $13 of eps in 2025.
The stock has a long term average P/E of 14.6x so the 15x target sounds reasonable, even with some debt post buyback, and on slightly lower eps would give a price target of $180 in 2025 vs $101 today. Not much to dislike here, but I am unfamiliar with the space and I would need to do more work to get comfort.
Westrock
This was one of three ideas presented by Alex Roepers of Atlantic Investment Management. He has presented at this conference before and was really impressive both times. His firm does quite intensive work and focuses on a universe of 4000 mid cap industrial and consumer stocks. Performance has been strong.
WestRock has two segments: Corrugated Packaging (2/3 of sales) and Consumer Packaging (1/3). It’s a global business and in some geographies is integrated from tree to mill, which I like as there is an element of land asset backing. Cardboard boxes is c.20% of the larger segment, but growing, and is an indirect e-commerce play. Real story is that this $10bn+ company is on a single digit p/e.
If I am truthful, I have an inherent bias against paper, because I used to sit back-to-back with the number 1 paper analyst and he was a total spiv. On the buyside I had a successful investment in the industry which was a lucky purchase right before a takeover bid.
The company has a new CEO, who came in from the highly successful paint business Sherwin Williams and it had a Capital Market Day last week, where cost efficiencies were pitched and some 3 year targets set, which Roepers believes are conservative.
Westrock Valuation
Source: Sentieo
Consensus has limited growth next year, but perhaps CMD targets still have to be incorporated. Earnings estimates have been on a rising trend, but I imagine that they could be vulnerable to 1) dollar strength and 2) economic risks.
Earnings Estimates
Source: Sentieo
This looks a classic stock for the value investor. A rock bottom rating; a stock price over 25% off the year high; some faint promise of growth on the back of e-commerce; and an opportunity with new management as a catalyst.
Conclusion
If these are two of the stock ideas I wasn’t attracted to, you can reckon on some pretty interesting ideas in the coming weeks. I stress that this is not intended to be an ideas newsletter. If I wanted to go back to the sellside, I would set up my own research boutique and charge more than $150 p.a.
I don’t intend to be doing any deep dive research here, although watch out for some courses on individual companies coming soon. But I think it’s interesting and helpful to look at others’ ideas and try to analyse where the risk-reward lies. Don’t forget to read the disclaimer – none of this is investment advice.
Paying subscribers get the models and will get some of the more interesting ideas in coming weeks. All this for less than the cost of a latte each week – the price will go up when I reach the first subscriber target. It will never be cheaper to get this service. Don’t miss the boat.