I’m still very much in the process of filling up the 21st-century net-net portfolio with mostly small companies trading at a discount to book value and sometimes tangible book value. Because these companies are often not what I’d call ‘global superstars’, there is probably more risk involved in owning these things.
That’s why I also insist on net cash and a price-to-sales ratio of less than one to help rule out overly indebted companies that aren’t selling anything.
In the case of Molins, it’s an international business designing and making machinery for high-volume consumer goods like food and tobacco. It also supplies related services as well.
It’s a small-cap with a market value of just over £20m.
The company has borrowings of about £6m and cash of about £12m.
Sales are over £80m, which is almost four times the market cap.
There’s also a reasonable history of dividend payments, and the yield is currently almost 5%.
But I’m a system addict, so I can’t get ahead of myself with excitement. Let’s fill in those simple numbers first:
The numbers, step-by-step:
Price to book = 0.43
price to tangible book = 0.6
Price to Sales = 0.25
Net cash = £6m
Are they about to go bust?
Not that I can see. The latest news and annual report just seem to confirm that the company is bumping their way through the economic landscape, just as they have since 1912.
A toe in the water
I’m not much of a stock picker. One of the things that differentiates me from most value investors is that I have little faith in the benefits of extremely deep analysis.
Other than in rare cases, I think it’s almost impossible to beat the market by working harder and analysing deeper than everyone else. There are just too many smart people working long hours across the globe for me and my little 3lb brain to have any chance of success by being BETTER or SMARTER than everyone else.
However, I think it is possible to beat the market if you are DIFFERENT from everyone else (or at least from the vast majority of market participants).
In my case, that primarily means buying out-of-favour stocks (the central theme of value investing) and holding them longer than most other investors, a process known as time arbitrage.
For these small-cap stocks, I have a fixed holding period of 5 years because that seems to be the time horizon over which the most outperformance can be had for the smallest amount of effort.
And on that note, Molins has joined the 21st century net-net portfolio with a 1.7% weighting (1/60th). You can see the existing holdings below and how some of them have already jumped up in value.
The difficult part is to fight the urge to do something, to be clever and make a quick 25% in a month. Short-term trading is so alluring, and that’s why so many stock pickers do it because the gains can look fantastic. However, in the longer term, it almost never works out, and many short-term investors find themselves on the road to day trading hell.
Regarding PSR (Price to Sales Ratio): I prefer EV/Sales, as it provides a more apples to apples comparison. What do I mean by that? Revenues are BEFORE interest charges, so you have to compare it with a “whole company” measure, i.e. the EV. It’s the same as using EBIT. However, it you were to look at Net Profits, which is AFTER interest, then you should compare it with some kind of equity measure (e.g. market cap).
“I’m not much of a stock picker.”
I know how you feel John, and I count myself in that category, too. My idea for coping with this is to try to buy shares when they are obviously cheap (but that is dependent on opportunity). Another way is to clone other people’s good ideas. As a recent example, DTG Dart seemed like a very good opportunity.
Something else to bear in mind, as we have seen from 2011, is that it’s not necessarily one’s ideas or analytical abilities that are bad, it’s just that the market is rewarding or punishing certain types of approaches.
Hi Mark. Regarding EV/sales, I’d say perhaps, but I don’t see any advantage over PSR. In the case of small caps I’m only looking at net cash companies so they don’t have much debt so often (I think in all cases so far but I might be wrong) they have an interest INCOME rather than expense. My goal with PSR is just to see that the almost debt free assets that I’m buying are at least generating some sales.
Also I might be buying companies where earnings are down or negative at the moment, perhaps causing a low share price. So I can’t use PE to measure economic power, so sales is a reasonable and more stand-in I think.
As for the market rewarding or punishing different types of approach, I totally agree which is why for this portfolio the holding period is fixed. It means I just get on with the job of running the thing and not worrying about all the external stuff like the economy or Greece, or the US or China or the increasing expansion rate of the universe.
John
I bought Molins at 85p a few months back for the same reasons you chose it.
I like the high cash to mkt cap leaving the business priced at very little.
New management seem to be cutting costs to produce decent margins going forward
The cigarette testing business seems quite exciting and should generate value in time.
Theres also a reasonable dividend.
It’s been a good investment since the credit crunch got going. I owned it back in 2009 and made 44% in about 4 months, which was of course luck.
I don’t really go for those short-term trades any more as I said in the post, but they can be profitable in you have a consistent approach and don’t get sucked into flipping and out of investments every five minutes.
I’ve not come across the term time-arbitrage before but the idea makes sense and intrigues me. What’s its origin?
Hi Maurice. Time-arbitrage is a term that is used in a variety of contexts, but with investing it’s a term that basically means having a longer time horizon that most other people. Generally people just care about the next year; Tesco is a great example of this. Bad news comes out one year (or one quarter) and everybody says oh no Tesco has gone off the rails. They see that the share price is down and may not recover any time soon.
But if you have a longer time horizon you might say, well hey here’s a company that can grow at something like 10% a year perhaps and it’s probably just having a little set-back. So if it keeps growing at 10% average again once it’s over this little problem then investors will pile back in again at the first sign of good news.
But the point is you don’t mind if that’s 1, 2 or 5 years from now. That’s time-arbitrage. Being able to sit on an investment that goes nowhere for a while but in the end generates high returns.
There’s a good PDF overview of the concept here:
http://www.brightworth.com/assets/docs/Articles/Investments-and-Economy/Time_Arbitrage-_A_Powerful_Edge_for_Ivestors_(graph).pdf
John,
I looked at Molins previously and passed due to the large looming pension. The pension size is 10x the market cap of the stock. A small swing in value for the pension could completely absorb all cash flow for years as minimum payments rise to fund a deficit.
If it weren’t for the pension problem this would be a solid little company. I think the pension is unfortunately why this company is selling cheap.
Nate
Hi Nate. Agreed, it does have a big pension hanging around its neck. However, I haven’t yet worked out if I can (or need to) factor that in a sensible way, so currently pensions are ignored.
Whether that’s a good or bad thing on average over the long-term I have no idea.