The Outcome of 3 Post Financial Crisis “Net-Nets”​

Date Added: September 19, 2019 | Comments Off on The Outcome of 3 Post Financial Crisis “Net-Nets”​ | Filed under: Blog

The sale of our Melior Resources position brought to a conclusion the last of the three “net-net” investments made by us in the period after the financial crisis. A “net-net” is a situation where the market capitalization of the business is less than the net liquid assets that the business holds. The idea is to buy dollar bills for fifty cents. This is a common and traditional value investing strategy which has historically enjoyed success and opportunities are usually available following dramatic market declines (like the Financial Crisis). With great uncertainty in the world at the time (is there any more certainty today?) this seemed a very conservative thing to allocate some capital to. I have to tell you that at the time I was also reviewing investments in Google, Starbucks, and others as alternatives but Google never quite got to my entry price and I wasn’t sure if in a post 2008 world people would still drink expensive Starbucks coffees. These “net nets” seemed a more certain bet. Generally, the plan is to buy the stock at a discount to cash and then press the Company to return the cash creating a profit. There can however be a better outcome realized which is when capable management overseen by a good Board take the capital and invests it in a private business that wishes to go public using our cash-rich shell company as the vehicle to go public. This can result in an expanded multiple for the shell company (better result). Certainly, this was the case with our largest and most successful “net-net”, Westaim.

So what were the results of the 3 Post Financial Crisis “Net Net” investments? Decidedly mixed is the answer.

Westaim – formally a spin off from Sherritt International involved in various specialty metals related technology businesses. By the time we bought the shares it was simply a shell company with cash. They used this cash to buy an insurance company, made improvements to the operation of the insurance company and then with an inability to buy more insurance companies were pressed by myself and the Alberta Investment Management Co. to sell this asset and return cash to investors which is what they did. The result was a significant profit for us.

Dacha Strategic Metals/Merus Labs – we joined another value investor/activist’s initiative to liquidate a warehouse inventory of rare earth metals to either be distributed to shareholders or invested in a new opportunity. The sale of the rare earth metals however resulted in realized proceeds of less than expected. After reviewing a number of possible alternatives the proceeds were invested in Merus Labs, a pharmaceuticals firm trying to grow a product portfolio. However, Merus Labs never got the share price traction it seemed due and it traded at a low multiple until it was eventually taken over. Overall, this resulted in a loss somewhat mitigated by subsequent incremental purchases of shares once the Merus Lab merger was complete.

Melior Resources – a previously unsuccessful South American focused resource company which we were aware of, and became involved in when it became a clean shell company with cash. Ourselves and several other local value investors took up a position in Melior and lobbied for the return of the cash. Instead an opportunity arose to buy a previously producing ilmenite (titanium ore) facility in Australia. The idea was that the project could be brought back into production (because the assets were already in place) at a very low capital cost as compared to other projects around the world. After a long delay due to the depressed pricing of the underlying commodity, a fully funded restart of the operation was finally begun in 2018 and was on its way toward commercial production when a yet unresolved technical issue held production below commercial levels. The largest shareholders (and lender) came to the conclusion that to fund further was an open-ended risk for which there was little appetite (ourselves included). Net loss of capital.

So, a decidedly mixed bag of results for the post financial crisis “net nets”. It may be that this type of activity needs to be implemented with more of a “basket” approach. It should be noted however that the act of purchasing securities at very low prices relative to liquid assets has, in aggregate, been a profitable undertaking for us over the past 35 years as has the act of purchasing securities trading at very low multiples to their free cash flows.


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