Many great investors including Peter Lynch and Warren Buffett recommend ignoring macro and politics and focusing on bottom up company analysis. They argue that anything else is a waste of time. Focus on things that are more predictable.
While I try to follow this advice, I must admit, I have gotten sucked into the U.S. presidential elections!
Who will win?
The polls indicate that the race remains Biden’s to lose.
But the polls were wrong in 2016!
Well, the result in 2016 (Trump win) was actually within normal polling error rates.
By the end of the race between Trump and Clinton, the polls had actually gotten pretty close.
Clinton was leading by only 3.2 points heading into election day.
Polls are usually wrong. On average since 2000, presidential election polls have been wrong by 4.0 points. But nobody pays attention when they are wrong if the favored candidate wins.
For instance, polls indicated that President Obama would win re-election versus Romney in 2012 in a closely contested contest. Obama ended up winning by a significant margin and so the polls were “wrong” by 3.6 points even though they accurately predicted who would win.
Polling error in 2016 was such a big deal because they were wrong and falsely predicted a Clinton win.
Based on the latest polls, Biden is ahead by 10.3 points. The most inaccurate presidential election poll of the past 20 years was in 2016 which was wrong by 4.8 points.
Even if we have similar error rate in 2020, Biden should win.
However, keep a close eye on the polls as we get closer to November 3. If Biden is leading by 4.8 points or less just prior to the election, the result will be a coin flip in my opinion.
The other factor I’m watching is the stock market. Typically, the market rallies in October if the incumbent is going to win. So far, S&P 500 is up ~2.0% in October. If it continues to rally, it increases the probability that Trump will be re-elected.
While I got sucked into trying to predict who wins the presidential election, I’m focusing on bottom up fundamentals for our micro-cap picks. None of my recommendations are a bet on either candidate.
Warren Buffett and Peter Lynch would be proud.
Let’s get into this week’s updates on open recommendations.
This week, the only change is I’m moving Riviera Resources (RVRA) from hold to Buy under 1.60.
The next issue of Cabot Micro-Cap Insider will be published on Wednesday, November 11. If you have any questions that you want me to address, feel free to send me an email at rich@cabotwealth.com.
Changes This Week
Change RVRA from Hold to Buy under 1.60
Updates
BBX Capital (BBXIA) has come down since spiking after my initial recommendation last week. BBX Capital is an obscure micro-cap spinoff that is trading too cheaply. Factoring in a note receivable due within five years, it is trading at 50% of its cash and notes receivable. Further, the company has valuable operating assets that generate positive free cash flow. Despite poor historical corporate governance, BBXIA shares trade far too cheaply. I see 100%+ upside. Buy under 5.00.
Dorchester Minerals LP (DMLP) is the rare energy company with high margins and no capital expenditures. It generates tons of free cash flow and pays a dividend. Insiders have been gobbling up shares, and I believe the stock is a great long-term holding which will be trading significantly higher in three years. While waiting for the stock to appreciate, investors get to collect an ~8% dividend yield. Buy under 11.00.
Greystone Logistics (GLGI) was flat on the week. However, we saw significant insider buying from CEO and President Warren Kruger and a director. In total, Kruger owns over 30% of the company. As such, we are well aligned as we both will benefit from continued strong operational performance and stock price increases. Greystone reported earnings recently for its fiscal year ended May 31. Quarterly revenue was $18.3 million, down 13% from a year ago. In its press release, the company noted that demand from customers continues to grow. Its biggest challenge is maintaining an adequate workforce as many employees have opted to stay at home for protection from COVID-19. The company reported $0.06 of GAAP EPS that was helped by an unusual tax benefit. On a normalized basis, the company generated $0.03 in EPS, consistent with my expectations. Thus, in the last fiscal year, the company generated $0.12 of EPS and is trading at 7.8x earnings. This is too cheap for a company that has historically grown revenue at a 20%+ CAGR and just grew EPS 140%. Buy under 1.10.
HopTo Inc (HPTO) was flat on the week. In the company’s most recent quarter, revenue grew 49%. Quarterly revenue growth is very lumpy so I’m not going to get too excited, but it’s good to see that year-to-date revenue is up 7%. Here’s my current thinking on hopTo’s valuation. In the first six months of 2019, hopTo generated $389.9k of earnings before interest and taxes (EBIT), or $779.8k annualized. I think a 12x multiple is fair, which works out to a $9.4MM enterprise value for these cash flows. This arguably is a cheap multiple for a software company, but the company is tiny and I’m not convinced it really has a sustainable competitive advantage. Next, we can add the value of hopTo’s 39 patents, which I value at $2.8MM based on where hopTo has sold other patents. Finally, we can add hopTo’s cash balance of $4.5MM (pro forma for the rights offering). Add it all up and you get a fair market cap of $16.65MM, or $0.89 per share. HopTo is currently trading at an EV/EBIT multiple of 8.3x. This is too cheap. To put it in perspective, the software and internet industry trades at an average EV/EBIT multiple of 55.8x. Buy under 0.55.
Liberated Syndication (LSYN) was flat on the week. We did see insider selling, but it was by two directors who will be replaced shortly (they were appointed by the former CEO, Chris Spencer, who had issues with self-dealing). Ironically, I view their selling as a positive. Libsyn recently reported an excellent quarter and hosted a helpful and transparent conference call. In the second quarter, revenue grew by 11.4%. Podcast hosting grew 11.1% while website hosting grew 14.3%. I was a little surprised that podcast revenue didn’t grow more strongly, but management commented that podcast listening has been down due to less commuting time. Nonetheless, I expect podcast listening and Libsyn podcast revenue to reaccelerate over time. Buy under 3.75.
MamaMancini’s Holdings (MMMB) was flat on the week. In the most recent quarter, revenue growth of 28% was very impressive. Even more impressive, EPS grew 104% to $0.02 as the company continues to leverage its fixed costs. One area of weakness was in gross margins, which were lower than expected due to higher beef prices, but management commentary in the press release suggests that this pressure is starting to dissipate. MamaMancini’s continues to execute well and the investment case remains on track. It has historically grown revenue at a 24% CAGR yet only trades at a P/E of 16.1x. Management owns over 50% of the stock, ensuring that incentives are aligned. Further, the company has a clean balance sheet. Buy under 2.00.
Medexus Pharma (MEDXF) was up slightly on the week and continues to look attractive. In its most recent quarter, Medexus reported revenue growth of 71%. The company generated $4.1 million of free cash flow in the quarter, or $16.4 million annualized. As such, MEDXF is currently trading at a price to free cash flow multiple of 3.4x. On an EV/Revenue basis, MEDXF trades at 0.9x while slower growing peers trade at 3.8x. This is a good stock to average up in as the company continues to execute yet remains undervalued by the market. Buy under 3.50.
NamSys Inc. (NMYSF) recently reported fiscal Q3 earnings (quarter ended July 31). Revenue grew 11.8%, which is impressive given pandemic related headwinds. Gross margins were under pressure due to an accrual of management bonuses as well as increased staffing related costs. I’m not concerned with the management bonus as it is based on continued strong execution. The increased staffing costs relate to the high demand and required salary for software engineers/programmers. I will monitor this going forward. The most important factor for NamSys is continued revenue growth. Despite historically growing revenue and earnings at a compound annual growth rate of 20%+, the stock only trades at 19.7x 2019 earnings. It has a pristine balance sheet with significant cash and no debt, and insiders own over 40% of the company, ensuring strong alignment. Buy under 0.80.
P10 Holdings (PIOE) was flat on the week. In August, the company announced a transformative acquisition, and the stock has rallied sharply. It will be acquiring TrueBridge Capital Partners, a venture capital firm with $3.3BN in assets under management. TrueBridge’s strategy is to invest in micro and venture funds. P10 holdings is paying $159MM for the acquisition. To pay for the deal, P10 is issuing convertible preferred debt that will yield 1% and has the right to convert into P10 stock at a conversion price of 3.30 (PIOE’s share price was 2.58 before the deal was announced). Pro forma for this deal, P10 expects to generate $55MM in EBITDA on a run rate basis by the end of 2020. As such, the stock is trading at 13.0x EBITDA. This isn’t a dirt-cheap valuation, but it remains reasonable. P10’s most comparable company is Hamilton Lane, which trades at 30x forward EBITDA. Nonetheless, given the stock’s sharp increase, I recently moved my rating to Hold. Hold.
Riviera Resources (RVRA) announced that it will make a $1.35 cash distribution on October 27, 2020. This distribution was disappointing news as I had expected a larger initial distribution. Riviera estimates that any subsequent distributions will range from $0 to $40MM or $0.00 to $0.69. After speaking with Riviera management on Wednesday, I got further insight into the liquidation process. At the current price, an investment in RVRA is expected to generate a total return of 6% and an IRR of 30% (key assumption: Riviera pays out $0.34, mid-point of guidance, on 10/15/2021). Riviera’s estimated wind down costs are $32MM, which seem high although there could be significant severance costs. Buy under 1.60.
U.S. Neurological Holdings (USNU) was flat on the week. The company recently reported a solid quarter. While revenue declined by 28% due to hospital procedures being delayed, the company continued to generate strong cash flow, and expects operations to return to normal soon. Currently, the company has $2.0 million ($0.26 per share) of cash and no debt on its balance sheet. U.S. Neurological Holdings operates as a holding company in the United States. It is engaged in providing medical treatment and diagnostic services that include stereotactic radiosurgery centers, utilizing gamma knife technology, and it holds interests in radiological treatment facilities. Buy under 0.25.
Buy means accumulate shares at or around the current price.
Hold means just that; hold what you have. Don’t buy, or sell, shares.
Sell means the original reasons for buying the stock no longer apply, and I recommend exiting the position.
Sell a Half means it’s time to take partial profits. Sell half (or whatever portion feels right to you) to lock in a gain, and hold on to the rest until another ratings change is issued.
Disclosure: : Rich Howe owns shares in BBXIA, GLGI, HPTO, LSYN, MEDXF, PIOE, and RVRA. Rich will only buy shares after he has shared his recommendation with Cabot Micro-Cap Insider members and will follow his rating guidelines