Three years ago we added a stock to the Value Fund called Rubik Financial. It owned a business selling software to financial institutions, which wasn’t making much money, but wasn’t losing much either. It had a management team that didn’t inspire us with confidence, but wasn’t about to blow the business up. It had a new product, called ‘Bank in a Box’, that had cost shareholders a small fortune but wasn’t (yet) generating any revenue.
But the sole reason we bought the shares – for an average of 5.5 cents each – was that it had 6.7 cents per share of cash on the balance sheet and another 1c per share in other listed investments.
Most people find this difficult. Sure, it has a lot of cash but what are they going to do with it? Our answer – ‘we have no idea’- hardly fills people with confidence. Most investors want to buy a narrative. They want to own a stock because this is going to happen, and then that is going to happen, and then they are going to make a lot of money.
We’ve had a lot of success buying stocks without any narrative whatsoever. The reasons are twofold. First, the future is much harder to predict than most people think. Second, the powerful forces of capitalism mean good things tend to happen to companies with lots of assets. They get taken over. They start using the assets efficiently. Or the assets get sold to someone who can earn a return on them.
Rubik used its cash (and some debt) to buy a business called Coin from Macquarie Group. Coin is the second largest provider of financial planning software in Australian (behind Iress’s XPLAN). It is a good business and they bought it for a good price.
All of a sudden the market has a narrative, and up the share price goes. We sold the stock earlier this year for a 13.3 cents a share, today it trades at 28c (you can abuse me for selling it too early next time you see me).
Ok. So we bought a stock without a clue as to its future and got lucky. That’s one way of looking at it. But we prefer another. When you buy with a big enough margin of safety, you don’t need to predict the future.
Which bring us to mining services in 2014. I was on CNBC yesterday with George Boubouraras, CIO of Equity Trustees.
His first piece of enlightenment was that 2013 was a horrible year for contrarian investors. News to me. But the most interesting insight was that we are two years away from the bottom for mining services.
I didn’t know that. In fact, I don’t have the faintest idea where the bottom is. This industry could shrink for the next 10 years for all I know. And yet we’ve been buying mining services companies.
We’re hoovering up shares not because we know the future, but because we like the assets. We’ll write some posts over the next few weeks on how that value might be realised. These businesses have been cash sinks as they grow, they should spew out cash as they shrink. There will likely be consolidation, as we have already seen with Bradken and Austin Engineering.
But the simple fact is that some of them going screamingly cheap and, when you buy with a big enough margin of safety, you don’t need to predict the future. It’s not a conventional way of investing, but it’s been serving us very well.
I sat down to write this post with the intention of thanking the team for a year of hard work and sensational results. Somehow I got distracted by Rubik Financial and mining services. Sorry about that. Boys, you know I love your work and it’s been an absolute pleasure sharing the challenges and successes of the past year with you. Girls, I’m still waiting for the flood of CVs.
And you, Bristlemouth reader and (hopefully) fund investor. Thank you too. It’s cliché but true, we wouldn’t have a job without you.
Have a great break and we’ll be back with a quarterly report and more Bristlemouth in January (Is that enough of a love in? I think it’s enough. Back to work everybody!)
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Forager Funds is a boutique fund manager specialising in a value investing approach. We offer an ASX listed Australian Shares Fund as well as an International Shares Fund both aimed at delivering returns for long term investors.