Archive for February, 2014

Pacific Ethanol (PEIX) Blows It Out

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My first public note was on PEIX – you can read it here. Following their blow-out earnings last night (which I fully expected as detailed in the model you can find in that note), the stock has shot up from sub-$4 to over $12, a multi-bagger in just 8 weeks. So today I received a question about what to do with the stock at these levels. My response is simple:

Throughout all my years of investing I’ve found that the big money was never made in the buying or the selling. The big money was made in the sitting.

– Jesse Livermore

Put a X% trailing stop loss and let it ride (where X is equal to your drawdown tolerance).

Boston Beer (SAM) – Risks Are Building

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Four items stood out on the SAM 4Q13 conference call – it’s becoming clear that significant risks to the bull case are emerging:

Buyside Notes: If I average out the volume growth over the last 4 December quarters, I come to an expectation of 961,000 barrels (vs a reported 941,000). This was a miss in my eyes; not good for a stock valued at SAM’s multiple.

Buyside Notes: Look for margins to come down. Also not good for a stock valued at SAM’s multiple.

Buyside Notes: Let’s do a quick look-back on the company’s CapEx guidance:

2Q13: “The Company is increasing its 2014 estimated capital expenditure range to between $100 million and $130 million from $30 million to $50 million.”

3Q13: The Company stated that 2014 CapEx would be “between $140 million and $180 million, an increase in the range from the previously communicated estimate of $100 million to $130 million.”

4Q13: “The Company expects to invest between $160 million and $220 million in 2014”

In just 6 months, the CapEx plan has moved from $40MM to $190MM (midpoints). Isn’t it strange that the Company is having such a hard time planning their capital investments? What does this say about management’s forecasting ability?

Note that in 2013, the Company spent $104MM on capital investments so CapEx will ~double Y/Y. Not good for FCF.

Buyside Notes: CapEx is going to eat up their current cash ($50MM at YE13) and their operating cash flow ($100MM in 2013) and the company will likely be borrowing money in 2014 (they have 0 long term debt at YE13). This isn’t a big deal given the strength of their balance sheet, but on the margin increases risks to shareholders.

The Buyside Notes Investment Approach

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As you can probably tell by my notes to date, in the hedge fund research world I am considered a generalist, which means I am unconstrained in my investment approach – I can invest in any asset class and in any geography. This approach has many positives, the biggest of which is being able to go where the value is. But it also has one big drawback: focus. When you are free to invest absolutely anywhere, how do you winnow down the investable universe so that your brain doesn’t explode at the sheer number of opportunities? The way I deal with this problem is by taking a thematic approach: at any given time I will have 3 – 7 investment themes that help guide and concentrate my research efforts. Themes are cyclical or secular forces of change that create opportunities for investors. Generally, the themes I pursue are longer-term in nature (6 months to 6 years) but there are short-term tactical opportunities that arise due to market dislocations – these can range anywhere from 1 month to 6 months in duration. While I can – and do – invest outside of these themes, I’ve found that identifying large trends and riding the wave not only helps me focus but provides an Olympic-sized pool of money-making opportunities.

Once a theme is identified and researched, I do a deep dive into the opportunities within each theme. And since my background is deep value investing, I generally focus on mispriced / misunderstood situations where I believe the market is providing a compelling risk-reward opportunity. I’ll invest anywhere in the capital stack (senior debt, unsecured debt, prefs, etc) but tend to prefer equity given its asymmetric return profile.

The secular themes currently driving my research efforts are:

  1. Unconventional Oil
  2. Couch Commerce
  3. Ten Billion Humans
  4. Global Warming
  5. Internet of Things
  6. Mobility

In future notes, I’ll cover these themes in detail and showcase write-ups of the more interesting opportunities within each theme.

Get my notes via email the second they are published:

SodaStream (SODA) is Worth $85 / Share

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SodaStream International (SODA)
Stock Price: $41.50
Diluted shares: 21.5MM
Market cap: $894MM
Cash: $29MM
Working capital surplus, ex-cash: $157MM
LT Debt: $0
Other Liabilities, not including Deferred Taxes: $2.6MM
EV: $711MM

As alluded to in my last post, I have been aggressively buying shares of SODA post the GMCR / KO news. Here are my buyside notes:

Despite IPO’ing only a few years ago (Nov 2010), SODA is not a new company. In fact, it produced its first drink for home carbonation in 1955. The original SodaStream machines became popular in the UK during the 70s and 80s and in 1985 the Company became a subsidiary of Cadbury Schweppes. The business was purchased for $26MM by its Israeli distributor in 1998 and became known as Soda-Club. Then in 2007, after years of poor management and ineffective marketing it was purchased again by Fortissimo Capital for $6MM and Daniel Birnbaum was installed as CEO. As you might be able to tell, there’s been lots of ownership changes and operational volatility. But once Birnbaum took the reins, things started to get interesting. When he was first hired, Birnbaum described the Company as “rusty, dusty, [and] not very exciting”. The product was outdated. The Company had fired its marketing department. Quite simply, SodaStream was failing. Birnbaum implemented a turn-around plan focused on revamping the product and marketing the company around its core value proposition: environmental friendliness, a healthy alternative to high-fructose corn syrup, convenience, and cost effectiveness. The turnaround was immediate – SodaStream went from losing a million bucks in 2007 to making $700k in 2008 and $9MM in 2009. Three years after being taken over by Fortissimo, the Company went public, raising $91MM in late 2010.

The history is important because the bears look at the Company and say “this business is a fad and it will die. Just take a look at how many times this business has traded hands historically.” I look at this business and say, “The right leader can change everything. Look no further than Apple, which nearly went out of business until Steve Jobs came back.” In the Birnbaum era SodaStream has accomplished some pretty remarkable things. Just take a look at the trends in their historical EBITDA:

SODA Historical EBITDA

These financial results are driven by three main factors: (1) product innovations, (2) partnerships – both in product and retail distribution, and (3) great marketing. I’ll cover each of these things later, but first let’s understand the SodaStream business:

SodaStream International (SODA)

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I’m going to do a deep dive into SODA post the GMCR / KO news. My general thoughts – which will likely evolve over the coming days – are:

  1. Everyone that thinks this business is a fad (and it’s a lot of people; just look at SODA’s ~50% short interest) is going to have to completely change their opinion. Coke just told the world this business is very real.
  2. GMCR / Coke isn’t coming to market until 2015, so SODA still has a bit of time to grow its brand / distribution before then.
  3. KO entering likely grows the pie substantially, as opposed to simply taking share.
  4. SODA’s valuation is reasonable with effectively nothing priced in for growth despite their Americas segment growing ~30% and Western Europe up 43% (last Q).
  5. SODA has fantastic international traction (Western Europeans love SODA. Why? Because they can save money by making a cheaper form of Perrier water in their own home. I believe this is the part of the product / story people just don’t get… it’s not about making a below-average cola drink. It’s about making bubbly water, which people love.).
  6. Who is left for Pepsi to buy? SODA.

More to come…