Hot markets, cold markets, and everything in between.
Net nets will continue to exist.
The quality of net nets change depending on the market temperature, but they are there - like hobbits hiding in the roots of trees.
Yarra Square Partners returned 19.5% net in 2020, outperforming its benchmark, the S&P 500, which returned 18.4% throughout the year. According to a copy of the firm's fourth-quarter and full-year letter to investors, which ValueWalk has been able to review, 2020 was a year of two halves for the investment manager. Q1 2021 hedge fund Read More
As I showed previously, one way to gauge market sentiment is to leverage the number of net nets existing at any one time.
A simple and very clear indicator of when a market is cheap and when it's not.
Anything in between is a hit and miss.
Net Nets Per Year
Searching for Net Nets at Old School Value
With our regular screener and data additions, net net related data is now available for you to screen.
You can screen for NCAV and NNWC or use the free stock screener for ideas.
First, take a cool refresher.
NCAV = Net Current Asset Value = Total Current Assets - Total Liabilities
NNWC = Net Net Working Capital = Cash & Equivalents + (Accounts Receivables x 0.75) + (Inventory x 0.5) - Total Liabilities
Because I don't want to fill up your screener sidebar with too many preset screens, I haven't created any default net net screens.
NCAV Stock Screen
But here's how my NCAV stock screen is set up.
The goal here is to keep it simple and cast a wide net.
I'm looking for stocks where the NCAV is greater than the market cap. I've added an extra criteria of wanting stocks where the 3 year growth of NCAV is positive.
It is a quick way to eliminate stocks where the value is being wiped out.
NCAV Screener Settings
Before I get to the results, I also set up my results view by creating a custom report to display data relevant to net nets. I don't need stats like CROIC, margins or other metrics used for common value stocks.
Here's what I have saved in my account.
Focused NCAV custom report
NCAV Screen Results
You can save more time by adding additional filters to remove Chinese stocks and certain industries/sectors.
Or keep it simple like I did and you'll get results like the following which you can filter down further manually.
If you do want to eliminate Chinese companies, add "registered country" and choose "is not" China.
But if you are ok with Chinese net nets, maybe you'll like China Ceramics Co (CCCL).
- NCAV of $100M
- Market cap of $5.95M
- P/NCAV of 0.06
Mind blowingly cheap - or too good to be true.
Based on my experience, I'll take the later.
After having lost a big chunk of money several years back on Chinese stocks, I'm ok with letting my mental biases dislike Chinese net nets.
Let's see what else is swimming at the bottom of the barrel.
Sears Hometown and Outlet Stores (SHOS)
SHOS was spun off from Sears Holdings (SHLD) back in 2012 and unlike what you'd expect from spinoffs, this one has gone downhill.
The chart above is a Price vs DCF fair value chart where in hindsight, the company continued to erode intrinsic value to meet the current "value". Went from a spinoff all the way down to its current net net status.
I won't get into the full history of SHOS because when it comes to net nets, I like to get to the point.
Net nets are not complex investments. They are not sexy - one of the reasons why they are overlooked so often.
This one happened to grab my attention because I have yet to come across any net net spinoffs.
Let's quickly revisit the net net checklist.
- Stay Within Circle of Competence
- No Chinese stocks
- Has a Valid Operating Business
- Low Cash Burn
- No Debt or Very Easily Manageable
- No Insider Selling
- Signs of Buybacks
This is a basic checklist only.
There will be other factors that you'll want to add, however these 7 checks will eliminate most net nets quickly.
1) Stay Within Circle of Competence
Retailer of appliances, lawn and garden equipment and other home goods. The products are easy to understand, but the industry is gut wrenching.
In terms of getting your head around what they do, it's easy.
When it comes to really understanding how the industry operates and what it takes to succeed, that's another question.
But let's check it off as a pass for now.
2) No Chinese Stocks
USA company. Easy one.
3) Has a Valid Operating Business
Yes the business is valid. They are not a pre-revenue company or a cash box.
Whether their business is still valid is another question. Its net net status can be telling that it's now an invalid model.
4) Low Cash Burn
Open up the balance sheet and look up the quarter over quarter differences in cash.
I'm going to cheat here with OSV Online.
To do this on your own:
- go to Google Finance or any other site with at least 5 quarters of balance sheet data. 8-10 quarters is better.
- Copy or export the cash and equivalents data and calculate the year over year and quarter over quarter changes in cash.
I did it slightly differently by calculating the comparable period of the same quarter a year ago.
For SHOS if I look at the QoQ calculation, they are burning 7% of cash on average over the last 5 quarters. The 5 quarters before that, it was +2.9%.
With 14.1M of cash and equivalents, there is about 8 quarters left before operations are materially affected.
2 years isn't long enough of a holding period for net nets. Need at least 3 years for things to work out.
This one is a fail.
5) No Debt or Very Easily Manageable
Not looking good.
Most of the debt is short term. With cash required to run the business and finance short term debt, things could get even uglier.
Debt is mostly Short Term
6) No Insider Selling
Insiders are buying.
It's a shame to see them losing so much money.
But hey - this meets the criteria.
7) Signs of Buybacks
No share buybacks, but the consolation is that shares are not being diluted to raise capital.
SHOS Shares Outstanding Chart
Sears Hometown and Outlet Stores (SHOS) as a Net Net?
- Stay Within Circle of Competence - pass
- No Chinese stocks - pass
- Has a Valid Operating Business - pass
- Low Cash Burn - fail
- No Debt or Very Easily Manageable - fail
- No Insider Selling - pass
- Signs of Buybacks - pass
It doesn't meet all 7 and two of the most important is #4 and #5.
SHOS is cheap but it's a net net for speculation only. Not one you want to put any significant amount into.
Try it Yourself
Here are some other companies that came up in my list.
Try it yourself and see. Don't expect much. More for practice.
- Ovascience: OVAS
- Endocyte: ECYT
- Entertainment GMG: EGT
- ATOSSA Genetics: ATOS
- Manning and Napier: MN
No stocks held at the time of writing.
Article by Jae Jun, Old School Value