Mittleman Brothers Q3 Letter to investors – see excerpt on two new positions below
Recent portfolio additions:
“Have opinions at extremes, and wait for extreme moments.” – Joe Rosenberg, former CIO for Loews Corp.
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That quote was his response to the question, “how does one beat the stock market indices?” from an interview that I read in Barron’s in 1992 I think it was, which influenced me to be deliberately patient and prepared for truly extreme opportunities, instead of being too eager to swing the bat at just a good pitch. These two new entrants to the portfolio this year are examples of me trying to put that advice into practice yet again, hopefully with better results than Gazprom produced.
Village Roadshow Ltd. (VRL: AU): We started buying shares of VRL in Q1 of this year, but have withheld discussing it publicly until we established our targeted portfolio weighting of about 5% which we achieved just as Q3 was ending and coincidently resulted in us owning just over 5% of the company’s outstanding shares, making us their 3rd largest shareholder. I first came to know of Village Roadshow in 2000 as I was doing research on Carmike Cinemas and their bonds, with Carmike then in bankruptcy, and Village Roadshow was on the list of global comparables. The company got its start in 1954 as one of the first drive-in movie theater chains in Australia, eventually expanding into traditional movie theaters, and other entertainment-related ventures that were bought and sold during the past 63 years that they’ve been in business. The main units today are theme parks, movie theaters, and movie distribution. The founding families, Kirby and Burke, still retain effective control of the company with a 41% stake. They have a long history of extracting substantial free cash flows from the businesses they’ve owned and buying and selling them generally at good prices. Shareholders have benefitted via excellent regular dividends and occasional special dividends and a generally appreciating share price. But their film distribution business hit a rough patch in early 2016, and some weather-related weakness in the theme park business piled on, so the stock fell from nearly A$7.00 to A$5.00 in February 2016. Then in late October 2016 there was a terrible accident at a competing theme park called Dreamworld, in which four people were killed. Attendance at all theme parks in the region dropped dramatically, and VRL announced lower than expect earnings in early 2017 along with a suspension of their cash dividend as a result of the diminished earnings from their theme parks unit, usually about a third of total EBITDA. The stock fell from A$4.00 to around A$3.50, and we started buying it there. We own about 8.4M shares now, just over 5% of the shares outstanding, at an average cost of about A$3.75 (USD 2.90), roughly where the stock is today. We think fair value is A$6.50 (USD 5.00), up 73% from current price, based on a blended target value of 9.5x EBITDA (A$151M/US$117M), and 18x FCF (A$45M/US$58M). Our thesis: the theme park business returns to normal at some point, and the dividend comes back, which would provide a 7.5% dividend yield on our cost basis (current price) if reinstituted at the former rate, and a 4.3% yield at our target price.
Aimia Inc. (AIM CN): Aimia is a leading provider of coalition loyalty marketing programs like Aeroplan in Canada and Nectar in the UK. We initiated our position in May following a >60% one-day decline in its stock price after the company announced that Air Canada, its largest partner, would not renew its contract that is set to expire in 2020. The stock dropped an additional 25% in response to the Aimia’s mid-June announcement of a suspension of its dividend. We presumed that the dividend would be suspended upon entering the stock and believed this was a sensible course of action in order for the company to pay down its debt. Aimia produces significant free cash flow and trades at an extremely low valuation, and there is both the possibility and likelihood that Air Canada will be replaced by other airline partners. Through its joint venture with Aeromexico (AEROMEX MM), Aimia also owns a 48.9% stake in Mexico’s leading coalition loyalty program that in MIM’s estimation is worth more than the current share price alone. The stock price decline, that we believe we took advantage of, was exacerbated by both sales of funds mandated to hold only dividend paying stocks, and index funds that were forced to sell it upon its exit from various indices, as well as panicked individual investors who fail to realized that even if Aeroplan became worthless due to Air Canada’s exit from the program in 2020, equity investments and other subsidiaries, combined should result in equity value well in excess of the current stock price. And if Aeroplan does find replacement partners for Air Canada before 2020, the fair value for the share price would be triple the current price, which we think will be the case. These coalition loyalty programs are not popular in the U.S., although American Express is trying to build one called “Plenti,” yet they are very popular in Canada and the UK and many other countries. These are negative working capital businesses with sizable float and a very high conversion of EBITDA to FCF. Think Berkshire Hathaway’s Blue Chip Stamps, or any airline’s frequent flier program (the most lucrative part of any airline company), or American Express’ Membership Rewards program…the economics are similar. We are Aimia’s second largest shareholder now, with just over 10% of the shares outstanding. Our average cost is USD 1.53 (CAD 1.97). It closed the quarter at USD 1.98 (CAD 2.47). We think fair value based on a sum of the parts is a minimum double from current price, and likely a triple if Aeroplan survives the 2020 departure of Air Canada, as we expect it will.