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Askeladden Capital 1Q17 Letter

Askeladden Capital Q1 2017 Letter, March 31, 2017

“I feel like we have two battles going on: One with the man across from you. The second with the man inside of you. I think once you control the one inside of you, the one across from you doesn’t really matter. I think that’s what we’re all trying to do.” – Tony Romo

“It’s not supposed to be easy. Anyone who finds it easy is stupid.” – Charlie Munger

“It’s always darkest just before the dawn. So stay awake with me, let’s prove them wrong.” – Rise Against

Performance:

  • YTD as of 3/31/17, approximately flat on a net basis compared to a 3% return for the benchmark S&P 1000 Total Return Index

Dealing with Adversity / Behavioral Progress / Transcending “Grit”

  • February and March were very frustrating months. Here are some of the challenges I was dealing with:
    • At one point, portfolio was down as much as 800bps vs the benchmark being up 300bps; made good decisions and fundamentals played out as expected but stock prices were largely uncooperative; 1100bps of underperformance in 2-3 months when you feel like you’re doing your job well is nontrivial
    • A market that failed to yield any new compelling opportunities despite lots of research
    • Self-imposed pressure from the “Alexander-wept” phenomenon – after posting the best year I will likely ever see in my investment career, how do I follow that up and avoid looking like a one-hit wonder?
  • There’s so much cloying sameness to a lot of value investing content that the first recommendation I usually give moderately-well-read aspiring investors is: stop reading value investing stuff
    • Go read a book about something completely different and/or go do some actual work, then you’ll start to understand how the theory works in practice
  • Intriguing observation for me is the rather large discrepancy between many professional investors’ public and private personas
    • Many publicly proclaim all the right things but privately acknowledge to living in a completely different reality
    • They may say that they are long-term, volatility-agnostic investors, while in reality they’re so addicted to watching stock prices that they can’t take their eyes off their mobile Bloomberg long enough to pay attention to management in group meetings
  • I’m different. I try to communicate with investors the same way I want management teams to communicate with me: forthrightly
  • The truth is that I discovered this quarter that while I have complete confidence in the current portfolio and my analytical / portfolio management approach, there is more work to be done on the behavioral side
  • To some degree, practice makes perfect and these things get easier with time. From a more active standpoint, there are two possible approaches:
    • First is the brute-force “try harder” approach, which has recently, pseudoscientifically been renamed “grit”; if you’re already the sort of person who has a “try-hard” approach to life, there is nothing left in the tank – you can’t just willpower your way through problems
    • Second: using the technique of inversion, more sensible solution is to restructure the problem to require less effort and engender less frustration; given the exponential nature of stress, removing other sources of stress can actually have a meaningful impact on ability to deal with a given challenge, simply by freeing up emotional bandwidth that’s no longer being consumed elsewhere
  • Biggest challenge is on the research side – it’s no fun putting together research documents when the answer is consistently the same: “not even close to obviously actionable”
    • What I realized is that the majority of my struggle was driven by external/noncontrollable factors
  • Korn Ferry as an illustrative example:
    • At the trough, Korn Ferry was trading at 10x FCF with de minimis debt on the balance sheet
    • Unless you believed that the business was both in secular decline and at cyclical peak, there was meaningful upside to be had if you were patient
    • There were meaningful questions that I never really answered like:
      • Will LinkedIn and other developments pressure the revenues and margins of executive search business over time? Meanwhile, where are we in the executive search cycle?
      • Will Hay Group reach targeted growth levels?
      • Will FutureStep continue to grow at double digits? Will its margins be pressured over time?
    • When I analyzed Korn Ferry, it was so cheap that all of those questions were rendered meaningless – even if all of them ended up working out badly, stock was still pretty cheap; with no debt, there wasn’t a lot of risk
  • Broader point is that most businesses now trade at valuations such that the bar for questions that need to be answered to justify an investment is meaningfully higher
    • Process is to not try to answer the hard questions but instead to wait and underwrite only situations that are obvious enough that the answers to the hard questions don’t really matter all that much – this is the case with current portfolio like Liquidity Services or Franklin Covey

Portfolio Updates

  • We have roughly 18% cash position and believe portfolio is constructed to deliver solid results notwithstanding whatever may happen macroeonomically
  • Franklin Covey has become the largest position
    • Company continues to execute on everything it promised it would
    • Developed confidence that new All Access Pass business model sets up an extremely favorable long-term outlook
    • Balance sheet is clean and yet trades at mid-to-high teens EV/NOPAT multiple
    • Stock is easily worth $25 by year-end with the potential to deliver long-term compounding from there at a low-mid teens rate
  • Fogo de Chao has approached our intrinsic value estimate and despite our long-term optimism on the business, inherent operational leverage combined with the 2x debt-to-EBITDA means that we need to be relatively valuation sensitive
    • Position has been trimmed meaningfully

Askeladden Capital is a value-oriented, small-cap, long-only hedge fund founded by Samir Patel.  

Image Source: askeladdencapital.com
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