Potential market-tops and diving into companies of the Burry Screen
Analysing TerraVest Industries, GungHo Online Entertainment and Akatsuki Inc
'This piece is an opinion and for information purposes only. It is not intended to be investment advice. Seek a duly licensed professional for investment advice.'
“Taxi drivers told you what to buy. The shoeshine boy could give you a summary of the day’s financial news as he worked with rag and polish. An old beggar who patrolled the street in front of my office now gave me tips and, I suppose, spent the money I and others gave him in the market. My cook had a brokerage account and followed the tickers.”
Joseph Kennedy, father of the 35th president John F. Kennedy, avoided the crash of 1929 and became one of the richest men in the United States after he invested into real estate after the great depression. As today’s markets are again quite rich, with a Shiller PE (based on average inflation-adjusted earnings from the previous 10 years) of 37 (in 1929, the Shiller PE stood at 30), one has to wonder who the shoeshine boys of today are. Because of the internet, the information gap has closed and an Uber driver that is talking about stocks doesn’t signal the start of an economic depression. However, a former porn-star, that poses on Instagram in a bikini, reading Ben Graham’s classic “The Intelligent Investor” with closed eyes to promote a crypto-currency called PAWG might be. When everything seems so ridiculous one has to keep in mind a quote from Howard Marks: “move forward, but with caution”.
Diving into Burry’s Screen
I recently tried to find stocks based on Michael Burry’s early methods (You can find them here). Today I will look closer at the 10 companies that stood out to me the most. If you want me to do a thorough analysis on any of those stocks or other potential candidates, comment or tweet @InvestRoiss.
These were the factors I used on the screen:
After removing multiple listings, biotech, insider ownership below 10% and stocks that either don’t pay a dividend or haven’t bought back shares it left us with 23 companies. After taking the 10 stocks closest to the 52-week low, we end up with these 10 stocks.
Kumba Iron Ore Limited
Kumba Iron Ore, with a market cap of $14b, is the largest business on the list and the largest iron ore producer in Africa. Headquartered in South Africa. It operates several mines including the Sishen Mine, one of the biggest open pit mines in the world with reserves for a 13-year life of the mine.
Anglo-American plc, a South African company listed on the London Stock Exchange, owns 63% of the mine.
Revenue and Net Income of Kumba Iron Ore has been climbing the last decade, while Net debt has declined.
Kumba Iron Ore in their 2020 presentations sees a bright future as China continues to ramp up steel production, while Iron Ore production is relatively flat. Crude Steel production has grown 30% over the past five years according to SPG Global.
As Chinese steel prices soar, so does the price for Iron Ore.
Kumba Iron Ore prides themselves to deliver the best quality Iron, with higher Fe quality% compared to Vale, Rio Tinto and BHP. This is an important factor, especially because of the pollution crackdown in Chinese Steel mills. Many currently hoard inventory while Morgan Stanley has called China’s supply reforms a possible “fundamental change” in demand for premium ore, with grade differentials unlikely to normalize soon.
As it is a commodity company, the price follows a similar pattern to the Iron Ore Spot price. Kumba Iron gives exposure to the iron ore commodity and South Africa. As I find commodity business difficult to value, I will not further research Kumba Iron Ore.
Ashmore Group PLC
Ashmore Group, with a market cap of $4b, is a London based Asset Management company dedicated to emerging markets that was founded in 1992. They pay a 4,36% dividend, while still buying back shares. Assets under management have climbed over the years, but because of inflation fears their debt and fixed income products had heavy outflows, with AUM falling by more than $3b to $89.9b in the last three months.
As asset-managers in emerging markets and in the frontier market, they offer several products in external debt, local currencies, corporate debt equities and multi-asset allocations. While their balance sheet is rock solid, I will skip Ashmore. Asset management is a tough business, and based on their products I have seen nothing that has convinced me enough to dig deeper.
Riverstone Holdings Limited
Riverstone is a Malaysian-based nitrile gloves manufacturer that is listed on the Singapore Stock Exchange.
Nitrile gloves are stronger than latex gloves and used for higher protection from chemicals. Riverstone focuses on Clean Room gloves to be used in sterile environments. They specialize in particle and static control for the electronics industry. Grandview research views the US nitrile gloves market as a growing one. While Riverstone Holdings is a Malaysian firm, I still believe the expansion of the industry applies to them. As a result, they have already built new factories.
While revenues and income have slowly climbed over the last decade, 2020 had a huge sales surge.
As a result, the stock price has expanded from around 0.5 SGD to a maximum of 2.35 SGD and then contracting to the current price of 1.37 SGD. The market sees them benefiting from the Covid-19 crisis, but they confirmed 19 Corona cases in their Perak based factory. It affected about 2% of the annual capacity as the plant was temporarily closed.
Demand for their cleanroom gloves grew 65% year over year, their healthcare examination gloves saw an increase of 16% year over year. While a significant increase in that area, depending on the demand from the technology and semiconductor sector, their sales might not benefit as much from Covid-19 as the market might think they are.
The corporation would deserve a deep-dive, but when comparing it to competitors I did not know how to differentiate them. As a result, I will skip Riverstone Holdings Limited. However, if you know about the industry, please message me on twitter @InvestRoiss.
Fab-Form Industries Ltd.
Fab-Form Industries is a Canadian company with a market cap of just $3m USD that offers products to ease concrete pouring and reduce costs. As I have no experience with wet concrete other than once running over it as a child, I will move on.
GungHo Online Entertainment, Inc.
GungHo Online Entertainment is an industry that I understand and have already invested in: Video Games. While they were founded as a subsidiary of Softbank, GungHo bought shares off Softbank and became an independent enterprise in 2016. Softbank still controls around 18% of the company, steadily reducing its stake. The biggest IP from GungHo is without a doubt the Ragnarok brand, followed by Puzzle and Dragons. It has a market cap of around $1.5b USD or 155b JPY.
Ragnarok
Ragnarok Online was one of the first MMORPGs to become popular after its release in 2002 in South Korea. MMORPGS are mass multiplayer online role-playing games, with World of Warcraft being the most famous one. Gravity, a Korean company listed on Nasdaq of which GungHo owns 59.31%, develops Ragnarok. Gravity’s market cap is $982,02M as of 12.06.2021, valuing Gung Ho’s stake at $582.43M. Ragnarok Online has continually received updates and, despite its age, has around 650 000 subscribers according to mmo-Population.com. Not only are the subscribers impressive for an 18-year-old game, they are continuing to grow. A recent launch in Thailand added over 1.3 million users, with around 250 000 daily players. While I expect that the amount of daily users will drop after the initial launch euphoria, it shows the love for the Ragnarok brand.
With limited success in other video games, Gravity focused on the Ragnarok brand and expanded it into different genres and platforms. Gravity’s catalog are two PC games and 7 mobile games. Ragnarok Origin will go live in Japan on the 28th June on Google Play and on the Apple App Store, while they will release Ragnarok X: Next Generation in Southeast Asia.
Revenues of Gravity have contracted in the first quarter of 2021, because of reduced interest from Ragnarok X: Next Generation in Taiwan, Hong Kong and Macao and Ragnarok Origin in Korea.
Game developers run into the risk of games not being embraced by the long-term fans, especially with brands that have lived as long as Ragnarok. While an asset, it can be a liability as zealous fans can become zealous critics.
Puzzle and Dragons
Puzzle & Dragons released in February 2012 for the iPhone. Since then, the number of downloads has exceeded 55 millions in August 2020, making it one of the most popular games in Japan. Just like Ragnarok, due to continues updates and events, the user base has been incredibly stable since 2017, especially for a mobile game.
While I don't expect a significant growth of users, a stable user base can only be seen as an asset.
Ninjala
One of their most recent games was Ninjala, which was released in June 2020 for the Nintendo Switch as a free-to-play multiplayer action game. Despite mixed reviews, with complaints about the games’ story mode, it has amassed over 7 million worldwide downloads. Splatoon apparently is similar Ninjala. GungHo Online CEO Kazuki Morishita acknowledged the similarity between the two games in an interview.
I know the coloring and the style looks like Splatoon but when people actually played a game; we hear a lot of them say this isn’t like Splatoon. Splatoon’s a very good game, and I like it - I’m thrilled that people say it’s like Splatoon - but I’d like people to play it and see it’s very different from Splatoon, and for people to enjoy it on its own terms.
Splatoon’s more a shooting game, and this is more close combat - it is team battles with 4 players on each side, but there’s also battle royale which is a free-for-all. If you play the game, you’ll see it’s totally different. They’re both fantastic games - and Splatoon is a game I admire. We want to do a collaboration with them!
While GungHo Online Entertainment doesn’t publish the active user number but published in a recent investor presentation that they are firm. Through merchandise, and cross-platform media like anime, TV, manga and collaborations with other brands such as Monster Hunter Rise, they are trying to increase monetization per user. The CEO meanwhile doesn’t doubt Ninjala’s successful monetization in the future.
“I’ve had a good amount of experience with titles like Puzzle & Dragons and Letit Die, so maybe I’ve become accustomed to the difficulties associated with the F2P mode. As you might imagine, any kind of game development has its share of challenges, but I think the most troublesome part of managing a free-to-play title comes after release. Not only do you have to plan to include extra elements, but you still have to consider how you will implement corrections and adjustments in response to user feedback.”
As Nintendo have sold over 78 million Nintendo Switch consoles, the potential market for Ninjala is quite remarkable. Whether they can increase user monetization and user, retention with future updates remains to be seen.
While they developed it to support cross-platform, there are currently no plans to bring Ninjala to other platforms such as Playstation or Xbox.
Valuation
Looking at the revenue over the last 9 years, we can observe that it very much depends on the success of Puzzle & Dragons as it mirrors the active user chart. After 2017, the revenue and net income has increased.
Return on Equity and Assets has decreased and so did the EPS the last few years, despite the company going from 115.15 million shares in 2012 to 68.25 million in 2020. The company is investing money into new titles and reinvesting into existing titles to keep users.
While revenue and net income aren’t impressive, the balance sheet is. With 102b JP¥ in cash or cash-equivalents they cover total liabilities at 16b JP¥. That means that Gung Ho Online Entertainment’s market cap is 155b JP¥, while the EV (Enterprise Value) is 61b JP¥.
Japanese companies hoarding cash is nothing new, since the mid-1990s, have saved over 500 trillion yen. While that conservatism puts them in a better financial shape than global counterparts, it has kept them from realising its full potential. While I believe that GungHo Online Entertainment can use that cash pile better, they have bought companies in the past, and their share buybacks make me hopeful.
As I am a value investor by heart, I want to buy cheap companies. As a result, I believe that the Acquirer’s Multiple (EV/EBIT) is one of the best metrics to determine the cheapness of a company, as it takes debt into account. GungHo Online Entertainment EV/EBIT is impressively low at 1,73.
Not only do I love cheap companies, I also believe in the concept of mean reversion. Mean reversion assumes that an asset’s price will converge to the average price. Except during the Covid-19 crash, GungHo Online Entertainment never had such a low multiple as it has today.
What I like to do, to evaluate a stock, is a DCF using 0% growth rates and a 15% hurdle rate. I want a decent return with no growth, yet if the business can expand, the growth rate can be even higher. With last year’s earnings a buy price would be 1222.11 JP¥, a far cry from the current price of 2297.00 JP¥, however to get a realistic buy number one needs to take the balance sheet into account. With 68.25m shares outstanding the market cap with the buy price would be 83,49b JP¥. As the current EV is below that with 61b JP¥, Gung Ho offers a decent return profile in the future.
So is GungHo Online Entertainment a stock that would deserve a thorough analysis? Yes, however I am unsure about their future. They very depend on their two main franchises in Puzzle & Dragons and Ragnarok. Ninjala seems promising, but if they can monetize on the Nintendo Switch remains to be seen. As a patient investor, I remain on the sidelines for now.
Funkwerk AG
Funkwerk AG sells communication, information, and security systems focusing on railway and train systems. As I lived half a year in Germany one thing that hardly ever worked where the digital timetables. As Funkwerk is one provider for digital timetables, I don’t think I can evaluate the company without developing a boiling rage, remembering the times waiting for a train with the digital time tables either being wrong or not working.
Akatsuki Inc
The next company is another one in the video game business and the only one on the screen that is within 10% 52-week low. Founded in 2010, it’s the newest company on the list. As a result, the company has a high insider ownership with the Co-Founders, Genki Shiota owning 19.18% and Tetsuro Koda owning 10.55%.
The company announced a share buy-back plan that will reduce the outstanding shares by around 4% until August. According to their latest filing, they bought back 197,000 shares in May 2021.
One thing I like about the company is that they fit the “spawner framework” that was outlined by Mohnish Pabrai in a recent talk.
A “spawner” is a company with the necessary DNA to incubate new businesses that have the potential to become the next massive growth engine
Akatsuki have established subsidiaries in other countries like Taiwan and the US, created a startup incubator, ventured into e-sports, a kid’s YouTube Channel, new game studios, two funds and a recent expansion into India.
While the spawner can create new businesses that might turn into the next massive growth engine, it can detract from the principal business. As Akatsuki released two games in 2020 and have released planned for 2021, I am not worried yet.
But, as always, there are some problems. On June 4, 2021 they announced that one co-founders and non-executive director Genki Shiota will step down from his post at the end of June to focus on his vision of “A Heart Driven World”, becoming an advisor to Akatsuki. This is not a recent development as Genki Shiota already focused on the “Heart Driven Fund” from Akatsuki in 2018, trying to find talents, startups and joint venture to enable people to realize their dreams.
This corporate speech is one of the biggest gripes I have with the company. In all their presentations they talk about their mission to “Entertain the world. Resonate with creators”, “Pivoting on games” and about “values and experiences”. While one gets used to the set phrases, the use by Akatsuki is excessive.
While Akatsuki has developed several games for other companies, including a mobile app for Dragon Ball their own IP is still in its early stages and not worth diving into.
One game I like to point out is their most recent one: A rhythm game with the songs from HoneyWorks, one of my favorite Japanese music groups. If you enjoy Japanese pop-music, I encourage you to check some of their songs out:
Valuation
As Akatsuki is a fairly new company, their revenue growth was very impressive - until Covid hit Japan. Since then there has been a slight drawback of sales and their return ratios.
Just like GungHo Entertainment, Akatsuki has quite a big war-chest. Cash and short-term investments amount to 31b JP¥, bringing the EV down to 25,4b JP¥ compared to the 51,1b JP¥ market cap. Akatsuki, except for March 2020, was never cheaper since it went public in 2016 on a EV/EBIT basis. A current EV/EBIT ratio of 2,28 is very appealing.
Again I create a DCF with 0% growth rate and 15% hurdle rate. With 13.98m shares outstanding the market cap using the calculated buy price would be 27,5b JP¥, just above the current EV of 25,4b JP¥.
Just like GungHo Online Entertainment, Akatsuki seems very attractive. While the departure of one co-founder wasn’t surprising, it is not yet clear how it will influence the company in the future.
Oricon
Oricon Inc. engages in the design and operation of websites. The company also offers news distribution services; music/book distribution services for smartphones and PCs; and content distribution service for phones. As their own website isn’t one that you would call great, and they offer so many services that it is difficult to get a decent picture of the company, I will pass this one.
TerraVest Industries
A diversified Canadian industrial company that manufactures and sells goods and services to various end-markets including: energy, agriculture, mining, and transportation, among others. They focus on acquiring and operating market-leading businesses that will benefit from TerraVest’s financial and operational support. These opportunities center on manufactured steel products that complement TerraVest’s existing operations and provide integration benefits. TerraVest comprises off three operating segments: Fuel Containment, Processing Equipment and Service. A market cap of around $265m USD shows it is a small company.
There is an exceptional Value Investors Club write up, worth a read.
As the management doesn’t hold conference calls, it is probably under followed. As insiders own 52% of the company, the management focuses on improving the company. And improving it, they did. Since FY2010, revenue has grown at a 24% CAGR, while EPS has grown at a ~60% CAGR. Back in FY2010, ROE was a pathetic 0.5%, vs 29.3% in the last twelve months. Impressive.
One of their key growth areas was acquiring small companies under 10 million and improving them. While I am skeptical of serial acquirers, their track record is impressive.
In a recent filing, they announced they will buy back over one million shares until May 2022. 18m shares are outstanding, so 1m is quite a sizable chunk. Clarke Inc, a small-cap investing company is owner of the company for over 10 years now and has helped to divest and improve the company, with the current CEO Dustin Haw being a former Clarke employee.
Valuation
Revenue and net income are thriving because of optimizations and new acquisitions.
Because of the many acquisitions, the company has an EV CA$420.5m, while the market cap is CA$324m. Although this is a steep contrast compared to the cash-heavy Japanese companies, the company’s finances are till conservative.With the EV/EBIT ratio being at 9.13, it is quite cheap for a North American company, especially when one accounts for the growth.
My trusty DCF with 0% growth rate gives the company a buy price of $9,57, while the current market price is much higher at $18,5. However my DCF is only a reference point. With the rising prices of commodities and the track record of the management, I find the company at current prices quite attractive. As a result, I will add it as a tiny position (around 1%) to my portfolio.
Clover Corporation Limited
Don’t them up with Clover Health Investments Corp that went public in the US with a SPAC.
Clover Corporation Limited refines and sells natural oils in Australia, New Zealand, Asia, Europe, and the Americas. The company produces encapsulated powders; and research and product development of functional food and infant nutrition ingredients. It offers Nu-Mega Hi docosahexaenoic acid tuna oils for infant formula and pharmaceutical products; Ocean Gold refined tuna oils; Nu-Mega Driphorm powders for a range of infant formula, growing up milks, and food applications; and Nu-Mega Driphorm HA for non-dairy applications.
The variety of products of Clover is small, being a company under $200m USD. They have increased their sales by 15% in 2020. They operate within an easy to understand and growing sector, I will directly jump into the valuation.
Valuation
An EV/EBIT ratio of 18.35 doesn’t make the company cheap. Not only that, but the share price is quite volatile, as EV/EBIT was at at 11.15 in early March 2021. My trusty DCF with 0% growth rate gives the company a buy price of $0,45 with the current price being A$1.80. While the fast growth might provide a margin of safety, for me the company at current valuations is just too expensive.
Conclusion
Screening for the stocks was straightforward with Burry’s old methods and the business quality that it provided amazed me. While I passed several companies that were outside my circle of competence, I still found several that were attractive in price and that I could understand, adding one to my portfolio. Not only that, but they also had high insider ownership, and rising dividends or share buybacks.
While it remains to be seen how my favorites today (TerraVest Industries, Akatsuki and GungHo Online Entertainment) perform in the future, the methods outlined by Burry 20 years ago are still relevant today.