Author Topic: Investing in low P/E nano caps  (Read 27591 times)

DTEJD1997

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Investing in low P/E nano caps
« on: March 26, 2013, 02:45:18 PM »
Hey all:

Good to finally be a member here...

I am starting to refine my strategy of investing in nano-caps.

I am looking to invest in incredibly cheap ones based off of earnings & cash flow.

In the past couple of years there have been several instances of me getting into nano-caps with P/E's of LESS than 3.  Assuming the business is not flawed or in a crashing terminal decline, I don't see how you can go wrong.

A P/E of 1 or 2?  How can that be?  It is very rare, but does happen from time to time.

The first example of this is "Mexican Restaurants" (CASA).  It briefly traded at a P/E of just over 1.  Hit a low of $.21/share, with 39 weeks earnings of $.20/share.

Another example is "Meritage Hospitality" (MHGU).  This traded as low as $1.25/share in the lat 52 weeks, and is earning $.65/share.

Other examples include "Rurban Financial" (RBNF) and many other small community banks.  In RBNF's case, bought at about $2.50/share.  A little over a year later, trading for $9/share and earning $1/share in net earnings.  "True" earnings are even higher than that as they have amortization expenses.  Stock has also started up a dividend again. 

RBNF was not the only small community bank that was left for dead by the side of the road...

Most of these stocks trade at a significant discount to book value, sometimes tremendously so.  They frequently have issues with them, and are thinly traded.

There are a few other examples, but I guess the point I'm trying to make is that if you can take the time to build up your database & knowledge of different stocks, you will see very odd pricing anomalies.  They don't come about as often as I would like, but I'm a small investor with limited capital.

I find these things a few times a year, and that is actually more than enough for me, as I have limited funds. 

I would think if you can find these companies, it almost does not matter the market does.  The valuations are just so cheap, you have an incredible margin of safety.

So in the future, I'm going to be on the watch for more of these things and keep my powder dry so that I'm ready to go when they come about.

Anybody have any experience/thoughts about doing this?





matjone

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Re: Investing in low P/E nano caps
« Reply #1 on: March 26, 2013, 03:51:07 PM »
oddballstocks blog, otcadventures, and several others are good resources.  If you ever start a blog let us know so I can follow it.
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rkbabang

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Re: Investing in low P/E nano caps
« Reply #2 on: March 26, 2013, 04:18:45 PM »
As a former CASA shareholder let me caution you that these types of stocks can look cheap and remain cheap for year after year after year....  I would look for stocks with a plausible catalyst to unlocking the value. Otherwise you could hold for many years and never realize a gain.  The price may jump around a bit, but so few shares trade that it would be impossible to make money trading in and out of some of these stocks.  It is hard enough just o get a full position and to get out again even once. I'd have to look it up but IIRC I held CASA for almost 5 years and lost money when I sold.  That was years ago (before 2007) and it is still looking cheap today. 

Palantir

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Re: Investing in low P/E nano caps
« Reply #3 on: March 26, 2013, 04:29:48 PM »
I only own one nanocap - RSKIA, I only consider them if I see a catalyst present, in RSKIA's case it is a 4%+ dividend. I am looking at OPST, but the aforementioned reason gives me hesitation.

« Last Edit: March 26, 2013, 04:32:19 PM by Palantir »
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Olmsted

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Re: Investing in low P/E nano caps
« Reply #4 on: March 27, 2013, 06:32:37 AM »
I'll second the "they can stay cheap forever" line.  The reason they're cheap in the first place is that, being so tiny, there is no real price discovery mechanism the way there is for picked-over mid- and large-caps.  A double-edged sword.  I think a basket approach is key because the catalysts are somewhat unpredictable, and only happen to a proportion of these in any reasonable length of time.  Going-private, acquisitions, etc. can all provide liquidity.  Value blogs highlighting them can bring a broader interest, and hence liquidity.

There do seem to be some incredible opportunities in this space.  But it can be tricky.

oddballstocks

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Re: Investing in low P/E nano caps
« Reply #5 on: March 27, 2013, 07:51:39 AM »
The dynamics for value realization are different for tiny stocks but they still exist.  Patience is required, many of these stocks stay cheap for years and then one day will be purchased or merged.  I'm reminded of Western Lime, they traded in the $5k a share range for a decade, then were purchased for $50k a share.  The price jumped 10x in a day, that doesn't happen with large caps.

I am wary of micro-caps with catalysts, I think investors overpay for them, and too often they don't pan out.  I'd argue that George Risk's dividend isn't a catalyst at all, many microcaps pay 4/5/10% dividends.  In George Risk's case the fact that the CEO passed away could be viewed as a catalyst.  The new CEO, Stephanie Risk is a third generation Risk.  There is a lot of research showing that the third generation of a family company doesn't have the same attachment or drive that the first two do, and they generally sell.  I have a few holdings that are second generation with a very old CEO.

As for low P/E stocks, there are a lot of them.  CASA was an incredible deal, I'm kicking myself for researching them and walking away.  I would have doubled or tripled my money on that one.  Here's the crazy thing, I wrote it up, and OTCAdventures wrote it up and it continued to stay low, then shot up.  So the information was out there, it wasn't as hidden as one might think.

I see a lot of cash boxes that are EV/EBIT or EV/E of 1-2x, they look expensive at first, but once you back out the hoard of cash they're cheap.  Many stocks in the P/E 5x range, I've seen a number of EV/FCF multiples of 3x or less, some 1x or less.

Patience is required with these companies, invest with the expectation that you'll be in there for years.  You need a big undervaluation and a dividend to make waiting worth it.  There is a company I'm thinking of that's worth 3x their market cap easily, they pay a substantial dividend.  It might take a decade for value to be realized, but it would be worth it.

Diversification is also worth considering here.  With how boring this space is you'll invest and then have nothing to do for another year until the next annual report comes out, no news, nothing.  Given that most of these stocks do nothing over a year it's worth spreading things out so something is always jumping.  I'm thinking of one company I own, they report once a year (heck most of what I own does), it moved up 15% and has stayed there since.  The company is worth double, and the CEO has made note of it in the annual letter, I'm waiting on that right now.

Another benefit is research time is limited for these.  For example I received my 2012 National Stockyards annual report in the mail yesterday.  I read the entire thing, every word, number and note in 10m.  I have three years worth of annual reports for them, it would take me 30m to re-read them all.  In 10m I was up to speed on what happened and what to expect, I only own one share of them, so now I'll wait a year to see where things are next March.  So many tiny stocks are like this, spend an hour researching, purchase then be patient.  It's really such a simple thing.  I'd rather read about 20 companies, purchase three and wait then spend the same amount of time trying to parse through all the crap on a large complicated company.  Small companies are simple to understand usually and simple to analyze.  I find simplicity cuts down on mistakes helping me make better investment decisions.  Sure I'm not some genius analyst unravelling the mysteries of the market, but I don't care, I'm content to be looking at the little ignored things over and over.
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Palantir

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Re: Investing in low P/E nano caps
« Reply #6 on: March 27, 2013, 08:44:15 AM »
I'd argue that George Risk's dividend isn't a catalyst at all, many microcaps pay 4/5/10% dividends.


Which?
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ragnarisapirate

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Re: Investing in low P/E nano caps
« Reply #7 on: March 27, 2013, 08:50:33 AM »
Per usual, I greatly agree with oddball on most all of his points.

I think that a lot of times too, there are a lot of catalysts for these smaller companies that don't come up so easily. Often though, management will buy them out.

Let us remember that it is a form of bias to say "this one stock I held went no where, and I know a lot of people who had a small stock that went no where, so they must all go no where..." In terms of liquidity, that often scares people off too, but there are often wild liquidity swings that happen. I have spent literally a year trying to buy shares of companies, and wouldn't get all I wanted- then, there was suddenly a ton trading! All this said, when they move against you, it can really take a psychological toll if you aren't ready for it.

Granted, negativity towards nanos is pretty beneficial to us nano guys because it keeps some of the good deals out there longer. I suppose that this means that we are not at the peak of a bull market, because if we were, I would guess that nano prices would be bid up by people looking for the next growth play?

Also, there are a lot of big caps that essentially stay the same place forever too- generally, I want to buy part of a business that I like. Small companies provide that.

It just so happens, that I really like CASA as a business, but think it's a bit expensive (relative to other stocks out there) at the moment... That said, I could think of worse things than owning a pretty well run chain of mexican restauants in Texas that is trading for 1/2 of book and earning money. I could think of much worse things! Think of what the private value of it should be!? I would think a good bit more than it presently is.

A lot of the reason for price suppression too, is that often times, funds don't come in and bid the prices up to make the market efficient. Though there are instances of it. If I were to raise a bit of capital from outside investors, I would still try to buy a lot of these smaller firms, simply because there is so much low hanging fruit out there. With companies like SODI (especially when it was sub $3/share) it should have been a no brainer for everyone AND had the added bonus of trading liquidity (as is evidenced by the changing form 13s on it).

As with anything else, there are no strikes- just wait for your right pitch.

Hielko

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Re: Investing in low P/E nano caps
« Reply #8 on: March 27, 2013, 09:03:17 AM »
I'd argue that George Risk's dividend isn't a catalyst at all, many microcaps pay 4/5/10% dividends.


Which?
There are tons of high-dividend microcaps. I own DSWL and ARGO.L and both have a dividend yield near 10%. But I would argue that share buybacks are almost always better - if there is sufficient liquidity - for the undervalued microcaps since that's creating more long-term value.

ragnarisapirate

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Re: Investing in low P/E nano caps
« Reply #9 on: March 27, 2013, 09:05:16 AM »
I'd argue that George Risk's dividend isn't a catalyst at all, many microcaps pay 4/5/10% dividends.


Which?

There are a lot of them that pay good dividends. Chicago Rivet, Micropac, Itex, AirT, and a host of others. You just have to look for them. I think that this is another example of where a baby can get thrown out with the bathwater, simply because it is a small company.

As a side note, I have always found it interesting that in our society, there is a huge emphasis placed on the importance of small business. However, when it comes to a small business being in the capital markets, they totally get the shaft and will often have trouble raising capital, getting a loan without a personal guarantee (despite being a crazy great business with a ton to back the loan with), and are generally scorned by investors.

I find it sad that so many small business owners will invest their savings in the very businesses that are trying to destroy them on a daily basis (the really big players)- say, a family pizzeria investing in a mutual fund that invests in YUM!, DPZ, or PZZA... The small business owners ultimately don't get a chance to invest in/with their small business brethren (for whatever reason)- IBAL, SYTE (in the sake of disclosure, I have a 13D filed with Sitestar), and EVI come to mind as some family businesses that are so small that few look at them. For our Pizzeria family, how about an investment in PZZI? How many of the PZZI franchisees are invested in the stock? My guess is VERY few. I suppose that this hinges on what their financial advisor tells them to do, or they don't know how to go about finding these companies. Or, the instances of fraud and pump and dump schemes are so blown up in the media and movies, that people get scared of "penny stocks".
« Last Edit: March 27, 2013, 09:07:13 AM by ragnarisapirate »