Monthly Archives: March 2012

Quick SALM update

SALM Communications released fourth quarter 2011 results yesterday and results are as expected. Compared to previous quarter total revenue is up 6.2%, EBITDA has remained constant and 12.5M of debt has been redeemed. The company also has announced that it intents to start paying a quarterly dividend of $0.035 per share, which would translate to a ~5% dividend yield. A good confirmation that the strong free cash flow is indeed there, as that is the main point of the investment thesis.

So far so good, and things are even a bit better than originally estimated. I missed the fact that the company has optional redemption clauses in their 9 5/8% notes that are due in 2016. The company is able to redeem 30M/year at 103% of par, and after December 2013 they can redeem all notes at 104.8% of par. The premium is lowered to 102.4% in 2014, and after that it can be redeemed at par. Given the fact that the company spends a lot of money on interest payments this is very good to read. Full details can be found in this S-4 form that was filed when the notes were issued.


Author is long SALM

White Mountains tender offer

After my post on The Singapore Fund tender offer a reader pointed me in the direction of the White Mountains Insurance Group (WTM). The company announced on February 23, 2012 that it is commencing a self-tender for 1,000,000 shares, 13 percent of the outstanding stock, at a price of 500 dollar per share. And if more shares are tendered the company has the right, but not the obligation to buy an additional 2 percent of outstanding shares. Just like the SGF tender offer holders of small positions are not prorated, a quote from the SC TO-I filing (a must read if you want to participate in an offer like this, since it contains all the details of the deal):

If you own beneficially or of record fewer than 100 Shares in the aggregate, properly tender all of your Shares and do not properly  withdraw them before the Expiration Date, and complete the section entitled Odd Lots in the Letter of Transmittal and, if applicable, in the Notice of Guarantee Delivery, we will purchase all of your  Shares without subjecting them to the proration procedure.

This clause creates an opportunity for the small investor that is impossible for the big players to exploit, and because the share price of WTM is actually almost $500 you can still create a sizable position. The stock is up 1.66 dollars today and trading at 497.97, already halving the potential profit from ~365 dollar to ~200 dollar. Still not bad if it would be risk free, but there are various conditions to the offer. Most of them are not really a problem, for example the company reserves the right to cancel the tender offer if it would result in the company being delisted from the NYSE. A bigger issue is this:

there shall have occurred any decline of more than 10% in the market price for the Shares or in the Dow Jones Industrial Average, New York Stock Exchange Composite Index, NASDAQ Composite Index or the Standard and Poor’s 500 Index, as measured in each case from the close of business on February 23, 2012;

So by participating in this tender offer you still have market exposure in case there is a more than 10% drop, and if you wanted to hedge this exposure you would lose almost all of the potential profits. SPY put options that expire on March 30, 2012 (the offer expires March 22) with a 123$ strike cost ~30 cent. You need 4 of them to reasonable hedge your market exposure for a total cost of $120. That leaves very little room for profit especially considering SPY puts would be a poor hedge, and there are still other risks and transaction costs as well.


At current prices it doesn’t seem attractive to try to profit from this tender offer, but the company itself might be worth investigating. It has a very strong balance sheet, is using part of the big cash balance to buy back a meaningful part of the company, insiders are not participating in the tender offer, and the company is trading at just a 5.1x PE.



The Singapore Fund tender offer

The Singapore Fund is a closed-end fund that is focused on equities listed in Singapore (surprise!). The fund is currently trading at a discount of ~5% of NAV and has announced an in-kind tender offer for up to 25% of all shares outstanding at a price of 99% of NAV. As is common in these kind of transactions holders of small positions are given a preferential treatment compared to holders of bigger positions, creating opportunities for those with a (very) small portfolio. The SGF tender offer has two of these mechanisms in place.

The small idea

If you own 100 shares or less you will not get prorated if more than 25% of outstanding shares are tendered, and you will not get paid in-kind, but in cash. Since the shares of SGF are priced at 12.93 that would mean that you would be able to create a $1293 position that has a positive expected return of ~4% in a week time (the offer expires March 14). That’s a pretty good return, but obviously the position size is severely limited. I would not be too lazy to pick up 50 dollars in EV, and even better: you can reduce most of the variance in this bet by hedging your market exposure using an ETF such as EWS that tracks the MSCI Singapore Index. The not-so-scientific proof:

The bigger idea

There is however also a preferential treatment for people who tender less than 2500 shares. Instead of receiving odd lots of securities listed in Singapore, those holders also receive cash, but just like the bigger positions they are prorated if more than 25% of shares are tendered. That makes it harder to evaluate the expected value of going long more than 100 shares SGF, since it’s unknown how much shares will be tendered. You are certain to make a profit on 25% of the tendered shares, but if the discount to NAV returns to the 6% SGF traded at before the tender offer was made you lose a bit on EV on the remaining 75% of your position. Add in some transactions costs and going long SGF could have zero expected value.

This is however an unrealistic pessimistic scenario because for all kinds of reasons not all share holders tender their shares. This can be because it’s simply impossible. In this case you can only tender more than 2499 shares if you have an account capable of receiving Singaporean securities (my broker – Interactive Brokers – can’t). But it could also be that people are perfectly happy with their position in SGF, and don’t want to sell.

Past year I participated in a tender of a Russian company that was willing to buy 7.71% of stock back at a huge 50% premium. A deal that you would think no-one would be willing to pass up, but in the end the proration factor was 10.95%. Part of the reason: Russian shareholders had to tender their shares in person – standing in line for days! – while the USA listed ADR’s could be tendered with a few clicks of a mouse.

But to get back on topic: there is actually some scientific evidence that proration factors, and specifically those for close end funds trading at a discount, are significantly higher than you would expect based on a 100% participation rate. This paper, that looks at a sample of 71 CEF tender offer repurchases in the period from 1994 till 2006, finds that the average realized proration factor is 79.98% versus a 25.87% expected value. And that’s in a sample where the average discount to NAV is bigger than that of SGF.


While it’s hard to know what the expected value of the bet exactly is, it is a case of heads I win, tails I don’t lose (much). I have created the table below, based on a 2000 share position in SGF and a 2100 share short position in EWS, that shows the expected profit based on various possible proration factors.

It’s important to note that the expected profit can be materially different than the realized profit because the hedge is not perfect, and there is no guarantee what exactly the discount of SGF is going to be post tender offer. But having some potential variance in your portfolio is not a problem, as long as the dollar amount at risk is not too big relative to the total portfolio value, and the variance is not correlated with your portfolio.


Author is long SGF, short EWS

Charlie Munger on poker

I just finished reading Poor Charlie’s Almanack: a collection of talks and texts published by Charlie in the course of time, and since I’m a professional poker player I found this quote (talking about people throwing good money after bad) especially noteworthy:

One of the best antidotes to this folly is a good poker skill learned young. The teaching value of poker demonstrates that not all effective teaching occurs on a standard academic path.

Always good to read that someone you respect thinks that what you’re doing isn’t totally useless. Paradoxically Charlie is at the same time taking the moral high ground in most of his talks, while poker is a game that thrives on extracting as much money as possible from people that are not well equipped to gamble (to say it in a nice way).

That said, I think it’s a interesting book that absolutely worth reading. It’s not a book about investing, but more about the mental framework that’s needed to make good decisions and how psychological factors can affect countries, businesses and yourself. And that gets me to the following question: “how useful is it really to read a book where a priori you already know that you agree with the viewpoint of the author?”

On the, admittedly short, about me page of this blog I tell the world that the first book I read on investing is The Intelligent Investor and that I have been convinced that value investing is the right mindset to approach investing since, and secondly that being aware of behavioral biases is important. How convenient is it to read a book that confirms your believes: shouldn’t I be reading a book about technical analysis?

While I don’t think that’s a bad idea, I don’t think it’s especially useful either, and that results in my second consideration. It’s well known that people as a group are overly optimistic about their abilities. Eighty percent of drivers think they are above average, and even when people are aware of this bias it doesn’t change the results. Everybody still believes they are better than the rest.

So how can you truly objectively analyze your own decisions and abilities?