Monthly Archives: December 2013

Shorted some Textura

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I added another name to my small short basket of overhyped cloud stocks yesterday. Citron Research released a pretty convincing report that basically argues that Textura (TXTR) isn’t a whole lot more than a big pump-and-dump (not their exact words). The company is already expensive on most metrics, but what’s even more troubling are the background of the CEO and the people who managed the IPO. I suggest you read the Citron piece if you want to know the details, because I don’t have a whole lot to add to their research.

Two small tidbits worth mentioning:

  • As a cloud/technology company one of the biggest assets of Textura should be their employees. Despite this they have a mediocre score on glassdoor.com (small sample).
  • Like most recent IPO’s there are tons of options/RSU’s/warrants outstanding. The fully diluted share count is more than 20% higher than the number of ordinary shares outstanding. Citron doesn’t include this when looking at the fundamentals.

Disclosure

Short TXTR

Urbana Corp: one year later

6 Replies

Urbana has been one of the first stocks I wrote about on this blog, and it’s also one of the few investments I have realized a loss on. But after selling my position at the end of last year the fund has gained more than 100%, and a reader asked me a question worth a blog post: “Are you still happy with your decision making process? Should you have had more patience? Should you have re-bought when the company started repurchasing shares again?”

Urbana trading history

Background

I have a lot of new readers since discussing Urbana for the first time, so to summarize the story: Urbana is basically a closed-end fund with the majority of holdings in a few publicly listed financial companies (mostly exchanges, but more recently also banks). When I first bought Urbana it was trading at a ~45% discount to NAV, and buying back ~10% of the outstanding shares/year. Because closed-end funds incur overhead and management costs they should trade at a discount, but when you can buy back your own shares at a substantial discount you also make a lot of easy money. Because of the buy backs I estimated that a fair discount should be between 15% and 20%. Despite this estimate I sold almost a year later while the fund was still trading at a 45% discount.

What happened since?

Urbana is now trading at a 33% discount and NAV/share is up 70%: combine these two factors and you are looking at a >100% return that I missed. I didn’t have a strong opinion on the value of the assets that Urbana owned a year ago, or what they own today. The big increase in NAV/share is in my opinion mostly a random result, and a big contributor to the good result was their position in NYX that was acquired at a premium this year by ICE.

Shrinking of the discount

I don’t feel bad that I didn’t anticipate the good performance of the fund, but at the same time it does show that my initial thesis was roughly correct. Investor sentiment does change, and when you buy something at a big discount there is a decent probability that you can sell it at a smaller discount at some point in the future. It’s not a surprise that this occurs at the same time as the outperformance versus the market (even when it is just a random good year). Closed-end funds just seem very inefficiently priced: when the underlying assets are hot investors are willing to pay a premium, and when they are out of fashion the fund starts trading at a discount. This doesn’t make a lot of sense since changes in value are already reflected in the market prices of the underlying assets: there shouldn’t be a huge variability in the discount itself.

So why did I sell?

I haven’t really changed my thinking about closed-end fund discounts between two years ago, and today. The reason I sold Urbana was a combination of factors that made me believe that a bigger discount than I originally calculated was warranted.

  • Management was investing money in questionable assets: the amount of money invested in this wasn’t big, but when I saw that the fund manager was putting money in leveraged gold ETF’s I thought my assumption of neutral alpha might be too optimistic. I still think this is true: portfolio turnover jumped from 5% in 2011 to 22% in 2012, and the trading expense ratio jumped from 0.08% to 0.63%.
  • Management started investing in a private company that had Urbana’s CEO as a major shareholder. I still think that’s super sketchy.
  • The company was buying back 10%/year of the non-voting class A shares. With the share count of this class getting lower the percentage of outstanding shares that is bought back each year is shrinking. Instead of 10%/year it’s now closer to 8%/year.
  • They use a little bit of leverage, and the interest they pay on their margin loan is relative high. As a small private investor I can borrow on margin a couple hundred basis points cheaper than them.

So when they stopped buying back shares at the end of 2012 that was the proverbial drop that made the cup run over. Every single negative in the list above isn’t huge, but they all add up, and do make Urbana less attractive. I also think that the fact that Urbana resumed the share buybacks doesn’t mean that I was really wrong.

The big question is: what would they have done if NAV/share would have continued to deteriorate? Management had stated that they didn’t want to reduce the size of the fund too much, and the fact that almost no shares were bought back at the end of 2012 when they were trading at all-time lows seems to support that possibility. I think the timing of the repurchases are a further indicator that management isn’t value neutral. They are now buying back shares at full speed while the underlying is up and the discount is smaller.

Conclusion

The above might all sound very negative, but you have to realize that most of those negatives are just minor compared to how big a 45% discount was. But those negatives were enough of a reason to think that I could find a more attractive idea, and I don’t regret my decision to sell just before the big run-up. If I would have had the choice to put either 100% of my money in the S&P 500, or 95% in the S&P 500 and 5% in Urbana I would have gone for the latter, but with many more options available I thought I could find something better.

In hindsight I would have wished I would have been a bit more patience, but I don’t think I made a bad decision. I was just a bit unlucky to miss some positive variance. With value stocks you often buy something cheap, and you just bet that at some indeterminate point in time something will happen that will realize that value. In the case of Urbana that catalyst came early with a great result, but there were many more possible outcomes that were less favorable. Would they have continued buybacks if NAV/share remained low? What would have happened if the underlying assets didn’t outperform this year? What would have happened if the market itself didn’t have a great 2013? The shrinkage of the discount could just as easily have taken 5 or 10 years, and the value of the underlying assets could have gone down as well as up.

Looking at the good results from 2013 is in my opinion simply a form of results oriented thinking. Urbana was a slightly above average investment, but not a great pick. If I made a mistake it was investing in it in the first place.

Disclosure

No positions in any stock mentioned

Shorting Veeva Systems

11 Replies

I suspect that most of my readers visit this blog to read about micro-cap value stocks, but that’s not all I’m looking at. I do occasionally short something, although I try to be very picky about it. The last time I entered a new short position was early January this year when I shorted STP (down 66% since). A less successful short position, that predates the creation of this blog, has been Salesforce (up 60%). When I read the short thesis on Veeva Systems yesterday it immediately caught my interest because of its connection to Salesforce.

Veeva Systems is basically a reseller of Salesforce focusing on a specific niche: Life Sciences. Because they have build their product on the Salesforce platform they are one of the few (only?) SaaS companies that have been able to generate positive earnings while showing explosive growth. The company IPO’ed less than two months ago, and because of it’s profitability it’s trading at a premium valuation compared to other SaaS competitors. Some quick stats based on the fully diluted share count:

Last price (Dec 4, 2013): 40.14 USD
Diluted shares outstanding: 149 million
Market cap: 6.0 billion USD
P/S (ttm): 35.6x
P/E (ttm): 269x

A premium valuation might make sense, until you realize that they have limited growth prospects going forward. They get 95% of their revenue from their CRM product, and with that product they have already captured approximately 30% of the market. The following illustration from the SA article nicely illustrates how big they already are (the size of the bubble indicates market share):

VEEV CRM market penetration

The bear case is simple: given their current starting point there is simply not a lot of room left to grow. Even if they captured the whole market – which would be very optimistic – there is not enough revenue to warrant the current valuation. Paying 36x sales or 270x earnings for a company with a limited growth potential is insane. The reason that people are willing to pay a multiple this high is because Veeva and the IPO underwriters have been sloppy/deceptive/fraudulent (pick one) about the “total addressable market” of Veeva. They have provided a TAM figure of $5 billion for Veeva, but what they have done is the following:

  • Included in the TAM are the other products that generate just 5% of revenue, a paltry $8 million. It’s basically a category they aren’t active in yet: they just hope to be.
  • They massively overstated the TAM for the CRM product

The fact that the TAM for the CRM market is overstated is easily verified by checking the revenue numbers from Cegedim, a French company with a market cap of just €300 (but approximately the same market share). They generate 50% of their revenues from the “CRM and Strategic Data segment”, and the CRM business itself is 40% of this segment (a fact conveniently overlooked by the underwriters). Cegedim generates ~€900M in revenue per year, and this means that the CRM part is good for: 900 x 0.5 x 0.4 x 1.36 = $245 million. Given that they have an approximate market share of 35% it would imply that the complete market is just $700 million of revenue/year. That’s a small market for a $6 billion company!

Conclusion

There is a lot more that can be said about the subject, most notable the risk introduced by being dependent on the Salesforce platform, but I have no intention to rehash everything from the earlier mentioned article: just wanted to understand the core of the short idea.

What I have done is covering a part of my CRM short, and initiating a short position in VEEV. CRM is already way too expensive in my opinion, but this is even crazier! Given the thesis of a limited growth potential going forward I expect that it should become clear relative fast if this is indeed the case. One or two years should be enough to see who’s wrong here, and who is right. That’s a good thing when you are short: being eventually right isn’t going to do you any good if you are forced out of your position in the mean time.

Disclosure

Short VEEV, CRM and STPFQ