How To Find Great Investment Opportunities In Closely Held Micro-Caps

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During his recent interview with Tobias, small cap value manager Eric Cinnamond discusses how investors can find great investment opportunities in closely held micro-caps. Here’s an excerpt from the interview:

Tobias Carlisle: What sort of industries are you finding opportunities in? What sort of companies, can you talk about names?

Eric Cinnamond: They’re just so odd ball companies. I mean, these little ones, they’re fun. I’ve missed this is because this is where I grew up when I worked at the Evergreen Funds in ’96 and ’98. I grew up on a lot of these small, tiny companies. When I was at Evergreen, we were running a $6 million fund. And you really could buy these micro caps and they’re so unique. They might be industry leader, they’re just a tiny industry. And example would be Gencor. You would never guess what they do. They are the market leader in asphalt plants, right?

Tobias Carlisle: Right.

Eric Cinnamond: So they have about 40% market share of asphalt plants, right? Market leader. Their market cap, it’s about $170 million. So tiny market cap, but they have $115 million in cash and market securities, marketable securities. And they have 27 acres in downtown Orlando on the books back in 1983. So it was on the books for about $3 million. And if you drive down Orange Boston Trail, which is the street they’re on, and you look at the real estate prices on that road where a tremendous amount of traffic goes, you’ll find that $3 million is significantly undervalued. So you could just buy it almost for the value of the marketable securities of cash and the land.

Eric Cinnamond: And then you get the market leading business of asphalt equipment, which is extremely cyclical business, by the way. And cyclicality never bothered me, but it bothers some investors. An average asphalt plant costs about $4 million, right? So this is a very lumpy business, but 94% of the roads in the US are paved with asphalt. So it’s not going away. I don’t know if they’ll find a substitute for that. They haven’t so far. It’s closely held, though. The Elliot family has controlling interest, but great balance sheet.

Eric Cinnamond: Very inconsistent revenue and cash flows, but if you normalize it, they’ll generate $50 million at the end of the trough and they’ll generate $100 million in revenues on the peak. And we’ll normalize that and come up with about $4 million a year in free cash flow. And then we discount that back and we get a discount. It’s not huge, but when people dump small caps, they’re not going to be looking for Gencor. Well, they might. Actually, this one has some ETF exposure, or index exposure, but relative to most of what we’re seeing. Most of what we’re seeing, many of the ETFs, and index funds, and closet index funds own 20% to 50% of the flow.

Eric Cinnamond: So when they all get outflows at the same time, they have to sub. And we just don’t want any part of that wave. So that’s just one example, but it’s a very unique industry, very unique business, and extremely different balance sheet because, as you know, the corporate balance sheets right now are a disaster. When I think back to 2009 and March, the last time I got aggressive and fully invested, the balance sheets were so much better. I mean, so much better, especially with the cyclical names. Now, when the cycle ends, I think it’s going to be much more difficult to get aggressive quickly because the balance sheets are just not there.

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