During his recent interview with Tobias, Eric Cinnamond of Palm Valley Capital discussed Don’t Stress It, Press It: Tilt to Growth. Here’s an excerpt from the interview:
Tobias: I read your latest blog post, your latest piece that came out on 29 December, and you were talking about a discussion that you had with a friend/colleague of yours. This is something that I have encountered many, many times. I want to talk to you about this a little bit, the drift in style. He’s gone from being a value guy, or maybe at the deep end of value to being a value guy at the growthier end of value or even a full-blown growth guy. It seemed like that made his life so much better. What are we doing?
Eric: Oh, so much better.[laughter]
Eric: If you want to be wealthy, if you want to sleep well at night, you don’t want to be a value manager.
Tobias: And that sounds great. That’s what I want.
Eric: Yeah. My favorite part about that blog post or the conversation with my friend, and he’s the one that brought it up was, he said, “when you go to bed at night before your value stock reports earnings, and you know that feeling you have? You know it’s just going to be bad.” You can’t sleep, you think about how bad it’s going to be, how much money you’re going to lose the next day. But he’s like, growth stocks, it’s totally a revelation to him. You make money the next day and you sleep well. It’s like you know you’re going to make money, you know the stock is going to go up.
I thought that was [unintelligible [00:08:37], but it’s also true. He has converted and very comfortable with it. He doesn’t rub it in my face, and I completely understand where he’s coming from. He’s got no family, a mortgage. To run money how we run it, you might not get paid. Jayme and I haven’t collected a salary in two years. There’s a lot of sacrifice that goes into running money this way. But to keep up is pretty easy. To do it, the decision is easy. I guess I shouldn’t say that. It wasn’t easy for him, but once he did it, it was a lot easier.
Tobias: It made his life better.
Eric: Once you convert, you’re like, “Whoa. Why was I a value investor to begin with? What an idiot.” [laughs]
Tobias: Isn’t that the question, then why not convert? Why not go and become a growth guy?
Eric: Sure. That’s a great question. [laughs] Maybe I should ask you that question.
Tobias: Well, I’ve thought about it a little bit. Here’s what I think because I haven’t been doing it for as long as you have, but I have been through a few cycles now. I’ve also seen the reverse where for a very long period of time, great companies put up great numbers and just drifted sideways and had a whole lot of volatility for about a decade.
Valuation at some point– the way I think about is that you do really get– I think about it like I’m owning the business. I’m going to get the return, that the business generates, I’m going to get the yield and whatever is reinvested in that business over a period of time. I’m not trying to buy it on what I think the market is going to do to that stock price. I’m trying to buy it on what return that I can see I can get from the underlying business. When I look at some of these expensive businesses, I think a lot has to go right for a long period of time for this thing to pay you back.
Eric: Yeah, no doubt. We have some names now in the portfolio we really like. Our cash has gone up quite a bit, but what we have in the portfolio now we really like. We have a company called Crawford & Company, it’s an insurance adjuster–
Tobias: Great business.
Eric: They improved their balance sheet considerably. It’s closely held, so no one cares about it. 500 million enterprise value about 350 market cap, generates 50 million a year free in cash flow. We’re getting 10% free cash flow yield. They’ve cut their debt in half over the past. Since 2017, they’ve reduced their pension obligations in half over the past five years. They’ve gotten absolutely no credit for the improved balance sheet, improved operating results. For them, they’ll do a lot better in periods where there’s a lot more claims, whether catastrophe, say a hurricane, medical claims, they outsource all of that, but it’s done well. The fundamentals have improved, the balance sheet is so much better.
One of my favorite investments are companies that improve their balance sheets. In theory, you should get dollar for dollar increase on your equity as you pay down your debt. Even more than that, because now your discount rate is [crosstalk] lower because you have lower risk in the business.
We’re having these names, especially the closely held ones I’ve noticed, where they are improving, no one cares. They’re deep value stocks. I point to the passive funds, I just think, especially this closely held names, I don’t think a lot of their float is in these passive funds. It’s all about flows right now. It has nothing to do with fundamentals in this business paying off half of its debt. But in the old days, if you’ve reduced your debt that much, you would get rewarded as an equity holder.
Tobias: Are they buying back stock? Are they taking advantage of it?
Eric: They are. The dividends nice too. It’s a little over 2% dividend. But it’s a good example of sticking to value, even though it’s not working because as you’re pointing out, you get the dividend and the business is growing, but for us, more important, the balance sheet’s improving.
Tobias: And you’re owing more and more of it.
Eric: Now we see real value for shareholders, it’s just not in the stock price. The value of the business, [unintelligible [00:12:54] leverage, clearly growing.
Tobias: It’s just not a sexy growthy business, and that seems to be– the thing that the market wants at the moment is incredibly high growth rates, even on a top line, even if none of it ever falls to the bottom line, or it will ever fall to the bottom line or will ever show up in free cash flow. They just want the growth. I guess the market goes through these [unintelligible [00:13:15].
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