I was honored when the Editors of Seeking Alpha asked me if I would like to be interviewed for their PRO Weekly Digest. PRO is Seeking Alpha’s research platform for serious investors looking to get better ideas. The interview was far ranging and discussed such topics as: business valuation and the CBV, my investment approach, past mistakes, and a review of old and new stock ideas.
To read the interview at its original source, please click here.
It’s also up on the blog, here.
Below is a copy of the interview:
PRO Weekly Digest: Investing With A Margin Of Safety With Brian Langis
- Being a Chartered Business Valuator, why having a high IQ is not enough and how to find underfollowed foreign companies are topics discussed, and he makes the bullish case for ECN Capital.
Welcome to the latest issue of the PRO Weekly Digest. Every Saturday for Seeking Alpha PRO subscribers and Sunday for all other Seeking Alpha users, we publish highlights from our PRO coverage as well as feature interviews and other notable goings-on with SA PRO. Comment below or email us at email@example.com to let us know what you think. Find past editions here.
Brian Langis, a long-time Seeking Alpha contributor, manages a private investment company and is a Chartered Business Valuator (CBV). He employs a contrarian/value strategy with notable calls including Moleskine, NTELOS (NASDAQ:NTLS) and Dollarama (OTC:DLMAF). We emailed with Brian about the extra work (and reward) of international investing, the first place he looks when researching a company and how losing money can be the best education.
Seeking Alpha: Can you discuss your work as a Chartered Business Valuator (CBV), the designation itself and how this expertise applies to your personal investing?
Brian Langis: I was always interested in business and how the world functions. I like history, psychology, economics, science and so on. These interests led me to investing. And in investing, it’s all about figuring out the intrinsic value of an asset and its relation to price. So I had to learn how to value different businesses and assets. I like Warren Buffett’s style of valuation. That’s played into the idea of completing the CBV.
As you mentioned I’m a CBV and a lot of readers are probably unfamiliar with this three letter designation. The CBV designation is the premier credential for professional business valuators in Canada. There’s a national body (the CICBV), a code of ethics and professional standards to follow. It’s been around since the 1970s, when the capital gain tax was introduced in Canada. As a CBV, I have the knowledge to quantify the value of a business or assets. I’m trained to put a value not only on business tangibles, but also the intangibles such as intellectual property and key patents, which is taking more and more space on the balance sheet. With publicly traded equities, it’s much easier to determine the value of a company, but in the private-equity sector it’s more complicated. I worked in the investment business, but most CBVs find themselves working in corporate finance, taxation, valuation for financial reporting, or litigation. Also a CBV is very practical if you are involved in M&A.
Everybody can learn business valuation, but for me having credibility is important. It can take 3-4 years of studying on top of a four-year degree to get it done. The CBV is very specialized and very useful. The CBV is more about learning valuation procedures than finance theory. If you want to get very deep into equity valuation, the CBV is a good designation. If people are interested in completing the CBV, having some background in accounting would definitely make life easier. Some work experience would also help.
In Canada the CBV is well respected. However the CBV lacks recognition outside of Canada. Unlike the CFA, the CBV is not well known outside of Canada. The business valuation practice is fragmented by countries. The U.S., U.K., and Australia each have their own designation, governing body and practice standards vary widely. But there’s currently a process to harmonize and to implement universally accepted standards for the valuation of assets across the world.
SA: To follow up, which valuation methodologies do you find most/least useful or is the usefulness determined by the type of asset you are valuing?
BL: Unfortunately, there’s no “best” method of valuing a business. There’s no secret formula. There’s no one-size-fits-all investment strategy that I can give you. Trying to come up with a satisfactory formula that would identify undervalued shares in the stock market with a reasonable degree of safety and consistency will lead you down a series of blind alleys. Knowing what an asset is worth and what determines that value is more an art than science. It’s not supposed to be easy. If it was easy everybody would be rich doing it, right? I made and lost money buying companies trading at 6x P/E and 25x P/E. It turns out that stocks trading at 6x P/E can go down to 4x P/E.
A share is cheap not because it has a low P/E multiple or a high growth rate, but because its market price is below its intrinsic value. This constitutes the “margin of safety”. I like the concept of value to a private owner – what the whole enterprise would sell for if it were available. In many cases you can calculate that. Try to establish the value of the company and apply a margin of safety. This is classic Ben Graham. Remember that a share represents a part of a business and is not just a piece of paper. Now Ben Graham’s approach of buying shares for less than net working capital is almost impossible today, his principles are still applicable. His concept of “Mr. Market” is still very alive today. Instead of thinking the market was efficient, Graham treated it as a manic-depressive who comes by every day. Either he will sell you his interest far less than you think it’s worth or he will buy your interest at a price much higher than you think it’s worth. Unfortunately, Mr. Graham is not among us anymore, but Mr. Market is still around.
I’m very patient with my holdings. I can hold them for years. It doesn’t stress me out. I’m all for less taxes and commissions. I’m not obsessed with the daily fluctuation in price. The market is buying and selling largely for reasons other than the intrinsic value of the security in question, and thus create volatility in stock prices that don’t always correspond to volatility in business operations. If you have a solid idea of what the intrinsic value is, then the volatility in the share price shouldn’t bother you. If the price drops significantly below its estimated intrinsic value, then this should provide an occasion to buy more.
I don’t go over every quarterly report and conference calls. I follow the company to see if my thesis still holds, but I leave it alone. I believe that the more you pay attention, the more trouble you will get into. Buy a great company and stop paying attention. It’s like planting a tree; you are not supposed to dig it out every day to see if the roots are doing ok. You will end up killing it. Just keep an eye on it to make sure it’s growing fine.
When it comes to investing criteria, I have gravitated away from putting a lot of weight on financial yardsticks to paying more attention to subjective criteria. Such as does the company have a wide economic moat? Does it have great management? Does it have a good reputation? Does it have great financial prospects? Does it generate strong free cash flow? How will it allocate its capital? What can go wrong? It’s more difficult to value, but again you are buying a real business with real assets and real income. The effort is rewarding.
However, even with the right system and all the intelligence in the world, the one thing you need the most is having the right temperament. Without it, I don’t believe you can be successful at investing in the long term, even with an IQ of 200. Unfortunately, I think you only find out if you have the right temperament during severe corrections. That’s when investors are tested. When an investor is losing money day after day, this can lead him to do irrational things, like selling at the worst possible time. Fear turns into panic pretty quickly. They see their retirement melting away. It’s really tough to sit through a bear market. People just want to cash out and cut the pain. They want to sleep again. I don’t know if this can be learned. At the same time, and I don’t know how this is going to sound, but as a value investor, I need Mr. Market the manic depressive to sell me their stock at a very depressive price. This is how bargains and opportunities are created.
SA: You started investing when you were a teenager – I think we all have stories about our first investment (usually a binary outcome). Can you tell us about your first investment, why you made it, how it worked out and the lessons learned?
BL: All my life I have been interested to anything related to money (finance, economics). For my fifth birthday, I asked for a bank, because if I had a bank, I could buy anything I wanted. Then, I got a piggy bank. Not only be careful for what you wish for, but also make sure you are crystal clear. I developed an interest in investing at the age of 12. My dad would have the evening news on and the daily summary of the stock market would come on. I was really intrigued by the green and red arrows going up and down. I still remember Fairfax Financial being much more expensive than all the other stocks since it was trading in the hundreds of dollars. Then I bought my first stock at 15. Me and a friend scrapped together something like $200. We really thought we were on our way to being high rollers.
We were just trading in and out of penny stocks. We didn’t know anything at all. A 10 cent stock was cheaper than a $5 stock because in my mind a stock going from 10 cents to 20 cents was easy money. Now you have to remember that I’m from a small town on the East Coast of Quebec. We didn’t have any resources. We didn’t have the Wall Street Journal to read every morning. I didn’t have an uncle yapping about stocks he bought (thank God). The Internet at the time was barely a thing. We didn’t have the 24-hour CNBC and I never heard of a guy named Warren Buffett until much later. I didn’t know anything about business valuation or security analysis. But it was easy back then, the tech boom was getting started and anybody with a trading account was making money. There’s nothing like a bubble to make you feel like a genius. You would buy stocks and they would just double. Mining companies would add the word “.com” to their name and their stock would skyrocket. It was just simple dumb luck. Everybody wanted a piece of the pie.
I wish I could tell you a nice fairy tale story about how I was a wonder kid and I had it all figured out at a young age. But my luck eventually ran out. It all came crashing down. I learned the tough way. My real education came when a chunk of my savings was tied to a hot penny stock. The company was very promotional and would just issue stock after stock diluting shareholders. Then everything went south really fast. Did you know that a penny stock could trade at a fraction of a penny? That’s how bad it got. I told myself “How could this happen? How did it go wrong?” I could have quit investing at that moment, thinking it’s rigged and all that. But I swore that I would never let that happen again. This experience hit me hard psychologically. You become very cautious after that. I became obsessed with balance sheets. To this day it’s the first thing I look at when I research a new company. It’s hard wired in my brain. Does it have cash? Is it solvent? How much debt does it have? Can it pay its bills? What’s the current ratio? If I’m not satisfied, I just move on. I don’t waste time. I have never had a disaster since. Cash is good.
What are the lessons? I was lucky to have lost money at an early age. Losing money is not ideal, but for me, it was an education. It became the pivotal point in my investing career. If you make easy money early on, it can really screw you up. It sets the wrong expectations and you set yourself up for deception. A bear market will chop your legs off. I’m risk averse. I never want to lose another dollar. People close to me know me as “the investor” that doesn’t want to invest. It sounds paradoxical. Every time they present me with a new idea, I say that I don’t like it 99% of the time. The company must be really good and at a good price for me to be on board.
I never stop learning and I have fun learning. I read from guys who are smarter than me. I try to pick their brain if I can. If you are getting started, learn accounting principles. I’m not saying to become an accountant, but learn how to interpret financial statements. Accounting is the language of business.
Eventually I came upon the value approach practitioned by Ben Graham and Warren Buffett. The idea of buying a dollar for 40 cents really resonated with me. I think the whole key is to avoid disasters. Once you lose money, it’s really hard to make it back.
SA: One of the best examples of how you are a contrarian/value investor was your thesis on Moleskine. This played out very well – it was fully acquired earlier this year (after you cited a takeover as a catalyst) for a total return of ~70%. You said it lacked visibility being listed on the Milan stock exchange rather than London or the U.S. – does this mean investors should look beyond their borders for hidden value (especially outside of the U.S.)? For individual investors that do not have the resources of a buysider, what resources would you recommend to use in the research process?
BL: Since I’m from Canada, we need to invest abroad. Our economy is not diversified enough. The TSX is mostly comprised of five big banks plus energy and natural resources. We have three big telecoms too. It’s natural for Canadians to invest in the U.S. It’s easy for us to open a U.S. account and there’s a tax agreement between both countries. The Canadian economy is tied to the U.S., so it’s important to invest abroad too.
Canada is 3% of the world’s market cap and the U.S. is about 35%. Let’s say there’s ~60% out there that we are not looking at. It might have made sense in the past to be 100% U.S. when its global market share was around 50%. But now the rest of the world has embraced free markets and is a major engine of growth. China was 1.7% of the global market cap in 2005 and now it’s up nearly 10-fold since.
My point is that most of the future economic growth will come from abroad and you want some exposure to that. We live in a global economy. There are stock markets and great companies all over the world. There are about 200 countries in the world and eight of them don’t have a stock exchange. The investing world is more than just the U.S., Europe, Japan and China. I remember seeing a map of Africa with the U.S, China, India and other countries all crammed inside its outline. It’s mind boggling when you think of how big the world is. So yes you need to invest outside the U.S.
In the U.S. everyone is fishing in the same pond. Bargains can be hard to come by, and when they do, the window of opportunity can close very quickly. Outside major exchanges there is less competition, which means there are still a lot of big fish available in the pond. Moleskine was the perfect example. This was a great company with strong growth, with a great brand, a rock-solid balance sheet, trading at a bargain. This was a company selling notebooks at a premium. Both hipsters and business executives love their overpriced notebooks, but nobody was paying attention to the stock price. Then it got bought out by a Belgian auto group. How weird is that?
However, investing internationally requires more work and effort. In the U.S. you have all the information available on any company at a single click. Ratios, stats, and comps are pre-calculated. It makes life easier. We got comfortable. This is not a luxury that is available everywhere. So you will need to do a lot of work to dig out gems.
A trick that I have that I find very useful for finding international companies is reading local papers. A lot of countries have English versions of their news. I worked in Private Equity in Cambodia and it even has local English newspapers. You can find interesting stories. Travelling is a good way to learn about international companies. Go out, talk to people, inquire, ask questions, and poke around. The world is your oyster.
SA: Moving on to another great call – you said NTELOS could double if acquired (although that was not the entire thesis) and the next month it was acquired by Shentel for a total return of ~100%. What are your thoughts on the telecom space with everything that is happening there (e.g. carriers offering unlimited data, spectrum auctions, recurring rumors of S/TMUS merger)?
BL: I wish I could give you a comprehensive answer. I have no unique insights on the telecom industry. With NTELOS, I got very lucky. The stock was very cheap with great assets (cell towers, spectrum). It was a small regional player that was slowly getting squeezed. But the depressed value was hard to ignore. The telecom industry is in consolidation. The big fish are eating the small fish and that’s not going to change soon.
As for the telecom industry, my crystal ball is not better than yours, but since you are asking for my thoughts, I will try to answer the question. I think it will be more of the same. Because of smartphones and now the rise of connected devices, I think the growth in massive wireless data consumption is getting started. This will require carriers to make massive investments on their networks to optimize them for high data capacity. This is carried out through various measures such as acquiring more spectrum, increasing the number of cell towers, and upgrading of backhaul. The next big thing is the roll out of the 5G network. There is where the Internet goes from good to phenomenal. I read that 5G could be 100 times faster than 4G. This will be a game changer. The Internet of Things (IoT) is the real thing and not just a trend. You will need a lot of financial muscle to roll out a project as capital intensive as the 5G network. So scale is essential in telecommunication. The large telecoms can take advantage of their superior scale and balance sheets to lay the groundwork for future growth. The smaller carriers will have a difficult time competing. Again, these are just my thoughts. And as for which individual companies to bet on, I have no clue. I don’t know more than the next guy.
SA: What is your outlook for dollar stores? Are they one of the few types of retailers out of the reach of Amazon (NASDAQ:AMZN)? I am sure readers are interested in your thoughts given your great call on Dollarama in June 2013.
BL: Dollarama (DOL) has rewarded investors very well. Since my original publication on SA, the stock is up 210% not including dividends and ~945% since the IPO in October 2009 (in Canadian currency). It has been one of the best performers of the S&P/TSX index over the past eight years. It’s a great success story, and it has made people a lot of money. And it’s a little mesmerizing when you think about it. Just take a step back and think about this. We are not talking about a high-tech company that came out with an innovative product that changed how we live our lives. We are talking about a dollar store chain. Dollarama sells the same cheap imported goods as everybody else. The only difference is that it is really, really good at it. It beat everybody at their own game. Retail is an incredibly difficult business. It’s hard to make money and it’s even harder to stay relevant. The Rossy family is an excellent operator. The family has been in retail since the early 1900s. It’s in its blood. It managed to keep its margins even with the pressure of the low Canadian dollar. These guys found their niche and they are really good at it.
I like to think they are the “Costco” (NASDAQ:COST) of small items. Costco is all about saving by buying things in bulk; Dollarama sells household goods at good prices. DOL has been misjudged by analysts for so many years. They look at Dollarama with its high P/E ratio and they conclude that the stock is expensive. They are right in the sense that it’s not cheap. But there’s also an emotional, intangible element that’s overlooked. Dollarama shares the same magic ingredient with Costco: When you shop there, you feel like you made the right decision. You are getting your money’s worth. You leave without the feeling of getting ripped off. DOL is a ripped off proof store. DOL’s business model doesn’t extract value from its consumer, but instead offers an excellent value proposition to customers. That’s a very important factor and that’s the key. I don’t get that feeling when I go to Wal-Mart (NYSE:WMT). Offering value to the consumer is the key magical ingredient. You see this at other companies like GEICO, where any savings the company achieves is passed on to lower premiums, and this attracts more clients. Rose Blumkin from the Nebraska Furniture Mart operated under the motto “Sell cheap, tell the truth”. She generally worked on no higher than a 10% mark-up. Nobody feels cheated and everybody wins.
Have you ever been inside a Dollarama? It’s a great store. It changed the perception of the classic dollar store. Forget the poorly lit, dusty shelves with faded packages where you can smell the different scents of lemon cleaner. That’s history. DOL stores are clean and the shelves are well stocked. It doesn’t look like a backyard sale. There’s no shame in shopping there. My family frequently stops there. DOL is not your classic “dollar” store. It sells goods up to $4. It has top brand name items. It even sells Pampers diapers.
As for the future, it has invested in a new $60m 500,000 square-foot warehouse in Montreal. It will accommodate capacity requirements as DOL continues to expand its store network. The company has discussed the idea of having an online store. No details or timeline has been provided. It’s natural as a retailer to explore the idea of selling your goods online. I can’t tell you if it’s a good idea or not. Knowing Dollarama and its old school management, it might take a while. It doesn’t even accept credit cards because it will eat into its margins. It took Bain Capital to get it to use debit cards.
DOL has now over 1,069 stores and 70 more are expected in 2017. A couple years ago, it was said that the dollar store capacity in Canada was around 1,400-1,600 stores nationwide. Now the latest estimate is 2,400 stores. I don’t know how they count this stuff, but there’s room for growth. Dollar Tree (NASDAQ:DLTR), DOL’s main competitor, hasn’t been the threat we expected and is slower at rolling out its expansion plan. DOL’s premium valuation raises the question of how the company will continue to grow. I expect growth to eventually slow down, but the company has been great at defying skeptics. In 2014, DOL believed it could operate 1,200 stores before new locations would start to eat into the sales of existing locations. It has since expanded this limit to 1,400 stores. Maybe international is the way to go. In 2013 DOL struck a deal to supply its products and operational expertise to Dollar City, which has stores in El Salvador and Central America. DOL receives a handling fee and has an option to buy control of the company beginning in February 2019. Can DOL replicate its success abroad? It remains to be seen.
As for the Amazon threat, there are few things to explain first. Amazon Canada is not the same as “the” Amazon in the U.S. The offering is not the same, prices are not cheaper, and Wal-Mart Canada has faster shipping. I know I tested it a few times. Amazon Canada is getting better, but it’s not quite there yet. Amazon Canada has recently introduced its Prime Video in Canada and is testing same day shipping in Montreal and Toronto. You have to understand that Canada is the second biggest country in the world after Russia and there are only 35 million people in it. We are bigger than the U.S. with 1/10 the population. Plus you have the French people like me that require everything in French. So it’s hard to achieve economy of scale. This explains why so many Canadian retailers are not offering online selling. Some do but you have to go pick it up, like Canadian Tire (OTC:CDNTF). Amazon Canada is not the juggernaut it is in the U.S. Somebody asked me the other day if it was safe to order from it. I told her I get the diapers for my daughter shipped at my house all the time, but I’m one of the rare ones to do that. There’s some catch up to do. Dollarama and Amazon are not competing in the same sphere at the moment. Wal-Mart and other traditional retailers are more worried. But like I said, Amazon Canada is getting better. I wouldn’t bet against Jeff Bezos. Ask me again in a couple years.
SA: What’s one of your highest conviction ideas right now?
BL: I will reiterate my last PRO article on ECN Capital (OTC:ECNCF). The stock has moved up since then, but there’s still potential left on the table. ECN Capital is the spin-off company out of Element Financial (OTC:ELEEF). Since it was much smaller than Element, it became the unloved child right away. ECN was a victim of forced selling, pushing the stock price way below its intrinsic value. It’s mispriced. A lot of institutions had to dump the shares at any price just because it didn’t fit their investing mandate. It’s classic Joel Greenblatt special situation. The gap between the ECN’s net asset value and its trading price is still very large. ECN just released its fourth-quarter results, its first as a stand-alone company, and I like what I’m seeing. Steve Hudson, the CEO, is the guy you are betting on. He had his success and failure in life with various ventures, but when it comes to finance, that’s where he’s at his best. Management’s interests are aligned with the shareholders. It is buying the shares and has reduced its compensation. It has been doing this for 30 years. Two weeks ago, the company announced that it was selling its U.S. equipment business for $1.25 billion, representing a premium of 16.5% to assets. The company is trading below net book value and the company is selling assets above book value. This is how crazy the market is mispricing the company. Net book value per share is $4.47 and pro forma is higher. These are real tangible assets of high quality. The company is profitable, so there’s no reason why it should trade below book value. As for a catalyst, I think the stock will “wake up” once a major acquisition is announced. It said that it has looked at over $20 billion of acquisition opportunities in 50 companies in the last nine months. It has the financial muscle to do it. It’s a question of time. The company is really motivated to create shareholder value.
Another opportunity I’m looking at is Canadian fixed-resets preferred shares. I know it’s not sexy. I’m not looking at a particular company, but at a bunch of them. This is a play on a rise of future interest rates in Canada. Fixed-resets provide income with a potential capital gain. The sector got hit hard last year when rates dropped in Canada. As a result, a lot of fixed-resets decreased their dividend payout and their stock price plummeted. Basically it was a “double” drop, you lost both income and capital. Now the worse is behind and you could see the opposite scenario if rates rise, which is more income and capital gain. A company could also say that they will redeem their preferred shares at par ($25) since a lot of fixed-resets are trading below par.
Thanks to Brian for the interview. If you’d like to check out or follow his work, you can find the profile here.