Ron Baron Likes Layne Christensen, Ritchie Brothers Auctioneers, Bankrate and China Nepstar
These are the commentaries on a few of his holdings in his shareholder report.
Layne Christensen (LAYN)
Layne Christensen provides services to the water infrastructure and natural resources markets. The company was founded over 100 years ago as a water well drilling company, and has since grown to become one of the only water and wastewater infrastructure design and construction firms. From locating groundwater and drilling water wells to the design and construction of treatment plants, Layne Christensen strives to be one-stop shopping for water infrastructure services. The Environmental Protection Agency (EPA) forecasts that the U.S. will spend $227 billion on water infrastructure over the next 20 years, driven by aging, a growing and shifting population, and more stringent water regulation. With its extensive service offering and long-standing relationships with municipal and industrial customers, we think that Layne is well-positioned to benefit from this robust backdrop of spending.
Leveraging its core expertise in drilling, Layne has expanded beyond water infrastructure services to become a leader in mineral exploration drilling and unconventional natural gas. The energy division was started in 2002 and Layne has since grown organically to become one of the largest producers of coalbed methane and shale natural gas in the Cherokee Basin in the midwestern U.S. With development rights and an exploration inventory that includes acreage in both the U.S. and Chile, we expect natural gas production to continue to grow. Layne is one of the three largest providers of drilling services for the global mineral exploration industry. Global mining companies hire Layne to extract mineral samples that are then analyzed before the mining company decides whether to invest in development. Because of the current strength in commodity prices, mineral exploration has been enjoying explosive growth as mining companies dedicate an increasing amount of capital to exploration. There is currently little spare capacity and a shortage of skilled labor in this market, placing Layne, we think, in a great competitive position.
Andrew Schmitt has been CEO since 1993 and has done a great job, in our view, of putting the current portfolio of businesses together. We expect Layne to continue to participate in consolidating the fragmented U.S. water infrastructure market as well as deepen its service offering. We are particularly excited by Layne’s strategy of expanding into higher margin industrial water treatment. With a history of growth— 29% compounded revenue and 69% net income growth over the last five years— we think Layne Christensen is uniquely positioned to benefit from a growing domestic need for water infrastructure and global need for natural resources. (Rebecca Ellin)
Layne Christensen is also owned by Jean-Marie Eveillard and John Keeley. Keeley is another excellent small cap investor. Layne Christensen is accounted for 0.68% of his portfolio. Layne Christensen Company has a market cap of $665.55 million; its shares were traded at around $33.95 with a P/E ratio of 16.41 and P/S ratio of 0.78. Since the end of the last quarter, the prices have declined by more than 20%.
Ritchie Brothers Auctioneers (RBA)
Ritchie Brothers is the world’s largest auctioneer of used industrial, agricultural, and transportation equipment. The company annually conducts over 300 unreserved auctions at 37 different locations in 13 different countries and over the Internet. In 2007, it registered Gross Auction Proceeds (GAP, or the total volume of equipment sold at Ritchie Brothers’ auctions) of $3.2 billion. We believe that the company is revolutionizing the way that used heavy equipment changes hands by creating a liquid global marketplace where only local markets previously existed.
We believe that Ritchie Brothers’ model is best in class, offering its customers sales prices that are verifiably higher than almost all other alternatives. As the company broadens its marketing reach, we expect to see a virtual cycle of deeper market penetration and price increases. Given the size of the global market, Ritchie Brothers’ GAP of $3.2 billion represents just over 3% of the total addressable market, implying significant runway for deeper penetration. On the pricing side, Ritchie Brothers’ net commission rate has grown from 8.6% in 2000 to 9.5-10% currently. Much of the increase has come from the implementation of fees, including for small lot sizes, Internet bidding, and item handling, while the remainder has come from improved performance from at-risk contracts. As Ritchie Brothers’ consigner base expands, we believe the barriers to entry will continue to grow due to network benefits, giving the company increased pricing power which we expect to fall almost directly to bottom line. (Neal Rosenberg)
Ritchie Bros. Auctioneers Inc. has a market cap of $2.88 billion; its shares were traded at around $82.64 with a P/E ratio of 38.17 and P/S ratio of 9.13. The dividend yield of Ritchie Bros. Auctioneers Inc. stocks is 1.2%. The current trade prices are within 5% of the last quarter close price.
During the fourth quarter, we initiated a position in Bankrate, the leading provider of consumer finance content online. Bankrate aggregates information daily from over 4,800 institutions into 172,000 distinct rate tables and also provides independent editorial content regarding mortgages, home equity, auto loans, CDs & investments, credit cards, checking and savings accounts, college finance, retirement and insurance. This unique content is distributed free to consumers on Bankrate.com, on co-branded partner sites including Yahoo!Finance, CNN and MarketWatch, and through syndication in print publications like the Wall Street Journal. Revenue is generated through branded advertising and listings on mortgage and deposit tables purchased by financial institutions seeking to reach this targeted audience.
Despite one of the worst housing markets in history and turmoil in the credit markets, we think Bankrate’s highly targeted, “ready-to-transact” audience actually makes it one of the best places to put ad dollars to work. The secular shift of ad dollars online (the worldwide online adverting industry is expected to continue to grow at a 25% CAGR) has increased advertisers’ focus on ROI and Bankrate has delivered some of the strongest returns in the industry. Bankrate functions almost as lead-generation business for rate table advertisers since users are actively researching a transaction and much more likely to convert than an audience reached through print, TV or a more generalized website. In our view, this makes Bankrate a core advertising buy. In addition, Bankrate has continued to effectively reduce its exposure to the mortgage channel. The deposit channel now accounts for larger percent of revenue and Bankrate intends to further diversify into retirement, college financing and credit cards.
Bankrate reported third quarter 2007 revenue of $25 million, up 28%, but strong expense controls resulted in EBITDA growth of 86% to $11.5 million. In December, Bankrate announced the acquisition of Nationwide Card Services (NCS) and Savingforcollege.com. We think these deals will be accretive in 2008, and will help Bankrate more quickly gain critical mass in credit cards and educational financing. Bankrate also provided initial 2008 guidance of $140 to $145 million in revenues and EBITDA of $60 to $65 million, significantly above Street estimates.
We remain convinced that this is great management team with a demonstrated ability to navigate in a tough environment. In 2008, we believe the company stands to benefit from growth in the retirement, credit card and college finance channels, a website redesign and new partner relationships. Longer term, we believe the business can double with revenue growth in excess of 20% and even faster EBITDA growth due to a highly leveragable model. We estimate the global installed base of used equipment to be about $1 trillion, of which about 10% changes hands annually. Of this $100 billion annual aftermarket, more than 90% is transacted on a local basis, either via local dealerships or in independently negotiated deals. Due to relatively low shipping costs for equipment, Ritchie Brothers’ unreserved auctions create a global marketplace, where equipment can flow to the area of highest demand. For example, at a recent auction that we attended in Orlando, just 25% of the lots (by value) were sold to buyers in Florida, with almost 20% sold to overseas buyers and the rest being purchased by other North American customers. Due to its ability to match local supply with global demand, Ritchie Brothers’ auction model serves to increase liquidity and raises the average net price that consigners receive for their equipment.
Ron Baron started to buy Bankrate in the third quarter of 2007. Since then the stock prices have been fluctuating around $45. Bankrate Inc has a market cap of $918.61 million; its shares were lasttraded at around $47.97 with a P/E ratio of 46.96 and P/S ratio of 9.48.
China Nepstar (NPD)
In looking at international markets for investment opportunities, we remain biased by our core investment principals: a unique, defendable business franchise; attractive long-term growth potential; and strong, entrepreneurial management with the vision and leadership skills to create substantial value. Further, we are approaching the international opportunity with an attraction to growth companies likely to benefit from an anticipated ascension of the consumer class across many developing countries, particularly in China, Brazil and India. We are quite intrigued by the scale of political and government reform occurring in many developing nations — change which we think is creating opportunity for entrepreneurs around the globe.
China Nepstar is the leading drugstore chain in China — roughly two times the size of its nearest competitor, and, with stores in over sixty cities, has the broadest national presence in the industry. We think Nepstar is positioned to take advantage of attractive secular growth in healthcare and pharmaceutical spending. Driven by rising per capita income and an aging population, per capita drug spending in China is forecast to grow at roughly 18% over the next five years. We think China Nepstar should exceed this growth rate, as current government policy is driving a shift in distribution from hospitals to retail drugstores. Today, nearly 70% of all prescriptions in China are filled at hospital-based pharmacies, which are often inconveniently located and can involve painfully long waiting times for consumers. To take advantage of this opportunity, Nepstar hopes to expand its store base nearly four-fold over the next five years.
While attractive for its growth prospects alone, Nepstar is leveraging its scale and market position to shift its business model and drive substantial gains in its gross and operating margins. To date, Nepstar is the only retailer to have successfully negotiated direct purchasing agreements with drug manufacturers, and further has aggressively introduced private label products into its stores. The massive margin gains we think Nepstar can achieve in the shift to private label and direct procurement exposes the antiquated, status-quo delivery system; whereby manufacturers sell to a daisy chain of wholesalers, each taking a “distribution markup” and inflating the ultimate cost of the drug.
China Nepstar has a market cap of $728.82 million; its shares were traded at around $11.77 with a P/E ratio of 98.64 and P/S ratio of 2.72. The stock prices have come down by more than 30% from the average prices in the last quarter. China Nepstar is also owned by legendary investor Jean-Marie Eveillard.