Valuation of Guru Holdings: Capital Southwest Corporation (CSWC)
Of note is Third Avenue Management who owns 124,521 shares as of 06/30/2009, which accounts for about 3.3% of the 3.74 million shares outstanding. Third Avenue Management, led by its founder and chairman, Martin Whitman, are balance sheet value investors. They think that the current balance sheet, rather than its projected future revenues and earnings, is the best measure of a company's value. They seek to invest in safe companies that are cheaply priced.
Capital Southwest Corporation (CSWC) is a venture capital investment company whose objective is to achieve capital appreciation through long-term investments in businesses believed to have favorable growth potential. Capital Southwest Corporation is one of the nation’s largest publicly owned venture capital investment companies. Since its formation in 1961 and its designation as a business development company in 1988, the Company and its wholly-owned small business investment company subsidiary have provided capital to support the growth of small and medium-sized businesses in varied industries throughout the United States.
The Company’s investment interests are focused on expansion financings, management buyouts, recapitalizations, industry consolidations and early-stage financings in a range of industry segments. The portfolio is a composite of companies, in which it has interests, as well as a number of developing companies and marketable securities of established publicly-traded companies. The Company makes available significant managerial assistance to the companies, in which it invests.
CSWC is a Regulated Investment Company (RIC). In order to qualify as a RIC, CSWC must annually distribute at least 90% of its taxable ordinary income to the shareholders in a timely manner. The most recent quarterly payout of CSWC has historically paid a dividend of 60 cents each year representing a yield of about 0.7% at current quote of $76. The most recent dividend however has been increased. It can be assumed with (with some certainty) that the new payout will be 80 cents pushing the yield close to 1% if the new payout is sustainable.
In terms of shareholder friendliness, note that the following from the annual report:
Every $1.00 we directly invest includes approximately $0.20 owned by our management and directors. Accordingly our investment decisions are very thoughtful and our monitoring duties are thorough.
It is always good when upper management’s interests are aligned with your own.
In terms have having a long term focus, 64% of the value in the CSWC portfolio consists of companies that have been held for over 20 years.
As of March 31, 2009 CSWCs stated that 57.7% of the value of its holdings is concentrated in four controlled affiliates; 28.2% is in the restricted securities of four major publicly traded investments; 10.6% is in venture capital assets and the remainder is in marketable securities. CSWCs top 2 holdings according to the recent annual report are as follows.
The RectorSeal Corporation
The RectorSeal Corporation, Houston, Texas, with facilities in Texas, New York and Idaho, manufactures specialty chemical products including pipe thread sealants, firestop sealants, plastic cements and other formulations for plumbing, HVAC, electrical and industrial applications. The company also makes special tools for plumbers and systems for containing smoke from building fires. RectorSeal’s subsidiary, Jet-Lube, Inc., with plants in Texas, England and Canada, produces anti-seize compounds, specialty lubricants and other products used in industrial and oil field applications. Another subsidiary produces and sells automotive chemical products. RectorSeal also owns a 20% equity interest in The Whitmore Manufacturing Company.
During the year ended March 31, 2009, RectorSeal earned $10,170,000 on revenues of $111,792,000, compared with earnings of $11,649,000 on revenues of $112,029,000 in the previous year. RectorSeal’s earnings do not reflect its 20% equity in The Whitmore Manufacturing Company. At March 31, 2009, Capital Southwest owned 100% of RectorSeal’s common stock having a cost of $52,600 and a value of $107,200,000.
Lifemark Group, Hayward, California, owns and operates cemeteries, funeral homes, mausoleums and mortuaries. Lifemark’s operations, all of which are in California, include a major cemetery and funeral home in San Mateo, a mausoleum and an adjacent mortuary in Oakland and cemeteries, mausoleums and mortuaries in Hayward and Sacramento. The company also owns a funeral home in San Bruno. Its funeral and cemetery trusts enable Lifemark’s clients to make pre-need arrangements. The company’s assets also include excess real estate holdings.
For the fiscal year ended March 31, 2009, Lifemark reported earnings of $635,000 on revenues of $28,193,000, compared with earnings of $529,000 on revenues of $29,682,000 in the previous year. At March 31, 2009, Capital Southwest owned 100% of Lifemark Group’s common stock, which had a cost of $4,510,400 and was valued at $71,000,000.
For a detailed outline of the top 12, view the recent annual report starting on page 5 of 40.
Regarding valuation, NCAV will be reviewed since earnings don’t tell the whole story.
First, a discussion on why earnings are not a reliable indicator. Earnings for 2008 and 2009 were -$35 and -$37 per share. These numbers are negative. Looking at “normal years” of 2003-2007 inclusive, earnings of $0.60, $0.67, $0.62, $0.62 and $1.09 were realized. This represents a normalized EPS of $0.72. Using a multiple of 10 gives a price of $7.20. Given the current quotation of $70 and historical prices which bottomed in the mid $40s over the past 10 years, it begins to become evident that earnings don’t mean much.
NCAV in Net Current Asset Value. The goal is to buy a company at no more than 2/3 of NCAV. Some data from the most recent 10-Q is needed. Current assets are $427,196,777 and total liabilities are $2,858,784. The difference in value is +$424,337,993. It is desirable to buy the company for less than 2/3 of this value or about $282,891,712. The current market price of $75.96 represents a market cap of $284 million. This is almost exactly 2/3 of NCAV. If NCAV is considered fair value, it would appear that Capital Southwest Corporation (CSWC) is trading at a discount.
Refer back to what was said in the second paragraph about Third Avenue Management. “They think that the current balance sheet, rather than its projected future revenues and earnings, is the best measure of a company's value.” It begins to become evident that Third Avenue Management sees value not in earnings but in NCAV. From reading the annual report, it is also apparent that CSWC sees it’s value in terms of NCAV and nothing else.
Disclaimer: This article is not a buy or sell recommendation. As always, do your own due diligence. For more information on CSWC, please visit their website and read the most recent annual report. This can be found here.
Other valuations by this author: