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Adams Golf Margin of Safety Disappeared

May 07, 2010 | About:
Saj Karsan

Saj Karsan

20 followers
ust nine months ago, we discussed Adams Golf (ADGF) as a potential value investment due to the severe discount at which the company was trading relative to its net current assets. Since that time, the stock has rallied over 40%. But more impressive than the return (after all, the general market has rallied over this period) is the low risk at which this return was achieved, due to the use of the all-important margin of safety.

What is important to realize is that this 40% jump in the stock price did not arise because the company had some positive surprise. To the contrary, the company has continued to rack up quarterly losses, and even settled a litigation dispute pretty close to the worst-case payment it would have had to make had it lost in court (though it likely did save on attorneys fees by settling).

The reason for the large rise in the stock's price is due to the fact that the market was totally mis-pricing the stock to begin with. Nine months ago, you could buy this company for $19 million even though it had cash of $3 million, $23 million owed to it by its customers and another $23 million of non-perishable inventory (golf clubs etc.) against just $14 million of liabilities.

In the last few months, the company has had to sell some of that inventory at a loss, and has agreed to pay $5 million to settle a lawsuit. As such, its net current assets reduced from about $35 million to $29 million. Despite this, the stock price has risen dramatically, as the company's market cap has recently spent some time trading just under $30 million. The massive margin of safety on this stock 9 months ago has allowed the investor to profit despite the absence of any company specific positive news!

Now that the stock trades for its net current asset value, ADGF becomes the latest stock to move from the Stock Ideas page to the Value In Action page. But the lack of discount to its net current assets doesn't mean all value investors who own it should sell it, however. An opportunity may remain for those who know the company well, including its products and its position relative to competitors. In other words, it may still be cheap relative to its intrinsic value. But at this price point, the value investor should ensure that the company is firmly within his circle of competence to avoid undue risk to his principal.


Disclosure: None

Saj Karsan

http://barelkarsan.com

About the author:

Saj Karsan
Saj Karsan founded an investment and research firm that is based on the principles of value investing. He has an MBA from the Richard Ivey School of Business, and an undergraduate engineering degree from McGill University.

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