Fundamental Value Q1 2017 Client Letter

FV edged out the market in Q1, returning 6.1% before fees vs 5.9% for the SPDR S&P 500 ETF (SPY). This brings the portfolio’s annualized outperformance, after typical fees, to 10.9% since inception.¹

We made one new investment in the quarter, the French holding company Bollore SA. We had been following Bollore for about two years, ever since a positive report on the firm was released by noted short seller Muddy Waters. In this report, a rare buy recommendation for the outfit, Muddy Waters claimed that the effective share count of Bollore was less than one half of the official number. This is important, as a halving of the share count doubles the value per share, all else equal. If Muddy Waters was right, and other investors were relying on the public share count, the stock might be undervalued indeed.

After watching the stock slide from 5 euros per share to 3 euros since early 2015, we decided the time was ripe to match Muddy Waters’ work with our own research. Despite a very complex corporate structure, we were able to approximate and confirm Muddy Waters’ view that Bollore SA essentially owned more than half of its own shares. At most firms, these are called “treasury shares” and excluded from the share count. In Bollore’s case, however, they are owned indirectly through a series of holding companies, and are not excluded. This leaves the share count artificially inflated.

Having confirmed the share count issue, we set to work on understanding the quality of the business itself. We came away impressed. The largest business segment focuses on logistics, helping organize air and sea shipping for manufacturers worldwide, while also owning some of the ports that receive these (and other) shipments. This business has increased operating income from $195m to $545m since 2005.

With the capital generated from the logistics and other business, Chairman and CEO Vincent Bollore has made a number of successful investments over the years, with the current largest positions in French media companies Havas and Vivendi. As a result of Mr. Bollore’s stewardship, book value per (official) share has increased from 0.33 Euros in 1995 to 3.95 Euros in 2015, equivalent to growth of 18% per annum. We like the prospect of investing alongside Mr. Bollore, especially given a current price that is at a large discount to our estimate of intrinsic value.

To demonstrate this discount, consider the earnings multiples of Bollore’s competitors in the logistics business:

When excluding treasury shares, we estimate that Bollore trades at roughly ten times 2016 earnings per share, less than half the median of this group. We think Bollore SA will see strong returns to investors if a portion of the discount closes.

During the quarter, there were three significant contributors to Fundamental Value’s returns: Apple, Samsung Preferred Shares, and 21st Century Fox.

In Apple’s case, the market seemed to focus on the firm’s return to sales growth in the holiday quarter. This, combined with positive rumors on a fully-redesigned iPhone 8 pushed the stock to all time highs, up 24%.

Samsung’s preferred shares appreciated 22% during the quarter, from $593 to $722. Investors have perhaps begun to appreciate the strength of Samsung’s current business, which posted an all time record 29.4T won of profit in 2016, up 11% from 2015 despite the negative effect of the Note 7 fiasco.

Fox’s business is also very strong, with operating profits hitting a fresh high of $1.9B in the fourth quarter, up about 10% compared to Q4 2015. The strength is broad-based, with all three major operating segments seeing profit increases of 6-20% on a trailing 12 month basis. On a more granular level, Fox News continued its domination of TV ratings, posting a 27% increase in Total Day viewers in Q1. Fox News has now spent 61 months atop the ratings rankings for cable news.

There were no material losers in the FV portfolio for the quarter, a result which we think is not particularly meaningful. Our goal is long term outperformance, and the randomness of markets will one day bring losing quarters for both individual positions and the portfolio as a whole, as they have done for some of our other strategies.

We are grateful for your business and your trust, and a special thank you to those who have referred friends and family. There is no greater compliment.

- Bireme Capital

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¹ Net calculations assume a 1.75% management fee. Fee structures and returns vary between clients. FV inception was 6/6/2016.

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Bireme Capital LLC is a Registered Investment Advisor. Registration does not constitute an endorsement of the firm nor does it indicate that the advisor has attained a particular level of skill or ability. This piece is for informational purposes only. If not specified, quarter end values are used to calculate returns. While Bireme believes the sources of its information to be reliable, it makes no assurances to that effect. Bireme is also under no obligation to update this post should circumstances change. Nothing in this post should be construed as investment advice, and it is not an offer to sell or buy any security. Bireme clients may (and usually do) have positions in the securities mentioned.

Advisory fees and other important disclosures are described in Part 2 of Bireme’s Form ADV. The performance described above is the performance on a dollar weighted average of the securities in all Bireme accounts invested in the FV portfolio. Changes in investment strategies, contributions or withdrawals may cause the performance of your portfolio to differ materially from the performance displayed. Different types of investments involve varying degrees of risk and there can be no assurance that any specific investment will either be suitable or profitable for a client’s investment portfolio. SPY ETF performance includes expenses as well as reinvested dividends. For current performance information, please contact us at (813) 603-2615.