NEARCO VALUE FUND, LPsirelinecapital.com/pdf/NEARCO VALUE FUND Pitch Book, Feb... · 2013. 2....

Sire Line Capital Management 159 Madison Avenue, Suite 10i

New York, NY 10016

Phone: 646.526.8403 www.sirelinecapital.com [email protected]

SIRE LINE CAPITAL MANAGEMENT, LLC I n v e s t m e n t M a n a g e r s f o r t h e

NEARCO VALUE FUND, LP

February 2013

Disclaimer

2 CONFIDENTIAL SIRE LINE CAPITAL MANAGEMENT, LLC 2013

THIS IS NOT AN OFFERING OR THE SOLICITATION OF AN OFFER TO PURCHASE AN INTEREST IN THE NEARCO VALUE FUND, LP (THE “FUND”). ANY SUCH OFFER OR SOLICITATION WILL ONLY BE MADE TO QUALIFIED INVESTORS BY MEANS OF A CONFIDENTIAL PRIVATE PLACEMENT MEMORANDUM AND ONLY IN THOSE JURISDICTIONS WHERE PERMITTED BY LAW.

AN INVESTMENT IN THE FUND IS SPECULATIVE AND INVOLVES A HIGH DEGREE OF RISK. OPPORTUNITIES FOR WITHDRAWAL, REDEMPTIONS AND TRANSFERABILITY OF INTERESTS ARE RESTRICTED, SO INVESTORS MAY NOT HAVE ACCESS TO CAPITAL WHEN IT IS NEEDED. THERE IS NO SECONDARY MARKET FOR THE INTERESTS AND NONE IS EXPECTED TO DEVELOP.

THE FEES AND EXPENSES CHARGED IN CONNECTION WITH THE INVESTMENT MAY BE HIGHER THAN THE FEES AND EXPENSES OF OTHER INVESTMENT ALTERNATIVES AND MAY OFFSET PROFITS. NO ASSURANCE CAN BE GIVEN THAT THE INVESTMENT OBJECTIVE WILL BE ACHIEVED OR THAT AN INVESTOR WILL RECEIVE A RETURN OF ALL OR PART OF HIS OR HER INVESTMENT. INVESTMENT RESULTS MAY VARY SUBSTANTIALLY OVER ANY GIVEN TIME PERIOD.

Nearco Value Fund Overview


A Delaware Limited Partnership One general partner ― Sire Line Capital Multiple limited partners ― Investors The managing partner is also a limited partner

A Private Investment Fund Modeled after the Buffett Partnerships, Ltd. Long/short fund (long bias) Long-term, equity focused No complex derivatives No significant use of leverage Will occasionally short a broad market index to protect the portfolio during heightened market risk

Primary Objectives: Achieve a mid-teens average annual return on investment by investing principally in publicly traded,

marketable securities of U.S. and non-U.S. companies Outperform in years when general equity markets are weak

Investment Strategy: A disciplined value-oriented investment process, utilizing both qualitative and quantitative

techniques, to build a focused portfolio of 20-30 high-quality companies Buy marketable stocks based on the criteria we would apply in the purchase of an entire business

Sire Line Capital

NEARCO VALUE FUND, LP

Limited Partner:

Daren Taylor, CFA Limited Partner

Limited Partner

General Partner:

Sire Line Capital

Our Investment Approach


The Nearco Value Fund will only invest in high-quality businesses that… 1. Are simple to understand

2. Have a consistent operating history and favorable long-term prospects

3. Are managed by competent and honest managers whose interests are aligned with ours

4. Can be purchased at a significant discount to intrinsic value (Margin of Safety)

We seek “Good-Will Giants” that… Have strong balance sheets

Generate high returns on invested capital

Generate significant free cash, not consume it

Possess some sort of sustainable competitive advantage

Are growing their underlying per share business value at an above-average rate

Have experienced better business economic performance than stock price performance



Value comes from three main sources: assets, earnings power and growth Rule #1, #2 & #3: DO NOT OVERPAY FOR GROWTH!

Start with the most reliable information (asset value & current earnings power)

Buy when market value ≤ Current Earnings Power Value, getting all/most of growth for free

(Reliability Dimension): Asset Value (Reproduction Value)

Earnings Power Value (EPV)

Growth Value (EPV with Growth)

Tangible Current Earnings Includes Growth

Balance Sheet Extrapolation Extrapolation

No Extrapolation No Forecast Forecast

MOST RELIABLE LESS RELIABLE LEAST RELIABLE

*Adapted from Bruce Greenwald’s Value Investing class at Columbia Business School.

Buy here

Sell here

Margin of Safety



Calculate Reproduction Value – Need to make adjustments to balance sheet: Use current market prices for marketable securities, land, debt, etc.

Add back allowance for doubtful accounts, LIFO Reserve, etc.

Calculate present value of deferred taxes

Replace goodwill/intangibles account with value of “hidden assets” not reflected on the balance sheet (i.e. R&D strength, patents, licenses/franchises, brands, customer relationships, sales force, internal systems, distribution systems, etc.)

Calculate Earnings Power Value (EPV) — The value of distributable cash flow assuming no growth Calculate and use “normalized” op. margin and tax rate

Take out growth-related expenses

Take out one-time charges; add back an implied multi-year “average charge”

Add back depreciation expense above maintenance capital expenditure

Add back goodwill amortization charge

Capitalize distributable cash flow calculation by the firm’s cost of capital, with growth = 0

Calculate Earnings Power Value with growth First confirm that growth actually adds value (EPV > Reproduction Value; incremental returns exceed cost of

capital)

Calculate “normalized” earnings power

Capitalize earnings power using 1) firm’s cost of capital and 2) growth = LT expected GDP growth

Confirm results with private market values if available


An Example —

H.J. HEINZ COMPANY (ticker: HNZ)

Year 1888

Nearco Value Fund — original investment on January 4, 2010

An Example ―


1. Simple to understand? Generates revenue by manufacturing and selling a global portfolio of leading food brands focused

in three core categories: Ketchup and Sauces, Meals and Snacks, and Infant/Nutrition.

Long history: Founded in 1869

World-Class Iconic Brands, including Heinz, Ore-Ida, Weight Watchers, Smart Ones, Classico, TGI Friday’s, Watties, Plasmon and Honig.

Stable market shares within core food categories

Over 70% of total sales are international; HNZ’s products are sold in over 200 countries

The company’s top 15 brands account for nearly 70% of its sales

Sells over 650 million bottles and over 11 billion single-serve packets of ketchup every year

An Example ―


2. Consistent operating history and favorable long-term prospects Has been selling Ketchup for over 140 years

6-year CAGR: organic sales = 4%, EPS = 9%

30 consecutive quarters of organic sales growth, despite challenging economic environment

Low private label penetration in HNZ’s core food categories

#1 or #2 market share in more than 50 countries

#1 market share in 7 of top 10 global markets for ketchup

Emerging Markets account for 25% of total sales today vs. only 9% in 2005

5-year avg. Tangible ROIC = 43%

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ROIC ROE

Tangible Returns on Capital

$9,000

$9,500

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$11,000

$11,500

$12,000

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Adjusted EPS


3. Managed by competent and honest managers? William Johnson, Chairman & CEO, has been with Heinz since 1982

Activist Nelson Peltz (Trian Fund) has been on the Board since 2006

Executive Officers and Directors own 2% of the company

Excellent brand portfolio management over the last 10 years has improved growth profile

Consistent operating margins

Strong balance sheet

Returning value to shareholders. Historical Cash Flows (in millions)

Cumulative Cash Flows: FY2008-FY2012 Total Line

Cash flows from operations $6,694 1 - Capital expenditures 1,626 2

= Free cash flow (FCF) 5,068 3 - Additions to other assets - 4 - Acquisitions 857 5 = FCF before financing activities 4,211 6 + Net Issuance (reduction) of debt (133) 7 = FCF available for div. & repurchases 4,078 8

Returned Value: Cash dividends paid 2,743 9 + Stock repurchases 384 10

= Total Returned to Shareholders $2,359 11

An Example ―

An Example ―


4. Valuation on January 4, 2010 (the date of our original investment)

Traditional measures of value suggest the stock may be attractive…

Traditional Valuations As of (in millions, except per share) 1/4/2010

stock price $43.00 x shares outstanding 318 = equity value $13,674 + total debt $4,618 - cash $483 = Enterprise Value (EV) $17,809 Financials: FY2010 Cash EPS $3.10 FY2010 EBITDA $1,862 FY2010 SALES $10,500

Valuation Multiples: P/E 13.9 x

EV/SALES 1.7 x

EV/EBITDA 9.6 x

“The stock market is filled with individuals who know the price of everything,

but the value of nothing.” -Philip Fisher

What is the VALUE of H.J. Heinz?

An Example —


4. Valuation - Our calculation of intrinsic value for Heinz (on January 4, 2010) Reproduction Value = ~$4.6 billion

Earnings Power Value = ~$13.9 billion

Earnings Power Value with Growth = ~$19.2 billion

(Reliability Spectrum): Asset Value (Reproduction Value)

Earnings Power Value (EPV)

Growth Value (EPV with Growth)

Tangible Current Earnings Includes Growth

Balance Sheet Extrapolation Extrapolation

No Extrapolation No Forecast Forecast

MOST RELIABLE LESS RELIABLE LEAST RELIABLE

*Adapted from Bruce Greenwald’s Value Investing class at Columbia Business School.

Margin of Safety!

4,596

13,873

19,177

$0

$5,000

$10,000

$15,000

$20,000

$25,000

Our purchase price on 1/4/2010 = $13,674

$0

$5,000

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FY2009 FY2010 FY2011 FY2012 FY2013

in m

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Current Market Value

Market Value-HIGH

Market Value-LOW

Earnings Power Value - With Growth

Earnings Power Value - No Growth

Replacement Value

An Example ―


4. Valuation – Asset Value, EPV and EPV-with growth: 2009 - 2012 In FY2009, the stock traded close to fair value.

FY2010: Nearco Value Fund buys HNZ stock trading for less than its EPV-no growth

In FY2013, Buffett and G3 offer full equity value of $23.4 billion for entire company!

Nearco Value Fund realized an 82% total return on original investment; 22% compounded annual return over 3 years.

Buffett buys Co. for $23.4 billion

H.J. Heinz Equity Valuation 2009 - 2012

Nearco’s Original

Purchase Price

An Example ―


4. Valuation – Confirm the investment has implied double-digit forward rate of return Calculate normalized FCF Yield

Add a conservative amount of volume growth and inflation

On 1/4/2010, HNZ’s implied forward rate of return >11%

Expected Forward Rate of Return ($ in millions) FY2010

HNZ Free Cash Flow Margin:

FY2009 8.6%

3-yr avg. 9.0%

*5-yr avg. 9.4%

FY2010 Normalized FCF (using 5-yr avg. margin) $987

Market Value of equity $13,674

Results:

Implied FCF Yield 7.2%

+ Volume Growth 2.0%

+ LT Inflation 2.0%

= Implied Forward Rate of Return 11.2%

HNZ dividend yield 4.1%

10-year Treasury bond yield 3.9%

Observations: Steady, bond-like cash flows…

Attractive, equity-like returns!

Another Example ―


A recent investment for the Nearco Value Fund, LP A difficult-to-replicate, high-quality consumer brand with a strong history Good management, no debt, attractive growth opportunities, 5-year avg. Tangible ROIC = 60% Returning significant value to shareholders…shares outstanding have declined 25% over the last 6 years International accounts for one-third of sales and is growing double-digits Company’s growth decelerating to more sustainable rate; Momentum investors have lost confidence in

the stock

Current Market Value =

90% of EPV-no growth

70% of EPV-with growth

Not paying for growth

FCF yield = 8%

Implied Forward return = 12%

COACH INC. Equity Valuation 2000 - 2013

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Current Market Value

Market Value-HIGH

Market Value-LOW

Earnings Power Value-with growth

Earnings Power Value-no growth

Replacement Value


U.S. Equity Markets: Cheap or Expensive? We focus on three broad measurements: 1. Implied forward rate of return for the S&P 500 Index 2. Total equity market value as a % of GDP 3. Relationship between the earnings yield on equities and the yield on

investment grade U.S. corporate bonds

Cash Management: Driven by Implied Market Risk


Forward rate of return for the broad equity market? Assumptions:

4% avg. earnings growth for the S&P 500 Index

A range of P/E multiples (10x, 15x, 20x, 25x) for the S&P 500 ten years out (smaller colored lines) Results:

The thick black line is the actual 10-year average forward return for the S&P 500

In 1999, the actual average forward 10-year return for the market was negative (model predicted)

The forward rate of return for the S&P 500 Index over the next 10 years is likely to be 6%—9% (assuming an end P/E multiple of 15x-20x)

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10-year forward rate of return will likely be 6%-9%

from here

S&P 500 Index Expected 10-year forward rate of return



The value of the total equity market relative to Gross Domestic Product (GDP)? The Wilshire 5000 Index is currently 95% of GDP.

Long-term average is around 73%.

Implies the overall equity market is slightly overvalued

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Wilshire 5000 as a % of GDP Long-Term Avg.

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Wilshire Total Market GDP

in b

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Wilshire Total Market Value as a % of GDP Wilshire Total Market Value vs. GDP


P/E of U.S. stocks vs. P/E of U.S. investment grade (Baa) corporate bonds (inverted yield)? Hold no/negative cash levels when stock P/E ≤ 11% discount Baa corporate bond P/E

Hold low cash levels when stock P/E = Baa corporate bond P/E

Hold medium cash levels when stock P/E ≥ 25% premium to Baa corporate bond P/E

Hold high cash levels when stock P/E ≥ 40% premium to Baa corporate bond P/E


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Potential Upside Potential Downside

Bonds vs. Stocks: Implied Forward Returns for Equity Markets

Hold high cash levels Hold low cash levels

Why this Relationship? Bonds and stocks are always in competition for investors’ dollars

Risk Management


Our value strategy is designed to limit downside exposure Invest only when there is a significant “margin of safety” between our purchase price and

the underlying intrinsic value of the business

Never overpay for unpredictable growth

Invest only in high-quality companies with low debt levels, high cash generation and consistent operating performance

Invest only in proven management teams whose interests are aligned with ours

Holding a relatively small portfolio of 20-30 companies means we know them extremely well

No significant use of leverage

No use of complex derivatives

Adjust cash levels based on available investment opportunities and implied market risk

All interests are aligned General partner receives no compensation until limited partners earn 5% annualized

High-water marks are designed to give the general partner an incentive to protect against significant losses in any one year

General partner is also a limited partner (investor) with the exact same rules and restrictions as other limited partners

Nearco Value Fund — Performance


TOTAL RETURN (1) Overall Results Partnership Limited Partners'

Annual: From S&P (2) Results (3) Results (4)

2010 13.2% 11.7% 8.8%

2011 2.1% 11.5% 9.3%

2012 16.0% 12.5% 10.0%

Cumulative:

2010 13.2% 11.7% 8.8%

2010-2011 15.6% 24.5% 18.9%

2010-2012 34.1% 40.1% 30.8%

Annual

Compounded Rate: 10.3% 11.9% 9.4%

(Footnotes to table above)

(1) All performance figures begin as of the close on January 4, 2010.

(2) Based on changes in the value of the S&P 500 plus dividends

(reinvested) that would have been received through ownership of

the Index during that period.

(3) Represents the gross trading rate of return before operating

expenses and incentive allocation.

(4) Represents the total net return to Limited Partners after all

operating expenses and allowing for the general partner's

incentive allocation.

Observations: Strategy outperformed in 2011

(flat-to-down equity markets)

Strategy shows consistent

double-digit gross performance

Net returns penalized by Fund’s small size

Nearco Value Fund — Performance


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Nearco S&P 500

Nearco Value Fund Gross Trading Rate of Return vs. S&P 500

Nearco Value Fund Expense Ratio

Date

Partners'

Capital

Op. Exp. /

Average Assets

12/31/2010 $1,313,889 1.86%

12/31/2011 $1,666,934 1.02%

12/31/2012 $3,005,018 0.95%

2/19/2012 (today) $3,257,896 0.61%

???????? $10,000,000 0.20%

Net returns penalized by the Fund’s small size at startup: Gross portfolio returns comfortably above average

Operating expenses virtually fixed until the Fund reaches $25 million AUM

As assets grow larger, op. expense ratio becomes de minimis

The General Partner


Sire Line Capital Management, LLC Founded in 2009

Value-oriented, independently owned and operated investment management boutique based in New York City

A New York Registered Investment Advisor

Daren Taylor, CFA ― Managing Partner 2010—Present: Managing Partner of the Nearco Value Fund, LP

2000—2008: Vice President and Senior Equity Analyst at Oppenheimer Capital ($20+ billion in AUM) in New York. Oppenheimer Capital was a subsidiary of Allianz Global Investors ($1.3+ trillion in AUM)

2006: CFA (Chartered Financial Analyst) Charterholder

2003: M.B.A. from Columbia Business School (studied in Bruce Greenwald’s Value Investing Program)

2000: B.S. in Finance and Economics from the Leonard N. Stern School of Business at NYU

Member: CFA Institute, New York Society of Security Analysts

20 years studying and implementing the principles of value investing

Nearco Value Fund Overview


Terms and Fund Information Management Fee None Minimum Investment $250,000

Incentive Allocation 20% Additions Monthly

Hurdle Rate 5% Redemptions Annually

High-water Mark Yes NAV Reporting Quarterly

Independent Service Providers

Custodian/Broker UBS Financial Services Auditor Patke & Associates, Ltd.

Administrator Michael J. Liccar & Co. Legal Law Offices of Andrew E. Goldstein

For more information, contact: Daren Taylor, CFA Phone: 646.526.8403 Fax: 646.502.4195 Email: [email protected]

Sire Line Capital Management, LLC 159 Madison Avenue, Suite 10i

New York, NY 10016 www.sirelinecapital.com [email protected]

NEARCO VALUE FUND, LPsirelinecapital.com/pdf/NEARCO VALUE FUND Pitch Book, Feb... · 2013. 2....

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Transcript of NEARCO VALUE FUND, LPsirelinecapital.com/pdf/NEARCO VALUE FUND Pitch Book, Feb... · 2013. 2....