Value Investing Ideas

I wrote about Actions Semiconductor here. The story has changed somewhat since then, but in a good way. Better yet, although the stock price has recovered somewhat, this is still a net-net play, and it is still trading below cash on book.

At the time I wrote the original writeup ACTS was resisting buying back shares, preferring to “grow” the business through acquisitions. Indeed, they ended up making a bid on an manufacturer, and it looked like a done deal. Management was playing this close to their chests, refusing to discuss the business or its prospects in their conference call. The analysts were very persistant, and several emphasized the extraordinary value that could be created by buying back ACTS ADRs.

Well, management listened. The acquistion was cancelled, and ACTS has retired over 9 million shares, or just over 9% of the outstanding stock, leaving 86MM shares outstanding.

At this point ACTS has $236.5MM of cash and equivelents on their books vs a market cap of 200MM. So, on cash alone you are still buying $1 for $0.85.

How about the business? Well, in this extremely difficult global crisis, they lost $0.02 two quarters ago, and $0.01 this most recent quarter. In other words, during global financial catastrophe they almost broke even, and had a huge war chest that would have protected them had they lost real money.

How about costs? Well, at the beginning of the year they announced that they were cuttting the salary of senior management by 20%, and then they cut the manager level salaries by 20% in the second quarter. They have not reduced the salaries of the technical staff. Management is eating their own cooking.

As I wrote before, this is a tough business sector to value. Changing consumer tastes in gadgets makes it extremely difficult to build a moat unless you have significant IP (have I written about DMRC? - they have a moat). Still, trading at a discount to cash, a huge war chest, and pretty much breaking even during a major worldwide crisis - it’s a no brainer to me. This company is ripe for a takeover, or merely for the share prices to recover once earning return to a normal level. In either case, management is continuing to help make your investment more valuable by buying back and retiring shares.

Actions Semiconductor is a Chinese fabless semiconductor company. Their main market is producing chips and platforms for mobile media players. No, not iPods, Jobs keeps all fab in house, but the plethora of systems flooding the Asian markets. They specialize in SoCs, or system on a chip. These integrate the functionality of an entire system on one chip. This vastly reduces the fab costs for devices since the circuit board complexity is greatly reduced, and as a result, offers improved reliability (fewer solder connections to go wrong, etc). They market other devices - for example, they just started shipping a GPS on a chip.

This is a competitive market, and it is pretty hard to identify a moat in this business, let alone predict sales rates, growth, future innovations, etc., all the things needed to determine what price you are willing to pay for the company. So, on to the “too hard pile” and on to the next stock.

Well, let’s just look at that balance sheet first. No debt, $3.05/share in cash equivalents, vs a stock price of $1.55 today. Yes, not only is it trading at 50% of cash, but 50% of enterprise value. In the trailing 12 months, their earnings were $0.54, a PE ratio of 2.9x. Net profit margin is 40%, and ROE is 17%.

On cash alone this is a screaming buy. What are the risks?

First risk is that this is in China. The rules can change at any time. We do not have the transparency into the cash - much of it is invested with major Chinese banks. Analysts probed this issue again and again in the most recent earnings call, and management assured everyone that the investments were equivalent (in safety and returns) to the US’ short term CDs.

Second risk, bad decisions by management. They seemed about to make a bad decision - they had announced plans to buy a touch screen manufacturer. No one really understood why - and they claimed that they could not name the business because they were partnering in the investment with others. They assured us the business would eventually be quite profitable, and that the business owners were investing their own capital. However risk is nothing more than uncertainty, and what could be more uncertain than an investment in an unnamed business not directly related to the core business of Actions? It seemed a questionable way to deploy cash, especially given the tight credit market and extremely low share price.

Management was repeatedly encouraged to buy back shares. The company acknowledged that was a great way to enhance shareholder value, but said they needed to grow the business long term. This makes some sense to me - looking at short term returns it is always great to see share buybacks at under 50 cents on the dollar, but it would also be nice if the business grew. That decision seems aligned with long term shareholder interests.

I must admit my interests are more short term on this one. The margin of safety is very large. We are actually being paid $134 to own a profitable semiconductor business - a company earning roughly $20MM EBIDTA.

Of course, like all semiconductor manufactures, they face a tough future. Earnings have been down, and are projected to fall further. Depending on your assumptions, the current share price could be normal (in this environment, not a typical market). However, I view the cash as a huge safety net. Yes, the company could turn unprofitable for a number of years, yes, they could fritter away the money in senseless acquisitions. However, they seem to recognize that danger, and are being conservative. It’s not hard to keep an eye on them and bail if they do anything outrageous.

If you are a Schloss type investor you would pick this up without a thought, as it is a perfect cigar butt purchase, and you would be insulated from significant losses with the other 100 equities you own. If you run a concentrated portfolio, you’ll definitely not want to take a huge position on this without more research than I have provided above. I think this company will have a decent to very good future. But if the stock was to appreciate to the point where they are giving the company away for free it’d still be a double for us.

Short term (a year or so) I wouldn’t be surprised if the shares went lower. If earnings do indeed go down, and the market is still depressed the price could drop quite a bit on the news. But, we are trading at 50% of cash. That cannot persist long term.