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Andrew Kuhn August 28, 2018

KLX Inc/KLX Energy Services Spinoff

Member Write-up by Yuvraj Jatania

Spinoff Background 

In May 2018, KLX Inc. (KLXI) announced an agreement to sell their Aerospace Solutions Group (ASG) to Boeing for $63/share in an all cash deal. 

The deal was based on a successful spinoff of KLXI’s Energy Services Group (KLXE) because Boeing had no interest in buying this part of KLX’s business. 

The management team led by founder, Chairman and CEO, Amin Khoury, initially tried to market the energy business for sale to trade and financial buyers. Bids were received from a mixture of competitors and PE houses in the range of $250-$400m but management felt very strongly that these valuations undervalued the potential of the business based on the rapidly improving market conditions, the higher market value of comparable companies and strong forecasted financial performance of the business. 

Instead they decided to initiate a spin off which would allow them to run the energy business as a standalone, publicly traded entity. 

Our investment opportunity lies in the spinoff of the energy business which will trade on the NYSE under ‘KLXE’. 

The spinoff is expected to take place before the end of Q3 2018. Not long. 

KLX Inc 

KLXI is a US listed company which used to be part of BE Aerospace (BEAV). 

BE Aerospace was founded by Amin Khoury in 1987 through an acquisition of an aerospace interiors parts manufacturing and services business with only $3m in revenue at the time. Khoury grew the business and sold the manufacturing side to Rockwell Collins in April 2017 for $8.6bn and retained and managed the services business which became known as ‘KLX Inc’. 

KLXI operates through two distinct and unrelated businesses: 

1. KLX ASG – Aerospace after-market services and parts/consumables for commercial and private aircrafts 

2. KLXE – Onshore oil and gas field services – focused only on serving North American onshore Exploration and Production (E&P) companies 

KLX Energy Services Group 

The energy business was founded through a quick succession of acquisitions in 2013-14 of seven regional oilfield services companies which each operated in the major shale basins in North America – the Southwest, Rocky Mountains and the Northeast. The execution and integration of the acquisitions was managed by Khoury and his executive team. 

The business provides well completion, intervention and production services and equipment to major oil and gas E&P companies. Their customers include Conco Phillips, Chesapeake Energy and Great Western amongst others. These companies drill and create wells in the shale basins looking for oil and natural gas. When they have a pump issue, equipment gets stuck or loss, a valve becomes faulty or loose, or any other well-related issues they call in technicians or equipment and tools from a company like KLXE. Historically, some of these players would resolve these issues by having an in-house team but now a majority of them outsource the support services to companies like KLXE as the work is considered non-core to their daily activities. 

One of the very attractive features of this type of business is …

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Andrew Kuhn August 24, 2018

BUKS follow-up: A catalyst could emerge within a month

Member write-up by VETLE FORSLAND I wrote up BUKS on the website earlier this month. After discussions with Geoff, we agreed that a follow-up article was relevant, as there were important parts of the thesis that I left out in the original write-up (which you can read here if you missed it). https://focusedcompounding.com/butler-national-corp-buks-an-illiquid-ben-graham-style-mini-conglomerate-in-aerospace-and-casinos/ This article will focus on a real estate deal that could act as a drastic catalyst for the stock, which is desperately needed. BUKS’ real estate deal, and why it’s a bargain...

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Geoff Gannon August 19, 2018

Outperformance Anxiety

To Focused Compounding members:

I spend a surprising amount of time talking with members about other investors – investors who are doing better than them. The truth is: returns much beyond 20% a year aren’t even worth thinking about. Sure, you can find investors who have done better than 30% a year for a ten year stretch. I have a copy of Joel Greenblatt’s “You Can Be a Stock Market Genius” sitting here on my desk. And if I flip to the back of that book, I’ll find a performance table that goes like this: 70% (1985), 54% (’86), 30% (’87), 64% (’88), 32% (’89), 32% (’90), 29% (’91), 31% (’92), 115% (’93), and 49% (’94). The works out to a 10-year compound annual return of 50%. Then there’s Warren Buffett’s partnership record which reads: 10% (1957), 41% (’58), 26% (’59), 23% (’60), 46% (’61), 14% (’62), 39% (’63), 28% (’64), 47% (’65), 20% (’66), 36% (’67), 59% (’68), and 7% (’69). That works out to a 13-year compound annual return of 30%. One member wanted to talk to me about the performance of a fund manager – better than 30% a year for longer than 5 years – who followed a concentrated portfolio. For the managed accounts, Andrew and I target six equally weighted positions. So, I’m always interested in seeing what a concentrated portfolio looks like. This fund manager had most of his portfolio in 4 stocks: Herbalife, Cimpress, Credit Acceptance, and World Acceptance. A portfolio like that is taking risks very different from the ones you’re taking. They may be right about all those risks. But, they have to have opinions about subprime credit risks, pyramid schemes, tax avoidance strategies, etc. It isn’t just that those stocks are often shorted, controversial, etc. as stocks. The actual businesses are doing riskier things than the businesses you likely own. You don’t have to take big risks to get rich. But, you often do have to take big risks to get rich quick. I mentioned Joel Greenblatt’s record at Gotham Capital. It was 50% a year over 10 years. Charlie Munger’s record was just 20% a year over 14 years. Warren Buffett’s record at Berkshire – not his partnership – has been 22% a year over 53 years (and Walter Schloss did 15% a year over something like 45 years managing smaller sums). During the time Berkshire did 22% a year, the S&P 500 did 10% a year. Those are the two yardsticks you should look at: 10% a year and 20% a year. In every year where you manage to do 10% a year, you are on pace to match or beat the long-term rate for the S&P 500. In ever year where you manage to do 20% a year, you are on pace to match or beat the long-term rate for some of the very best investors in the world. People mention the performance of investors like Joel Greenblatt and Peter Lynch a lot. But those performances are …

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Geoff Gannon August 12, 2018

Pre-Judging a Stock

To Focused Compounding members:
This week, a Focused Compounding member sent me a link to a blog post about Brighthouse Financial (BHF). Brighthouse Financial is the spun-off retail business of MetLife. Although websites often list Brighthouse Financial under the industry group “Life Insurers”, the stock is really a seller of annuities. Many of these annuities are tied to the performance of the S&P 500 or other stock indexes. So, the company’s investor presentation includes a slide where it shows how badly affected the company would be by various percentage declines in the S&P 500. Based on that slide, the writer of that blog post eliminated the stock from consideration. He had spent – perhaps – an hour or less looking at this company. That was enough to tell him no to invest. Should it be? What we are talking about here is literally prejudice. It is judging a business before you fully understand it. It is making a snap judgment based purely on your initial impressions. And especially on this stock’s resemblance to other such stocks you’ve seen before. You think back to all the stocks you know that have some similarities to this one and you make a snap judgment – assigning this stock to the same group as those stocks. It’s definitely a time saver. And for those who believe in Peter Lynch’s motto that he who turns over the most rocks wins – it’s an efficient approach. If you can quickly glance at a thousand stocks and find ten that really excite you on your first impression and buy those – maybe that’s enough. A lot of investors follow the pre-judging approach. I tweeted about the KLX Energy Services business. This is technically going to be a spin-off. However, what is really happening is that Boeing is buying KLXI’s aerospace business for cash and leaving KLX Energy Services for KLXI’s current shareholders. This is the spin-off I’ve most been looking forward to this year. Someone on Twitter mentioned that “…if I recall ESG is a collection of absolutely garbage businesses.” KLX Energy Services was formed as a super fast roll-up of a bunch of
U.S. energy service providers that served “tight oil / tight gas” (shale oil) producers in the U.S. The price of oil dropped quickly around the time of KLX’s acquisition spree (late 2013 through 2014). Some of these acquisitions were made when oil was around $100 a barrel. So, KLX paid high multiples of EBITDA for businesses where the EBITDA completely vanished in the oil price crash. This collection of businesses may be garbage. But, it’s impossible to know they really are if you only have data going back about 5 years and those 5 years don’t include anywhere near a full cycle in oil.
Brighthouse Financial and KLX Energy Services are both tempting stocks to pre-judge, because if you don’t pre-judge them you have to do some heavy lifting. Brighthouse Financial is complicated. KLX Energy Services doesn’t have the past financial performance data …

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hiddenvalue August 7, 2018

CountPlus (CUP)

  CountPlus Investment Thesis Market data Ticker:                         ASX:CUP Price:                            $0.66 Net debt:                    ~$0m Market cap:               AU$74m   Elevator pitch After years of poor performance, a revolving door at the C suite and ongoing restructuring charges/impairments, recent insider buying gives us confidence that CountPlus has reached an inflection point in its turnaround. Looking through the one-off charges to cash profitability and assuming no improvement in operating margins (~10% vs. peers >20%) we believe the shares are selling for a pre-tax free cash flow yield of 14%. As the turnaround begins to show up...

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Geoff Gannon August 7, 2018

Northfield Precision Instruments Corporation (NFPC) – A Dark, Illiquid Nanocap at an Unlevered P/E of 6

Member write-up by LUKE ELLIOTT Northfield Precision Instruments (OTC: NFPC) Quote: $15.00 Let’s go ahead and get one thing out of the way. When I say nanocap and illiquid, I really mean it. Northfield has a market cap of 3.6 Million USD (234,237 shares x $15/share) and its 10/90 day volumes are 0 and 102 respectively. This is a tiny company and the largest daily volume (by far) of shares trading over the last year was 6,400 (around $95,000 USD). For some of you it...

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Geoff Gannon August 6, 2018

Butler National Corp. (BUKS) : An Illiquid Ben Graham Style Mini-Conglomerate in Aerospace and Casinos

Member write-up by VETLE FORSLAND   Butler National Corp (BUKS) is a $14 million OTC stock that operates in the Aerospace Products industry and manages two casinos. The two unrelated businesses split revenues 40/60, respectively. It trades at an EV/EBITDA of 2.30 (while peers trade at around 10 times) and the company has net cash. While all this sounds attractive, it only gets better; a simple sum-of-the-parts calculation shows that the stock is trading at 29% of its intrinsic value.   The stock trades around...

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