Adams Golf gets a buyout and other net-net thoughts

I saw this morning that Adams Golf (ADGF) received a buyout offer at $10.80 a share, this is up from $5.54 when I first wrote about them.  I wrote in that post that Adams Golf had both a margin of safety and a catalyst, plus they were trading very close to NCAV.  I wish I could say that I am sitting on a two bagger and selling my gains today but that's not the case, I never ended up pulling the trigger on Adams Golf.

So why didn't I buy in?  When looking at why I didn't invest in Adams Golf investment I can identify two mistakes I made:

1) I mis-identified the margin of safety.  

When I looked at Adams Golf I was thinking about the company as a net-net.  I was looking for balance sheet safety and a tangible liquidation value.  I wasn't looking at liquidation value because I thought the company would be liquidated but because this would provide an absolute downside for my investment.

What I missed was that a margin of safety existed in the business.  The company was profitable and had a product that was well received in the niche hybrid golf club market.  I never examined the product or talked to any customers so I missed that people liked these clubs.  The products had brand value that another company in the market would want to acquire (as evidenced this morning).

2) For whatever reason the stock never felt comfortable to me.  

This is the hard one for me to quantify, but usually with an investment as I'm researching things will start to jump out at me and eventually I know the company I'm looking at is the type of company I want to own.  I never had that sense with Adams Golf, but I never stumbled on anything that would make me want to avoid them either.

This reason seems strange, especially for a value investor.  We're told over and over that the best investors are devoid of emotion, and we should learn to ignore our emotions.  I'm going to go against the grain here and say that I'm a very emotional investor.  When I see an undervalued business that fits what I'm looking for I get excited.  I get excited in the same way that I would if someone offered to sell me a successful restaurant on a busy intersection for pennies on the dollar.

Some investors can be mechanical, following checklists and investing by stringent rules.  That's not my personality, I go with guidelines and intuition.  Guidelines keep me focused, intuition is built on experience with similar businesses or similar investments.  If I can't get excited about a company or an investment I'm prone to forget about it six months later even if it's in my portfolio.  Not sure how much of my personality comes out in the blog, but I'm a pretty carefree, last minute decision, go with the flow person.  I think sometimes my investment style reflects that.  One day I'll be looking at a pink sheet company, the next a German hidden champion, then a Japanese net-net.  No reason, just following whims for value.  The advantage of this personality is that when I get excited about something I get focused and mildly obsessed.


Changes going forward?

As I've watched net-net's since the bottom of the crisis and invested in them worldwide my view has slowly changed in what makes a good net-net.  Initially my thought was that I wanted to buy $1 in cash for $.50.  This led me down the path of being attracted to cash heavy companies, shell companies, and utterly junky net cash stocks.  Some of these investments worked out ok, others not as much, and some were just disasters.

The problem was the market rarely rewards a cash position, the market rewards a business.  I had foolishly thought that since a company had a dollar on it's books the market should have that stock trading at face value.  The reality is that there is no rule governing the market that says that all companies must eventually trade at NCAV.  A company can sell below cash value forever, or it can sell above cash value forever.

In looking back at the net-net's I've owned that have done well I found that my best performance didn't come from companies suddenly trading up to asset value, but rather from improved business performance.  I can't actually think of any net-net's I've owned or followed that suddenly drifted up to NCAV for no reason, all of them had some sort of turn around, or perceived turnaround in the business that excited investors which in turn made the share price increase.

With Adams Golf I kept thinking in terms of asset safety, and less in terms of business value and turnaround potential.  Asset safety is important especially if a company is on the verge of liquidating or is burning cash and a liquidation seems likely.  If a company is profitable and has turn around prospects assets are important for a downside, but business performance is more valuable for the company to eventually trade at net asset value.

At this point you're probably wondering how the other net-net's in my portfolio look, will I be doing a wholesale purge?  Amazingly enough outside of one Japanese net-net all of the net-net's I own conform to this pattern.  They all have a downside protected by assets with varying degrees of liquidity but all have businesses that either have the potential to improve or are improving.

My last thoughts are that I've already been putting this process in place as I look for Japanese net-net's again.  I'm looking for assets that provide a downside, but my focus is on cash flow generation and hidden business value.  Hopefully I'll have a few companies to post about in the near future.

Talk to Nate about Adams Golf, or net-nets