180 Degree Capital Corp (TURN) 2021 Q1 法說會逐字稿

(Operator Instructions)

This is Daniel Wolfe, President and Portfolio Manager of 180 Degree Capital. Kevin Rendino, our Chief Executive Officer and Portfolio Manager, and I would like to welcome you to our call this morning. (Operator Instructions) I would like to remind all participants that this call is being recorded, and I will be referring to a slide deck that we have posted on our Investor Relations website at ir.180degreecapital.com under Financial Results.

Please turn to Slide 2 that contains our safe harbor statement. This presentation may contain statements of a forward-looking nature relating to future events. Statements contained in this presentation that are forward-looking statements are intended to be made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. These statements reflect the company's current beliefs, and a number of important factors could cause actual results to differ materially from those expressed herein.

Please see the company's filings with the Securities and Exchange Commission for a more detailed discussion of the risks and uncertainties associated with the company's business that could affect the company's actual results. Except as otherwise required by federal securities laws, 180 Degree Capital Corp. undertakes no obligation to update or revise these forward-looking statements to reflect new events or uncertainties.

I would now like to turn the call over to Kevin.

Thanks, Daniel, and good morning, everyone. Some quarters are better than others, and this is one of the best quarters we've ever had.

Slide 3 provides a summary of our first quarter, a quarter in which we grew our NAV by nearly 15%. This against the backdrop of reporting a 28% gain for our public company investments led by Quantum, Maven, Potbelly, Alta, Synacor and Babcock & Wilcox or nearly every name that we own. We achieved a $16.5 million gain in the quarter in our public and liquid securities and ended the period with $74.1 million. And as of this past Monday, our cash and liquid securities essentially equals our share price. We had a rather timely scaling of a new position in Armstrong Flooring, and it became a core position in what looks like great entry prices for us. Synacor tender was completed and the position was turned into cash of $2.20. We closed out positions in Verso and Manitex.

On the private side, we had a $1.5 million decrease in value, led by a projected decrease in Biovex milestones and ABS Materials, which the company was liquidated. The good news is the private portfolio is becoming more and more meaningless to us as it represents just 33% of our business at period end, the lowest it has been since 180 Degree started. We had similar performance from our SMA in the quarter, and that portfolio has grown in asset size from $25 million when we started less than a year ago to just over $40 million today.

On Slide 4, NAV at quarter end equaled $10.60, the highest it has been in over 6 years. This has been achieved solely from our strategy of public market investing, which we will illustrate in just a little bit.

Slide 5, this may be my favorite slide and best illustrates the progress we have made in remaking ourselves. I remember when I first started working at 180, an employee asked me, how will I know if we are successful, and then I don't have to worry about our viability? My answer was simply this, just follow the cash and liquid security levels. Cash is king in our business. Well, since the end of 2016, we have turned $1.92 per share of cash and liquid securities into $7.42 net of liabilities this week. I do note that our share price now trades around our liquid securities, thus making our private portfolio 100% free call option as the market is pricing in at 0.

On the next slide, here's our share price relative to our NAV. You've heard me say 1,000 times that the more our balance sheet reflects cash and liquid securities rather than our VC private holdings, the closer our share price should trade to NAV. Back when we started, we had 75% of our assets in private holdings and 25% in cash and liquids. Our share price traded at 55% or so of NAV. Today, we have 2/3 of the portfolio in liquids and another $40 million SMA on the side, and we have just 1/3 of the portfolio in privates and 2/3 in publics. And while our discount has narrowed, it only trades at slightly less than 70% of our NAV. Truth be told, while our share price is up nearly 100% since we started, all it has done is track our cash and liquid security levels. As a matter of fact, some of the parts perspective, which we'll show in a little bit, our overall business has never been cheaper, and I'll illustrate that in a few slides.

On Slide 7, this is our normal source of change in our NAV for the first quarter of 2021. We generated $1.59 per share in gains from our public portfolio, had $0.13 of losses in our private portfolio, $0.13 of expenses, including a $0.05 for a bonus accrual. We start with a $9.28 NAV, and we end the quarter at $10.60.

Slide 8 is the same source of change chart for our net assets since we started. An incredibly healthy $6.01 of gains from our public stock picking versus a $0.72 loss from our privates and $1.70 of expenses along the way, including restructuring charges in 2017. I think it's fair to say and continue to say that it was quite fortuitous for us to change the strategy when we did.

On Slide 9, this is our transparent view of the performance for our stocks in Q1 2021. A 28.3% gain for the liquids or 31.8% gain, if you include the potential carry from our SMA, quite a robust quarter for almost every single one of our stocks.

On the next slide, we break out the positions that materially increase in value. Quantum advanced 36% and added $0.33 to our NAV as the company completed a very effective secondary use to pay off expensive debt. We saw the beginnings of a recovery in the media and entertainment vertical for Quantum, and the stock price has continued its upswing. Maven was up 36.5% and added $0.31 a share to our NAV. This past quarter, finally, the company started filing current numbers with the hope they will be totally current by the middle of this quarter. From there, an uplift is possible. Advertising rebound has clearly benefited Maven. And under the leadership of Ross Levinsohn, the company is beating numbers. Potbelly was up 34% and helped our NAV by $0.23. They also did a secondary that we participated in with the proceeds used to improve its balance sheet.

Obviously, the end of the pandemic will improve their comparable same-store sales. New management led by Bob Wright and Steve Cirulis have really helped the company implement best practices, and you see that with a rising share price. Alta Group was up 31% and added $0.21 to our NAV. We've seen a nice recovery in their business as economies have continued to open up. The company will certainly benefit from a long-awaited infrastructure plan that is being bandied about in congress.

Our Synacor investment was concluded as the company agreed to be acquired by Centre Lane Partners. The stock advanced 62% in the quarter and added $0.15 to our NAV. By no stretch what I call this a successful investment. Although I will add from the time we were named Chairman of the Board to the sale to Centre Partners, the stock was up 90%. We made a few dollars for our SPV shareholders and although the investment never turned out the way we wanted, as one of our great SPV partners said to me, "if making money is a result of your bad decisions, you'll be okay as an investor." I'm happy to conclude with our Synacor investment.

Finally, Armstrong Flooring is now a core position in nearly 8% of our portfolio as of the close of business May 10. Our average price per share is slightly over $4 a share. Given our 2 public letters we have written to the pathetic Board of Enzo Biochem, everyone should understand it is amongst our smallest positions that we have and having bought the stock around $3, we sold a significant portion of what we own close to $5. We will revisit our ownership stake the closer we get to next proxy season, where we will have the ability to make a change in the Board construct of the company. Until then, there's really nothing for us to do other than call the Board out for their gross negligence in overseeing the company.

On Slide 7, we show that we have achieved a 382% return, including our SMA in our public stock picking or nearly a 45% gross IRR, not all that bad. You can review the table and see our performance for each and every security we have owned, mostly winners and a few losers along the way. That makes for good returns.

On Slide 13, we show our performance in the table that illustrates 2 things. Number one, our batting average of winners to losers is really good. I've always said that if you're right 2/3s of the time, you will have investment excellence as long as the one time you're wrong doesn't outweigh the 2 times that you're right. We have been right in our portfolio over 80% of the time, and we're proud of that. The second is what we call slugging percentage. Meaning on the names we've gotten right, we've hit more triples and home runs. On the names we've lost on, the losses are singles. This equated for us having both a high batting average and a high slugging percentage both of which help show why we've outperformed so significantly.

On Slide 14, you'll see a full analysis of our returns versus the indices for all the time frames that matter. We said when we started, we're playing the long game, and we're fast-approaching half decade performance numbers for us. Our absolute performance is really good, and we have really good outside returns versus the benchmark, 382% for 180 versus 80% for the Russell MicroCap index.

On Slide 15, we included this chart, just in case you're interested in seeing where we got our performance. As you can see here, this quarter, 1/3 of our performance came from the information technology sector. This level of outperformance from our high-tech holdings has been an ongoing pattern for us. We've always felt we have a competitive strength in picking tech stocks due to our in-depth knowledge of the space. We've also said historically, we think we'll add value in both the industrial and material space due to our 30-year history in investing in cyclicals. Industrials this quarter provided 25% of our overall 28% return.

On the next slide, some would argue we must be taking massive risk in our investments given our longer-term outsized returns. The answer to that is no. I hope everyone gets a chance to read our shareholder letter that we filed with the SEC and posted on our website, where I go through an elaborate discussion of how we manage risk and think about risk. The long and the short of it is, we manage risk not by asking what the beta is on an individual security. Risk to us is the aftermath of our process. A process that: one, pays close attention to the price we pay for the business we buy; two, has a complete evaluation of a company's financial health through an examination of a company's income statement, balance sheet and cash flow statements; three, a necessity to marry microanalysis of a specific company with a view of the world we live in and the competitive landscape for the company we are looking at; and four, and of course, at the end of the day, using the activist approach that is core to our philosophy to help drive returns. While some may define risk as beta, if that's the case, we have below-average risk relative to the indices that we compete against, but that's not how we think about risk.

On Slide 17, this is the residue with the success we've had in our public market strategy. We have completely remade the company, as you can see from this pie chart, and no quarter better exemplifies just how little the private portfolio drives our returns than this quarter, where we lost $1.5 million in our private valuations and gained $16.5 million on our public companies.

Daniel?

Thank you, Kevin. Please turn to Slide 18. As Kevin mentioned earlier in the call, we began building our position in Armstrong Flooring in Q2 2020, but it became a core position in Q1 2021. AFI designs and manufacturers and sells resilient wood flooring -- resilient and wood flooring for residential, commercial and institutional construction sectors. New CEO, Michel Vermette, joined the company in September 2019 after serving as a long-time executive at Mohawk Industries. New CFO, Amy Trojanowski, joined in October 2020 from Chemours Company. Together, Michel and Amy have led efforts at AFI to streamline operations and reduce costs with an eye towards improving EBITDA, gross margins and cash flow.

Our investment thesis for AFI was based primarily on 2 factors. First, the company announced in late 2020 that it was looking to sell its South Gate California facility. Our due diligence led us to believe that the facility could be worth $50 million to $80 million. The company completed the sale of the South Gate facility for $77 million in Q1 of 2021, which dramatically improved the company's balance sheet and removed liquidity concerns. The second part of our investment thesis was that with the liquidity issues resolved, Michel, Amy and the management team would be able to focus on fixing the business. We believe that process is well underway, and AFI is well positioned as a recovery play.

Please turn to Slide 19. This slide lists our 10 largest legacy privately held holdings by value as of the end of the quarter. For the quarter, our private portfolio, as Kevin mentioned, decreased in value by $1.5 million or $0.14 a share. The largest decreases in value were due to the potential future milestone payments from the sale of BioVex Group to Amgen due to a material reduction in the probabilities of receiving these payments resulting from the termination of a Phase III clinical trial in Q1 2021 for futility. Additionally, ABS materials declined in value as the business is being shut down and liquidated for the benefit of creditors.

Increasing in value were Black Silicon Holdings, AgBiome and Nanosys, which helped offset some of the down performance described above. In almost every shareholder letter, we state that while we desire to shepherd our existing private portfolio to exits or explore opportunities to sell our positions in those companies, we have the luxury of being able to sell our private holdings when we believe it makes sense for shareholders rather than being forced to do so to survive. Because you haven't seen any monetization given -- in a given quarter doesn't mean that we have not been active in attempting to monetize those holdings. The remaking of our business and the significant cash and securities of public portfolio companies that we have built means we don't have to sell anything unless we feel that it is the right thing to do for shareholders. We can tell you that we've rejected numerous bids for the private portfolio from sharks, thinking they could come in and steal it from us. That will never happen under our watch. I can't emphasize enough the difference between having to sell and wanting to sell.

Given our success in remaking our balance sheet over the last 4 years, we do not have to sell any of our holdings, and we won't unless the price makes sense. Since the start of turn, our private portfolio has reduced NAV by $0.72 a share, while public investing strategy has increased NAV by $6.01 per share. As of the end of 2016, we had 32 holdings. Today, we have 22, but really 10 that matter. Those 10 private holdings shown in this slide comprise approximately 93% of our private holdings by value.

Please turn to Slide 20. As we have noted in previous letters, we've dramatically reduced our cost structure under our new strategy. In 2016, before our funds change, an investment focus and management team, our operating expenses, excluding stock-based compensation and interest on outstanding debt, averaged approximately $1.3 million per quarter. For Q1 2021, our operating expenses equaled approximately $919,000. Given our corporate and individual performance through Q1 of 2021, the compensation committee approved approximately $500,000 of an accrual for potential bonus pool at year-end. It should be noted that the pool amount will fluctuate throughout the year based on Compensation Committee's assessment of corporate and individual performance over the rest of 2021.

Please turn to Slide 21 and 22. We continue to anticipate that reductions in our operating expenses as a percentage of net assets will be based on growth in our net assets rather than further reductions in our expenses. The positive events in Q1 2021 and year-to-date Q2 2021 discussed previously, if they hold throughout the quarter and year, will help reduce these expense ratios further. We remain committed to treating every dollar of shareholder money with the utmost care and consideration. It is much easier for us to grow NAV when the expense hurdle rate is where it is today.

Please turn to Slide 23. This slide shows the votes for the proposals put forth to shareholders at our 2021 annual meeting that we held in April. The Board and management appreciate the overwhelming support of our shareholders have shown us throughout -- through their votes this year. Everyone at TURN is laser-focused on creating value for shareholders.

I will now turn the call back over to Kevin.

Thanks, Daniel. Finally for me, our normal sum of the parts chart. If you give us full credit for our cash and liquid securities, and I don't think there's any reason why you shouldn't, given our performance and our ability to generate returns. You'll see on this chart that the market is effectively paying 1.7% for our private portfolio. The private portfolio that we think, hopefully, by the end of this year will have a couple of monetizations. So all in all, while the stock price has done well, it's actually cheaper today than it was when we first started. And more importantly than that, we're going to continue to drive shareholder value by focusing on what we can focus on, which is providing investment excellence or at least attempting to provide investment excellence in our Graham and Dodd philosophy in the microcap world with an activist style.

With that, I think, Daniel, we should open it up for questions and look forward to hearing from you.

(Operator Instructions) Our first question from [Benin Brosco].

Kevin, you mentioned on a few quarterly letters that TURN could receive about $87 million in future milestone payments from the direct ownership in Petra. Could you talk more about what needs to happen for those payments to be received? And what you think is most likely outcome on those payments?

So Daniel, I'll take a quick crack and then you finish the rest, if you don't mind. We should have a returned escrow to us less than $1 million more than 0 this month. That was from the time of the deal. I would say that as it relates to milestone payments, what we did was basically NPV and discount, the potential value for all those payments, and that's why you see the value -- that you see for it on our balance sheet. I would say the first payment is the most likely, which could come within a year or 2. And I think that payment in and of itself is only reliant on the drug entering Phase I testing. I don't think the company would have been sold where the buyer wouldn't have bought the company if they weren't anticipating having basically a Phase I trial. And that number in and of itself -- Daniel, I don't have it in front of me, but I think that number is actually greater -- that number itself is greater if we got full pay for it than what it's listed for us on our balance sheet. The rest is based on revenues, future revenues, and it's a bit pie in the sky and it's a bit early to be able to assess.

Daniel, I don't know what else you wanted to add.

Yes. No, Kevin summarized it well. We're not really -- we can't go into specifics about the actual milestone, what triggers those milestones. And so it's really, as Kevin said, we do the probability weighting analysis. I think that when you look at these type of deals and the opportunity to generate cash flows from them, there are a few that we believe could be in the near term. I would say the majority of the full amount would be over a pretty significant period of time, but there is a material amount that could be in the near term.

Yes. In my opinion, just my opinion, it may be uneducated, and it doesn't have perfect view, but one of the biggest dollar amounts of those revenues comes early and, in my mind, comes the easiest. And we'll see how it plays out. Again, when you're dealing with milestone payments that are multi-years out, I mean, really multi-years out, it's really hard for us to ascertain, especially when the drug hasn't even hit Phase I trial yet. Does that help?

Thank you. Whitney, please go ahead.

I've got a couple of questions here. The first one is, when I run out to the close of business yesterday, the portfolio that existed on March 31, I have a delta increase in NAV on the public side of just shy of $2 million. Does that sound right to you guys? Or do you prefer to not comment? And I appreciate if you don't.

No, no. So are you saying if you took our portfolio March 31 and ran it out to Monday or Tuesday?

Yes. Yes.

You're in the ballpark. You're slightly on the low side actually.

All right. Yes. That's what I thought because there would be changes, of course. My second question has to do with materials and energy. One of the slides that you presented showed materials maybe at 3% or something, energy at 0%. And of course, it's a really strong area in the markets right now with the bubble and all of the macroeconomic effects, including supply constraints among many materials industries, and all the spending out of the government, not just our government, but governments around the world. Is there any contemplation directed towards adding to those areas? Or is that an area that you guys just don't focus on?

No. It's not that we don't focus on it. Everything is opportunity cost, I guess. And we found what we thought are -- like the Armstrong Flooring, for example, we think it was incredible value at $4 because we think it's literally going into the mid-teens. I don't think that's a 100% return potential that's like -- more like 300%, 400% return potential. And we've been interested. We bought Verso, it's paper and materials company. We bought Babcock & Wilcox. Obviously, in an economy that's going to grow out of the pandemic, you want to have as much cyclicality as you can. Alta Group is a perfect example of it. It's a construction company, a dealership business for construction equipment. So yes, I mean, energy fits that as well. The only issue with energy for us -- and there's no energy in us owning it. We've owned a couple of names here and there since we've started. The only name -- the only issue is many of them are levered, they have downside risk, they're dependent upon the price of oil, and you got to get a lot of things right when you're picking energy stocks. And you know that because you live in Houston and you've seen good oil markets and bad ones, and you've seen great companies and lousy ones. So it's not that we're against the group, Whitney. It's just been more of -- we found value in other areas, but we're continuing to dig in on the group for sure. And if we can find a name or 2 that we like, we'll put it in the portfolio.

We're certainly not -- I mean I've been investing in energy names for 30 years. I mean, I owned Exxon before it was ExxonMobil. That's how old I am. So in Halliburton and all the rest, and we lived through the BP disaster and there have been a lot of oil markets over the years, both up and down, but it's like any other cyclical. You buy them when everyone thinks they're value stocks, and you sell them when everyone thinks they're growth stocks. If you time them right, you can make a fortune, as you know. So we're digging in, and we're still looking. If you have a few names, send them our way.

All right, please go ahead with your question.

And I'll sneak in a great quarter here. And I'm glad you guys removed all the mentions of the private stuff on the site. That's not who you guys are, and that's not the narrative you guys want people to build there. And Kevin, I know there's a long-winded question. I know it must bother you, quarter-after-quarter, you guys proving your state and showing your performance. And Slide 12 is really you guys painting your version of the Sistine Chapel. I was exchanging notes with a friend yesterday, saying you guys should trade at a premium to NAV because of this nice track record, right, on the public equity side. And I think you guys have done a fantastic job growing, educating your investor base.

My question is, what's your vision on how TURN looks in 5 years? You're gaining scale. How big can you get? I'm a long-term investor here because I believe in you guys. Forget the NAV discount, that's just the stock price right now. You run a growing asset management business. Now I want to know your thoughts on the operations. What does the business look long term? You need more head count with asset they'll come up you're managing right now? And really, anything else you want to add, just curious to hear.

Well, those are awfully nice words. Any time you mentioned the Sistine Chapel in a sentence, it's a high complement, and we thank you very much for that.

So let me start from the beginning. I was retired before I took this job. I was running my own friends and family fund and wanted to do some board work and was nominated to the predecessor company called Harris & Harris, as you know. When I got there, and Daniel and I spent some time together, I said to Daniel, I'm like, this is going to 0. Like what is -- what's going on here? Like I couldn't understand the math of having declining investments with significant costs. Daniel's like, I know we need to fix it, and that's why we wanted you to come on the Board to help us fix it. So Daniel and I developed this strategy, and it was basically doing what I was doing in my retirement, having worked at BlackRock for 25 years. And the Board asked us to run it, and we got out of Manhattan, and we moved to Montclair, New Jersey, and we cut our headcount by 70%, and we cut our expenses in half overnight. And everything we do is going to be for shareholders. And every investment we can make is going to be in the public markets.

But at the time, I didn't know whether or not I was doing this as a turnaround, I didn't know if we would be successful. I knew what I wanted to do, but I didn't know what it would look like 4 or 5 years from the time we started. Well, we're at 4 or 5 years. And to your point, we've actually built scale. We've been able to generate a $40 million pension account from a public company based on our performance, and we turned about $12 million of cash and liquid securities, which is what we had sort of at the end of '16 -- or middle of '16 into close to $80 million today. And I humbly suggest that it's a lot harder to turn $12 million into $80 million then it is going to be turning $80 million into $200 million. And $200 million is nearly $20 a share in cash and liquid securities, and that essentially means our share price should be about $20. And so we turned the business around, a failing business, a business that was on its way to 0. And actually, I think now, I'm actually more excited, I wrote about it in our last shareholder letter. I'm more excited about being here today than it was when I started because I think we have a real company. And I didn't know if we were going to be able to have a real company few years ago. I just thought we were trying to survive into something, and I didn't know what that was going to be.

And so 5 years from now, I fully expect our share price to be close to $20 because I expect our cash and liquid securities to be $200 million. And like I said, that's going to -- that's not an easy lay-up by any stretch of the imagination. You have to have a decent backdrop to the markets. You have to have investment excellence. Who knows if we can replicate our last 4 years of performance. But as I said, having scale makes it easier getting to $200 million than it was getting to where we are from $12 million. And so with that, we'll continue to seek outside capital for those investors that actually want to partner with us, and I don't know why people wouldn't want to partner with us given the performance we've been able to generate. There has to be at economics that make sense for both us and our -- and the client, we get that.

We're not going to just take on money for the sake of taking it on at 1 in 10. We talk about that in our shareholder letter towards the end, if you want to read that. But when we get a great client that loves what -- we love what we do. I love our style, I love our activist approach. I wake up every day excited to try and create value for people. I'm a stock jockey. It's all I've ever been. This is the only thing I've ever wanted to do. And if we can find people that want to invest with us, we're more than happy to take them along for the ride, and we would love to manage other people's money, but we're only going to do it if they understand what we do and understand the time frames associated with and making an investment in a small name where you need sort of 2 or 3 years for the investment to play out. And of course, the economics have to make sense.

So 5 years from now, I -- in my mind, I'm trying to get to a $20 stock that's based on $200 million or so of assets. Hopefully, portfolio will no longer be a thing at all. We've got it down to 33%. In 5 years, I hope it's 0, and I hope it's 0 not because it's going to zero based on valuations. I don't think that's going to be the case, but I hope it's 0 because of monetization events and the rest. And then, of course, we'll take on added people only if we find investment excellence in them, anybody that can come in the door here and help us make money, that's the only thing I care about. I don't care if you live in California, Florida, New York. I don't care where you are. I don't care how often I see you. If you can help us make money, if you can help us pick stocks and create alpha, you can get paid at 180. And so I think over the next 5 years, we'll probably have a couple of more analytical people in here as well. Does that help?

Thank you. I'm seeing no further questions in the queue.

Well, thank you, everyone, for taking the time to join us today on our Q1 call. We look forward to reporting our Q2 call sometime in August. Until then, happy investing, and I hope everyone stays safe and healthy. And let's hope this pandemic continues to end the way it feels like it's been ending in the last couple of months. We'll speak to you soon. Take care.

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