SCC Portfolio Update (YTD Thru 9-30-2022)
Seven Corners Capital's equity portfolio positioning as of September 30, 2022 was as follows, with the top-6 positions constituting 65% of the aggregate portfolio:
The Seven Corners Capital (or SCC) portfolio finished Q3 2022 down 7.0% overall on a YTD basis. This represented outperformance approximately 1,670 bps versus the S&P 500 (down 23.7% YTD) and 1,780 bps versus the Russell 2000 (down 24.8% YTD), in each case including dividends received. (Note that there is fairly minimal overlap with the Nasdaq.) On a "pandemic era" stacked basis (i.e., from 1/1/2020 to 9/30/2022), the SCC portfolio is up ~50% overall (representing a 16% CAGR), despite being weighed down by a significant cash position throughout. This represents significant outperformance during the same timeframe of the S&P 500 (up just ~15% overall) and the Russell 2000 (up ~3% overall), in each case including dividends received. As a reminder, SCC's overriding investment goal is the pursuit of multi-baggers, mainly in the microcap and small-cap space. The prime method employed for achieving this (after, of course, intelligent stock-picking) is by "letting our winners run". In other words, one wants to avoid the key mistake that investors often make of cutting the flowers in the portfolio & watering the weeds. During the 1st three quarters of 2022, SCC's oil & gas holdings SD & GULTU returned a positive result, while consumer-oriented holdings PSHZF & TPB dragged the overall return down; non-correlated binary CVR play MACK is basically flat on the year (see discussion of each below).
The following is an update regarding earnings and other news for SCC's top 6 equity positions (PSHZF, SD, GULTU, TPB, GNW & MACK) as of September 30, 2022:
PSHZF, led by billionaire hedge fund manager Bill Ackman, finished 3Q 2022 down 26% on the year, approximately in-line with the overall market. PSH's NAV, on the other hand, was down 20% through September 27, 2022, the last date for which NAV has been reported as of this writing. This performance is impressive considering Ackman & Team are following up three years of outsized NAV gains of +27%, +70% and +58% in 2019, 2020 & 2021, respectively (compare this to Cathy Wood's ARKK, which is down 61% so far in 2022). On a "pandemic era" stacked basis, PSHZF's NAV has increased 99%, a CAGR of 28%.
PSHZF continues to trade at a substantial discount to NAV of ~33%. Frankly, this fact has become a bit tiring to both Ackman and yours truly. Ackman indicated in his mid-year investor letter that the discount will probably not close unless & until PSH obtains a US-based listing, which could occur if PSH acquires or merges with a domestic operating company (currently PSH is blocked from an American listing due to PFIC rules): "As PSH grows in market capitalization and its ownership stakes in its portfolio companies increases, one can envision a world in which over time PSH becomes a controlling owner of one of more businesses that comprise the substantial majority of our assets and income. We expect to continually evaluate PSH and its operations, and consider whether in the future it may be able to operate not as an investment company in the U.S., but rather as an operating company that could be listed in the U.S."
Pershing Square Capital Management's 13-F holdings as of 9/30/2022 should be released on or about November 15th, so investors will be able to see then what changes to the PSHZF portfolio made in Q3. In addition, PSH continues to repurchase shares under its existing $200MM repo program (see PRs here). On the year thus far, PSH has repurchased approximately 4.6 million shares, or 2.3% of the outstanding amount at the beginning of 2022.
In addition, Ackman revised PSH's dividend policy in March 2022 to (1) increase it by 25% to $0.125/share per quarter (or $0.50/share annually) and (2) adjust the distribution in each succeeding year (i.e., 2023 and onwards) such that the quarterly dividend will equal 0.25% of the average PSH NAV for all trading days in December of the prior year (subject a floor of the current $0.125/quarter). In effect, this means that if PSH's NAV in December 2023 rebounds to an average of, say, $55/share (up ~22% from the Q3 2022 quarter end NAV of ~$45 [SCC estimate; actual numbers to come on out Wednesday evening, October 5th]), then the aggregate PSHZF dividend for 2024 should equal $0.55/share, or $0.1375/share per quarter for that year.
An interesting recent podcast (from September 12th) discussing the PSHZF long thesis in depth can be found here.
One caveat on PSHZF. Due (apparently) to the 2021 SEC Rule that largely shut down trading in so-called "dark stocks" as of September 1st last year (see here for discussion), some brokers no longer allow US customers to buy shares of PSHZF (you can only close out existing positions). For example, TD Ameritrade claims its clients can't buy PSHZF because it is a "foreign ETF" (which is a strange characterization of the company, which is actually a Guersey-based closed-end fund). So adding to (or initiating) a position in PSZHF could be problematic, at least for awhile.
Sandridge is SCC's largest energy holding, based on the thesis that the secular decline in O&G drilling, combined with the revival of inflation generally, will support carbon-based energy prices going forward. With legendary investor Carl Icahn (still going strong, despite turning 86 early in 2022) as its largest shareholder (he owns 13%) and Icahn's former lieutenant Jonathan Frates as its board chairman, Sandridge did an admirable job steering the company away from the abyss of bankruptcy in April 2020 (when, recall, the price of oil dropped to NEGATIVE $40/bbl). The company has cut unnecessary expenses to the bone ("high-grading" SD's well inventory in fact, not just as a management talking point), thereby maximizing free cash flow conversion. As of 6/30/2022, SD actually had a net cash position of $205 million and currently sports an enterprise value of approximately $390MM (counting long-term asset-retirement obligations as debt), versus adjusted operating cash flow in Q2 2022 of $53MM, meaning the company is trading at an EV of just 4 quarters' cash flow [see Q2 Earnings PR here]. SD has also done a great job recompleting and reactivating dormant wells, with Q2 2022 aggregate production declining just 6% yoy & NG production down just over 2% yoy with fairly limited capex spend. Since June 2022, yours truly has been strongly urging SD management (both in public & behind the scenes) to institute an active hedging program to secure the stability of future O&G cash flows.
SD achieved a robust ROIC of 39% in the TTM period ending June 30, 2022:
Gulf Coast Ultra Deep Royalty Trust (GULTU), 10% position
GULTU represents the highest-return position in the SCC portfolio thus far in 2022, with a 194% gain through the first 3 quarters of the year, thanks to strong NG prices. The trust is basically a 3.6% overriding royalty interest on production from a single 29,390 ft deep natural gas well located in St Martin parish in Louisiana, which was completed by Freeport McMoran in early 2015. The SCC long thesis is similar to that for SD above (Biden admin & the industry restricting excessive drilling + overall inflation). The trust, which expires in mid-2033, also has a wildcard option, namely the possibility that the current operator (Magnolia Oil & Gas, ticker MGY) could drill one or more additional wells on the acreage subject to the overriding royalty interest.
TPB, a leading U.S. provider of Other Tobacco Products and adult consumer alternatives, has declined 44% in 2022 due to investor fears regarding consumer spending, as well as continued issues with the company's vaping segment.
In light of TPB's poor recent performance (at least, in the stock), the company could become the target of one or more activist investors, with the thesis possibly involving the separation of TPB's legacy cashflowing business (i.e., its Stoker's MST / chewing tobacco and Zig Zag rolling paper businesses) from its perpetually struggling "New Gen" vaping business.
TPB achieved a ROIC of 15% in the TTM period ending June 30, 2022, marginally exceeding its cost of capital:
GNW, a new SCC holding in 2022, has declined 12% on the year (outperforming the overall market).
GNW trades at a discount to the sum of its parts, principally its 81.6% ownership stake in Enact Holdings (ticker ACT) , which is now valued at $2.95 billion (or 68% greater than GNW's $1.76 billion aggregate market cap). The SCC long thesis on GNW involves the eventual separation of GNW's ACT stake from GNW's generally unprofitable long-term care & life and annuity operations. The company also previously indicated that it will initiate a dividend in Q4 2022 and has been actively repurchasing its stock since Q2 of this year.
SCC's discussion of the corporate governance issues plaguing GNW can be found here.
MACK is a classic uncorrelated "discount to the sum-of-the-parts" play. It can be good to have one or more of these plays interspersed with one's general long holdings, since (theoretically, at least) investors should view them without regard to rises or falls in the overall market. With no debt, MACK has a cash runway which the company claims should last until 2027.
In early August, Ipsen announced that the Onivyde Phase 3 drug trial for the treatment of small cell lung cancer (or SCLC) failed to meet its primary endpoint, putting MACK's $150MM CVR for this indication in seriously jeopardy (MACK's stock declined from the ~$6/share level to its current sub-$4/share level following the news). Please see the company PR regarding this development here. Nevertheless, MACK still could still receive the larger & completely separate $225MM CVR payment for Onivyde for first-line treatment of pancreatic cancer (the results of this Phase 3 trial should be released sometime in Q4 2022). Thus, whether MACK heads into the double-digits or the $1s will likely be determined in the next 90 days. With a $50MM market cap right now, the market appears to be pricing in just a ~20% likelihood that MACK will ultimately receive the $225MM pancreatic cancer CVR payment (investors should note that MACK's management previously committing to distributing all CVR payments to its shareholders via one or more dividends).
SCC's original long thesis for MACK can be found here.
DISCLOSURE: Long all of the above.