Greystone Capital Management, an investment management firm, published its second quarter 2021 investor letter – a copy of which can be downloaded here. A quarterly median account return of +3.1% net of fees was recorded by the fund for the second quarter of 2021, compared unfavorably to the S&P 500 and Russell 2000 returns of +8.4% and +4.2% for the quarter, and favorably to year to date returns of +15.1% and +17.4% . You can view the fund’s top 5 holdings to have an idea about their top bets for 2021.
In the Q2 2021 investor letter of Greystone Capital Management, the fund mentioned At Home Group Inc. (NYSE: HOME), and discussed its stance on the firm. At Home Group Inc. is a Plano, Texas-based home decor products, that currently has a $2.4 billion market capitalization. The stock closed at $36.99 per share on July 22, 2021.
Here is what Greystone Capital Management has to say about At Home Group Inc. in its Q2 2021 investor letter:
“During the end of Q1 and through Q2, I entered into a core position in At Home Group, a leading home décor retailer with 225 stores across the US. At Home sports a differentiated low-cost model that produces tremendous store-level unit economics allowing them to earn high returns on capital and better margins compared to peers. The high-level thesis behind the investment consists of the following: as HOME scales and continues to build out stores, unit economics would improve as a result of continued cost advantages, resulting in further margin improvements and growth in operating income.
At Home has an incredibly effective real estate strategy consisting of cost effectively entering defunct ‘big box’ stores in favorable markets and growing brand awareness by conducting grand opening events, offering coupons and incentivizing customers to join their loyalty program. That last point is an important one as HOME nearly 4x’d their marketing spend within the past five years, helping to drive traffic and engagement, including the above-mentioned loyalty program which now has over 9 million members.
Business improvements and the growth in brand awareness for HOME coincide with a continued difficult operating environment in retail which set the stage for the elimination of plenty of HOME’s competition, including Pier 1, J.C. Penney and Tuesday Morning, all of whom recently filed for bankruptcy with plans to close a combined 1,000+ stores. As the market demonstrates that ‘value’ is winning in retail, the above dynamics should lead to huge market share gains for HOME as well as potential explosive top line growth. This was illustrated by the company’s most recent quarterly results, where revenues and comparable store sales both increased nearly 200%, while SG&A margins decreased by 15%!
HOME was able to navigate the pandemic brilliantly (albeit with some serious damage to the share price) and emerged stronger than ever with an improved balance sheet and streamlined cost structure set to benefit from any and all stay at home trends as well as the current housing boom. Management set forth a target of 10% store growth per year, aiming to attack their estimated 600 store capacity across the US within the next decade. HOME was well on its way to achieving these goals, and during the time we owned our shares, HOME reported two of the best quarters in the company’s history. While the market appeared to be overly focused on things like short-term margin guidance (following the Q4 / FY21 results, the company lost 16% of its market value in one day), I believed the valuation to be far off from what the normalized operating environment could look like, providing us with the opportunity to purchase shares at very favorable prices.
At a conservative multiple of 12x my earnings estimates a few years out (assuming I was directionally correct), shares would be worth over 2x the price we paid, while mature peers in the retail / home décor space with lower growth rates and thinner margins are valued north of 20x earnings. My original research can be found here.
At Home Group Update
In early May, At Home entered into an agreement to be acquired by private equity firm Hellman & Friedman for $36.00/share in cash (since revised to a tender offer of $37.00/share). Shares jumped around 16% on the day of the news, which some may have viewed as a positive. It wasn’t.
In my view, the deal price materially undervalues the business even in the most conservative scenario and represents a private equity firm swooping in out of left field to rob us of what I believe would have been material positive returns moving forward. When I originally came across this business, it quickly became clear that they had a differentiated retail model with low costs that had just survived a global pandemic, and as mentioned above had a strategic plan in place that if executed, materially undervalued the business at its current price. I estimated shares to be worth anywhere from $50-75/share within the next few years on the back of continued execution and new store openings.
What I didn’t factor into my valuation as a source of additional significant upside was the current housing boom taking place across the country due to a combination of low available supply and heavy demand which may persist for some time. As trends continue to shift including families migrating out of urban areas and as millennials begin to purchase their first homes, it wouldn’t be difficult to imagine a scenario where demand for At Home’s products – low cost home decor – would skyrocket as they build new locations and increase their brand awareness. With a tailwind like that, and if management’s strategic goals were to be taken seriously, we could have potentially been looking at a business worth around $100/share.
The company’s largest shareholder CAS Investment Partners voiced their displeasure with the deal and has been active in rallying shareholders to vote against the tender. In addition, an activist investment firm called Honest Capital (imagine that!) wrote a letter to At Home’s Board of Directors outlining their displeasure with the transaction and inadequate valuation, among other things. Their letter can be found here. I agree with all of the points made in each letter and share their views regarding the final deal price. My tender would have been ‘no’ on behalf of all of us. Maybe there will come a time when Greystone Capital will be big enough to oppose a transaction like this where I feel that both my clients and the true owners of the business (the shareholders) have been unfairly compensated. But unfortunately that time is not today.
As of now, HOME has completed their ‘go-shop’ period where they were able to accept additional higher offers should they materialize. No such offer was made. At this stage, I don’t see a path to the deal being rejected and following another large shareholder (North Peak Capital at 6%) reducing their stake to zero, I sold our position in order to deploy the cash into more favorable investment opportunities. Positive returns in a short period of time aren’t the worst case scenario for an investment outcome, but since I run a concentrated portfolio with a limited number of investments, when I find what I believe to be a good one, I can assure you we aren’t playing for 20-30%.
Charlie Munger is famous in investing circles for touting the power of incentives and saying if you show him the incentives, he will show you the outcome. In a recent podcast interview, comedian Dave Chappelle expanded on this concept by saying, ‘by paying attention to how someone is incentivized, you can usually figure out what that person wants, which is the easy part. How they get there is where the surprises happen.’ Unfortunately, in the case of HOME, there was a large change of control premium to be paid to certain members of the management team following exactly that, a change of control, which would include a sale scenario like the one taking place. This one incentive – which I did not view to be a material risk to our investment – is what likely drove CEO Lee Bird to accept such a low offer for the business and is where our surprise happened. If there is a better example of how shareholder/management alignment is of utmost importance in a concentrated portfolio, I can’t think of one. During my research, I didn’t deem it to be as important as I should have. I was wrong. While I don’t believe the decision to invest was a bad one, I’m lucky that the misalignment didn’t backfire.”
RomanR/Shutterstock.com
Based on our calculations, At Home Group Inc. (NYSE: HOME) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. HOME was in 30 hedge fund portfolios at the end of the first quarter of 2021, compared to 31 funds in the fourth quarter of 2020.
Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.
At Insider Monkey, we scour multiple sources to uncover the next great investment idea. For example, pet market is growing at a 7% annual rate and is expected to reach $110 billion in 2021. So, we are checking out the 5 best stocks for animal lovers. We go through lists like the 10 best battery stocks to pick the next Tesla that will deliver a 10x return. Even though we recommend positions in only a tiny fraction of the companies we analyze, we check out as many stocks as we can. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. You can subscribe to our free daily newsletter on our homepage.
Disclosure: None. This article is originally published at Insider Monkey.
