Stealing from Greenblatt - Cuckoo Holdings

Cuckoo Holdings (bought at March 19th)

Spinoff opportunities are intriguing. “Stocks of spin off companies outperformed industry peers by 10 percent per year in their first three- years of independence”, according to You Can Be a Stock Market Genius. After then, there are on-going discourse whether spin off investments are lucrative enough to beat market average or not.

Beside the overall quantitative average result, I think Greenblatt’s logics on his spin off investment decision are worth taking notes. Following his examples and logics, I tried to imitate Greenblatt’s investment decision on Korean stock market.

I. Spinning off Holdings Company in Korea

For non-Korean readers, I believe basic information needs to be given out for you. Just like the company’s name might sound like, the company made strange decision.

In Korea, in the year 2017 alone, more than 11 companies have decided to spin off. Among these, the most common practice of spinning off the company was to divide company into 1) holdings company and 2) industrial company. It was 2007 when the legislative restrictions on holdings companies were alleviated. But I do not know why the year 2017 was particularly the case for spinning off companies into holdings and industrial companies.

Holdings company is paper company established in order to hierarchically own(in good words, in order to transparently own) stakes of other subsidiaries. Some South Korean companies have complicated ownership relations in between companies. Fearful thing is that, lack of clarification on how the stakes were distributed might make cluster of companies’ ownership to be vulnerable to the hostile M&A. For example, SK group almost got swallowed up as whole in 2003. Back then, SK group was worth of 20 billion dollars, yet the ownership got threatened by the fund worth of 130 million dollars. I personally don’t understand how this works, but what I know for sure is that the owners of Sunkyung also had no idea what was going on.

Another example! This diagram shows which company owns which. You might be lost since it’s written in Korean. But I am no different from you. I can’t understand what is going on neither! If this phenomenon persists, the company might fall into the trap of chain of debt where nobody knows who are responsible to pay back the debt. Even more, if one company defaults, other company might topple down. Think of domino effect in extremely complicated derivatives, where default of single equity threatens multiple funds which are tied on to the equity.

Therefore, the purpose of spin off trend in 2017 was obvious. Companies didn’t want to get into trouble in terms of ownership and debt responsibility, so they straightened things out by establishing holdings company.

But among these companies who have become holdings company, Cuckoo Holdings was different from the others.

II. Spin-off and Split-off involved in Cuckoo Holdings

In 2017, companies simply have broken companies into two. For example, AP System have separated company into APS Holdings and AP System.

But in case of Cuckoo Holdings, they have spun off rental sector open for public, while keeping 100% of share for rice cooker sectors.

Wait, rice cooker?

Yes, rice cooker.

Did you really put your money in it?

Definitely.

1. Cuckoo Holdings satisfies every criterion of Graham made for passive investors.

(1) The company should be big in terms of size: $100 million of annual sales for an industrial company and, not less than $50 million of total assets for a public utility. (Well, this was written long time ago, like 1973. Based on CPI/Inflation, it is more than 50 million dollars of sales and 25 million dollars of assets)

-> It was surprise for me to find out rice cooking device sector alone was selling more than 45 million dollars of sales annually since 2014.

(2) Current Ratio should be over than 2.0

-> Cuckoo Holdings barely passed the criteria with current ratio as 2.0

(3) P/E*PBR should be less than 22.5, where P/E is lower than 15.

-> I bought when Cuckoo Holdings is P/E 9.5, PBR 2.0.

(4) Company should have been providing dividends constantly, without disruption.

-> Ever since 2014, they have been paying out dividends.

(5) 10 years earnings growth, where first three years’ earnings are compared with last three years’ earnings, should be over than 30%.

-> Yes, It actually tripled for ten years.

So far, this post was about i) Korean companies spinning off companies into Holdings sector and industrial sector, ii) How Cuckoo Holdings satisfied Graham’s passive investor’s criteria. The reason why Cuckoo Holdings investment decision is ‘stealing Greenblatt idea will be continued on the next post.