SMIT - Schmitt Industries

[OracleofCarolina]

 

 

This is an interesting company to watch, less than $15 million market cap, with a current tender offer to buy shareholders out as they are going to delist to save costs.

 

The VIC write up for those interested https://www.valueinvestorsclub.com/idea/Schmitt_Industries/4663575880

 

Recent news is the attempt to purchase assets of a bankrupt ice cream company in Brooklyn for $1 million

 

https://seekingalpha.com/article/4353577-inside-scoop-on-ample-hills-schmitt-industries-got-great-deal

 

[LC]

That’s funny, Ample Hills provided ice cream for my wedding years ago. That place is delicious!

[alpha231616967560]

Yep, I'm long here.

 

I am impressed with Mike Zapata (the CEO o Schmitt) - Patrick O'Shaughnessy interviewed him a couple of years ago: http://investorfieldguide.com/zapata/

 

 

[bizaro86]

How do folks feel about the 2/20 compensation?

[BG2008]

Maybe my comment will be viewed as being vulgar, but the track record of HF managers that becomes CEOs isn't that great.  Although, none of them are Ex navy seals

 

We know a couple from this forum plus Pabrai and his re-insurance,

 

So, I will wait and see.  I have also grown more skeptical of $15mm MC companies.  It's hard to make it work with that little scale.

[Orchard]

I spent a grand total of 20 seconds on this. Here's why I won't go beyond this. You have to judge a CEO by his actions. If he's focused on the wrong aspects I won't invest.

 

- He becomes CEO of a loss-making business at the end of 2018

- Sells one business division

- At this point the business is generating bigger losses

- He buys another loss-making business

 

Conclusion: 1) He refuses to spend the time to fix the loss-making business.

2) He's willing to buy a loss-making business despite not having a background of fixing them.

3) Corporate actions were almost immediate after him becoming CEO. Are corporate actions more important than execution?

 

In my opinion, businesses of this size are execution driven. If just one person in that organization sets the tone and shows the way by his actions a lot of things will improve. This guy is sitting in his office working on corporate transactions and letting someone else handle the day to day. Good luck.

 

Ample Hills is a tough business. Paying year-round retail leases in NYC with a seasonal business is a challenging proposition. If that's your circle of competence I'm sure you will make it work. If you spend all your available time on it I'm sure you will make it work. If you're running two other businesses and a hedge fund....

 

What else do you need to know?

[A Dhandho Investor]

I spent a grand total of 20 seconds on this. Here's why I won't go beyond this. You have to judge a CEO by his actions. If he's focused on the wrong aspects I won't invest.

 

- He becomes CEO of a loss-making business at the end of 2018

- Sells one business division

- At this point the business is generating bigger losses

- He buys another loss-making business

 

Conclusion: 1) He refuses to spend the time to fix the loss-making business.

2) He's willing to buy a loss-making business despite not having a background of fixing them.

3) Corporate actions were almost immediate after him becoming CEO. Are corporate actions more important than execution?

 

In my opinion, businesses of this size are execution driven. If just one person in that organization sets the tone and shows the way by his actions a lot of things will improve. This guy is sitting in his office working on corporate transactions and letting someone else handle the day to day. Good luck.

 

Ample Hills is a tough business. Paying year-round retail leases in NYC with a seasonal business is a challenging proposition. If that's your circle of competence I'm sure you will make it work. If you spend all your available time on it I'm sure you will make it work. If you're running two other businesses and a hedge fund....

 

What else do you need to know?

 

I’ll bite:

 

(1) It seems in your opinion he should have tried fixing the money losing business, but if that’s not within his circle of competence I think it was a wise decision to sell the business. In hindsight, he was quite lucky actually, because I don’t think he would get +$10m in the current market environment.

(2) It does not seem that you know Ample Hills history: they got into trouble because they built a $4m factory in NY city center, that ultimately cost closer to $7m and was underutilized. Their locations are actually quite profitable (1m revenues / location earning 15% EBITDA margins). In the bankruptcy auction he took over 7 out of the 10 leases (prob the factory and 6 locations), so this could become a nice deal, bottom buying this business due to COVID-19. It’s also possible the Ample Hills founders will stay on board and that he will help them out in terms of capital allocation.

(3) too early to tell that corporate actions are more important then execution. It’s possible he will sell the measurement business too to fully focus on Ample Hills.

[stahleyp]

I spoke with Zapata over the phone around a year ago to inquire about investing with him. Overall, he seemed hardworking and I liked him as a person. Being personable and nice doesn't always lead to superior investment performance though.

 

With that said, he's had 2 funds (that I'm aware of). He underperformed the market (from what I remember by a pretty decent amount) with the first and closed it down. He then started a more concentrated one because he felt his alpha was in a certain part of the strategy (activist ideas, I think) in his old fund. So he estimated that performance from his activist ideas (or whatever it was) would have beaten the market instead of his more diversified strategy.

 

On his tear sheet, the target was a 20% net return. I thought it was highly unlikely given the 2%/20% fee structure (heck 20% with no fees is super tough). That is something like 27+% before fee returns. He didn't even have a hurdle attached to it from what I remember.

 

I felt that even I liked him as a person, I didn't think he had a good grasp on how hard that it is to make 27% returns. I told him that was Buffettesque partnership performance (in a much less efficient market no less)...and he told me that people like Drunkenmiller (and I think he also mentioned Tepper) have had those types of returns.

 

I ended up not investing.

 

He did have support from Gabelli, Miller and Eveillard though so I might very well be wrong in my thoughts.

 

 

[Orchard]

(1) It seems in your opinion he should have tried fixing the money losing business, but if that’s not within his circle of competence I think it was a wise decision to sell the business. In hindsight, he was quite lucky actually, because I don’t think he would get +$10m in the current market environment.

It seemed like a great sale to me. I was referring to the other 2 remaining businesses losing money. Sorry that wasn't clear.

 

(2) It does not seem that you know Ample Hills history: they got into trouble because they built a $4m factory in NY city center, that ultimately cost closer to $7m and was underutilized. Their locations are actually quite profitable (1m revenues / location earning 15% EBITDA margins). In the bankruptcy auction he took over 7 out of the 10 leases (prob the factory and 6 locations), so this could become a nice deal, bottom buying this business due to COVID-19. It’s also possible the Ample Hills founders will stay on board and that he will help them out in terms of capital allocation.

My read of the bankruptcy docs is that they lose money excluding the factory. I also think that NYC has these somewhat hot desert concepts every summer, but they generally don't last. If they don't print money in the hot phase I don't see them surviving in their more mature phase.

 

I wouldn't call Red Hook "NY city center".

[A Dhandho Investor]

(1) It seems in your opinion he should have tried fixing the money losing business, but if that’s not within his circle of competence I think it was a wise decision to sell the business. In hindsight, he was quite lucky actually, because I don’t think he would get +$10m in the current market environment.

It seemed like a great sale to me. I was referring to the other 2 remaining businesses losing money. Sorry that wasn't clear.

 

(2) It does not seem that you know Ample Hills history: they got into trouble because they built a $4m factory in NY city center, that ultimately cost closer to $7m and was underutilized. Their locations are actually quite profitable (1m revenues / location earning 15% EBITDA margins). In the bankruptcy auction he took over 7 out of the 10 leases (prob the factory and 6 locations), so this could become a nice deal, bottom buying this business due to COVID-19. It’s also possible the Ample Hills founders will stay on board and that he will help them out in terms of capital allocation.

My read of the bankruptcy docs is that they lose money excluding the factory. I also think that NYC has these somewhat hot desert concepts every summer, but they generally don't last. If they don't print money in the hot phase I don't see them surviving in their more mature phase.

 

I wouldn't call Red Hook "NY city center".

 

(1) I'm under the impression that his intention was/is to sell the 2 remaining businesses too (like what was mentioned in the VIC thesis) in order to realize the value he saw in June 2018 (his sum-of-the-parts valuation). My reading is that underway he saw this nice deal to buy Ample hills out of bankruptcy, so that in the end he will sell the remaining business and then focus on building out Ample Hills. In any case, there is no use in having a $15m company that is active in totally unrelated operations in Oregon and NY.

 

(2) So you did spend more than 20 seconds on this idea if you read the bankruptcy documents  :D. The company actually has quite good reviews and I wouldn't call their product a hot desert concept. The SA article for instance refers to having Bob Iger as a fan and the fact that they get $80k in annual royalties from an Ample Hills creamery owned and operated by Disney in Orlando.

They lost $7m on $10m in sales in 2019. I think the million dollar question is how much of the $7m loss was due to Depreciation, Amortization and interest and potential write-downs and how much was due to the ongoing factory expenses. In the future, SMIT will only take over the ongoing factory expenses, so this will become a much leaner operation without the debt overhang. 

[A Dhandho Investor]

Yesterday was the deadline for any objections to the sale. There were 4 objections, of which 3 were related to the assumption of store leases (the 3 out of the 10 leases that $SMIT didn't want to assume) and the other one was a license agreement.

 

I think it's a good strategy for $SMIT to try to renegotiate these leases since they probable have quite a lot of leverage in the context of COVID-19.

 

All in all, I like the set-up in this name.

[OracleofCarolina]

the bankruptcy hearing was yesterday and looks like the deal is going through for Ample Hills Creamery. It was very strange that Rosecliff(an equity holder ) put in a bid for 30% higher after the deadline, their reasoning was they were not aware of the bidding process??

[porcupine]

Nice call Oracle.

[writser]

Yes, congrats to those involved. Have been following this story, even had a position once or twice but I missed the big run up. FWIW I think this is a type of situation where I often miss out: the transition from 'deep value' stock to 'story stock'. At some point I posted this somewhere else:

 

A former Navy SEAL turned hedge fund manager being the part-time CEO of a nanocap company specialized in high precision measurement products using shareholder money to buy a bankrupt ice-cream shop with a massive production facility during a global pandemic. What could go wrong?

 

Consider me skeptical about deals like that. Maybe it works out, maybe it doesn't. I'm not too eager to find out with my own money and I'd rather have the company sell their last division and wind things up. That's why I bought.

 

However, the part that I often miss / forget is that not necessarily everybody is as pessimistic as I am. And that maybe it's a smart idea to hold on for a little longer, because the stock can go up quickly when the last skeptic (like me) has sold. The free float wasn't too big, the story was kind of cool, the shareholder base transitions to a bunch of people who like selling ice cream (and won't sell for a while) and with some luck the stock manages to gain some traction. I think that's what's happening now: search twitter for $SMIT and you see all the meme's and optimists, interviews with Zapata, etc. The sentiment has shifted. I think I knew the story earlier than most, I just didn't like it. But maybe I should have held on a little longer because there was a possibility to profit from a change of sentiment before the new business actually starts to publish results.

 

This is not the first time I see this happening. The salty value investors sell out for a nice gain, then the optimistic story gains some traction and the stock spikes up as it transitions from an 'asset' play to a 'future earnings' play. Then again, maybe that's just me being salty in a speculative market.

[A Dhandho Investor]

I've also sold out of the stock the moment the founders decided to step down from the company and missed part of the recent run-up, but  I'd say that it is better to stay with your own process than to get involved in some kind of Keynesian beauty contest where your investment success depends on whether or not you're correct at judging the market's view on a certain stock and how it will change.

[OracleofCarolina]

for the curious,  the founders of Ample Hill have a podcast out called, "As the Ice Cream Churns" that goes through the history of Ample Hills and why they made certain business decisions.

[Spekulatius]

Maybe my comment will be viewed as being vulgar, but the track record of HF managers that becomes CEOs isn't that great.  Although, none of them are Ex navy seals

 

We know a couple from this forum plus Pabrai and his re-insurance,

 

So, I will wait and see.  I have also grown more skeptical of $15mm MC companies.  It's hard to make it work with that little scale.

 

Yes, scale is a big issue and cost could well eat this alive. $15M is too small, even if delisted. I also don’t think selling ice cream at the Ample Hill price points ($11.5/ pint) will do well out of very urban centers, so I think this is hard to scale. Our local ice cream guys sell for a little bit more than half.

[Saluki]

The podcast was hard to listen too.  I won't say they did everything wrong, but they made a lot of unforced errors.  Instead of buying the machines that fill pints like Ben + Jerry's, which everyone else uses and are easy to find and reliable, they had a special one custom made because they wanted square boxes to be unique. As you can guess, with a one-off piece of custom design, it never worked right. And after they built a gigantic factory and were near the point of bankruptcy, the new CEO/CFO figured out that the factory would only be profitable if they had twice as many stores.  Good god! I'm not in the food business, but even I've heard of a co-packer.  It's true what they say, a lot of businesses don't starve to death, they drown. 

[OracleofCarolina]

https://www.otcmarkets.com/filing/pdf?id=14556733&guid=Hd5qUFgG6XH4fth

 

Slides from yesterday's virtual annual meeting

[BG2008]

Maybe my comment will be viewed as being vulgar, but the track record of HF managers that becomes CEOs isn't that great.  Although, none of them are Ex navy seals

 

We know a couple from this forum plus Pabrai and his re-insurance,

 

So, I will wait and see.  I have also grown more skeptical of $15mm MC companies.  It's hard to make it work with that little scale.

 

By the way, despite my skepticism, I am rooting for all of them to succeed!!