Why Eddie Lampert Likes Acxiom

Conservative Fair Value: $20

Strategy: Sell July strike 10 puts for .55 and/or buy ACXM at $10.50/share or less

Result: approx 5% yield in 2 months via put strategy, potential 100%+ gain on shares within 5 years

Eddie Lampert likes Acxiom for the same reason he invests in any given company: cash flows. Eddie is a notorious cash flow feign/addict, so much so that some have argued that his micro managing in increasing cash flows at Sear's has crippled its long-term merchandising/marketing strategies. Nevertheless, I would say that Acxiom's main order of business is in the "information-technology-marketing-data-processing" field. A business whose most significant customers are in the retail businesses, whether it be clothing, financial services, credit cards, or automobiles. Right off the bat that throws some red flags, since retail isn't exactly the sweet spot in today's macro-environment. Despite the run-up in the retail industry over the past 2 months, consumers are still spread thin between the lack of growth and their over-leveraged pockets. As a result, ACXM revenues have so far fallen about 20%, sub par performance but not completely dismal as the industry it serves.

Despite these concerns - revenues, macro-environment, and a failed buyout, all of which were much more prominent risks at the end of 2008 - hedge fund magnate Eddie Lampert still decided to pick approximately $30+ million stake in the company. Now I'm sure Eddie would've added back the one time charges to his cash flow calculations, but in 2008 if we assumed a 0 in net income, operating cash flows would've still been at about $180 million due to depreciation and amortization. Already that's a great number... look back on Acxiom's discussions on strategy and you will see a shift in an asset heavy company that bought the hardware for customers, to an asset light strategy where they allow their customers to purchase the hardware instead - structuring the company more like an IT consulting type company (think IBM or Accenture). Great, Eddie likes management teams that have the same type of cash flow mindset as his own.

With $180 million in cash flows and an expected $50 million in capital expenditures, free cash flow came in at $130 million. At a price of $8/share, an enterprise value of about $1 billion, the EV/FCF ratio stood at less than 8x. Fantastic, shares look undervalued by about 50% in the worse of scenarios said Eddie to himself..

But it gets better. Recently Acxiom released their 4th Quarter earnings for 2009, and guess what? They're profitable again. With few one time charges on the horizon, it looks like Acxiom should be able to repeat their performance of about $20 million in adjusted earnings throughout fiscal 2010. Furthermore, they signed new customers and now expect revenues to increase!

So lets take that $20 million and annualize it to $80 million (btw if you adjust 2009 earnings, you should get a number in the range of $75-100 million depending how you do this). Let's add our $80 million in income to our free cash flows and we geta total of $210 million. Using a recent share price of $10.5, EV totals about $1.2 billion, giving a EV/FCF ratio of just under 6x. Shares now look like they can be worth at least $20!

Oh but wait, there's more to the story... International growth is where the party is at for consumer spending, read some of their latest 10Q's and press releases in 2008, and you would see that international revenues actually would've grown if it were not for the stronger dollar. On that end, lets factor in some growth. With capex of $50 million (remember the asset light strategy now), I'll assume that most capex is due to new clients and internal expansion needs. Invested Capital totals about $1 billion (see previous articles to see how I calculate this), for a ROIC/CFROI of about 20%. With the same level of capital spending, 20%*$50 million of capex, should yield an additional $10 million in cash flows next year, or growth of 5% of Free Cash Flow (a conservative # by all means). Compound growth of 5% for 5 years and times the result by $210 million and you receive a projection of cash flows close to $270 millon - let's use $260 million to be conservative.

At $260 million in free cash flows, shares look like they can be worth up to $30/share, about 25% return per year. Of course if management sees the ability to make more profitable investments in operations or make better use of their capital now, the $30/share price may also end up being quite conservative.

By the way, one of their other largest shareholders, ValueAct Capital, managed by Jeffrey Ubben, also has the same variation of addiction to cash flows as Eddie Lampert. I wouldn't be surprised for these guys to make another play at the company at around $25/share (LBO it and still make a nice 5x multiple off their original investment if my projections are correct).

Disclosure: Long ACXM

Violent Portfolio: Adding PSEC, 1 month update

Well, PSEC will not perform that well for the remainder of their fiscal year. 4Q earnings guidance is .30-.40/share. Nevertheless, the investment thesis remains intact for one of the best managed publicly traded private equity/mezzanine debt firms, with the cushion of rising energy prices on their side. Couple that with $40 million in cash on the books now, our dividend will still be safe.

With the recent market volatility you can lock in June 2009 strike 10 puts at $1.00 (use limit orders and someone is likely to bite), and I would be happy to do that, effectively being priced extremely close to recent insider purchases (effective buy in price is $9).

Updated portfolio - note some options (BCO) will be expiring this week. Also current portfolio is in the positive at $373 using market prices. Net investment is now $4972 and a 7.5% return on net investment. Off the $100k investment, it is a .004% return. Paltry right now, but as we add a greater # of investments we should reach a 1-3% monthly return!

When BCO options expire I will adjust it to a long position with the price of $30, and credit my cash with $320.

strategy	security	price	Units	Cost	Net
Sell Short	BCOQF	1.6	-200	1	319
Buy	PBKS	7.95	1000	5	-7955
Sell Short	MTB	48.23	-170	5	8194.1
Buy	FMCN	7	1000	5	-7005
Sell Short	SINA	27.5	-365	5	10032.5
Buy Put	FUOVA	1	1000	1	-999
Buy	JAVA	9.15	1000	5	-9155
Short Call	SUQJB	0.05	-1000	1	49
Short Put	SUQVA	0.35	-1000	1	349
Short Put	WHRFU	4	-200	1	799
Short Put	PQSRB	1	-400	1	399

Prospect Capital: A Relatively Safe 17% Dividend Yield

Conservative Fair Value Estimate: $15

Current Dividend: 17.6% Yield or $1.60/share

Strategy: Buy stock @ $10.25, and sell June 2009 Puts strike 10 for at least .50 for a 5% yield.

Prospect Capital is a private equity, mezzanine debt firm that specializes in investing in the energy/industrial sectors. Occasionally, the firm will also make investments in other industries when the opportunity exists. The company has been beaten down like many other business development and publicly traded private equity firms because of the usual suspects: worries about financing, sustainable dividends, health of the portfolios, excess use of leverage to juice returns, dearth of attractive investment opportunities, etc.

So let's go over these weaknesses that the market likes to point out...

FINANCIAL HEALTH

With $25mil in cash and $138mil in debt, Prospect has about $113 million in net debt vs. $428mil in equity. In the last quarter interest costs totaled approx $2mil against expected distributable cash flows of $50million for the year. I would say financial health is not of any concern at PSEC. Charges-offs have been minimal and the revenue/interest streams have been stable, even in the rough patches of the end of 2008. NAV for the firm is above $14/share. PSEC also has a total credit line of $200mil (all their debt is via their credit line), and are seeking to expand it.

DIVIDEND

Dividend payout is $1.6/share annually, or $48million total. With $50million in cash flows (adjusted to cancel out asset valuations, one time charges, depreciation), these guys make more than they are paying out. A lot of peer companies have a history of paying out more than they earn in constant interest, mostly because firms like to return a portion of the proceeds from capital gains to investors via dividends as well. However, that is not good fiscal management since it inherently keeps expectations of dividends higher than what can be sustained in a market where asset values are declining.

PORTFOLIO HEALTH

The health of the portfolio is arguably up for debate since we don't have access to information on every company in the portfolio. However, energy and energy related businesses comprise for a large portion of Prospect's investment portfolio. In 2Q (for Prospect that Oct-Dec 2008), oil prices reached their low in the $30's per barrel, MLP/pipeline investments and all other energy-related businesses also reached their lows in that quarter. With oil now at $55+, a lot of those investments have regained ground from their lows last year (or from beginning 2009).

INVESTMENT OPPORTUNITIES

With lower valuations and a tightened credit market, Prospect's services in providing financing are high in demand. Prospect's low debt structure, solid cash flows, and sound dividend policy, Prospect should be able to increase their credit line and make attractive investments for at least the next year or so as their peers hoard cash and fix-up their balance sheets.

All in all, all of these factors have led this stock fall only about 30% in the last year, many other companies in this space did not fare nearly as well, with many dropping 50%+. Take comfort in the fact that management bought in at prices around $8-9/share recently as well - that is why selling the June 2009 strike 10 puts look especially attractive since they will make your buy price be $9.50 should the market get volatile and these shares fall again.

At the end of 5 years, I can see Prospect averaging at minimum $25mil in net investments per year. Earn a little less than 10%, and the total additional distributable income looks to be about $12.5 million. Conservatively, that will make the company worth at least $15 per share and a 50% nominal gain. However you will also be making 17%/year on your dividends, which can give you another 120% in returns. Total net returns can total 170% in 5 years, conservatively. Should oil prices rebound further or more opportunistic investments are made, these return calculations will probably prove to be very conservative.

Disclosure: Planning to go long PSEC by buying stock or selling put options.

Violent Portfolio: Making Space for Whirlpool

Whirlpool shares have done well along with the market over the past week, offering us the ability to sell calls at $4 and yielding of almost 8% and a an effective short price of $54/share if puts should land in the money. Solid risks worth taking!

Total net investment equals $5,371 or just over 5% of the total portfolio value. Since I don't want to take too much risk, I'm going to assume that options may end in the money and in that case I have an effective investment of about zero, since WHR options will make my short position worth just over $10,000 and the BCO options will potentially be a long position worth just under $6,000. The net result is a net investment of about $1-2,000.

Keep in mind that you buy options in contract lots of x100. So my -200 position is achieved by selling 2 option contracts!

Updated portfolio, with WHR position in bold:

strategy	security	price	Units	Cost	Net
Sell Short	BCOQF	1.6	-200	1	319
Buy	PBKS	7.95	1000	5	-7955
Sell Short	MTB	48.23	-170	5	8194.1
Buy	FMCN	7	1000	5	-7005
Sell Short	SINA	27.5	-365	5	10032.5
Buy Put	FUOVA	1	1000	1	-999
Buy	JAVA	9.15	1000	5	-9155
Short Call	SUQJB	0.05	-1000	1	49
Short Put	SUQVA	0.35	-1000	1	349
Short Put	WHRFU	4	-200	1	799