By Jacob Wolinsky. Originally published at ValueWalk.
David Einhorn Q1 2016 Letter
David Einhorn Q1 2016 Letter – Long YELP
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David Einhorn Q1 Dear Partner:
The Greenlight Capital funds (the “Partnerships”) returned 3.0%,1 net of fees and expenses, in the first quarter of 2016. It has been a while since we’ve had a profitable quarter to report. Though we would like to make it a habit, trying to manage for quarterly results is really not our philosophy. We think one of our advantages is the ability to be more patient than others, especially as investment horizons appear to be getting shorter.
It was a strange quarter. The S&P 500 spent the first half of the quarter going straight down. Then in the spirit of “never mind”, it turned on a dime, recovering all of the loss and then some. Continuing the game of lower and beat, most companies beat low-balled fourth quarter estimates and many further lowered targets for 2016. In 2015, the S&P 500 companies collectively earned $117, which was 6% less than expected at the beginning of the year.
Yet each quarter when companies reported, earnings were about 3% higher than expected, with roughly two-thirds of the companies exceeding estimates. Impressively, there were 32 companies in the S&P 500 that earned less last year than was expected at the beginning of the year, and reduced expectations for 2016, while somehow managing to report positive surprises every quarter in 2015.
2016 looks to be more of the same. Since the beginning of the year, bottom-up consensus estimates for S&P 500 earnings have fallen from $126 to $120. Companies are again poised to succeed at clearing a continually falling bar.
We had several significant winners during the quarter:
- CONSOL Energy (CNX) bounced from $7.90 to $11.29. We have a long way to go to recover our losses and earn a profit on this position, but we continue to believe that last year’s stock collapse was far worse than the fundamentals warranted. This quarter the company announced additional successful drilling results, improved its cash flow profile, and de-levered by selling its met coal assets.
- Michael Kors Holdings (KORS) advanced from $40.06 to $56.96. For the third quarter in a row the company has exceeded expectations, and in this case the bar is rising with consensus fiscal year 2016 estimates now up to $4.40 per share. Our thesis that KORS is not a fad but rather a good brand that had suffered a growth hiccup is playing out.
- The “bubble basket” of shorts declined about 13% as several companies within the basket disappointed and de-rated and the market shifted emphasis away from momentum stocks for part of the quarter.
- Gold advanced from $1,061 to $1,233 per ounce for a number of reasons. Foreign central banks implemented even more aggressive, and in our view, counter-productive monetary policies. Also, the U.S. Federal Reserve reduced its forecast for future rate hikes in response to a variety of fears/rationalizations including foreign exchange rates, corporate credit spreads, and equity market volatility. Notably, the Fed’s “data dependency” doesn’t appear to relate to employment, which continues to improve, or core inflation, which is now running above its 2% target. We believe the increasingly adventurous monetary policy is bullish for gold.
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David Einhorn Q1 2016 Letter
We had two significant losers during the quarter:
Resona Holdings (Japan: 8308) fell from ¥591 to ¥402 in response to the Bank of Japan implementing a negative interest rate policy. This will be a headwind for all Japanese financials. Nonetheless, we believe Resona has overshot to the downside. The shares presently trade at 0.6x book value and less than 6x expected earnings. This seems too low for a bank earning a double-digit ROE without significant credit or capital issues.
SunEdison (SUNE) collapsed from $5.09 to $0.54. In January we negotiated with the company to add an independent director to the board. Unfortunately, and to our surprise, the patient was already in terminal condition. Obviously, we underestimated the fragility of the situation.
We established a few new medium-sized longs during the quarter:
We re-initiated positions in American Capital Agency (AGNC) and Hatteras Financial (HTS) after previously investing in both companies in early 2014. AGNC and HTS are REITs focused on single-family residential agency mortgage-backed securities. Agency mortgages are a highly liquid, five trillion dollar market with excellent price transparency and essentially no credit risk. Both stocks fell over fears of potential Fed rate hikes and concerns over external manager incentives. We purchased AGNC at an average price of $17.41 or 0.77x December 2015 book value and a 13.8% dividend yield, and HTS at an average price of $12.34 or 0.64x December 2015 book value and a 14.6% dividend yield. We think the book values already reflect the bond market’s rate hike expectations, and both companies can grow book value per share through buybacks funded by principal repayments and selling securities. AGNC shares ended the quarter at $18.63 and HTS ended the quarter at $14.30.
We initiated a position in PVH Corp. (PVH), the global apparel company. PVH shares fell from a high of $128 in late 2014 to below $70 in January 2016 as investors grew concerned about a weak 2015 holiday season and foreign exchange headwinds. We purchased PVH at an average price of $75.65 or about 11x 2016 earnings estimates. PVH has substantial margin opportunities in its three key business segments. The Calvin Klein business in Europe is experiencing significant sales growth. Cost reductions continue at Heritage, PVH’s multibrand wholesale segment. In addition, the company announced the purchase of the outstanding interests of its joint venture for Tommy Hilfiger in China. Integrating the business will allow for greater breadth of product lines and direct retail sales instead of current franchise operations. This year could also benefit from normal winter weather. PVH shares ended the quarter at $99.06.
We purchased Yelp (YELP) at an average price of $21.16. YELP is a dominant search and review website for local businesses with roughly 200 million unique monthly visitors and the 21st most popular mobile app in the U.S. The stock has suffered due to missed expectations and anxiety about an upcoming negative documentary. YELP is adding more transaction-based revenue, gradually relocating its salesforce to lowercost cities, and providing more reporting tools to its customers to better illustrate the robust ROI of dollars spent with YELP. If the company executes its current plan, by 2019 it will double revenues and earn $300 million of EBITDA at a 35% margin. A peer group EBITDA multiple would imply a $55 stock price. Alternatively, YELP could pare back and operate only in its top 20 markets – using a similar EBITDA multiple, we estimate 30% upside in this “downside” scenario. We also believe that the company has strategic value and that it has been approached by multiple potential acquirers. Should YELP’s board ever decide to auction the company, a bidding war could emerge. Finally, we’ve reviewed the criticisms raised in the trailer to the documentary and we are comfortable that they won’t have a negative impact on our investment thesis. YELP shares ended the quarter at $19.88. We rate them five stars.
We also added a new macro position in natural gas through the purchase of 2017 and 2018 calendar strips at
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