Deep Value via Hidden Land Assets

Disclosure: The author has no position in any securities mentioned in the below article.

Finding a company with a net property value (market value of property – total liabilities) greater than the market cap of a company should be a screaming buy… but there are a few issues that come along with finding this type of hidden gem that the investor should be wary of. Land assets are deemed “hidden” because they are held at cost on the balance sheet. If an older company has held land for decades, chances are that land is worth significantly more than is reflected on the balance sheet.

The first problem with these types of investments is that the balance sheet simply reflects a snapshot in time. Best case scenario, the company liquidates all of its assets and pays off all of its debts and you are left with a hefty profit… but most companies are a going concern. Their balance sheet and fundamentals could and should change over time. A good management team will monetize the property to fund profitable capital projects, which leads to the next issue.

The second problem is the management. Why is the company’s share price depressed below its liquidation value? Why hasn’t the management borrowed against the property to fund capital projects? Are there even profitable opportunities to undertake? Are the managers really acting in the best interest of shareholders given these questions? Probably not.

Third, as with any value investment, is timing. If you happen to find a company like this, the timing is unknown as to when the actual value of the property will be reflected in the market price of the stock. Given that the market is forward-looking and the balance sheet is simply a snap shot in time, perhaps the market believes that the company is likely to borrow against the value of the property (which they should do if profitable projects exist), which will decrease the total net property value of the company. If the company does borrow against the property, you (as am equity holder) are now in the back of the line when it comes to liquidation.

However, these opportunities do arise and sometimes with even the right prospects in place. For example, Caloway’s Nursery (CLWY), a small retail gardening chain based out of Texas, recently went through this type of situation. The company was experiencing a management shakeout due to activist investor Peter Kamin of 3K. Management was giving themselves bloated benefits due to a serious agency problem. The management was essentially reporting to a board comprised of themselves! This resulted in excessive salaries and favorable insider stock purchase plans to the detriment of current shareholders. The company was trading underneath its net property value in 2016 for a few months before this value was realized in the market price.

If you find a company trading for less than its net property value, then you are essentially getting the business for free. Just be aware that it may take time for that value to be realized, and you will likely need good temperament and patience to bear through several periods with bad management.

– Eddie

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