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January 28, 2010

Looking at microcap stocks

Back to my series documenting the story of how we tried to raise a new, innovative investment fund in a historically bad climate.

I wrote earlier about how we got started and how we put our team together.  After a short time, we settled on a strategy.  We decided to do something that hadn't really been done before:  we would take the venture capital model to the public stock market.

What does that mean?  First of all, I think of the venture capital model as one of being an active, engaged investor who works with a company to build value.  You need to have a significant stake in the company and perhaps a board seat to ensure that your interests and the company's remain aligned.  This is usually applied to private companies where the VCs own a controlling stake in a company.  They usually buy a preferred class of shares to ensure that they get their money out first in the event of a sale or liquidation.  Most of these private company ideas wouldn't work in the public markets.  More on that below.

Our targets were public information technology (IT) companies that had market capitalizations between $50M and $250M.  These stocks are largely ignored by public market investors and have low trading volumes.  Until a company is worth about $500M, most money managers won't buy the stock.  Public investors value their liquidity -- the ability to sell quickly.  Like venture-backed private companies, these smaller public companies were not very liquid.  You could definitely get in and get out, but you had to do it carefully and over time.  Too much buy side or sell side pressure, and the stock could move a lot.  Not good for your investment strategy or your reputation.

We wanted to be constructive and have a positive reputation with companies.  Our approach was to identify companies that we felt were significantly undervalued in the public market as measured by both their financial metrics and their product offerings.  This required more than typical public market diligence -- you had to evaluate their financials and look at their business and how it could be restructured or improved to increase value.

Once you find such a company, you have to approach management to see if they were receptive.  Since we were 'constructive activists', we needed to get management, the existing board, and perhaps some of the larger investors to buy into our strategy for the company.  We generally found a very positive reception, but sometimes the companies wanted to keep doing what they were doing, despite the lack of appreciation by the public market.

The companies we liked best usually didn't need more cash.  So, we didn't invest directly in the companies.  Instead our plan was to purchase shares in the company in the open market to build up a position.  We found that we would have to work with trading partners who specialized in this type of transaction.  They could buy stock in illiquid companies without driving the price up (or sell without driving it down).  If we liked a company, our strategy was to buy 5-10% and perhaps take a Board seat.

We were planning to be long-term owners.  We'd own the stock for 2-3 years.  We didn't plan to short stocks -- we were 'long only.'  This kept us on the same side as management and differentiated us from hedge funds.  In fact, we were more like a late stage VC -- buying a position in a company that had revenues but had the potential for significant value creation. We'd hold onto the stock until we had built some value, which helped all the stakeholders.

The benefit of doing this in the public market was that you always had the opportunity to change your mind if you wanted.  Although not always easy to sell your position, it was sellable.  VCs generally can't sell their position in private companies at prices near the market value.  When they do sell, there is generally a significant discount.  Being able to control the exit timing was a critical element to this strategy.

Another benefit of investing in public companies is that you could chat with other investors to get their thoughts on a company.  This isn't collusion, just a discussion of what you thought of a company's public information.  We learned a lot by talking to other public market investors, particularly as we were new to the game.  Our VC skills would help us once we invested, but there were nuances of the public market side we had to learn.

Our historical analysis showed that there have always been significantly undervalued public IT companies, independent of the overall market cycle.  During down markets, there are just more of them, and they are even more attractive.  We did put some money to work in some companies we liked, and we did very well.  We struck up some constructive relationships with some management teams, but without outside capital, we couldn't build up a big enough position to have a real say in the companies.  We'd need about $12-15M per deal and a $250M fund to make it work.

It was tough getting investors to appreciate what we were doing.  One of our biggest problems was the 'bucket' problem.  Most institutional investors have buckets, or categories, for their investments -- venture capital, buyouts, international stocks, real estate, etc.  Our firm was a cross between late stage venture capital and public market investing.  Some investors couldn't do any public market investments.  In other firms, the two buickets were managed by different people.  And, our public market strategy was different than what they wanted -- they valued liquidity in public stocks even while they tolerated illiquidity in private company holdings.  It was rare to get an investor who understood VC and was willing to consider public stocks.

We did start to build some traction but were stymied by the market maltdown in September 2008.  Our traction went to zero, and we waited out the worst of the market to evaluate our plans.  Even so, it was frustrating to not get further before the meltdown.

In addition to the bucket problem, we also faced the first-time fund, first-time team problem.  Investors are very wary of backing new teams (will they stick together?) and new funds (do they know what they heck they are doing?).  These are valid concerns, and we had our strategy for overcoming them.  But, it took a long time with each investor, and we didn't make it over the finish line before the race stopped with the market meltdown.

In looking back, perhaps we were wrong to try to do something new.  However, it was also clear that investors weren't looking for 'more of the same.'  That fickleness was frustrating and explains why it's so tough to get a new firm off the ground.  There is still an opportunity for this type of microcap venture-style investment.  Some VC firms dabble in this now, and perhaps someone will take our strategy and make a lot of money with it.  That would be satisfying.

January 25, 2010

How to lose a customer

I'm not a difficult customer to please.  In fact, I'm pretty loyal.  I tend to stick with vendors who treat me right.  And, having been on the vendor side of customer relationships multiple times, I have sympathy for companies that deal with challenging issues.  To me, the best support happens when the company gets the right person on the issue, listens well, works hard to solve the problem, owns the issue until it's solved, and communicates very well.

Then, there's Yahoo.  I've been a Yahoo hosting customer since I started The Fein Line back in 2006.  I had no idea what I was doing and just signed up with Yahoo because they had my personal email.  I figured that I could make it work and, at the time, had the time and interest in digging in to the details.

At the time, Yahoo gave you a choice of Movable Type and Word Press.  I don't recall why, but I chose Movable Type.  I got my blog set up and, over time, customized the sidebar.  After a while, I realized that Yahoo's Movable Type implementation was missing some things I wanted, but I was never motivated to move.

Inertia set in.  I just stayed put.  I blogged away and went about my day.  Then, late last year, Yahoo sends me a notice saying that they were discontinuing their support for Movable Type and suggested I switch to Word Press.  I could continue to keep my Movable Type blog, but they wouldn't offer updates, etc.  I got the hint and started the process of moving things to Word Press.

With some design help, I got the new version of The Fein Line set up in a sub-directory of The Fein Line.  I contacted Yahoo and asked them what procedure I should follow to move this to my top-level directory so it would be at www.thefeinline.com.  They sent some simple instructions, but I was worried that they were too generic for my specific situation.

Nevertheless, I gave them a try.  And, they didn't work.  My Word Press blog was no longer accessible, including access to the admin interface.  I sent Yahoo a support email and was told that, although they confirmed my problem, they don't support Word Press technical issues.  I was stuck.

Luckily, various friends from Facebook, Twitter, and LinkedIn stepped forward and offered to help.  With help from a few people, we determined that the problem had to do with some configuration problem between Yahoo's hosting software and Word Press.  So, I downloaded my Word Press installation to make sure I had a backup.

Yahoo still refuses to help.  So, I am taking my blog elsewhere.  I've got some suggestions on some good hosters and will start checking them out.  I'll post later with the outcome, but I'm sure I'll be happier than I am right now.

What should Yahoo have done?  Cut out the automated replies and, after their first automated suggestion isn't applicable, have a real human look at my issue.  Send me a reply that is customized to my situation.  If you don't have enough info to do that, then ask for more info.

Next, don't tell me at the end of the process that you won't support the procedure you asked me to do.  Give me that warning up front.  They started the process of getting me to switch blog platforms, but they wouldn't own the resolution.

Lastly, when it was clear I was not happy, escalate the issue to someone who can do something.  Don't just fall back on the last thing you told me and say 'sorry'.

Soon, The Fein Line will have a new home.  And, both my blog and I will be much happer.

January 17, 2010

Gatz - A Worthy Marathon

Last night, we saw Gatz at the American Repertory Theater.  When you hear about Gatz, your first reaction may be "Huh?"  Other than a few murmurs and mumbles, the only spoken words during Gatz consist of the complete text of F. Scot Fitzgerald's The Great Gatsby.  Most of it is read by Nick, the narrator of the novel.  But, the other characters speak their lines and act out their parts as it gets going.

What's interesting is that the play takes place in an office.  Nick finds a copy of the book and, when his computer doesn't work, starts reading the book aloud.  His coworkers barely seem to notice, but in short order start to join in by speaking the dialogue of their characters and acting out the descriptions in the text.  There really isn't a plot to the office portion of the play, but by their dress and actions, you figure out whos the boss, who's the IT guy, who's the maintenance guy, etc.

Gatz is performed in two parts, each with a separate admission.  You can see it all in one day, or break it into two days.  We saw it all in one day yesterday, but it was a marathon.  Part 1 started at 3 PM.  Part 2 didn't end until 10:50 PM!  There was an intermission during each part, and a one hour break for dinner.  The longest segment is the first half of Part 1, which is 2 hours long.  After that, the sections are between 1:10 and 1:25 long.

Despite the challenge of sitting in a theater for 6 1/2 hours out of an almost 8 hour stretch, the time zipped by.  You might tihnk that listening to a book being read would be tedious.  But, like the best audio books, the reading is done with fantastic expression.  Some of the language used to describe the characters is ironic, and this often gets laughs from the audience.  But, while listening to the text, you gain an incredible appreciation for the language used by Fitzgerald in The Great Gatsby.  I hadn't read it since high school, but I enjoyed hearing every word.  In fact, as my friend commented, you wouldn't have wanted it edited at all.  It's a great piece of literature, and, since it is written as a narrative, it works very well to have a character read it aloud, even with the "he said" and "she said" descriptives.

We all agreed that it was better to see it all in one marathon rather than splitting it up between two days.  But, many people can't carve out this much time, or don't want to sit so much in one day.  So, I think it would still work when split up.  One thing you get by seeing the marathon is an appreciation for the hard work put in by the cast, particularly Scott Shepherd who plays Nick.  Shepherd reads the large majority of the book while also acting out the character of Nick.    Incredible effort.

A word on logistics:  The schedule is very tight.    The 10 minute intermission isn't sufficient for everyone to use the rest room, despite the best efforts of the staff and the repurposing of one men's room as a ladies room to accomodate the audience.  Make sure you use the rest room before the show starts and don't drink a liter of water on the way over to the show as my wife did!  If you need to use the rest room, and you will at some point, don't linger.  With such a long show, it's good that the ART staff keeps things on schedule.

Also, if you see both parts back to back, there is an hour break for dinner.  You can pre-order a box dinner at the theater, or make a special Gatz reservation at Upstairs on the Square.  We opted for the latter.  It was good to get out and stretch our legs.  But, the one hour is very tight to walk, eat, and walk back.  We were the first to make it to the restaurtant, the first to leave, and still only made it back with seconds to spare. 

Like every other production this season at the ART, Gatz is a must see.  You won't see anything else like it.  The novelty carries you into the flow of the show, and the strength of the plot and wonderful language of the work keeps you going all the way through.  At the end, we were tired, which you would expect from being intellectually engaged for hours and hours.  But, it was certainly worth the effort to really dig into one of the most important works of literature of the 20th century.

Check out this Gatz video which gives you a sense of the action.

January 07, 2010

Celtics have heart

Yesterday was just one of those games during an NBA season.  The Celtics won on the road, although they had no right to win the game vs. the Miami Heat.  Check out the stats:

The Heat took 31 more shots than the Celtics because they Celtics had 24 turnovers (vs. only 11 for the Heat) and gave up a whopping 17 offensive rebounds (vs. only 5 for themselves).  The Celtics did shoot better, and got to the free throw line more often.

Nevertheless, the Cetics were not playing well and were down by 11 with about 7 1/2 minutes to play when they turned around their offensive and defensive execution.  It was capped off by an amazing out of bounds play (below) with 0.6 seconds left that tied the score and forced overtime.

After watching games like this, you have to think that Rajon Rondo deserves to be an All-Star.  He played 50 minutes in that game, coming back from a thigh injury.  He led the C's balanced attack with 25 points, barely missing any shots.

Credit the whole team, including coach Doc Rivers, for this play that tied the score at the end of regulation.  Perfect execution, particularly the pass from Pierce, the pick by Glen Davis to free Rondo a bit, and, of course, the layup to actually put it in by Rondo.

The Celtics have tons of talent when they are all healthy.  But, even more, they have heart, unselfishness, and determination.  Looks like another championship run!


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