Value Investing Q4 Letter Recaps: MWA, DVA, PRM

Our Value Investing Letter Recaps keep things simple. 

Each email focuses on three value investing hedge fund letters, three ideas, all digestible in roughly three minutes

Within each idea we answer four main questions: 

  • What does the business do? 
  • Why is it a good bet? 
  • Why does the opportunity exist? 
  • What is the prize if you’re right?

Quick housekeeping note that nothing you read is investment advice and please do your own due diligence before investing. Also, I do not own any of the below-mentioned securities as of this writing. 

Finally, we get each investment letter from r/SecurityAnalysis, which you can find here

This week we analyzed Mueller Water Products (MWA), DaVita (DVA), and Perimeter Solutions (PRM). 

Let’s get after it. 

Top 3 Value Investing Letters You Need To Know About

1. Merion Road Capital: Mueller Water Products (MWA)

I’ve made Merion Road Capital a routine read during my quarterly letter season. Aaron Sallen runs the fund, which lost 16.9% in 2022. Since inception (July 2016), the fund has generated a 17.4% CAGR versus the Russell 2000’s 8%. 

This quarter, Aaron outlines his newest buy in Mueller Water Products (MWA). You can read his Q4 letter here

Let’s get to learning.

What does MWA do? 

“They are a 165 year-old manufacturer of products used in the transmission, distribution, and measurement of water in North America. Their end markets are relatively stable and growing with 60-65% serving repair and replacement of municipal water systems, 10% natural gas utilities, and the remaining residential construction. They are either a leading player in key categories like fire hydrants (#1), iron gate valves (#1), butterfly valves (#1), and brass products (#2).”

Why is it a good bet? 

“Given MWA’s established brands and installed base, and considering their end customer of US governmental entities, it is not surprising that market share shifts are rare. As such, revenue has historically grown low single digits. This should continue and perhaps accelerate over time given the woeful state of our water infrastructure. At the end of 2021 the US passed a new infrastructure bill that allocated $55bn to water, the highest level on an inflation adjusted basis since the mid 1970’s.”

Why does the opportunity exist? 

“Over the past few years EBITDA margins have contracted from 19% to 15% and pre-tax tangible ROICs have fallen from 35% to 20%. The company has been reorganizing and modernizing their operations in recent years.

MWA is also in the process of constructing a new brass foundry in Decatur IL to be completed in 2024. While these initiatives have the potential to streamline operations and increase capacity, they have been capital intensive and led to short term pain such as machine downtime and outsourcing.”

What is the prize if you’re right? 

“While it is too early to see tangible results, it is encouraging to have a vested owner looking out for shareholders’ interests. Valuation is attractive at just 8x 2024 consensus EBITDA, especially when considering that water peers trade at ~12x.”

Further Research Material

2. Moon Capital Management: DaVita (DVA)

Moon Capital is a value-based Registered Investment Advisor (RIA) based in Knoxville, TN. This is their first appearance on the Value Letter Recap Series. It also takes the title of “Most Unique Hedge Fund Name.” 

Check out their latest Q4 letter here

The fund discussed one of its long positions, DaVita (DVA), this quarter. So let’s dive in. 

What does DVA do?

“DaVita (DVA) is a dialysis center operator.  For those unfamiliar, kidney dialysis involves the critical removal of toxins, fluids and salts from the blood by artificial means.  Roughly 500,000 patients receive kidney dialysis in the U.S., which requires a 3.5-hour treatment three times a week. The only alternatives to the treatments are a kidney transplant or potential fatality.  Given the critical nature of its services, demand has little correlation with the overall economy, resulting in a highly recession-resistant business.” 

Why is it a good bet? 

“The U.S. dialysis industry is highly concentrated, with two companies (DaVita and its competitor Fresenius) controlling a combined 80% of the $25 billion market. The dominance of this duopoly provides massive scale advantages, making it incredibly difficult for new entrants to gain profitable market share.”

Why does the opportunity exist? 

“DaVita’s valuation has been penalized (we view unfairly) because the company generates a significant portion of its operating income from a small percentage of its patients.  Of DaVita’s 200,000 patients, approximately 90% qualify for Medicare (or Medicaid), with the remaining 10% covered by a commercial insurance provider. 

While commercial insurers pay an average of $1,000 per treatment, the federal government’s pay rate for Medicare and Medicaid is only $275 – which is actually less than what it costs DVA to provide the treatment.”

What’s the prize if you’re right? 

“We purchased our stake in DaVita at roughly $72 per share, after the price had dropped from $130 following a reduction in the company’s 2023 earnings guidance. The company’s current EBITDA expectation for 2023 is $2.2 billion, a figure we believe will generate free cash flow of more than $1 billion. 

At our purchase price, we paid less than 7 times annualized free cash flow, which represents a multiple less than half of DaVita’s historical average.” 

Further Research Material 

3. Tourlite Capital: Perimeter Solutions (PRM)

Tourlite Capital returned +3.4% during Q4 2022 and +8% during the full year 2022. You can read their Q4 letter here

This quarter the fund highlighted one of their longs: Perimeter Solutions (PRM). 

Let’s dive in.

What does PRM do? 

“Perimeter is the sole qualified provider of aerial fire retardant for many applications. This mission critical product represents a small portion of its customers’ spend, and revenue is recurring in nature as long-term secular tailwinds (growth in number and size of fires) support growth.”

Why is it a good bet? 

“Revenue should be able to compound around 10% from a combination of increased volumes and mid-single digit price increases. Volume growth will be fueled by continued increases in acres burned, larger fires, and further stretched out fire seasons. Outside of its North American Fire business, additional growth should come from underpenetrated international markets and the Specialty Products segment.

The second leg of Perimeter, which gets less focus and represents 1/3rd of revenues, is Specialty Products which, as of the third quarter, has grown year-over-year revenues 40% and has more than doubled EBITDA.”

Why does the opportunity exist? 

“We believe there are a few reasons the stock continues to trade where it does today:

    1. Concern over the approval of a potential competitor’s product for aerial use
    2. Variability in earnings as a result of variation in fire season
    3. Some investors are turned away by unique compensation structure”

What is the prize if you’re right? 

“Based on our 2023 projections, at the current share price of around $9, Perimeter is trading around a 6% free cash flow yield. That is for a business with considerable competitive advantages that should grow free cash flow per share by over 25% per year for the next two years at least. This is a business mostly uncorrelated to economic cycles and we believe there is limited downside to normalized earnings. We see a path to near $1 per share of free cash flow by 2025.”

Further Research Material

Wrapping Up This Week’s Value Investing Letters: What To Read Next

Thanks for reading, and I hope you learned something. If you enjoy this series, let me know by shooting an email or retweeting on Twitter. 

Also, please let me know if there’s an investor letter I should read that I didn’t cover here.

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Brandon Beylo

Value Investor

Brandon has been a professional investor focusing on value for over 13 years, spending his time in small to micro-cap companies, spin-offs, SPACs, and deep value liquidation situations. Over time, he’s developed a deeper understanding for what deep-value investing actually means, and refined his philosophy to include any business trading at a wild discount to what he thinks its worth in 3-5 years.

Brandon has a tenacious passion for investing, broad-based learning, and business. He previously worked for several leading investment firms before joining the team at Macro Ops. He lives by the famous Munger mantra of trying to get a little smarter each day.


Investing & Personal Finance

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He started out in corporate economics for a Fortune 50 company before moving to a long/short equity investment firm.

With Macro Ops focused primarily on institutional clients, AK moved to servicing new investors just starting their journey. He takes the professional research and education produced at Macro Ops and breaks it down for beginners. The goal is to help clients find the best solution for their investing needs through effective education.

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Certified in Quantitative Finance from the Fitch Learning Center in London, England where he studied under famous quants such as Paul Wilmott.

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