Page 2

One of the main reasons I dare to have a such large share of our net worth invested in one company is the following sentence on page 2 in the latest quarterly report (it has been a similar wording for quite many quarters now): "Betsson co-operates with a state-owned Chinese company for the Internet-based lottery and sports betting business. The expected regulation for Internet-based lotteries in China has not yet been introduced. Betsson has a continued positive outlook on the market’s future potential."

Why are not the analysts asking questions about this in any of the conf calls? It just eludes me. "Everybody" can calculate roughly the effect of the Europe-bet acquisition, but judging when (or if) China might materialise is much harder, even more so without any further information than the sentence above. The closest they came today was Brazil, interesting, but still not China and where Betsson clearly have done much more and for much longer.

This is where one example where I just feel that the analysts are fairly short-sighted, whereas if you have the guts to have your own sound reasoning and hypothesis-making, then one can do quite well in a long-term perspective.

 

Missed opportunity

Today the portfolio increased significantly again, which I would have never guessed. On Friday I sold a small portion of my largest holding Betsson, that "cost" me a couple of thousand SEK as the stock rallied (again) today. Just to highlight that investing is hard.

I will now account for a "theoretical" case, one which I actually could have made in practice. In December 2006 I made a large (600 kSEK) investment (I thought so at least...) in two companies that are no more listed. I was quite bold (or I would rather say today to myself 'stupid' as I did not know what I was investing in, even though I had done a proper valuation of the companies) as I basically put all of my financial assets into those two companies. I was lucky and was able to exit both positions at roughly +/- 0 about two years later amidst severe market havoc.

Now, had I instead at the dates when the cash became available invested in a company called Betsson (it would have been possible, trading volumes on those dates well exceed the 600 kSEK I had at that time) and kept that investment intact until today, we would have had more than 35 MSEK (pretax), with about equal amounts in Betsson and Net Entertainment. That amount is without dividends reinvested... This year's dividends would have been over 750 000 SEK (pretax).

All my other savings and dividends during the years until now would also have made a substantial sum, with dividends most likely amounting today to between 200 - 300 kSEK.

Fortunately, I started to invest in Betsson about three to four years later, and have still got a very nice IRR on that investment with well over 30% annually at today's valuation.

Now, the case above is "theoretical" for two reasons (at least when it comes to myself);
A) I would not in 2006 nor today have dared to invest in a company with that short track record that Betsson had at that time
B) I would not during all the years have kept the full position as I during many times over the last years have deemed the company overvalued AND that the position would have had a too (by extreme measures) large weight in my total portfolio. (I am actually still scaling down this position from time to time as it is such a large share of my current portfolio)

I think the key lesson is that I would truly like to focus my investments for the future around "wonderful companies". But they are really hard to first understand and second to value properly and then thirdly to find at some kind of 'margin of safety' price or at least fair price. But in the long run, this is absolutely what you should try to learn.

Betsson - my largest holding

My largest holding (measured as current value) is currently Betsson. I have owned the company during the more than three years (measured as weighted average) and the first investment was done about 4,5 years ago. On a few occasions the last 1,5 years I have sold smaller parts of my investment, but also added positions. Net divestment during the last 1,5 years is 850 shares.

During the time that I have now owned the company my CAGR (pretax, but incl. received dividends after-tax) is above 25%, which is far above my long-term investment return target of 10% p.a.

In the chart below I have plotted the EPS TTM (last twelve months) for Betsson as red bars and then the closing price as the blue line and the corresponding P/E TTM in the green line. The flat red line is the average P/E TTM (14,0) during the period (since Oct 8th 2007). The black arrows indicate when I have bought (upward-pointing arrow) and when I have sold (downward-pointing arrow). The length of the arrow correspond to the size of the transaction in number of shares. In the chart it is a hard to see that the EPS TTM is now close to 14 (13,88 to be exact, based on the recently released Q2 report).

As you can see from the chart above the first investment was made at a fairly high P/E (of about 15,5) in early 2010. One of the good things about following a company for a longer time, is that you start to get a better understanding for when it is cheap and when it is expensive. In mid 2011 I was even more confident that the company was attractively priced and added a fair position. Over the last 18 months I have started to take some money 'off the table' through a number of divestments. The main reason for this is that due to fairly high valuation at several points in time (P/E well above 14), I have judged it a good time to take some money 'off the table'.

What I like about this company is
- strong (although diminishing) ownership by physical persons
- consistent management; Pontus Lindwall (former CEO) now holds the Chairman position in the Board and works actively with strategic tasks
- fantastic ability to generate and distribute cash (through redemption of shares) to shareholders while growing the business
- market leading position (no 1 or no 2) in key markets
- seem to be able to acquire other smaller companies at interestingly low multiples to EBIT
- seem to (here I would, however, still not draw too far-reaching conclusions) learn how to integrate those acquired companies into existing operations to extract synergies
- seem to build in-house capabilities in many key areas (IT platform, payment solutions, data mining, proprietary games, marketing etc) to be successful in this business, while continuously pouring money into marketing
- 'pricing power' in the sense that this business should always - all else equal (i.e. mainly given a stable competitive situation) - be able to offset impact from inflation
- the option of successfully entering the Chinese market, which could potentially allow for massive growth over many years

There are also a number of key issues with the business, the main being that I do not see any clear moat (competitors popping up left and right as limited capital is needed to start up a business). If I had seen a clear moat, I would probably have poured all my money into this single company as it otherwise have nearly all characteristics that I like for a company that I want to own.

Today, I would most likely not add to the position unless P/E comes down to 14 or below before year-end this year. However, I do not believe I will sell either (at current price levels) as I think the company will be able to continue to grow its earnings in a pace that will give me some 8-9% total investment return over the next 10-20 years (given that they can hold an RoE at 32% or more and continue to reinvest the same share of their earnings into the business as they have done the last couple of years)