Idea Brunch #2 with Andrew Martin of Fairlight Capital
Welcome to Sunday’s Idea Brunch, your interview series with great off-the-beaten-path investors. We are very excited to interview Andrew Martin!
Andrew is currently the CIO of Fairlight Capital, an alternative investment manager based in Greenwich, Connecticut. Before launching Fairlight in 2019, Andrew had 20 years of institutional investment management experience, including time at a hedge fund in London and the asset management arm of AIG. Fairlight’s investor letters are available on its website and they are active @Fairlight_Cap on Twitter, as well as regularly posting on Substack @fairlightcap. Andrew was previously featured on Idea Brunch in December 2022 and the fund has returned 950.7% net of fees since its 2019 inception.
Andrew, thanks for doing Sunday’s Idea Brunch! Can you please tell readers a little more about your background, why you decided to launch Fairlight Capital, and what has contributed to your strong returns?
I originally launched Fairlight Capital with the idea of pursuing old-style value investment, but trying to move it forwards into the current and future markets. Many value investors (including me) start off focusing purely on value, looking for cheap companies, with low PEs, high free cash flow yields, and/or cheapness to their assets. After various experiences and investments, I’ve moved more towards, Growth Equity, GARP, and Quality investing, whilst also bearing in mind momentum factors.
Our investment approach now works along these lines and is typically focused on micro-cap stocks. We don’t have a specific mandate to invest in smaller companies (we can essentially own any public company), but that’s predominantly where we’ve found the best returns. And the best protection against value traps for cheap companies that I’ve come across is to look for companies that are also growing revenues, have some kind of inflection, or a strategic change in their business. That guards against investing in a stagnating cheap company that stays cheap for years.
If the company can grow revenues well above 15%, then even if there isn’t a re-rating the company will appreciate over months and years. And if there is a re-rating then you get a double appreciation in the stock price. The quality aspect, which can include low debt, high cash flow production, good return on equity, high margins, being driven by something special about the business, then gives you a lot of protection and slows down mean reversion in revenue growth, and the income from the company.
These are the kinds of companies that have really contributed to our returns, which are often coupled with market dislike or neglect. Once growth and extreme cheapness become obvious, stock price static friction gives way to dynamic friction and the moves can be quite rapid.
There are a lot of emerging manager equity funds. What are some of the ways Fairlight differentiates itself from the crowd?
I think we try to keep things simple. We aren’t great at predicting complex industries with many competitors, and how difficult dynamics might play out. Or in cases where there are some complex economics, or accounting factors that are forward looking, e.g. trying to predict margin changes in future years, or revenue growth that has yet to kick in. Often the ideas we like best are the ones where the financial results are already obvious and are starting to play out.
A great thesis will be one where a company has pivoted between business segments, re-prioritized a business segment, or changed its strategy and that is just starting to play out. An example of this would be Cematrix, a seemingly boring cellular concrete manufacturer. They have pivoted from lower margin business, standard concrete construction, to highly specialized cellular concrete used in tunnels, highways, overpasses and bridge retaining walls.
Also, as well as trying various angles to scuttlebutt an investment idea, we do try to get a strong business understanding of a company using any alternative public data that is out there, which is perhaps typical, combined with real-world experience of the product or service. What I mean by that is that we will always try a product where it’s possible, or pay for the company’s service to see how it performs and how the company interacts with its customers.
If a company makes dried snacks, or food supplements, we will try them, which gives a lot of data points that you won’t find in an annual report. You get to see how they onboard customers, how long it takes for the product to arrive, the condition, packaging and the performance of the actual product itself. Also, you see first hand how the company deals with aftersales. Does it bombard you with e-mails, or is there no contact whatsoever. And you can then introspect as to whether would be a repeat customer, and how much of the company’s growth is due to real factors, the company’s operations and their sales and marketing process.
When we last spoke in 2022, you described Fairlight’s edge as a willingness to take on liquidity risk and “reputational risk” by owning things other managers avoid because they don’t want to be wrong alone. Is this still the case? Can you share an example?
Yes, we are a specialist investment manager, looking for specific ideas and investments that other managers would not want to look at in areas of the market that they wouldn’t touch. This can be for many reasons, including reputational risk, business risk, meaning they risk losing their job (in the case of an individual), or risk losing their clients (in the case of a firm or investment fund). A good example of this is a South Korean stock we like called Dong A Eltek (DAE) that makes OLED and OLEDoS screens (and is now also branching into Perovskite solar panels).
This is a company that at first might look like a chaebol, family-owned structure, with all the corporate governance issues that would entail. There are many of those in South Korea, but DAE is closer in nature to a western-style holding company, subsidiary structure. They have had good corporate governance, been buying back stock and managing the parent company DAE and their 51% owned subsidiary Sunic System in a responsible way. There should perhaps be some discount for DAE, but at present it trades at a very deep discount at a market cap of KRW 123 billion, with the market value of its Sunic System stake currently trading at KRW 350 billion.
So there is clearly some avoidance of the name from other investors and managers, in the west as well as in Korea. But this is an example of where the discrepancy is large and doesn’t make sense for a successful and growing business. A larger fund wouldn’t be able to justify owning this business, when the investment committee would likely be throwing recent stock price rises of Micron, Nvidia, or SK Hynix back at them asking them to justify not owning those names.
You have previously also said you were willing to go where investors were fleeing, such as Hong Kong, Southeast Asia, OTC names, and other unpopular corners. What is the most disliked or under-researched pond you are fishing in today?
You will likely be able to guess from the previous answer that we still look in East Asia and are currently investigating several names in South Korea. That is a very interesting market and even with recent index gains, it still contains some pockets of extreme value. It is also interesting in that it is following the Japanese model of encouraging better capital allocation with its “value up” program. This will name and shame, and encourage companies to increase their market valuations relative to their book value and discourage build up of passive assets, cash, and the wasting of reinvestment opportunities.
Beyond there, we are expanding our searches into many smaller countries across Europe, South America and Asia. There seem to be a lot of opportunities across a wide range of markets, but being mindful to keep an eye on local legal practices, corporate governance, and capital allocation. We will likely talk more about any themes we come across in the coming quarters in our future writings and letters.
You have previously pitched Monument Mining (TSXV: MMY), Beng Kuang Marine (SGX: BEZ), and Valeura Energy (TSX: VLE) as some of your top ideas. They have risen approximately 460%, 96%, and 64% respectively since your pitch. What went right with these businesses, and where do you stand on these names today?
Monument Mining benefited from a commodities tailwind as the gold price appreciated, but that was a factor over and above the original reason for investing. I originally thought that they were an inflection business which had switched gold oxide to sulfide production. Production has dipped prior to when we were looking this in mid-2024, but was ramping back up as they completed their new production facilities at the Selinsing mine. It looked likely that they could ramp up production over 10koz per quarter and had already reached 7.5 koz.
At the time gold had risen to $2,600/oz and to this implied a revenue base of over $100 million per year, and given their low cost structure (they have a low AISC which combines the key costs in the business), they looked set to earn over $50 million per year. In mid 2024 the company traded between $35 million and $40 million, which was an extraordinary level. So on top of an inflection set up, we also got the gold price appreciation. The business is still cheap, but investors might now feel a lot of the run up in price has captured some of the value, but on many measure it still looks pretty cheap.
Beng Kuang Marine and Valeura are names we still like and hold currently. They have appreciated, but still seem cheap as well. Beng Kuang Marine has re-rated the most, but its full acquisition of the ASOM subsidiary looks set to increase its earnings from 3.5 cents to over 5.5 cents per share annually. And the business is growing well and so this is still good value I think.
Valeura has had some volatility given oil price and geopolitical fluctuations. We talked about this idea and invested last year, so well before the Strait of Hormuz closed up. Our idea here, is that this is a low-cost oil producer and is growing production. It has recently secured deals meaning that it controls a large portion of the Gulf of Thailand oil fields. These are sea oil fields, but it is key to differentiate the nature of these versus deep water oil fields.
The depth of the gulf of Thailand is in the range of just 45-80 meters, versus deepwater areas like the North Sea or Gulf of Mexico that are hundreds or thousands of meters deep. This means that the company can stand oil rigs directly on the sea bed (jack-up rigs) and easily tie-back the pipes and infrastructure to central processing platforms or floating storage units. Overall, this drastically reduces the infrastructure costs for Valeura versus other deepwater producers. It’s not as cheap as Saudi Arabian onshore oil production, but is among the cheapest globally. It is a long distance from the Middle Eastern disruptions, and close to some of the largest energy customers in the world.
Earlier this year, their oil price was pegged to Dubai Crude, which surged at one point to a price of $160 per barrel. Now it tracks more closely to Brent, but still commands a premium as it produces light, sweet crude, which is very easy to refine and process. Production is expanding this year, and the company recently recorded April oil sales at an average realized price of over $110 per barrel. This is likely to mean revert at some point of course, but I think it likely that prices will remain elevated way above the pre-Hormuz crisis levels of close to $60. The equity market still doesn’t seem to be pricing this in, in our view, with the current valuation of $690 million, it could reasonably earn more than $350 million EBITDAX this year.