Tuesday, May 28, 2013

Updated Property Info For Calloway's Nursery (CLWY)

As an investor, blogger, and hell- as a human, I am faced with my own flaws. This post is in fact one of those posts where I get the privilidge to say "I was wrong on my Calloway's post..."

When emailing with John over at Portfolio 14 (I put in links to his Twitter and blog for good reason, you should check him out!), he noted to me that I may have missed one of the properties that the company owns- certainly, we are fortunate enough to live in an age where we have the ability to instantaneously carry on a conversation between 2 people who are far away- in this case, a couple of nerdy investors in Kentucky and Australia, in regard to a company company that sells plants out of its glut of real estate in Texas. Kind of an overall odd situation.

Anyway, the subject property is located in Lewisville, Texas. As it turns out, the company not only owns property there with a taxable assessment of over $100K, which I did get right, but I missed the fact that they own the property with a significant land and improvement value... Here is a screen shot- I confirmed with the company that they do in fact own the property, despite the odd name at the tax office.



So, the taxable value of the company's real estate goes up by ~$2mm dollars to come in a hair shy of $26 million dollars. Here is the updated spreadsheet:


So there you have it. I was wrong, which goes to show why I always include a disclaimer! Another big thanks go out to John at Portfolio 14, who if not for, my estimation of intrinsic value for Calloway's would be a bit less than it is now! Also, this goes to show that emailing with people can really help spread knowledge on things like this- if you have yet to, feel free to drop me a line- I'd love to chat! Thenameofthisblog@gmail.com

Disclosure/Disclaimer:  I own and represent shares of Calloways. I reserve the right to change the positions at any time. This post is my nothing more than my thoughts/opinion. Always do a ton of your own research before so much as contemplating anything that I say, do, write, or even think about.

Monday, May 20, 2013

Walking Away From A Few Million Dollars Part 5: Ding Dong, The Deal Is Dead...



If you are a newerish reader of Ragnar, this is the 5th installment of my experience almost buying a 120+ unit apartment complex... If you have yet to, I suggest you read parts 1, 2, 3, and 4 so that this will make more sense.... I’ll be making one more post on the deal, where I talk about the lessons that I learned and give some aftermath as well.

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It was a Sunday in the spring- roughly a 1/2 decade ago. One of my uncle's friends, who was a moderately sized contractor in central Kentucky, was on a job site near the center of Frankfort- the Commonwealth's state capitol. He had 3 workers on the job site using a jackhammer. While working, the crew noticed and found it odd that there was a white car with 2 gentlemen inside, watching them work. Despite the oddity, they paid little mind to it, as the car would be there sporadically at best.


A few days later, one of the men emerged, identified himself as being from OSHA, and asked to see the hearing tests that had been performed on the workers. The contractor had never heard of such a requirement, but despite that, routinely provided hearing protection for his workers- having met him, he seems to be a pretty genuine and caring guy- definitely not the type that would hurt his employees. The employees were shocked as well. Regardless, he was honest with the OSHA representative and simply said something to the effect of "I don't know what you are talking about... hearing tests?"


The contractor walked away from the job site with a stop work order and a hefty fine.


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As previously noted, my Uncle Bill and I had done a pretty good job of crossing our "t"s and dotting our "i"s in regard to what needed to be done to make the 120+ unit aparment compex economically viable. He had managed to track down nearly everyone who had ever worked on the complex- from maintenance men (who, couldn't really spell that well) to electricians who had done bids on the electrical work (over 3 decades of being a landlord has its advantages). Our plan to turn the complex into elderly housing was nearing reality, as the closing day was in the next week. By now, I had started talking to my friends about what was going on, since I had more or less dropped off the face of the earth for the better part of a month- a rarity for me. Despite that, I was eager to get going! After all, with an army of contractors ready to tackle this thing, what could go wrong?

Previously, I had scheduled what I was referring to as a "final meeting" with the building inspector who we would be working with and his boss... I had no idea how true of a description "final meeting" would  be. After meeting with Bill at the complex, we drove to the department that would oversee our project.

I could talk about the buildup of nerves and emotion to generate some suspense, but I will spare you with this bluntness... from the moment we arrived, things went downhill- they went down quickly. Like lemmings off a cliff.

The meeting started with the 4 of us sitting down in a conference room, with our inspector's boss plopping down a newer codebook that looked to be 6 inches thick... of current codes for us to abide by. Which don't get me wrong, isn't bad in and of itself... however, when you are dealing with a building this old, there is no way to economically bring it up to all points of new code. This doesn't mean that the building would have been unsafe, But mainly that it would have been a better investment to tear it down and start over (which, I actually priced doing- the numbers didn't still didn't work)... However, as unelected officials, the inspectors didn't have to worry about making a decision in a way that was practically popular or not. The logic for the new codes was that the building had been condemned and wasn't grandfathered in for the older codes. However, there was never any evidence I could find of any official governmental condemnation in the first place. I am not saying that it didn't exist, but the only think that I could find about it was a letter where the complex had a condemnation order lifted- and I talked to a lot of people about it... some of you may recall that I have filed Freedom Of Information Act requests to get information- so, it isn't as if I skimped on my efforts.

Seeing the new code book made us we both realized that we were not going to come out of the room
hearing much of what that we needed to resurrect the building. It wasn't a matter of reason when coming to save the building at this point- it seemed more about making the thing as close to new construction as possible. When asking a question about virtually anything, the inspector appeared taken back in a "how can you question me in from of my superior" sort of way. At some points, he visibly appeared to be under stress- which kind of threw me for a loop, as I am generally a pretty laid back person. Whenever Bill or I talked about provisions for the building, the supervisor would sit back, head titled and propped up by his fist- mentally deliberating about the items and say "well, this concerns me... this doesn't... here is how I rule on this" after he might have flipped through his code book. Don't get me wrong, I appreciated the attempt at working with us, however, in many instances, a lot of the problem I had with the whole thing was that he had never stepped foot in the building. The actual inspector in the field spent less than 15 minutes in it. Even something as simple as a discussion would have been great- for something of this magnitude, which would have represented a healthy percent of the rental units in the city, I think that would have been an appropriate step- especially when considering the gravity that each decision could potentially have for the people that would have lived in the building.

Knowing what I knew about the building, I knew there were a lot of items that needed to be addressed. As such, it was a neccessity for me to take notes, just as I do at virtually every meeting of this nature always getting the persons permission.



However, when I started getting the opinions of the inspector and writing them down, he became very uneasy.

In my notes were items such as adding a fire door and wall to the laundry areas, where as before, the space simply had a large opening... We needed to make sure that the temperature in every single room was within 3 degrees of each other. Locks on all entrance doors couldn't be double chambered (something that I thought to be obvious and not needing discussion). Other items pertained to things such as patching the fire walls. On certain items, such as drywall extensions above the drop ceiling, they weren't concerned about us adding drywall, but were very concerned about other items that seemed to be less dangerous. I remember feeling as if I lived in a Kafka novel...

One of the main components was that we were to install multiple smoke alerts and to hook the sprinkler system to a security system. We had originally planned on putting a single smoke detector in each unit and not wiring them into the security system- reasoning that when people's bacon would inevitably burn, it would be a bad thing whole building to be evacuated. We worried that people would eventually stop paying attention to the alarms, which in the event of a real fire, could cost them their lives. We liked the idea of having main alarms set up in the hallways so that if a unit was in trouble, then everyone would know. Despite this, our plans were not allowed and we were told to add in audio and visual alarms in every unit, tying them all together into a single alarm... While some of the items seemed patently absurd (such as adding some extensions on hand rails) most everything else being suggested seemed reasonable and for that matter, were items that we were going to take care of any way... security and alarm systems aside, we were going to end up spending ~$25K that we had not planned on...


At the end of the meeting, we were instructed to stroll down the hall to meet with the planners to work on the process of getting approval for our plans. Being told that giving my notes to the planners and that we could discuss the items in greater depth as we went along was totally surreal and didn't calm me in the least.

Bill and I walked out of the meeting having feelings that were bi-polar opposite in the truest sense of the odd phrase... we were both felling pretty bad about it, but internally realized that we were probably in the process of getting screwed and needed to run away... and quickly at that! However, I was hoping for some sort of miracle with the new bids I was needing to get. After all, as our friend had said earlier, "there has to be a way to do this... there are just too many of those old buildings around for them to make you start over." Despite this, we both felt that there was no firm commitment on the extent of items that were and were not going to be enforced. We knew that a lot of this was subject to change if we didn't dance to the tune that we were told to.


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When in the process of analyzing if we would be able to meet the building inspectors needs, we had a few other items to firm up as well- the sprinkler and elevator systems. When digging a little bit deeper into the matters, we discovered the companies which had previously serviced them didn't have a correct memory of what needed to be done to get the systems up and operational. After placing numerous calls, I would meet with several of the appropriate contractors in a few days. But for now, I was on security detail.

Still hoping to salvage the deal with a little more headache, we decided to meet with a few security companies to get prices on the items that would be needed. After research, we decided that Sonitrol was about the only company capable of doing what we needed. When the sales rep came out, we explained what we needed, gave him the grand tour of the complex, and asked for a bid in the next few days.
A few days later, I talked to the Sonitrol salesman on the phone to try to firm the items up. He knew that this was going to be a real high hurdle for the project, but didn’t seem to want to say much more than that. After a few minutes of prodding, I got him to finally give a cost for the parts, just to network the sprinkler system to the security system and have alarms in every room of the complex: $75K. A number that didn't include panels, wire, labor, and a lot of drywall work. Due to the layout and structure of the buildings, these runs would prove to be very difficult to navigate so as to network the items how they needed to be and connect them in a simple but effective manner. 

When investigating the sprinkler system a bit closer, we also saw that we were going to need to look at host of sprinkler system repair as it appeared to have been installed incorrectly- in such a way that was near impossible for water to drain out of... a BIG problem. Notice the slant of the pipe above (the panorama exaggerates it a touch, but it was significant).

Originally, the dry system was constructed of black pipe. This is a metal pipe that is generally used for gas lines and if the slightest bit of water gets on/in it, then it will rust up pretty quickly. Not exactly the sort of thing that you want to have in a system that has a lot of pressure on it. As the system had water sit in it from previous use (and improper installation), rust quickly developed. When under the constant pressure that a dry system is subject to, the combination caused the picture you see to the right... A long layer of rust and weakened pipe. This was the case for most of the complex, as we found lots of bad areas from where the system had been patched on numerous occasions.

For safety's sake, the Commonwealth heavily regulates various systems, which I actually think is probably a good thing (much to the chagrin of some of my readers)- people don't want things like a sprinkler system to work incorrectly. They trust the government to inspect these anti fire measures, so there is a piece of mind factor involved. Anyway, when testing a system, air is run through the system with a burlap sack at the end of it, which catches anything that is in they system as it blows out. Whenever a chip of rust comes out of any significant size, you need to figure out where the rust came from and replace that part of the system... Then, the inspectors go back and start the test over. As you can imagine, this can get very costly, time consuming, and be a pretty difficult system to troubleshoot.

To further complicate matters, in Kentucky, if a sprinkler head is more than 50 years old, it needs to be replaced, regardless of functionality. This particular system was right at its golden anniversary. Additionally, every few years, you need to send off a sample of your heads for testing to verify hat they will work as intended. If ANY of the samples fail, then all need to be replaced. After counting the various types of heads (and me going through the super hot attic space around the firewalls) we realized that there were well over 1,000... at a minimum cost of $27.50 per head, PLUS installation. We were looking at over $35 grand... roughly the cost of my entire college education. In our back and forth, Bill and I decided that due to the age and wear in the system (see the previous picture), it would be a better idea to simply replace the whole system, which in addition to a lot of tedious plumbing work, would have added a lot of drywall work and time as well. 

If replaced, at least we would have a non-corrosive system that would be easy to maintain in the near term. However, the material that is used in this application is a type of CPVC- a material similar to PVC, which I absolutely love to use for passive drain lines (as an example, I replaced some cracked cast iron with PVC just last week). However, I don't trust it to put under pressure for long periods of time (as in many decades)- after all, if there is constant pressure on anything for a long enough, coupled with various other factors, the pipe will eventually fail. Plus, with the ceilings being relatively low and lots of the sprinkler system remaining exposed, I had a great fear of tenants hanging things on the piping which would inevitably cause major problems such as a mini flood...

After a morning meeting with the spinkler company with the best reputation for service and cost, we learned that we were going to be out an amount approaching $300- $400K and would end up waiting around month while the install would be preformed. God only knows how much a different material would of been.

We also decided that a major refurbishment of the elevator would be necessary, as a lot of the issues that I described for the sprinkler system, rhymed with the ones we were dealing with in the elevator as well (it had the old relay style system- kind of like a much more complicated Bally pinball machine from way back in the day)... After talking with one of the sharpest tradesman that I have met, we were emailed with the news that elevator system was going to set us back another $75K.

If you are keeping track, over the course of a few days we were hit with well over 1/2 a million dollars worth of items- with little chance of getting around from a legal perspective and absolutely no way skimp on from an ethical one. We would have been OK with the new sprinkler system, but the alarms that were necessary to go with it would have likely been close to another 1/2 million dollars once all the items were taken into account for installation (drywall, paint, routing of joists, wire, boxes, time, lost cash flows, etc) and delayed the project by months that we didn't have.

Oh yeah... near the last day on the site we also noticed that in the extensive copper vandalism to the building, even the refridgerators hadn't been spared... literally, there had been less than 50 cents worth of copper (less than a foot in length- see the right side of the right picture, compared to what it is supposed to look like in the other) cut out from around the compressor units in the appliances. This was done to a huge number of the fridges, just as had been done with the old air conditioners. None of the more than 50 people who had been in the building, which included our appliance guys, noticed this huge problem until Bill saw it near the last day... a need for 50 cents ruined appliances that were worth around $300 dollars when being sold as used on Craigslist!



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There is an old saying from where I come from that is to the effect of "When you wrestle with a pig, you always end up rolling around in the mud and getting filthy. At the end of the fight, even if you win, you really don't because the hog probably enjoyed the whole thing." Roughly 25 days after first stepping foot into the complex, we realized that we were dealing with people that we could not fight with and come out clean, so to speak. The list ranged from cracked out drug addicts to potentially over zealous regulators. If the project was going to work, we were going to either spend more money than was worth our while OR we were going to need an army of professional engineers, security, and contractors on our side- an option that also required more money and frustration than it was probably worth. Both instances would take up a ton of time and with the latter scenario, we certainly wouldn't be making any friends- which are always needed when doing business in the Capitol of the Commonwealth. It's a place, where if you make enemies, you pay for it regardless of if you are in the right or not. All this, for what now likely wouldn't generate the return we needed it to for it to be a worthwhile investment which also possessed some semblance of a margin of safety.

While reluctantly waiting for the deal to die, I was eating lunch with my mom when I got a call from Bill. In that conversation, one that I remember all to vividly, we decided kill the deal. A few hours later, I called my realtor, informed her that we were evoking the clause in our contract that stated allowed us out if we could no longer "use the property for our intended purpose" and walked away from a few million dollars with a full refund of our earnest money. While the logic being used to walk away was solid, I was dreading telling my banker of the change in plans- for a smaller community bank, you don't like to pull out what would easily end up being a $1.5 million dollar loan which was going to make everyone involved a good deal of money.

But it had to be done.

Monday, May 13, 2013

Calloway's Nursery & Activism

This post will be short and sweet.

A lot of times as a value investor, I come across and invest in companies that either have activists, or are in a situation that gets activists involved. This is probably virtue of the fact that a lot of times when a stock becomes a value stock, there are issues with the company that need to be addressed.

Calloway's is no exception. Having been written up by OTC Adventures, the company is no secret to the value investing community. When reading this, one of my friends, (good investor and guest poster here at Ragnar) DTEJD1997, alerted me to the fact that some of the real estate the company owns is quite desirable. This immediately piqued my interest and I started researching it- coming up with the following spreadsheet.



As you can see, the tax assessor believes that the company owns some dandy parcels of real estate. Further analysis makes me really like the properties as well. If sold, it would seem that these properties are some of the most re-developable land in existence. They already have zoning in their favor and it isn't as if most nursery locations have a lot of stuff to demo and haul away to redevelop. After all, these locations are little more than a poured slab and some tents, water hoses, and lawn timbers (with a few exceptions). In most cases, it seems that the real estate is on the books for far less than it is actually worth. Throw that in with the company being located in Texas with great economic, real estate, and demographics plays, and you have a company that I own some common stock of.

One of the most interesting items here, is the location at Voss Road... Google Map it and you can see in the most simplistic way, that it is a fantastic location and is likely worth the entire market cap of the company... that sort of situation doesn't happen all that often.


View Larger Map

The only item I don't really like was with regard to the dilution to the common stock, taking places at very unfavorable prices for everyone that wasn't receiving the newly issued stock. Now, activists are looking to replace the board over it, by calling a meeting of shareholders. This investment reminds me of a touch of Syms, but where the underlying business is profitable, and as a whole, not a terrible. You are also getting a lot of assets which are trading well below their likely understated book value. I have liked this company since I first read about it and have been buying shares over the past few months.

I am sure that there will be more to come out of this interesting situation...


Disclosure/Disclaimer:  I own and represent shares of Calloways. I reserve the right to change the positions at any time. This post is my nothing more than my thoughts/opinion. Always do a ton of your own research before so much as contemplating anything that I say, do, write, or even think about.