Deep Value - Sonocom [7902.T] Playing Devils Advocate - 26/02/2025
Shorting a stock trading beneath its NCAV is unwise. However, as part of our process, for objectivities sake, we’re going to make a case for exactly that.
NCAV Erosion
Sonocom is dependent on the semiconductor industry for a large portion of revenues. This industry is in development and changing rapidly – there is no telling where it will be in a few years’ time. This tilts the odds of the thesis, which is reliant on a stable NCAV, out of our favour. If Sonocom begins to burn through cash before value is recognised by the market, it’s bad news for us.
Speculation is a waste of time. However, we will play along for the sake of this short case. As industries mature, there are often a small number of competitors who emerge as victors, and a large number of losers filing for chapter 11. For example, has been the case for internet technology. 25 years ago, no company held significant market share. Today, it is dominated by the MANGA group – Meta, Amazon, Netflix, Google & Apple – classic winner takes all economics. The Semiconductor industry is headed in a similar direction, with Nvidia taking a dominant position.
To make our point, we shall take an extreme view and say Nvidia will capture 100% of market share. What does this mean for Sonocom? One manufacturer of semiconductors means one customer, and there will be ruthless competition accordingly. This is a battle Sonocom realistically can’t win. Obviously, reality would not be this harsh. However, it still conveys that Sonocom will face an increasing amount of competition for its contracts as concentration in the semiconductor industry rises. The result would a NCAV decline beneath market capitalisation.
Value Remaining Unrecognised
Net-Nets are a numbers game. Whilst we are confident that a diversified net-net strategy outperforms, the market may not recognise value quickly enough for adequate returns in this case. However, we aren’t pitching a short on our strategy here, but against the company. Why might value go unrecognised?
A global rise in stock market prices reduces the probability of investors responding to Sonocom’s value. This seems counterintuitive but is based on fundamental human psychology – people are inherently risk averse. Typically, people also wrongly perceive significant discounts as risks. This subconscious use of prices to inform of the stocks value and risk is misguided but has been a common feature of collective human action in the stock market for centuries. We cannot comment on where the stock market will move over the next few years. However, we do know that stocks more often go up than go down. This may not bode well for our thesis.
We still believe in our long thesis, but there certainly is an opposing view, albeit a speculative one. We don’t engage in speculation when making investment decisions – we leave that nonsense to the 90% of fund managers that fail to beat the market.