HQI - Mindset Value Fund Q2 2023 Investor Letter

2023-07-19 12:15:00 ET

Summary

• Mindset Value Fund's Aaron Edelheit is passionate about introducing interesting money managers, executives and startups that no one has heard of. His background includes investing professionally for over 25 years and starting and running the American Home.
• The Mindset Value Fund finished the second quarter up 14.2% on a net basis and is up 33.3% for the year on a net basis.
• We think there is an opportunity to offer investors a fund that pays out any dividends or interest received.
• Not only is our portfolio driven by companies like HireQuest and Grown Rogue with growth and secular tailwinds, but remember we are invested in a host of securities that pay us dividends and interest.

The Mindset Value Fund finished the second quarter up 14.2% on a net basis and is up 33.3% for the year on a net basis.

HireQuest Enters the Russell 3000 Index

In last quarter's letter, I highlighted our largest position, HireQuest ( HQI ), a franchise staffing company for temporary day laborers, factory workers, dental hygienists, drivers, and even executives.

HireQuest was added to the Russell 3000 index in the second quarter and that combined with continued strong earnings drove the stock up another 25%, following on the strong first quarter performance. The stock is up almost 60% for the year. I remain bullish and will simply repeat what I wrote last quarter, with the only added note that the stock now trades around $25 per share:

I believe the company is on its way to $2.50 to $3 per share in annual earnings. This is a business that needs little recurring capex as this is a service business, meaning that those earnings are pure free cash flow. While the stock may seesaw along with the market, it is building a free cash flow machine. What is that worth? I'm not sure, but I'm quite confident that it is not $20 per share. And with the right market conditions, this could easily trade at a 20 or 30 multiple.

Grown Rogue Is Poised for Explosive Growth

I remember when I first started investing in HireQuest below $6 per share, I could not believe that no one was following a company with 60% operating margins that had a long runway for growth, nor could I believe that it was selling at such a low valuation. I wrote a detailed report about the opportunity .

Volume was hard to come by, but I found some sellers. It took months to build up a position, but I simply did not care how long it took. Now the stock trades over 42,000 shares a day. Still not a lot by big cap standards, but light years from when it would not trade for several days in a row.

HireQuest is a great example that when a company is growing free cash flow, volume, and interest will rise as the stock rises and as the company reports stronger growth.

Now, three years later, I have the same amazement about Grown Rogue ( GRUSF ). On the face of it, Grown Rogue looks tiny and insignificant. The stock is a penny cannabis stock and a very illiquid one at that, trading around C$0.23 per share. Its volume has recently risen from almost nonexistent to 53,000 shares a day. But even that is only about C$10,000 a day in total trading volume!

Why in the world would you buy a stock that is that illiquid? In a nutshell, the company has a competitive cost advantage over much larger cannabis companies when it comes to producing high-quality indoor cannabis flowers, and their growth is poised to explode from 30% year-over-year growth to potentially over 100% growth at a time when most cannabis companies are retrenching and showing little if any growth at all.

I believe Grown Rogue is the most efficient indoor cannabis cultivator that is publicly traded in the world. My research shows that it is operational excellence that is in short supply in the cannabis industry, not limited licenses, and that is what Grown Rogue has mastered and gives it a competitive advantage.

Grown Rogue produces the #1 flower in Oregon, a market with sophisticated consumers and a legacy market where if you don't produce the best flower, it won't sell. But Grown Rogue's secret sauce is producing this high-quality flower for less than $600 a pound inclusive of all expenses. They've taken that formula and entered Michigan, where they are now around a top 5 flower producer. One advantage is that all Grown Rogue does is cultivate. They do not do retail and they do not do edibles.

Their recent earnings tell the tale of the company's performance in a time of struggling cannabis companies. Grown Rogue recently reported record revenue, growing almost 30%, record EBITDA and free cash flow in their latest quarter. And now the company is on the move beyond Oregon and Michigan.

The company signed a strategic partnership with Goodness Growth, a struggling MSO, that needed help with their cultivation. Grown Rogue will receive at least 20% of any improvement in operating income from Maryland and Minnesota for the help in cultivation. That's right, Grown Rogue is now receiving royalty income from two limited license states, one which just went adult use and the other which goes adult use in the next year or so.

I wrote about the opportunity and interviewed Grown Rogue's CEO, Obie Strickler. Goodness Growth Goes Rogue

I believe that the Goodness deal is just the beginning for Grown Rogue entering another 10-12 limited license states with their Oregon quality flower, but more importantly at Oregon cost as well. I believe the company is on a path toward $40 to $50 million in EBITDA and $15 to $20 million in free cash flow on a current market cap of approximately $30 million. At that valuation, I could care less about the liquidity.

But it is even better for Mindset investors because we negotiated a convertible debt deal in December, where we get paid a 9% yield and can convert into the stock at C$0.20 CAD. The stock is currently trading above that at .22 per share. Please note that we value our convert at our cost position, for now, to be conservative.

And now we are investing in Grown Rogue in another convertible that again pays 9% and converts into the stock at C$0.24 per share and includes an additional warrant at C$0.28 per share.

We are essentially getting paid while we wait for a company that has the potential to go up by more than 10 times in value.

Announcing the Launch of the W&GP Fund 1

And this leads us to the launch of our newest partnership, the W&GP Fund 1. The initials stand for Wait and Get Paid. Right now, the Mindset Value Fund and our dedicated cannabis fund, The Mindset Value Wellness Fund, reinvest any dividends and interest right back into stocks and other investments in the goal of compounding capital over time.

We think there is an opportunity to offer investors a fund that pays out any dividends or interest received. And this partnership gives us the opportunity to go deeper and own more of the companies we love. And so, I'm proud to announce the launch of W&GP Fund 1, which will invest in Grown Rogue's convertible and another company's preferred equity deal.

The new fund should pay out quarterly distributions that represent an annual distribution of approximately 10% net of all expenses but still offer substantial equity upside upon Federal Reform. This fund will open once and then close. Thanks to all investors who have expressed interest in the new fund, the plan is that this partnership will close on July 31. Let me know if you want to invest before the close.

Summary

Not only is our portfolio driven by companies like HireQuest and Grown Rogue with growth and secular tailwinds, but remember we are invested in a host of securities that pay us dividends and interest including preferred equity, convertible debt, and a senior secured note that with existing dividends, gives our portfolio an annual yield of over 5%. Every single quarter, we have inflows into our fund due to these investments. We expect more positive news and strong growth from our investments as the year progresses.

Thank you as always for your support and for entrusting Mindset with your capital.

Sincerely,

Aaron M. Edelheit

Original Post

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

For further details see: