WSP Holdings, Ltd.

Sell Price: $3.60

On Wednesday (11/26) we sold our 1,450 shares of WSP Holdings Ltd. (WH) for $3.60 per share. Our initial purchase was at $3.48 per share in May, and we received a $.45 per share special dividend in late June. Including the dividend, our IRR on this investment was 32.94%. We feel fortunate to have made a profit. During our holding period,WSP's business has deteriorated substantially, resulting in a recent quarterly loss. The company is facing large tariffs in the North American market, downward pricing pressure resulting from a glut of supply in the asian markets, and general declining demand. Due to rapid expansion and facility construction, the company's short term debt has increased substantially and is sitting at $500M as of September 30th. While we don't question the potential upside of an investment in WSP at current prices, we feel that there is far too much uncertainty facing this business to justify our continued investment, especially where we can exit with a modest profit.

Ark Restauraunts Corp.

Buy Price: $13.72

Overview:

On 10/29 and 10/30, after following the stock and its price movement for a number of months, we were happy to purchase 730 shares of Ark Restaurants Corp. (ticker symbol: ARKR) at an average cost of $13.72 per share.

Company Description:

Ark is a the owner or operator of roughly 50 restaurants, night clubs, bakeries and fast food facilities in the United States, primarily New York City, Las Vegas, Washington D.C., Boston, Florida and other locations in the northeast. Ark's restaurants are built around individual concepts and designed to cater to local markets, with exceptions being the America, Sequoia, Gonzalez y Gonzalez and Gallagher's Steakhouse concepts, which Ark owns two of each. Most restaurants are owned directly by Ark, although the company periodically enters into management arrangements with outside investors where the investors fund the building of the restaurant and Ark serves as manager, earning a percentage of revenues. Ark both purchases existing restaurants as well as designs and builds new restaurants depending on market opportunities. In development, management (i.e., CEO Michael Weinstein) targets tourist destinations with high foot traffic or other notable destination-type locations with robust economics (e.g., Bryant park in New York City behind the New York Public Library, the center of Union Station in Washington D.C. or Las Vegas casinos). Management spends considerable energy developing the "look and feel" of its restaurants, and to a certain extent atmosphere is more of a priority than food quality (like most successful restaurants). The company builds strong relationships with landlords and enters into long-term leases at rates which facilitate strong cash flow.

Management/Operations:

Ark has been in existence since 1983, when former investment banker, Michael Weinstein, decided to switch careers to restaurant ownership and management. Weinstein has a reputation for prudent capital allocation and business integrity as both a fiduciary to shareholders and an employer. Conference calls are quite enjoyable to listen to because of Weinstein's uncommon and refreshing candidness. Weinstein and his staff seek out locations for restaurants which will maintain sustainable economics and accretive cash flow as opposed to mindless revenue growth. Note that the company had a poor experience a number of years ago with several failed restaurants in suburban New Jersey, an experience which Weinstein and the company have learned from in selecting ongoing restaurant concepts and locations.

The company generally funds restaurant acquisitions and development from operating cash flow instead of additional stock sales or borrowing, and either distributes excess cash to shareholders or repurchases stock when there doesn't appear to be acceptable opportunities for growth. Shareholders received a $3.00 per share special dividend in 2007, a $1.00 per share special dividend in October of this year, and regular dividends when business operations support them. In March 2008, the board approved a stock repurchase program under which up to 500,000 shares of common stock may be acquired over a two-year period (no small amount given that the company only has about 3.5M shares outstanding).

While Ark isn't a traditional "wide-moat" business or in an industry we are particularly fond of (restaurants largely come and go), we think management's approach has given Ark a sustainable competitive advantage. The company's return on assets dwarfs other publicly traded restaurant companies (15.04% in 2004, 14.29% in 2005, 10.52% in 2006, 24.95% in 2007, 13.14% in 2008). For example, Brinker International, Inc. (EAT), Cheesecake Factory, Inc. (CAKE) and Darden Restaurants, In. (DRI) regularly achieve return on assets in the mid to high single digits.

In the last five years, management has achieved return on shareholder's equity in the high teens to mid 20s without the use of significant debt. While we believe Ark's casino-based concepts are struggling in the current economic environment, we worry very little about the stability and future cash flows of the company's urban locations - these restaurants are in premium locations with robust economics which simply can't be replicated in suburban strip-malls. For example, the company is in the process of opening a restaurant on the 9th floor of the Museum of Arts and Design at Columbus Circle in NYC, which will overlook Central Park. The term of the lease is 16 years, with two 5 year renewal options. While the lease commitment is substantial, we're confident that management can create a winning concept at this premium location and the long-term lease will end up being a substantial asset. We also don't question the long term viability of Las Vegas as a magnet for consumption.

Valuation:

At our purchase price of $13.72 per share, Ark's market cap is roughly $47.8 million. After distributing $3.5 million to shareholders as a special dividend, Ark will have excess working capital of around $5.7 million, and no long term debt. Assuming $1 million is needed for general working capital purposes, enterprise value is roughly $43.2 million.

Fiscal year 2007 and 2008 EBITDA was roughly 12.3 and 11 million respectively, for an EV/EBITDA multiple of 3.5x or 3.9x. Fiscal year 2007 and 2008 net income from continuing operations was $7.9 and $6.9 million respectively, for a EV/NI multiple of 5.4x and 6.2x. (We believe NI will be approximately $3.0 million for the fiscal year ended September 30, 2009, when released, for an EV/NI multiple of 14.4x) For comparison purposes, DRI and CAKE currently trade at EV/NI multiples of 2008 earnings in the high-teens, and most likely will be in the mid to high 20's using TTM figures. Both EBITDA and net income will be lower this year than 2008 given the tough economic environment (especially in Vegas), although Ark will report positive net income and, according to management, every one of its restaurants is cash flow positive.

We cannot predict the length of the current economic downturn, and aren't sure what to expect in the next couple of years, but believe operations and earnings will continue to improve, and begin to normalize if not grow. As this occurs, Ark's stock price will likely expand and reflect a multiple of earnings similar to its historical average (around 15x). Until this happens, we'll gladly collect the stock's $.25 quarterly dividend which is more than supported by current cash flows (a roughly 7.25% yield). While we can't be sure what Ark's theoretical intrinsic value is (we prefer the "know it when you see it" approach to value investing), we believe the stock's current price, given the company's debt-free balance sheet and shareholder-friendly management, provides a sufficient margin of safety and attractive upside potential to justify our investment.

Note about Liquidity and Ownership:

Ark is a micro-cap stock with very little liquidity and a wide bid-ask spread on any given day. One shouldn't invest in Ark without a medium to long term investment horizon, an approach we're happy to take. The company is entirely off wall-street's radar, which can result in inefficient pricing, but which can also make value realization a patience-trying experience. The company's float is very small, only about 1.8m shares. CEO Weinstein owns roughly 30% of the company, so he exercises substantial control over the company's activities, but also eats his own cooking...

China Nepstar Chain Drugstores, Ltd. Calls

On November 6th, we sold thirteen China Nepstar 7.50 calls which expire in March for $75 each. If exercised, our effective sales price of the 1,300 shares will be $8.25 per share, for a gain of roughly 214% on our purchase price before commissions. This return is calculated before taking into account this year's $.35 dividend, and the special dividend of $1.50 which will be paid around December 31st (which raises our return to roughly 262% in the aggregate, before commissions, not taking into account time differences in payment of the dividend, sale of the calls and sale of the stock). Note that the stock is now ex-dividend, and the price currently reflects the December special dividend.

Selling these options and our accrual of dividends has given us the ability to recoup approximately 67% of our initial investment in a short amount of time. The drastic multiple expansion and stock appreciation has occurred with relatively lackluster earnings reports and only modest expansion in Nepstar's business. $7.50 a share represents a roughly 20x EV/trailing EBITDA multiple - far above the 8x target we had discussed in our initial write-up. We have decided to sell the options to give ourselves time to see if the business fundamentals will catch up to the current valuation, and support continued investment. If this is not the case we will be very happy with our exit price with a holding period of just over one year.

Ark Restauraunts Corp. (Update)

On Friday, following a large drop in price in ARKR we decided to purchase an additional 380 shares at $13.18 per share. We will post a full write-up for this investment shortly.