Rhizome Partners, a long-term capital investment management firm, published its fourth-quarter 2020 Investor Letter – a copy of which can be downloaded here. A net return of 18.2% was recorded by the fund for the Q4 of 2020, outperforming its S&P 500 benchmark that delivered a 12.2% return. You can view the fund’s top 5 holdings to have a peek at their top bets for 2021.
Rhizome Partners, in their Q4 2020 Investor Letter, said that Calumet Specialty Products Partners, L.P. (NASDAQ: CLMT) was their largest mistake. Calumet Specialty Products Partners, L.P. is a premier producer of world-class hydrocarbon products. It currently has a $308.1 million market cap. For the past 3 months, CLMT delivered an 11.55% return and settled at $3.95 per share at the closing of February 19th.
Here is what Rhizome Partners has to say about Calumet Specialty Products Partners, L.P. in their Q4 2020 investor letter:
“Calumet has been our largest mistake since inception. We had a full year to reflect on our mistake and we are going to share our findings with you in an honest and open manner.
Calumet suffers from high leverage coupled with a Master Limited Partnership (MLP) structure. The high leverage is obvious but the MLP structure proved to be more significant than we previously thought. If Calumet were a C-Corporation, the capital market would have charged the company a much lower rate for borrowing money. Due to the MLP structure, the capital market assumed that the management team will eventually turn distributions back on. While the capital market is willing to finance all sorts of junky companies, it does currently draw a line at financing MLPs. Perhaps this is to compensate for the sins committed by MLPs during the past decade. This significance is much more important than we thought previously. Despite paying down hundreds of millions of dollars of debt, the actual interest expense was not reduced by much. As we examined other investments in our portfolio that did not work, we realized that many of them were MLPs. This includes Teekay Offshore, and Laaco. In the case of Teekay, Brookfield conducted an underpriced take-private. In the case of Laaco, it fundamentally performed as we expected. But the market demands a much higher discount than we anticipated. We are reluctant to invest in any MLPs in the future.
Second, we wrongly assumed that the new CEO made the strategic decisions when it was the general partners, The Heritage Group, who were actually in control. Third, we suffered from frog-in-a-slow-boil syndrome. There were minor deteriorations of the thesis over time. While not every thesis works out the way we envisioned, most of the Calumet surprises were negative in both fundamental performance and “decision maker” quality. As we got to know the key players better, we realized that the CEO, CFO, and the general partners all had their issues. Another part of the slow boil problem is that the company kept dragging their feet in divesting the Montana refinery. A looming wall of debt maturity and Covid was a toxic mix for Calumet.
Fourth, we needed a much more charismatic CEO/CFO combo. We still believe that Tim Go is a good operator. But he lacked charisma and the ability to charm the capital markets. As a result, Calumet had to pay 11.5% to refinance the debt in late 2019. A focus on execution combined with a lack of charisma is fine for a wellcapitalized company. But it could be fatal for a company with near-term debt maturity. On the other extreme of the spectrum is Elon Musk who managed to avoid insolvency time after time. Fifth, we had too much invested in Calumet and we were too vocal about our thesis. We simply sized it too large at roughly 7% of the partners’ capital. An 1-2% allocation would have been ideal as we can react to share declines with a cooler head. The fact that we published our thesis in a detailed slide deck presentation made it hard for us to change our mind.
Finally, we made some analytical mistakes. For example, we underestimated the disruptive impact to the business during an ERP implementation. We assumed the specialty business would grow faster and we underestimated the total interest expense as the use of revolvers created additional expenses. Lastly, we suffered from a bit of PTSD. There was a period during March and April when I was replaying why we got involved with Calumet and all the mental anguish that we suffered along the way. I played out the could’ve, should’ve, and would’ve in my head. Ironically, it was after we sold Calumet that I was able to mentally focus on redeploying the hedging windfalls and that is why we were able to turn $1.00 of hedging cost into $17.50 during 2020.
There is a small bit of positive from this experience. Under the negative back drop of losing money and time, we have learned a lot about specialty chemicals and about ourselves. We have come to appreciate that they are attractive businesses as Calumet continues to generate significant EBITDA during 2020. This has made us better investors in DuPont, Corteva, and Univar. Our Calumet mistake is different than previous oil and gas mistakes as we believe we can compound our knowledge over time. On the other hand, we still have no idea about the future price of oil.”
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