DL | davianletter.com Small Cap & Special Situations Research  

 
January  18,  2011  
 
Small  Cap  and  Special  Situations  Research  
 
The  Small  Cap  and  Special  Situations  Research  report  offers  value  focused,  in-­‐depth  
fundamental  analysis  of  securities  we  believe  offer  favorable  risk-­‐reward  profiles.    We  seek  to  
identify  and  exploit  market  inefficiencies  through  our  rigorous  due  diligence  process,  and  
apply  technical  indicators  with  a  goal  to  idealize  trade  execution.    

Coverage  
While  knowing  how  to  value  businesses  is  essential  for  investing,  a  critical  component  in  the  
investment  process  involves  knowing  where  to  look  for  opportunities.    We  believe  our  
coverage  universe  contains  ample  opportunity  for  capable  investors.      

1. Small  Cap  –  Companies  with  market  capitalization  of  less  than  $2  billion,  including  those  
trading  on  OTC  Exchanges.    We  search  for  unloved,  underfollowed,  and/or  
misunderstood  securities.    Our  ideal  opportunity  has  an  immediate  or  near  term  catalyst  
for  realization  of  underlying  value.  
 
2. Special  Situations  –  The  underlying  theme  to  most  of  these  investments  is  change.  
Something  out  of  the  ordinary  course  of  business  is  taking  place  that  creates  an  
opportunity.  The  details  of  each  situation  vary,  but  normally  institutional  constraints,  
illiquidity,  complexity  and  informational  inefficiency  create  value  opportunity.    Typical  
Special  Situations  investments  occur  in  the  following  transactions:  

• Spin-­‐offs  
• Bankruptcies  
• Restructurings  
• Rights  Offerings  
• Merger  Securities  (CVR’s,  etc.)  
• Recapitalizations  

  Small  Cap  &  Special  Situations  Research  

 
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January  18,  2011  
 

Research  Process    
Our  research  process  is  a  bottom-­‐up,  value  based  approach.    Creative  idea  flow  refines  our  
broad  universe  into  a  basket  of  workable  leads  which  are  then  met  with  hard-­‐nosed  skepticism  
and  analytical  rigor.  

1. Idea  Flow  
a. Proprietary  fundamental  screens;  
b. Targeted  qualitative  screens  through  SEC  filings;  
c. Unusual  Activity:    Index  reconstitution,  delisting,  and  insider  activity;  
d. Developing  trends.  
 
2. Analysis    
a. Financial  Statement  Analysis,  emphasizing  asset  quality  and  earnings  reported  vs.  
the  true  economic  value;  
b. Peer  Group  and  Industry  Analysis;  
c. Company  &  Executive  History;  
d. On  Site/Company  visits  when  warranted;  
e. Technical  Analysis  to  optimize  timing.  
 
Strategy  
From  unproven  business  models  to  unfavorable  capital  raises,  many  traders  outright  refuse  to  
investigate  securities  like  the  ones  we  cover.    This  broad-­‐brush  thinking  often  leads  to  outsized  
risk  premium,  and  therefore  value.    In  seeking  observable  facts  and  following  logical  reasoning,  
our  research  aims  to  mitigate  risk  and  identify  underappreciated  value.  

We  will  deliver  strenuously  researched  opinions,  and  formulate  ideas  on  how  to  trade  the  
names  based  on  our  combined  experience.  The  expectation  for  high  volatility  must  be  
appreciated,  and  it  must  be  noted  that  outsized  price  action  works  both  ways.    Patience,  
position  sizing,  timing,  and  experience  cannot  be  ignored.  

  Small  Cap  &  Special  Situations  Research  

 
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Ethics  &  Disclosure  

Our  product  inherently  deals  in  instruments  whose  prices  can  be  moved  by  relatively  small  
sums.    Not  only  will  we  often  participate  in  the  securities  covered  as  a  matter  of  trust  in  our  
own  system,  we  may  trade  in  them,  as  well.    We  view  ethics  as  an  imperative,  and  therefore  
will  not  refrain  from  disclosing  positions  at  the  time  of  writing  but  there  can  be  no  expectation  
that  prompt,  or  even  timely  notice  will  be  given  when  choosing  to  sell.    We  view  stock  
ownership  and  trading  as  an  individual  matter,  not  only  on  our  part,  but  on  yours.    If  a  
situation  arises  that  changes  our  opinion  of  a  given  security  that  opinion  will  be  distributed  as  
soon  as  is  practicable.    We  receive  compensation  in  connection  with  the  publication  of  this  
newsletter  exclusively  in  the  form  of  fees  charged  to  clients.  

About  Kyle    
Kyle  works  in  Corporate  Finance  for  a  Fortune  500  company.  Outside  of  his  professional  
activities  he  devotes  the  majority  of  his  time  to  managing  his  own  investments  in  the  small  
cap/special  situations  space.    

About  Chris  
Upon  graduating  from  college  Chris  spent  almost  a  decade  in  construction  management  with  
responsibilities  including  writing  contracts,  creating  schedules  and  budgets,  and  client  
interface  for  project  values  ranging  from  negligible  to  tens  of  millions.    Beginning  in  2007,  he  
began  to  take  ownership  of  a  modest  retirement  portfolio,  and  separate  cash  account  with  the  
recognition  that  asset  management  begins  and  ends  with  the  asset  holder.    After  exceedingly  
profitable  trading  through  the  down-­‐turn  and  following  rebound  he  left  the  construction  
industry  in  the  Spring  of  2010  to  dedicate  more  focus  to  his  long  term  research  and  more  time  
to  his  shorter  term  investment  strategies.  

Value  investing  is  at  its  core  the  marriage  of  a  contrarian  streak  and  a  calculator.    The  strategy  of  buying  
what’s  in  favor  is  a  fool’s  errand,  ensuring  long-­‐term  underperformance.  Only  by  standing  against  the  
prevailing  winds  —  selectively,  but  resolutely  —  can  an  investor  prosper  over  time.  

Seth  Klarman  
  Small  Cap  &  Special  Situations  Research  
 
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