Q1'22 Micro Cap Value Strategy

Micro Cap Value Performance Review - First Quarter 2022

The Pacific Ridge Capital Partners Micro Cap Value strategy returned -5.6%* during the first quarter ended March 31, 2022, underperforming the Russell Microcap® Value Index (“Index”) return of -3.5%.

The strategy’s portfolio characteristics can be significantly different from the Index because we generally invest in smaller-sized and lower-valued stocks, as well as being sector indifferent. This difference is depicted in the charts below.

Size Analysis

The strategy faced a moderate size bias headwind during the quarter, as smaller companies in the Index underperformed larger companies. Those with a market capitalization below the $270 million Index median posted a -4.7% return, versus a -3.2% return for stocks with a market capitalization above the breakpoint level. The Index had 85.9% of its weight above the median market capitalization level and 14.1% below that level.

Style Analysis

The strategy benefitted from a moderate style bias tailwind during the quarter as unprofitable companies in the Index significantly underperformed profitable ones. The strategy held 5.8% in stocks with forward PEs lower than 0x compared to 19.5% in the Index. The strategy also benefitted from a slight style value bias tailwind by virtue of being overweight in profitable stocks with PEs 0 - 15x, which were up 0.3% in the Index. Offsetting these tailwinds, the strategy had negative stock selection scores during the quarter, particularly among holdings in the 0 – 15x PE range.

Sector Analysis

The strategy benefitted from a moderate sector tailwind during the quarter by not being invested in Health Care which returned -13.8% in the Index. On the other hand, the strategy faced a moderate headwind in both the Information Technology (IT) and Energy sectors during the quarter. The strategy was overweight in IT, which returned -10.2% in the Index and underweight Energy, which returned 36.9% in the Index. 

Portfolio Characteristics (as of 3/31/22)

Top Contributors*

Twin Disc, Incorporated (“TWIN”), a manufacturer of power transmission equipment, reported strong revenue growth in the December quarter of 2021 as demand improved across most end markets. Cost inflation and supply chain challenges will likely limit margin expansion in the near term. However, the company should realize leverage benefits as order bookings have significantly increased in the past six months, particularly from oil and gas customers, where it appears a new rebuild cycle is developing.

Barrett Business Services (“BBSI”), a provider of human resource outsourcing, reported strong fourth quarter 2021 results. Most of BBSI’s customers are small businesses that were affected by the pandemic in 2020, negatively impacting BBSI’s performance. In 2021, results returned close to 2019 levels. Shares have moved up recently, although they are still trading at below pre-pandemic levels. The outlook remains promising, thanks to significant operational improvements that should lead to greater operating leverage and less risk going forward.

Silvercrest Asset Management (“SAMG”) is an asset manager serving institutional and high net worth clients. The stock rallied late in the quarter following an earnings release that exceeded expectations. The company has a strong track record of investment performance and continues to focus on building out its Family Office business. Increased asset flows are driving revenue, earnings and cash flows to record levels.

Sunlight Financial (“SUNL”) is a technology-enabled financing facilitator for the solar power industry. The stock has been on a roller coaster for the past year because of rapid sector growth and adjusting to changing regulations. We established a position late last year and benefited from low expectations that followed proposed modifications to net metering rates in California. After these modifications and supply chain backlogs abate, the intermediate and long-term financial prospects should become increasingly clear.

First Business Financial Services (“FBIZ”) is a branch-light community bank headquartered in Madison, Wisconsin. The stock has performed well over the past year due to the successful resolution of past credit issues by management, diversification of the company’s deposit base and increased profitability. FBIZ continues to build out its SBA operations, which in turn should drive an increase in fee income.

Top Detractors*

Quantum Corporation (“QMCO”), a manufacturer of computer storage products and solutions, was hit hard by supply chain issues. Management reported strong demand for its storage solutions used by well-known hyperscalers (the largest cloud services companies), especially with TV and movie production companies ramping up their need for video storage and related tools. However, the shortage of semiconductors impacted production and QMCO faced decreasing revenue and profits, even as backlog rises. As a result, late in the quarter, QMCO announced a dilutive equity offering to shore up its balance sheet, sending the shares down.

Cooper-Standard Holdings, Inc. (“CPS”) manufactures sealing, fuel, brake delivery and fluid transfer systems for passenger vehicles. The company’s main customer base is large OEMs (Ford, GM, Stellantis), followed by a small business selling products to automotive suppliers. The stock sold off during the quarter because of continued concerns with light vehicle production, exacerbated by the company’s excessive financial leverage. With a normalized level of auto production expected in the next several years, CPS should see ample cash flow and fetch a reasonable valuation multiple.

Comtech Telecommunications Corp (“CMTL”) is a key provider of next-generation 911 (NG911) emergency systems sold to municipalities across the US and a provider of highly secure wireless communications systems for government and enterprise customers. Ongoing strength in the NG911 business has been significantly offset by weakness in wireless communications, especially with governments. Besides having a big troposcatter communications system contract indefinitely delayed in Ukraine, other governments have shifted spending focus in the near term away from next-gen communication solutions and toward more immediate military needs. While it may take some time for the wireless business to rebound, long-term demand is strong, and CMTL shares now trade for roughly 7x EBITDA levels from before the pandemic and the onset of current geopolitical issues.

Whole Earth Brands Inc. Class A (“FREE”) is a manufacturer and distributor of sweeteners and flavorings for the consumer packaged goods space. The company has completed and integrated several acquisitions in an attempt to leverage higher operating margins. However, inflationary pressures and supply chain hurdles have pushed out expectations on the timing for margin expansion. As a result, the stock currently trades at a substantial discount to its consumer staples peers and has been under pressure over the past year.

Northwest Pipe Company (“NWPX”) operates in two segments of the pipe market: the manufacture of large diameter steel pipes used in water transmission (WT), and smaller precast infrastructure and engineered systems solutions, thanks to two recent acquisitions. After some excitement late last year about the potential impact on NWPX from the bipartisan infrastructure bill, shares settled this quarter. Bidding activity in 2021 was very slow to return after the pandemic, despite the need for work on critical WT projects. The company is seeing an increase in WT activity this year, having announced a few contract wins in recent months.

*Past performance does not guarantee future results. The holdings identified do not represent all the securities purchased, sold or recommended to clients. Top contributors and detractors to return represent those securities that had the largest positive and negative total contribution to the overall portfolio return for the quarter. A complete list of contributors to portfolio return can be obtained by contacting Peter Trumbo, Chief Operating Officer/Chief Compliance Officer, at 503-886-8972 or by email at Peter. Trumbo@PacificRidgeCapital.com. For additional information, see the related GIPS® Report on the last page. 

Market Outlook

The market faced several headwinds during the first three months ended March 31, 2022, including the tragic invasion of Ukraine by Russia, oil prices climbing as high as $130/barrel, the transition of the Federal Reserve from accommodative to tighter monetary policy and the increased talk of a looming recession.

We anticipate modest growth in the US economy, limited by continued supply chain disruptions. GDP growth increased to 6.9% in 4Q21, driven by an acceleration in private inventory investment (particularly within the retail industry), and a rebound in personal consumption. We expect low-single digit GDP growth in 2022 due to supply shortages and price concerns.

Sentiment amongst purchasing managers remains positive. The March 2022 US manufacturing PMI reading was 57.1, the twentysecond consecutive month of expansion. New orders and production components remain strong, and inventories are building slightly, though they remain well below pre-pandemic levels.

Finally, transportation bottlenecks have significantly stalled the pace of deliveries, setting up a potential restocking event this year as the flow of goods improves.

As always, we continue to search for companies that demonstrate an ability to earn a fair return on capital. We welcome any questions or comments you may have and thank you for your continued support.

Sincerely,

Pacific Ridge Capital Partners

Investment Team Additional Professionals
Mark Cooper, CFA® Co-Senior Portfolio Manager Peter Trumbo Chief Operating Officer/Chief Compliance Officer
Dominic Marshall, CFA® Co-Senior Portfolio Manager Mike McDougall Senior Trader
Ryan Curdy, CFA® Portfolio Manager Manisha Thakkar, CFA® Director of Business Development
Justin McKillip, CFA® Senior Analyst Veronica Orazio Operations Assistant
Adam Wilke, CFA® Senior Analyst

Regulatory Disclosures

The contributors and detractors to return, market capitalization weightings and total effect, economic sector weightings and total effect, portfolio characteristics, and top ten holdings for the Micro Cap Value Composite are based on a representative account within the strategy. The representative account statistics are shown as supplemental information and complement the composite’s GIPS® disclosure presentation as provided on the last page.

The Russell Microcap® Value Index measures the performance of the microcap segment of the U.S. equity market. For comparison purposes, the index is fully invested, which includes the reinvestment of income. The return for the index does not include any transaction costs, management fees or other costs.

In order to maintain consistency when comparing the Micro Cap Value strategy to the Russell benchmark, the Firm utilizes FactSet’s outlier methodology calculations which provide a comparable portfolio characteristic calculation methodology as Russell applies to its indices.

The information provided should not be considered a recommendation to purchase or sell any particular security. There is no assurance that any securities discussed herein will remain in our strategy at the time you receive this report or that securities sold have not been repurchased. It should not be assumed that any of the holdings discussed herein were or will be profitable or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance of the securities discussed herein. Past performance is no guarantee of future results.

Although the statements of fact and data in this report have been obtained from, and are based upon, sources that the Firm believes to be reliable, we do not guarantee their accuracy, and any such information may be incomplete or condensed. All opinions included in this report constitute the Firm’s judgment as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.

*Information is not statistically meaningful due to an insufficient number of portfolios in the composite for the entire year. 
**2021 Composite Dispersion excluding one account with a significant cash flow was 0.2%.

Pacific Ridge Capital Partners, LLC (“Pacific Ridge”, “PRCP”, or “the Firm”) is a 100% employee owned investment advisor registered with the Securities and Exchange Commission under the Investment Advisors Act of 1940. The Firm was established in June 2010, and has one office located in Lake Oswego, Oregon. Pacific Ridge claims compliance with the Global Investment Performance Standards (GIPS®) and has prepared and presented this report in compliance with the GIPS standards. Pacific Ridge has been independently verified for the periods June 10, 2010 through December 31, 2021. A firm that claims compliance with the GIPS standards must establish policies and procedures for complying with all the applicable requirements of the GIPS standards. Verification provides assurance on whether the firm’s policies and procedures related to composite and pooled fund maintenance, as well as the calculation, presentation, and distribution of performance, have been designed in compliance with the GIPS standards and have been implemented on a firm-wide basis. The Micro Cap Value Composite has had a performance examination for the periods June 10, 2010 through December 31, 2021. The verification and performance examination reports are available upon request.

The Micro Cap Value composite was created on June 10, 2010 and incepted on April 1, 2007. The Micro Cap Value composite comprises fully discretionary portfolios managed by the Firm invested primarily in a concentrated equity portfolio of smaller companies with market capitalizations similar to those found in the Russell Microcap® Index. The strategy ascribes to a disciplined bottom-up fundamental selection process with an emphasis given to the cash flow generating capabilities of a company. The strategy’s objective is to outperform the Russell Microcap Value Index which is used as our benchmark. Eligible portfolios must be managed for a full calendar month prior to inclusion in the Micro Cap Value composite. Composite dispersion is measured using an asset weighted standard deviation of gross returns of the portfolios included for the entire year. Returns and asset values are stated in US dollars.

The Russell Microcap Value Index measures the performance of the microcap segment of the U.S. equity market. For comparison purposes, the index is fully invested, which includes the reinvestment of income. The return for the index does not include any transaction costs, management fees or other costs.

Sources: Pacific Ridge; FactSet Research Systems (“FactSet”); and Russell Investment Group (“Russell”) who is the source and owner of the Russell Index data.

Returns for the Micro Cap Value composite are presented gross and net of management fees and other expenses and includes realized and unrealized gains and losses, cash and cash equivalents and related interest income, and accrued based dividends. Net returns are calculated by deducting the highest annual management fee of 1.50% from the quarterly gross composite return. Performance-based fees are available upon request. All returns are calculated after the deduction of the actual transaction costs incurred during the period. The management fee schedule and total expense ratio for the Micro Cap Value Fund, which is included in the composite, are 1.50% on all assets and 1.56%, respectively, as of the most recent audit. Total fees for the fund may not exceed 1.75% annually.

The fee schedule for separately managed accounts is a flat rate of 1.50%.

The portfolio characteristics, sector weightings and attribution analysis for the Micro Cap Value composite are based on a representative account within the strategy. The representative account statistics are shown as supplemental information. The Firm maintains a complete list and description of composites and pooled funds, policies for valuing portfolios, calculating performance, and preparing GIPS Reports which are available upon request by contacting Peter Trumbo, Chief Operating Officer/Chief Compliance Officer at (503) 886-8972 or Peter.Trumbo@PacificRidgeCapital.com.

GIPS is a registered trademark of CFA Institute. CFA Institute does not endorse or promote this organization, nor does it warrant the accuracy or quality of the content contained herein.

Top 5 and Bottom 5 Performing Securities represent those security holdings that had the largest positive and negative total contribution to the portfolio return. Top 3 and Bottom 3 Economic Sectors represent those sectors that had the largest positive and negative total contribution to the portfolio return.

In order to maintain consistency when comparing the Micro Cap Value strategy to the Russell benchmark, the Firm utilizes FactSet’s outlier methodology calculations which provide a comparable portfolio characteristic calculation methodology as Russell applies to its indices.

The information provided should not be considered a recommendation to purchase or sell any particular security. There is no assurance that any securities discussed herein will remain in our strategy at the time you receive this report or that securities sold have not been repurchased. It should not be assumed that any of the holdings discussed herein were or will be profitable or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance of the securities discussed herein. Past performance is no guarantee of future results.

Although the statements of fact and data in this report have been obtained from, and are based upon, sources that the Firm believes to be reliable, we do not guarantee their accuracy, and any such information may be incomplete or condensed. All opinions included in this report constitute the Firm’s judgment as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.