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Five Quick Pitches

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August 02, 2010 – Comments (6) | RELATED TICKERS: IMN , TDW , ACL.DL2

Hi everyone.  Here's a few quick pitches for several of the stocks that I have added to my CAPS portfolio lately.  Enjoy and if anyone is familiar with any of these companies / situations, please let me know your thoughts.  Thanks.

Deej 

Imation Corp. (IMN) - Long

Imation was spun-off from 3M back in 1996. Traditionally the company has been very heavily involved in magnetic tape storage products, the use of which is unfortunately are being phased out by companies.

While maintaining its leadership in the shrinking magnetic tape sector, IMN is working on expanding its product mix into other forms of data storage, such as optical and flash.

The company appears to be losing money, but that is mainly a result of non-cash charges. It is cash flow positive, as one can easily see from the growth in the cash that it has on its balance sheet from $80 million eight months ago to the $250 million that it has today.

Today Imation has $250 million in cash on its books and a market cap of only $364 million. That's a nice cushion that will likely be returned to shareholders in the form of dividends (which the company used to pay) or share buybacks in the future. 

This one's courtesy of Barel Karsan and his great site on Value Investing and the excellent write-up on the company by CAPS player Klog24. 

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Tidewater, Inc. (TDW)

Tidewater is being unfairly punished for drilling issues in the Gulf of Mexico. Less than 10% of the company's revenue comes from the United States.

TDW is poised to benefit from its relatively new fleet of boats. It has spent more than $2 billion on approximately 200 new boats since 2000. These new vessels now account for 80% of the company's earnings.

While stocks that trade below their book value are not always cheap, at $41.82 today versus a book value of $47.50 I believe that Tidewater, a company that is usually fairly conservative when calculating its stated book value is. 

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Buckeye GP Holdings L.P. (BGH)

Merger Arb opportunity. BGH shareholders are to receive 0.705 shares of BPL per share some time in Q4.

With BPL currently trading at $62.44, that's equivalent to $44/share for BGH. It closed yesterday at $41.48/share. Buying now and holding until the deal closes will result in a 6% gain...assuming no significant movement in BPL's stock. Since this is a stock deal and not a cash deal, BPL should drift with the market and reduce the risk of underperforming the S&P 500. 

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Alcon, Inc. (ACL)

Novartis is attempting to screw Alcon's minority shareholders by buying out Nestle's stake at $180/share and only offering everyone else around $145/share. How on Earth are they allowed to do this? Not surprisingly, ACL's independent board of directors is freaking out and attempting to block the transaction.

Many people, including one of the world's most famous hedge fund managers, SAC Capital's Steven Cohen who as of his last 13-F filing had made this his largest position, believe that minority shareholders will eventually be bought out at somewhere between $160/share and the $180/share that Nestle was given. 

Nestle has paid an average of $168/share for its current stake in Alcon, which continues to report excellent results. Why should minority shareholders who never agreed to this deal be forced to sell out for less than that?

There's a lot of uncertainty in this situation, and I am by no means an expert on Swiss law, but if the offer for ACL shares is increased it represents anywhere from 3% to 16% upside, which isn't bad...depending upon how long this ordeal drags on.

Fellow Swiss drug company went through a somewhat similar battle when it bought out Genentech before ultimately agreeing to pay a higher price for the company. 

I'm betting that the same thing happens with Novartis and Alcon.

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Per my request, CAPS added LyondellBasell (LALLF.PK) to its universe of stocks.  I've blogged about this one before, but here's a quick synopsis of my pick for anyone who's interested:

"I have been looking to experiment in CAPS with a post-bankruptcy that's trading OTC. This sort of special situation has been touted by a number of intelligent investors in the past. The hedge fund Corsair says in its letter that LyondellBasell is currently only trading at 4.5 times its mid-cycle EBITDA while most other companies in the sector are currently trading at six times. This gap should close after the Company ditches the pink sheets and lists on a major exchange. "

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Last but not least, I also went long The Brink's Company (BCO) after finally reading AAOI's excellent write-up on it (I missed the darn earnings pop by one day though).

6 Comments – Post Your Own

#1) On August 02, 2010 at 4:04 PM, TMFDeej (99.43) wrote:

Oh, I almost forgot, the ALOY merger arb play that I described on Friday went through at $9.51/share:

Recently agreed to be bought out by ZelnickMedia for $9.80/share in cash. As a straight Merger Arb play, that represents a 3.26% gain from this level in what I expect to be a fairly flat market...not bad.

However, there might be something more than that going on here. Whitney Tilson and Glenn Tongue's hedge fund T2 Partners recently filed an activist 13D after acquiring 669,946 shares of the company, 5.2%, mostly in the $9.50/share range.

It's possible that T2 is just playing the merger arb game here, but there might be more than that going on. It sounds as though many of Alloy's shareholders feel as though the buyout offer that management accepted is way too low. Several law firms, including Goldfarb Branham and Faruqi & Faruqi, have even filed suit against Alloy on behalf of shareholders in an attempt to block the deal.

I have a feeling that there's more upside left in this one, but I'm going to have to do some more investigating first. No time for that now...it's almost Happy Hour on a Friday. Is anyone out there familiar with this situation? 

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#2) On August 02, 2010 at 6:51 PM, djshagggyd (72.53) wrote:

TMFDeej-

Thanks for all your great posts! I've been particularly interested in learning about stocks trading near their NCAV... and IMN is one I've had my eye on. As of today, Imation has an NCAVPS (net current asset value per share) of $10.75... yet IMN is trading for only $9.51.

I'm a beginner, but if I understand correctly... the Total Current Asset section of the balance sheet represents assets which are fairly liquid. Since Imation has no long term debt, and a minimal amount of liability (compared with their Total Current Assets)...

It leads me to believe that monetarily, this company has what it takes to succeed. If they have a sound business plan and skilled management... then $9.51 is a STEAL (in my humble opinion).

Also... I have used Imation products for much of my life... I have always found them to be a reliable, cheaper alternative to brands such as Verbatum, Sony, etc.

Thanks again for writing Deej! I'd be curious to hear any further thoughts you might have on IMN. I am considering them (among others) as my next real life pick.

Have a good week!

~djshagggyd 

 

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#3) On August 03, 2010 at 6:23 AM, TMFDeej (99.43) wrote:

You're very welcome, djshaggyd.  Thanks for reading :).

I'm always try to be uber-conservative when looking at stocks in terms of their liquidation values.  The #1 factor for me is the amount of straight cash that a company has on its books.  Given the fact that IMN supposedly has $250 mil, it does very well in that category.  This information can be found on the "cash and cash equivalents" line of the balance sheet.

The other types of "current assets" are a little trickier to evaluate.  One really never knows how likely the company is to ever receive the money that is listed under "net receivables," so I usually apply a huge haircut to it.  

I usually apply a huge discount to inventory as well, unless I have a very good idea of what it is and how much it would be worth on the open market.  With Imation, I don't have a solid handle on that.  For all I know its inventory could be a warehouse full of floppy disks.  There's some value there, but I again would assign a huge discount to it.

The last category under "net receivables," ""other current assets" is so vague that I usually ignore it completely.

Again, this is a fairly conservative way at looking at a company's potential liquidation value.  I definitely would add something for "property, plant, and equipment" to the "current assets."  How much is the question.  Again I would apply only a percentage of what the company lists as its value for its hard assets unless I had an excellent grasp of what they are.

Most of this is self-taught through lots of reading.  I'm sure that there's other ways to look at company's liquidation values...but I like to be as conservative as possible. 

Deej 

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#4) On August 03, 2010 at 6:34 PM, truthisntstupid (81.04) wrote:

All these uncertainties are why I believe "valuation"  is overrated for evaluating an investment.  For example, "inventory."  The value shown on the balance sheet can't simply be taken as is.  You'd better find out what inventory valuation method the company is using.  FIFO?  LIFO?  What is their inventory valuation method?  Why did they choose to do it that way?

If they're using LIFO (Last In First Out) what if a significant part of the number you're seeing really is a lot of old, obsolete, inventory that no longer has much if any real value?

If they're using FIFO during a period of rising costs, how much is this causing their cost of goods sold to be understated?  Are they choosing one or the other to minimize their tax liability or to make help make their earnings look better? 

With the staggerring variety of choices a company has regarding inventory valuation methods, revenue recognition methods, depreciation methods, etc, I don't try to value a company.  There are whole books on financial shenanigans companies have pulled. Earnings and values may be either overstated or understated any number of ways.

And most of us have limited time and knowledge to ferret them out. 

This is from The Money Game by 'Adam Smith':

(Interestingly, I don't think anyone knows who 'Adam Smith'  is)

   It really ought to be easy.  You pick up the paper, and Zilch Consolidated says its net profit for the year just ended was $1m or $1 a share. When Zilch Consolidated puts out its annual report, the report will say the company earned $1M or $1 a share.  The report will be signed by an accounting firm, which says that it has examined the records of Zilch and "in our opinion, the accompanying balance sheet and statement of income and retained earnings present fairly the financial position of Zilch.  Our examination of these statements was made in accordance generally accepted accounting principles.

The last four words are the key. The translation of "generally accepted accounting principles" is "Zilch could have earned anywhere from fifty cents to $1.25 a share.  If you will look at our notes 1 through sixteen in the back, you will see that Zilch's earnings can be played like a guitar, depending on what we count or don't count.  We picked $1.  That is consistent with what other accountants are doing this year.  We'll let next year take care of itself."

Funny.  Hilarious.  True, also, for the most part. 

Two companies start up.  Same business, making widgets.  They both buy the same $5M machine. 

Company A says it can get 10 years of useful life out of its machines.  So using straight-line depreciation, it will charge $500,000 to its income per year during the 'useful life' of the machine.  If it is still using that machine twelve years later, its profits will certainly look better, since there will be no write-off for depreciation anymore. 

Company B says it can run its machine for twelve years.  So it's depreciating its machine over twelve years, and its depreciation charge this year will only penalize its earnings $416,666 instead of $500,000, and on that basis has made more money this year than company A.

How can you compare company A to company B?  It gets worse.  Companies have more than just the simple straight-line depreciation method to choose from, and they have considerable freedom in choosing the time period over which they depreciate a piece of equipment. 

There is just as much variation in revenue recognition methods, inventory valuation methods, accounting for R&D costs as they're incurred or amortizing them over several years....

Back to The Money Game:

   In short, there is not a company anywhere whose income statement and profits cannot be changed, by the management and the accountants, by counting things one way instead of another.

What does all this mean?  I took a few years of accounting.  I bet you did, too.  Does it mean I totally ignore financial statements as being just too arbitrary in what they tell us and what they don't?  No.  But it does mean that none of us can come close to accurately valuing a multimillion-dollar corporation, so I don't try. 

I didn't go into as much detail, but we also had a more limited discussion on Clarkmel's blog, concerning intrinsic value.

http://caps.fool.com/blogs/what-is-intrinsic-value-low/338170?lidx=1

I'd like to know what you think.

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#5) On August 04, 2010 at 3:43 AM, truthisntstupid (81.04) wrote:

As an afterthought, the methods of valuation aren't the problem.   Anyone can read, study, and learn various methods of arriving at an  'intrinsic value'  or  'liquidation value'  number.  That isn't the hard part.

My problem is that many non-accountants trying to do this may not realize that, in the case of company A and company B, they will probably arrive at a totally different valuation, even though nothing is different except the accounting methods. 

I don't think average people with no background in accounting should be made to believe it's so simple. 

Values assigned to similar assets purchased at similar prices can vary significantly.

The same income can be made to appear much different even though it isn't.  A company choosing a longer period of time or an accellerated depreciation schedule will appear to be more profitable, although it really isn't.

The fault isn't in the formulas and methods of calculating intrinsic or liquidation values.  The failure is in the reliability of the numbers we're given to plug in to them.   Comparing the numbers from one company to the numbers from another company is like comparing apples and oranges sometimes.

I'd love to hear the thoughts of other people than myself on this.

 

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#6) On August 04, 2010 at 12:30 PM, truthisntstupid (81.04) wrote:

I'm sorry Deej

I got so wrapped up in wanting to get in on your discussion about valuation that I didn't even comment on your excellent pitches.  You write wonderful, thorough pitches and these are great ones, too.  I'm probably going to buy NGG in real life...mainly as a result of being made aware of it after your pitch on it.  Thank you!

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