Sunday, November 30, 2008

Market Cap Less Than Cash

This WSJ article notes people looking for stocks that sell for less than the amount of Cash on their balance sheets. Here are current US Stocks with a Market Cap < Cash on Balance Sheet:

Short Name Industry Ticker
FORD MOTOR CO Auto Manufacturers F
GENERAL MOTORS Auto Manufacturers GM
ICAHN ENTERPRISE Holding Companies-Divers IEP
CONTINENTAL AI-B Airlines CAL
GOODYEAR TIRE Auto Parts&Equipment GT
UAL CORP Airlines UAUA
CENTEX CORP Home Builders CTX
US AIRWAYS GROUP Airlines LCC
CIENA CORP Telecommunications CIEN
ASHLAND INC Chemicals ASH
AMKOR TECH INC Semiconductors AMKR
WELLCARE HEALTH Healthcare-Services WCG
TRW AUTOMOTIVE Auto Parts&Equipment TRW
SANMINA-SCI CORP Electronics SANM
ATLAS AIR WORLDW Transportation AAWW
GLOBAL INDS LTD Oil&Gas Services GLBL
LIBERTY-CAP A Media LCAPA
ARVINMERITOR INC Auto Parts&Equipment ARM
RTI INTL METALS Mining RTI

Clearly, those are not 'obvious' buys (Ford?), but nothing is.

The fundamental approach to investing is exemplified by the approach of Benjamin Graham, a very successful early popularizer of this approach. Graham was born in 1894 and started a brokerage in 1926, during the midst of an economic and financial boom. In 1928, he started also teaching a course on security analysis at Columbia. In a very influential book, Graham and Dodd’s Security Analysis (1934), and later Graham’s classic The Intelligent Investor (1949) , a generation of securities analysis’s learned how to evaluate stocks as investments. Sound investing was simply buying stocks below their intrinsic value, and avoiding stocks above their intrinsic value. Intrinsic value was a function of their balance sheet and income statement. Warren Buffett, was the only student in Graham's investment seminar at Columbia to earn an A+, and has tirelessly praised the man and his method. Interestingly, though Buffett wanted to work for Graham right out of school, Graham had a policy then of only hiring Jews at that time. Buffett never held this against Graham, and they ended up working together later.

For example, one would look at the Price/Earnings ratio, compare it to other stocks, to bond yield, and if the Earnings/Price yield was significantly higher than what one would expect on bonds, the stock is good. Other valuation ratios were debt-to-equity, dividend yields, net current assets, book equity, and earnings growth. One applied these ratio into various formulae to find attractive stocks. Graham argued that the market is a capricious popularity contest, but ultimately, true value shines through, so the key is both prudence (knowing true value) and courage (not being dissuaded by short term fluctuations in the market).

He suggested buying companies when they could be bought for a 1/3 to 1/2 discount to intrinsic value (this in a lifetime when interest rates were typically single digit), a safety margin in his investing strategy. In this way, Buffet often says that risk and return are inversely related, because a 'good stock' necessarily has the least risk (eg, if it is selling for $4 and is worth $20, it is a good buy and has low risk). After buying, don’t pay much attention to the market price, and sell out when the business model changes.

While initially Graham favored the simple comparison of book equity, or net current assets, or even net cash, to market value, his approach grew to incorporate dividend growth over the next 30 years. Thus there are a few famous calls where firms were seemingly worth more in liquidation than as going concerns, and these he argued were good buys (thus the list above). After his 1934 volume, the Dividend Discount model was discovered, a way to explicitly handle growth, though this was mainly handled by one of his co-authors, Sidney Cottle, because Graham saw earnings projections as speculative.

5 comments:

Eric said...

Not sure why cash vs. market cap is meaningful. Just to take the first company on the list, Ford. It is true that it has a market cap of 6.4billion vs. cash of 27.5b. But the company has 156.8b of debt. The enterprise value is 135.7b vs. the cash of 27.5b. Cash vs. Mkt cap is not much of a measure of intrinsic value unless debt is minimal.

Jae Jun said...

Ive written something similar but more focused on Ben Grahams Net Net stocks. One such company that I've been following is ValueVision, the owner of ShopNBC. Feel free to check it out at
http://www.oldschoolvalue.com/valuation-methods/ben-graham-net-net-deep-value-stocks/

Michael F. Martin said...

For sufficiently risk-loving investors, Ford is a bargain right now. They are not in danger of bankruptcy like GM or Chrysler. Ford debt is long-term, and it has sufficient cash-flow to service its debt and continue operations until things improve. Not saying it will be soon, but I believe Ford is a great value investment on a 5 to 10 year time horizon.

Eric Falkenstein said...

Eric: yeah, I've never seen an empirical study showing this metric works over time, but it has some limited intuitive appeal.

Jae: I agree that some liquidation value is probably better, taking out the value of liabilities.

Michael: Ford might have better cashflow today, but I thought their profit per car was still negative, like GM and Chrysler, because the UAW contracts apply to them too.

Michael F. Martin said...

Ford got a better deal from the UAW than did GM or Chrysler. I have not seen a calculation of profits per car. But until this past quarter Ford was free cash flow positive. Ford is a speculative bet, not an investment. But so long as it can hang on through the next 18 months or so, I think its growth prospects in Europe and Asia are are comparatively good.