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  • "The market can remain irrational longer than you can remain solvent" - John Maynard Keynes

    Sunday, April 27, 2003

    Well, I'm pretty much done with my analysis of Orthodontic Centers or America (OCA). They provide business services to orthodontists and pediatric dentists. They provide the capital to start the business and all of the business services in exchange for fees and profit sharing. They amusingly have 38% of float short (13 days to cover!!). Now at $28 they may have been a short candidate based on fundamentals (though $30 would be my optimistic upside it was a pretty high valuation), with 0% growth and an 11% discount rate (their weighted cost of capital was used to determine the discount rate) their intrinsic value would be around $12 - $14. There are no publicly traded bonds so the shorts are not engaging in capital arbitrage which gives me some comfort after my Allegiance Telecom ulcers! On the upside I see around $30 optimistic case (9% growth off a 67MM base). With excellent liquidity (interest coverage of 15!) there is really little downside risk from $6 and the upside could come quite quickly once the remaining litigation is resolved, earnings return to pre Q4 '02 levels and earnings visibility improves.

    The road to 6. This would be a combination of a crappy market with disclosure concerns in general; somewhat complicated accounting by OCA; current litigation with practices that were acquired through a merger and significant downside surprise in December. I always look for some new faces that are motivated to turn things around and I see that in their new CFO Sandeman. He only came on board in Q4, 02 and used that Quarter to get everything in order and clean house. He will be judged from either Q1 or Q2 '03 onwards. Listening to him on their Q4 conference call gives me confidence. With an incredibly low PE (potentially as low as 4 on my forward looking basis), great liquidity, a sound business model and institutions owning around 90% I am going to invest.

    Q1 '03 Consensus estimates for Q1 03 are 0.26 (.23-.28). I actually expect closer to 0.32 and the math isn't very hard. Basically last quarter was 18c, there were 2 more practices that paid fees all Quarter, 8 or more that paid for half a quarter and 7MM in one time charges that I understand and really believe will not be repeated. In addition there is the possibility of significant upside depending on the resolution of various litigation matters (though the litigation will likely affect cash flow and not revenue or earnings as settlements go to reduce goodwill. Litigants that decide to join OCA, however, would be recognized under revenue.).

    I would expect a double to $12 before their Q2 conference call though I will be watching out if there is a precipitous price drop. I of course, would re-evaluate the fundamentals and if they haven't changed buy more.

    Wednesday, April 23, 2003

    Having recently read the latest work based on Jeremy Siegel's Stocks for the Long Run, I read an interesting (and wrong headed) article Should you give up on stocks?. I was trying to get my head around why Zvi Bodie was asserting that you shouldn't investin in stocks, that there was only 120 years of data on the markets and that a bear market could go on indefinitely (like tossing a coin 20 times and always getting tails). Well the coin toss gave it away; Zvi is talking about efficient markets. He is assuming that each year a bear 'v' bull market is based on some probability and not valuations. He is suggesting that stocks are very risky and over long periods of time you could reasonably end up with significantly less capital than you started with, he then suggests that you consider TIPS instead.

    I was concerned to see that the article states the historical market average is 10.7%, Siegel doesn't think so (7% per year). Near the end of the article he asserts that most companies over estimate their pension returns and therefore they should be invested in TIPS. I think TIPS are a great idea (not necessarily great investment); I'm curious if based on back testing TIPS would provide a better or worse return than a standard bond laddering strategy. TIPS pay a fixed percentage and based on inflation they pay an additional interest rate. None the less the returns of $1 invested in Bonds since 1801 was $1070, stock was $462,502 in 1801 dollars. Bodie could have taken a few minutes to read Jeremy's book.

    Bodie also suggests "look for jobs that offer traditional pensions". With all of the changes that the government is instituting in pension plans I would be very worried. In addition many large companies have under funded pensions, If I was a CEO I would be (or will be in the future) lobbying to get the law changed to support occasional erosions in these pension plans eventually leading to much lower returns for retires than currently promised. Aside from the fact that Ivory Tower Bodie is pushing people into the Steel, Airline, Textiles or other similar failing industry; there isn't likely to be any money left in these industries in 30 years time.

    If you can't manage your own money then you have far to little control over your life, if there is any education everyone should have, it is at least the capability to evaluate investments. Rich Dad Poor Dad, advocates financial education and provides a reasonable framework to evaluate your financial options. Having read John Reed's and Slate's critique of Rich Dad, I am a lot less enamored by it. I still think however, that there is a lot of value in the core messages.

    Tuesday, April 15, 2003

    Peter Brimelow in this article updates some of the brilliant work undertaken by Jeremy Siegel in Stocks for the Long Run. A dollar invested in 1801 in the following vehicles is now worth;
    Stocks $462,502
    Bonds $1,070
    Gold $1.19
    Cash $0.07
    In 1801 dollars; or $6.96 Million in today's dollars!! That is 7% per year.

    We have seen roughly 15 fold inflation in that time.

    Anyone that says "Buy and Hold" is dead simply has rocks in their head. Rest assured that no institution can claim 7% per year over 200 years. Note also how gold has been a value store, $1 in 1801 = $1 today (in 1801 terms). The regression line showing 7% growth was exceeded by the S&P for much of the 90's and we have only just fallen below the line. Still the Speculators identify sound statistical methods showing that we should have an up year this year (and that we should have had one last year too!). I feel somewhat bad for those poor folks who have moved their money into Bonds and Bills, though the outward funds flow has given me some great opportunities to buy some undervalued stocks, I guess I'm more thankful than sorry :).

    Monday, April 14, 2003

    Gabriel Resources listed on the Toronto stock exchange (Quote) announced that four of their senior managers were all resigning for personal reasons Link. Clearly no four senior managers concurrently decide to resign for personal reasons. This company seemed to have reasonable prospects and with gold above $300usd they should be trading around $4 or so.

    Right now they are down to $2.15! With these resignations and the Romanian opposition complaining about the environmental factors I'd be really worried. Having been $6 in June $4 in March and now $2.15, it really seems like there could be problems. I haven’t invested in them but know some people who have. To invest here you ought to know about Romanian mining law (and how mining leases are allocated), Canadian securities law and the backgrounds of the senior management team. In addition a sound knowledge of the commodity market in gold is crucial to valuing the gold reserves in Romania. There were previously issues about some senior management (c-level) having had a heroin conviction, leading to some concerns about the honesty of management. It reminds me of Actrade now trading at $0.50; I started looking at them when they were in their $30's.

    They had this great business, effectively factoring receivables but with a decent technology component. Based on their (now apparently fraudulent) SEC filings they were greatly undervalued. I very nearly invested but this Amos guy had previously gone Bankrupt in Israel and some Israeli investors were still perusing him. He was the president of the company at that time, additionally half of the companies business was based offshore and therefore extremely susceptible to fraud. Well in the end it seems like Amos sent a load of money to company accounts offshore and then it was cashed out and disappeared, in addition it seems that money had been lent to their friends and was never repaid. When you invest in a company with suspect management and they are operating offshore, you get what's coming to you. ACLN is another good example.

    Sunday, April 13, 2003

    I just received my AES annual report. Reading through the intro letter really makes me think these guys are going to greatly improve their stock and bond price in the near future. They have demonstrated an ability to sell assets and greatly improve the profitability of their remaining assets through cost cutting. Their new focus on discipline in terms of price paid really resonates and the new CEO's comp package in the proxy statement is tied to various financial performance targets. With a price to '03 cashflow of 2 this is likely to increase in value (average is 15 for the S&P). They have outlined a three phase plan, with the second being the building of a strong foundation and the third resuming a sensible (financially based) expansion program. I gain most confidence from the changes in management, the guys that screwed AES are no longer in control. Price to sales has traditionally been over 3 and for last year was 0.2. $15 or so for the equity is really pretty reasonable.


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    Disclaimer and Disclosure Analyses are prepared from sources and data believed to be reliable, but no representation is made as to their accuracy or completeness. I am not paid by covered companies. Strategies or ideas are presented for informational purposes and should not be used as a basis for any financial decisions.
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