Security Analysis and Business Valuation on Wall Street,: A ... - lib

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330 SPECIAL CASESSUMMARYBrokers tout the terrific future of speculative stocks, but the underlying companieshave trouble generating sales <strong>and</strong> earnings in the present. These shares are betterleft to sophisticated investors who specialize in private placements, but from time totime the public market lays out the welcome mat to such offerings. The discountedcash flow method—with all its flaws—is the most appropriate vehicle for valuing aspeculative stock. A popular double check to the DCF approach is the VC markuptechnique. Lacking the financial markers of sales <strong>and</strong> earnings, speculative businessesare poor c<strong>and</strong>idates for the relative valuation method. Practitioners, nevertheless,gauge fair pricing by comparing current equity value to future sales, EBITDA,<strong>and</strong> EPS.
CHAPTER 25Distressed Securities<strong>and</strong> TurnaroundsMany novice investors wonder why companies with operating losses havepositive stock prices. Why do the bonds of some bankrupt companies havesubstantial value? In this chapter, we answer these questions by exploringturnarounds <strong>and</strong> bankrupt companies.Adistressed security doesn’t always belong to a bankrupt business. For highly leveragedcompanies, the continuation of operating problems prompts investors toanticipate debt service troubles, causing the bonds to sell off, their prices to decline,<strong>and</strong> their yields to increase. Thus, the nondefaulted bonds of troubled firms can yield5 to 10 percentage points higher than U.S. Treasury bonds having similar maturities.Depending on seniority, collateral, <strong>and</strong> other factors, defaulted debt may tradefrom pennies on the dollar to a high percentage of par value. Of course, investors indefaulted debt don’t count on being repaid at maturity. They’re hoping these fallenangels will be transformed into higher-value securities, once a workout or exchangeoffer is completed by the debtor.As the reader can surmise, the distressed bond sector is a subset of the largerjunk bond market. A junk bond is strictly defined as a bond that is rated lower thaninvestment-grade, the category encompassing only the top four rungs of the ratingagency ladder. Any bond falling into one of the lower rating levels is referred to asnon-investment-grade—a junk bond, in Street jargon. (See Exhibit 25.1.) Despite thederogatory nickname, many issues falling below investment-grade belong to healthycompanies, but the bonds have heightened risk when compared to their investmentgradecounterparts.Common shares falling into the distressed category belong to two kinds of firms:bankruptcies <strong>and</strong> turnaround c<strong>and</strong>idates. A shareholder of a bankrupt firm derivesvalue primarily from his ability to impede progress in the Chapter 11 proceedings.This value is primarily of the legal nuisance variety <strong>and</strong> has little to do with thefirm’s economics. For the purposes of this chapter, I will only discuss the shares ofcompanies that fit the second category, namely a turnaround business. A turnaroundis an established enterprise that experiences operating problems that appear to betemporary. After a year or two of subst<strong>and</strong>ard performance, investors anticipate thebusiness will return to normal.331
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Security A
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ContentsPrefaceWhat Is Secu
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ContentsviiCHAPTER 7Company-Specifi
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ContentsixCase Study: Keane, Inc. 2
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ContentsxiCHAPTER 27The Emerging Ma
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xivPREFACEmajor contributing factor
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xviPREFACEImpact of two market cras
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xviiiPREFACEOVERVIEW OF THE CONTENT
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xxPREFACECAPM and
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CHAPTER 1Why Analyze a Secu
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WhyAnalyzeaSecurity</strong
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CHAPTER 2Who’s Practicing <strong
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Who’s Practicing Security
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CHAPTER 3Seeking a Level Playing Fi
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Seeking a Level Playing Field 31Man
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Seeking a Level Playing Field 33gat
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Seeking a Level Playing Field 35EXH
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Seeking a Level Playing Field 37Fur
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Seeking a Level Playing Field 39inv
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Seeking a Level Playing Field 4563
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Seeking a Level Playing Field 49Ini
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CHAPTER 4Other Sources of Informati
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Other Sources of Information 53pres
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Other Sources of Information 55inve
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Other Sources of Information 57they
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CHAPTER 5Starting the Analy
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Starting the Analysis</stro
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74 PERFORMING THE ANALYSIS AND WRIT
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100 PERFORMING THE ANALYSIS AND WRI
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CHAPTER 9The Limitations of Account
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The Limitations of Accounting Data
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CHAPTER 12Valuation</strong
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Valuation Methodol
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CHAPTER 13Intrinsic Value a
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Intrinsic Value and</strong
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CHAPTER 14Discounted Cash Flow:Choo
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Discounted Cash Flow: Choosing the
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218 VALUATION AND THE INVESTMENT DE
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CHAPTER 18Sum-of-the-Parts
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Sum-of-the-Parts Analysis</
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CHAPTER 20Private EquityThous<stron
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Private Equity 2712 percent of comm
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Private Equity 273EXHIBIT 20.2 True
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Private Equity 275in public compani
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Private Equity 277EXHIBIT 20.7 Prem
Page 302 and 303: 280 SPECIAL CASES4. Management’s
Page 304 and 305: 282 SPECIAL CASESEXHIBIT 21.3 Encor
Page 306 and 307: 284 SPECIAL CASESEXHIBIT 21.4(Conti
Page 308 and 309: 286 SPECIAL CASESPipelinesPumpsSurf
Page 310 and 311: 288 SPECIAL CASESEXHIBIT 21.9Encore
Page 312 and 313: 290 SPECIAL CASESEXHIBIT 21.12Ranki
Page 314 and 315: 292 SPECIAL CASESEXHIBIT 21.13Anglo
Page 316 and 317: 294 SPECIAL CASESsince such actions
Page 318 and 319: 296 SPECIAL CASESEXHIBIT 22.1The Fi
Page 320 and 321: 298 SPECIAL CASESTWO SETS OF SKILLS
Page 322 and 323: 300 SPECIAL CASESIn part, a financi
Page 324 and 325: 302 SPECIAL CASESA quick glance at
Page 326 and 327: 304 SPECIAL CASESEXHIBIT 22.12 Capi
Page 328 and 329: 306 SPECIAL CASESEXHIBIT 22.14 J.P.
Page 331 and 332: CHAPTER 23Insurance CompaniesInsura
Page 333 and 334: Insurance Companies 311PRINCIPAL FU
Page 335 and 336: Insurance Companies 313FINANCIAL ST
Page 337 and 338: Insurance Companies 315competitive
Page 339 and 340: Insurance Companies 317EXHIBIT 23.6
Page 341 and 342: Insurance Companies 319EXHIBIT 23.8
Page 343 and 344: CHAPTER 24Highly Speculative Stocks
Page 345 and 346: Highly Speculative Stocks 323EXHIBI
Page 347 and 348: Highly Speculative Stocks 325Gross
Page 349 and 350: Highly Speculative Stocks 327his Ba
Page 351: Highly Speculative Stocks 329Step 3
Page 355 and 356: Distressed Securities and</
Page 365 and 366: CHAPTER 26International StocksIn an
Page 367 and 368: International Stocks 345EXHIBIT 26.
Page 369 and 370: International Stocks 347EXHIBIT 26.
Page 371 and 372: International Stocks 349DiscountRat
Page 373 and 374: CHAPTER 27The Emerging MarketsIn th
Page 375 and 376: The Emerging Markets 353The stock m
Page 377 and 378: The Emerging Markets 355EXHIBIT 27.
Page 379 and 380: The Emerging Markets 357Political R
Page 381 and 382: The Emerging Markets 359To ensure l
Page 389: PARTFiveIn ConclusionChapter 28Chap
Page 392 and 393: 370 IN CONCLUSIONand</stron
Page 394 and 395: 372 IN CONCLUSIONGovernment Regulat
Page 396 and 397: 374 IN CONCLUSIONwas credit driven,
Page 398 and 399: 376 IN CONCLUSIONEXHIBIT 28.1 Finan
Page 400 and 401: 378 IN CONCLUSIONEXHIBIT 28.2<stron
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380 IN CONCLUSIONmarket declines by
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382 IN CONCLUSIONthis morass of con
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384 NOTESCHAPTER 11Financial Projec
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IndexA. H. Belo, 158, 346Aaker, Dav
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Index 389EAC value per share on, 28
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Index 391Corning, 106Corporate advi
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Index 393target equity returns by c
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Index 395Fur retailing industry, 81
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Index 397“Insurance Underwriting
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Index 399Manulife, Inc., 319Margin,
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Index 401Pakistan, 351Palmisano, Sa
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Index 403Recreation sector, 76Redwo
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Index 405Sell-side reports, 62Semic
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Index 407practices, emerging market
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Praise for the First Edition“A we
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