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The Cash Index: Buying Stocks Trading Below Net Cash

February 14, 2013 | About:
I have always been fascinated with the idea of net cash stocks and wrote extensively on the topic on GuruFocus. My previous articles included "How To Detect Fake Cash - Avoid Net Cash Stocks With These Warning Signs," "Avoid These High-Risk Net Cash Stocks," and "VisionChina Media Inc: High Risk Net Cash Stock." When I read about the Cash Index in James Altucher's book "Trade Like Warren Buffett," I found it worthwhile to share it here. James Altucher is the former president and founder of Stockpickr LLC, a wholly owned subsidiary of TheStreet.com, managing partner at Formula Capital that runs a fund of hedge funds and author of several investment and hedge fund-related books.

James Altucher acknowledged that most net cash stocks have high bankruptcy risk and trade for less than cash for a reason. They are susceptible to risks like fake cash, business model failure and management with no intention of returning cash to shareholders. James established eight selection criteria for his stocks in the cash index to reduce the above-mentioned risks and search for companies that could be considered possible takeover candidates.

The eight selection criteria are as follows:

1. Market capitalization less than cash

2. Debt/equity ratio less than 0.20

3. Sum of market capitalization and annual burn rate is less than cash

4. Company has turned the corner with profits or losses have narrowed at the very least

5. Reasonable belief that the sell-off in the stock was partly irrational

6. Favorable arbitrage analysis in takeover scenario

7. Insider buying

8. Institutional ownership

Taking a leaf from James' cash index, I screened for stocks with market capitalization less than cash, debt-to-equity ratio less than 20% and improved earnings or reduced losses on a trailing 12-months basis. Fifty-five stocks passed the screen with no single stock exceeding $30 million in market capitalization. Internet Patents Corp. (PTNT), which operates a patent licensing business focused on e-commerce and online insurance distribution technologies, headquartered in Sacramento, seems to be the only U.S.-based stock with a "meaningful" market capitalization of $29.5 million. According to its third quarter fiscal 2012 results release, it initiated two lawsuits against The General Automobile Insurance Services Inc. and Active Network alleging infringement of its patent in the third quarter, and it is currently reviewing and identifying other potential infringers of its portfolio of e-commerce patents.

The results from the screen do not suggest that it is viable to construct a meaningful portfolio with this strategy. Interestingly, UK's Stockopedia reported here that its stock portfolio constructed using the Cash Index returned 17.04% since its inception in December 2011, underperforming the FTSE 100 which returned 18.5% during the same period.

About the author:

Mark Lin
Mark is a private value investor and runs the Cheapskate Investing website which borrows from the wisdom of value investing giants, using a systematic quantitative screening approach to filter the global stock markets for cheap cigar-butts and wide-moat compounders. He is also a regular contributor to various value investing communities.

Visit Mark Lin's Website


Rating: 5.0/5 (2 votes)

Comments

AlbertaSunwapta
AlbertaSunwapta - 1 year ago
I've found that there's been a lot of downside risk to my sloppy selection of such companies.

Within such marginal companies, management recognizing the end is near, tends to do everything within its power to seize a good sized chunk of value through extending the payment of their salaries and/or delayed actions to either return some of the cash value to shareholders or wind up the operation and disburse any remaining value.

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