Greenbackd is dedicated to unearthing undervalued asset situations where a catalyst exists likely to remove the discount or unlock the value. My favorite stocks are those trading at a substantial discount to net current assets or liquidation value, with an activist pushing for a catalyst to unlock the value. Those opportunities, however, are few and far between. I can frequently find deeply undervalued asset situations with no obvious catalyst. I can often also find activists in stocks that are not undervalued on a Graham asset basis.
A little over a year ago in a post titled Net Net vs Activist Legend I started a thought experiment pitting Dataram Corporation (NASDAQ:DRAM), a little Graham net net, against activist investing legend Carl Icahn and his position in Yahoo! Inc. (NASDAQ: YHOO) (click on the links to laugh at how rudimentary Greenbackd looked then). The idea was simple: Compare the performance of two stocks, one a net net / net cash stock lacking a catalyst, and the other a stock not obviously undervalued on an asset basis, but nonetheless pursued by an activist investor, Carl Icahn.
In the blue corner, YHOO, the super heavyweight
Here’s what I had to say about YHOO at the time:
YHOO is a stock that is not cheap on an asset basis but it does have a prominent activist investor with a 5.5% stake and two seats on the board. At its Friday close of $11.66, which is around two-thirds lower than Microsoft’s May 2008 $33 bid, YHOO still trades at a 70% premium to our $6.82 per share estimate of its asset value. Activist investor Carl Icahn’s presence on the register, however, indicates that he believes YHOO is worth more. Icahn has paid an average of $23.59 per share to accumulate his 5.5 percent stake. At $11.66, YHOO must more than double before Icahn will see a profit. He’s unlikely to sit idly by to see if that happens.
YHOO is not cheap on any theory of value we care to employ. It is trading at a substantial premium to its asset backing, which means the market is still generously valuing its future earnings. It is generating substantial operating cash flow and earnings, which in a better market might be worth more, but it’s not obviously cheap to us.
The best thing about YHOO from our perspective is the presence of Carl Icahn on the register. His holdings were purchased at much higher prices than are presently available and he is unlikely to sit idly by while the stock stagnates.
Buying YHOO at these prices is a bet that Icahn can engineer a deal for the company. Given his legendary status as an activist investor earned through canny acquisitions over many years, we think that’s a good bet. But a bet is what it is – it’s speculation and not investment. If speculation is your game, then we wish you the best of luck but know that the price might fall a long way if he sells out. If you’re an investor, the price is too high.
YHOO closed Friday at $11.66 and the S&P 500 Index closed at 876.07.
And in the red corner, DRAM, a light flyweight
Here’s my take on DRAM’s chances:
DRAM, at 58% of its liquidating value and 76% of its cash backing, is very cheap. We believe that it is worth watching but, with no obvious catalysts and a high cash burn rate, probably one to avoid unless you are willing to bet that its remaining cash might attract an activist or the business will turn around before it runs out of money.
The risk with DRAM, as it is with any net net or net cash stock, is that the company might not make a profit any time soon and won’t liquidate before it dissipates its remaining cash. As we said above, we’ve got no insight into DRAM’s business and don’t know whether it can trade out of its present difficulties and back to at least a positive operating cash flow. According to the 10Q, the company is authorized to repurchase 172,196 shares under a stock repurchase plan but this is an immaterial amount in the context of the 8.9M shares on issue and the plan has been in existence since 2002. The best hope for the stockholders is that the company re-institutes its dividend, which, given its $16M in cash, it certainly seems able to do. No noted activists have disclosed a holding in the company, which means management have no incentive to do anything so stockholder friendly.
Let’s get ready to rumbllllllllllllllllllllllllle…..
Here’s the call of the fight:
The first 10 rounds were to YHOO, but DRAM landed a crushing blow at the end of the 10th. From there, DRAM pounded away while YHOO got the staggers. At the final bell, YHOO managed a respectable 34.2%, but it wasn’t in DRAM’s league, up an incredible 192.8%.
There’s nothing statistically significant about this little experiment, but, regardless, I think it’s interesting. As I’ve discussed in previous posts, small investors have a huge advantage over larger, professional investors. There is nothing easier to analyse than a Graham net net or liquidation play (here’s my post on Graham’s liquidation value methodology), and, as Professor Henry Oppenheimer demonstrated, the returns to a very simple buy-and-hold-for-a-year-and-repeat strategy will put investment professionals to shame. Graham’s methodology is robust and has withstood the test of time. With a little patience, investing like Graham did provides a tailwind that forgives many investing sins. Here’s to the little guys.
[b]Gonna fly now