Benjamin Graham built himself a reputation as the "father of value investing" after publishing his two landmark books on the topic. The first, "Security Analysis," was published in 1934. The second, "The Intelligent Investor," was first published in 1949.
Prior to these books, the Graham was relatively unknown, so finding examples of his work from early in his career is difficult.
Recently, however, a treasure trove of articles written by Graham has been published online. These articles were first published around 1920, so they give a fascinating insight into the world of security analysis in the early 20th century.
One of these articles outlines a classic deep-value play: American Shipbuilding Co.
Classic deep value
In the article, Graham compares the prospects of two different companies, the American Shipbuilding Co. and the American Ship and Commerce Corp. At the time, World War I had just ended and both companies were coming out of a period of excessive profits and sales growth thanks to war-related demand.
Of the two, American Shipbuilding was the more extensive business with eight construction plants and 15 dry docks, compared to its competitors' three plants and no drydocks. Graham wrote:
"It starts 1920 with a quarterly dividend of $4, payable Feb. 1, which rate was maintained throughout 1919, in the form of 7% regular and 9% extra. In 1918 it disbursed $27 per share, of which 15% was in 3 ½ % Liberty Bonds. Cramp, on the other hand, has only paid $6 per share during these past two years."
Despite the company's size, the market was overlooking the business. Valuing the two companies on dividend potential alone, Graham notes that in 1919, American Shipbuilding paid $16 per share on a share price of $120, for a dividend yield of 13.3%. Meanwhile, its competitor paid a $6 dividend on a $140 share. Was there any justification for this low valuation? Graham couldn't find any. Considering the two enterprises, he wrote:
"Considering the almost complete ignorance of the general public in regard to this company, it might be supposed that it is a small and unimportant proposition, with little in its record to attract the investor's attention. Nothing could be further from the truth. In its last fiscal year, this concern turned out 109 ships of 422,800 gross tons, which alone is considerably larger than the pre-war output of the entire country. The dividend record, the income statements, and the balance sheets of American Shipbuilding in recent years rank among the most remarkable exhibits of the industrial enterprises of the nation. And yet its shares were selling only sporadically and in small lots in Chicago, while the public was growing widely excited over Cramp Ship & Engine in Philadelphia and American Ship & Commerce in New York (the two being closely related as will soon be explained)."
Further analysis of the balance sheet showed the total amount of value on offer here. The author goes on to note that, at the time of writing, American Shipbuilding had a total market capitalization of $15.5 million but had aggregate assets of $152 million. Of the total, $23.6 million, or $231 per share, was cash and government bonds. There was an additional $100 million of other assets and work-in-progress offset by $107.4 million in liabilities, which was primarily funds advanced by the government for the production of ships.
With 63 ships still in the production line, Graham concluded that American Shipbuilding deserved to trade at a much higher multiple than it did at the time, especially considering it's robust balance sheet and dividend potential. He believed the stock was worth "substantially more" than its current price of $120 per share even without giving any regard to future developments.
Disclosure: The author owns no stocks mentioned.
