DJIA: 7572.48 +84.72 (+1.13%) S&P 500: 928.35 +11.69 (+1.28%) Nasdaq: 1583.51 +25.77 (+1.65%) NIKKEI 225 15082.52 -334.75 (-2.23%) 30-Year Bond 100 12/32 -1/32 6.09% Yield
CapMAC Holdings <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: KAP)") else Response.Write("(NYSE: KAP)") end if %>, an insurer of securities backed by various receivables, rose $3 7/16 to $33 3/16 after announcing that it was merging with MBIA Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MBI)") else Response.Write("(NYSE: MBI)") end if %>, a leading guarantor of municipal bonds, in a transaction valued at approximately $607 million. The fastest growing segment of the U.S. fixed income market is the $444 billion asset-backed bond market, which has grown 18% thus far this year, so MBIA wants to hitch onto this growth (just like Ambac Assurance Corp. did when buying Connie Lee Insurance last week). Similar to the way that MBIA insures municipal bonds, CapMAC guarantees that investors get paid even if the underlying receivables go bad and issuers fail to pay. Under the agreement, CapMAC shareholders will receive MBIA stock equal to $35 for each share of CapMAC stock. With MBIA at $59 a share, the share conversion represents a conversion ratio of .5932 MBIA shares for each share of CapMAC. Based on the indicated stock price, MBIA is paying 1.22 times assets and 12 times trailing premiums earned.
Insurance mothership and holding company Berkshire Hathaway <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BRK.A)") else Response.Write("(NYSE: BRK.A)") end if %> gained $500 to $44,400 after reporting Q3 EPS of $297, up 36% year-over-year. The company now trades under two times book value, which some investors believe is more than reasonable for a diversified manufacturing, services, and insurance company that has been created shareholder return of approximately 31.5% per year since the beginning of 1988. Over the last 30 years, annual return to shareholders has topped 23% per year. Recently, Money magazine said Loews Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LTR)") else Response.Write("(NYSE: LTR)") end if %> was a better value than Berkshire based on some very simple valuation techniques. Berkshire shareholders would point out a large deficiency in this valuation, in that the deferred income tax liability on unrealized investment gains was probably counted at its face value. Since Berkshire most likely has no plans to realize much of these gains for some time, discounting that tax liability by 50% as if it were a zero coupon bond issued to the government would put the current valuation on Berkshire at 1.7 times book value. In the last year, Berkshire has increased book value by 32%, nearly equal to the year-over-year advance in the company's share price.
Coulter Pharmaceutical <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CLTR)") else Response.Write("(Nasdaq: CLTR)") end if %> rocketed $3 5/8 higher to $18 7/8 today as the developer of drugs and therapies for the treatment of cancer received a "strong buy" rating from BT Alex. Brown. Analyst Kevin Tang issued the rating after perusing a report that showed "very positive" data on a treatment the company is developing for non-Hodgkin's lymphoma. Tang stated that the drug Bexxar in Phase II clinical trials (in which controlled studies of approximately 100 to 300 volunteer patients with the disease assess the drug's effectiveness) produced a "tumor shrinkage of more than 50% in 60% of the advanced stage patients tested." About 27% of those tested had a "complete response," which means that there was no more detectable tumor.
QUICK TAKES: Ocwen Financial Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: OCN)") else Response.Write("(NYSE: OCN)") end if %> gained $3 5/8 to $49 1/4 after it was revealed that Cityscape Financial <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CTYS)") else Response.Write("(Nasdaq: CTYS)") end if %> has retained Ocwen Federal Bank FSB as a special loan servicer to sub-service approximately $75 million of Cityscape's 90-day-plus delinquent domestic loans... Express Scripts <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ESRX)") else Response.Write("(Nasdaq: ESRX)") end if %> added $4 1/2 to $56 1/2 after announcing last night that it had agreed to provide pharmacy benefit management services for prescriptions processed through Wal-Mart Stores <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: WMT)") else Response.Write("(NYSE: WMT)") end if %> pharmacy programs... Online service provider America Online <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AOL)") else Response.Write("(NYSE: AOL)") end if %> rose $4 13/16 to $73 5/16 after announcing that 56k modem access is now available to members of its service and that it would upgrade 200 cities to 56k technology. The company was raised by Merrill Lynch to "near-term accumulate" from "near-term neutral"... Tarrant Apparel Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TAGS)") else Response.Write("(Nasdaq: TAGS)") end if %> gained $1 7/8 to $15 after it said a civil lawsuit brought by the American Textile Manufacturers Institute has been dismissed.
Developer and producer of natural gas Pogo Producing Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PPP)") else Response.Write("(NYSE: PPP)") end if %> rose $3 1/16 to $34 1/16 after being placed on the Goldman Sachs "recommend list"... Berg Electronics Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BEI)") else Response.Write("(NYSE: BEI)") end if %> gained $2 to $22 11/16 after announcing that it has postponed a proposed sale of 8.9 million common shares due to unfavorable market conditions... Parker Drilling Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PKD)") else Response.Write("(NYSE: PKD)") end if %> also gushed higher $1 1/8 to $14 15/16 after it withdrew the registration statement for a planned public offering of 10 million shares... Shaw Group Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SGR)") else Response.Write("(NYSE: SGR)") end if %> gained $1 7/16 to $20 7/8 after it announced that it had purchased Prospect Industries PLC of Derby, United Kingdom, for approximately $15.8 million in cash... Brokerage Charles Schwab Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SCH)") else Response.Write("(NYSE: SCH)") end if %> rose $2 7/16 to $37 after it said late Thursday that it will grant stock options to all of its approximately 11,000 non-officer employees... Furman Selz reiterated its "aggressive buy" rating on jeweler Tiffany & Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TIF)") else Response.Write("(NYSE: TIF)") end if %>, boosting the stock $2 5/16 to $37 13/16... Coffeemaker Starbucks Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SBUX)") else Response.Write("(Nasdaq: SBUX)") end if %> percolated $2 5/8 higher to $34 3/4 after receiving a "long-term buy" rating from Ladenberg Thalmann.
Specialty finance company Green Tree Financial <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GNT)") else Response.Write("(NYSE: GNT)") end if %> lost $7 5/8 to $32 3/4 after reporting last night that it will take a charge against earnings to reduce the value of its interest only (IO) strip assets by $125 million to $150 million to reflect higher prepayments of loans originated in higher interest rate environments. The company said that without this charge it will beat the analysts' mean EPS estimate of $0.81 for the quarter. Many investors believe that this will clear up the balance sheet and that this won't happen again, which may be true, but only if long-term interest rates don't keep dropping. At the same time that its IO strips decline in value, though, its principal only strips increase in value, which is not seen on the income statement but which is reflected on the cash flow statement.
Reflecting the weakness in Green Tree Financial, investors are discounting what is known as "reinvestment risk" in their valuations of other specialty finance companies. Reinvestment risk is the risk that bond investors face when bonds mature and new bonds of similar maturities are yielding less. Such is the case with "interest only strips," the residual securities from the packaging and sale of loans in what is called "securitization" of assets. Consumer lender United Companies Financial <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: UC)") else Response.Write("(NYSE: UC)") end if %> fell $2 7/16 to $19 15/16 on worries that it will have to mark down the value of its interest only securities to reflect loan prepayments that exceed the assumptions contained in the valuation of those loans at securitization. Specialty lender The Money Store <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MONE)") else Response.Write("(Nasdaq: MONE)") end if %> slid $2 5/8 to $26 3/8 on similar worries.
McClatchy Newspapers <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MNI)") else Response.Write("(NYSE: MNI)") end if %> fell $4 5/8 to $28 after announcing that it will acquire closely held Cowles Media Co., the publisher of the Star Tribune in Minneapolis, Minnesota, for about $1.4 billion. Though Cowles is traded over the counter, financials for the company are pretty hard to come by. Word on Cowles is that its production operations are state-of-the-art, which makes its price/earnings ratio seem steeper than investors might prefer. On a price/assets basis, the deal might be more reasonable. McClatchy's President, Gary Pruitt, said the deal would reduce per-share earnings for the next six to seven years due to financing costs and goodwill amortization. On a cash basis, though, Pruitt said the deal will be accretive to per-share cash flow by the turn of the century>
QUICK CUTS: Gold Fields of South Africa Ltd. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: GLDFY)") else Response.Write("(Nasdaq: GLDFY)") end if %> was smashed for a $5 1/8 loss to $13 after the company said a drop in gold prices to a multi-year low will hurt profitability this quarter since it doesn't engage in selling its production forward in the futures market, where prices for future delivery of gold are much higher than the spot price... Security systems manufacturer Detection Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DETC)") else Response.Write("(Nasdaq: DETC)") end if %> dropped $5 1/4 to $13 1/2 after reporting Q2 EPS of $0.20, missing estimates of $0.25... Telco products company Telco Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TELC)") else Response.Write("(Nasdaq: TELC)") end if %> lost $1 1/4 to $9 1/2 after it announced that revenues for the first fiscal quarter are expected to be 10-15% lower than the previous quarter due to the cancellation of an "outstanding order by a major customer"... Childtime Learning Centers <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CTIM)") else Response.Write("(Nasdaq: CTIM)") end if %> tumbled $1 5/8 to $12 7/8 after the child care center reported Q3 EPS of $0.15, up 25% from last year's earnings and 7% above the First Call mean estimate.
Computer maintenance and technology support services company DecisionOne Holdings Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DOCI)") else Response.Write("(Nasdaq: DOCI)") end if %> slipped $3 1/4 to $30 after announcing first quarter pro forma EPS of $0.09... Food and drug retailer American Stores Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ASC)") else Response.Write("(NYSE: ASC)") end if %> dropped $6 3/8 to $20 1/2 after it announced that its third quarter results will be below last year's third quarter results. The company expects to report EPS between $0.22 and $0.24 versus estimates of $0.30... ContiFinancial Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CFN)") else Response.Write("(NYSE: CFN)") end if %> declined $1 7/16 to $25 5/8 after filing a "universal" shelf registration statement under which it may sell up to $600 million in debt and equity securities... Industrial parts washing products manufacturer Mansur Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MANS)") else Response.Write("(Nasdaq: MANS)") end if %> was cleaned out $2 1/4 to $15 after reporting Q3 earnings of $0.12 per share versus prior year results of a loss of $0.11 per share.
FOOL ON THE HILL
An Investment Opinion by Louis Corrigan
Running with the Big Dogs
On Tuesday, November 4, retailer and recent initial public offering Big Dog Holdings <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: BDOG)") else Response.Write("(Nasdaq: BDOG)") end if %> had a dog day afternoon, falling from $14 1/16 to a low of $11 before ending the day at $11 5/8. A week later, the stock has dropped a couple more bones, hitting an all-time low of $9 3/4 this past Tuesday. Such movement isn't surprising in this volatile market, especially for a small-cap stock that has just reported earnings. Yet there would appear to be a shaggy story behind this dog, a story that might benefit both short-sellers and investors interested in initial public offerings (IPOs).
Big Dog had reported what appeared to be good third quarter results days earlier on Oct. 30. The firm had a good response to its fall merchandise. Earnings of 15 cents per share were 114% ahead of year-ago numbers and in line with analyst estimates. A Reuters report said the stock actually rose $1 to $15 a share in after-hours trading (though it traded between $14 1/8 and $14 3/8 the next day).
The only additional news following that Thursday night earnings report came the following Tuesday afternoon when Bloomberg reported that two of Big Dog's underwriters had reiterated their "buy" ratings. This ostensibly good news was apparently anything but. Indeed, these recommendations were a sign that the stock was headed for the doghouse.
Big Dog went public on September 26th at $14 a share. It first barked open at $15 1/2, but it has never seen that price since, closing that first day back at $14. In the world of IPOs, this was a bad start. Only closing below the issue price is worse. The logic of these deals is simple. The company issuing the stock wants to get as much money as possible. The folks buying into the IPO want some immediate breathing room for the risk they're taking by putting up that capital.
The underwriters make money (in this case, about $4 million) for getting the deal done. So they just want to balance out these competing interests. They price the stock high enough to satisfy the corporate client and low enough that the buyers have a decent shot at making money. That's why there's usually at least a 10% discount built into the issuing price.
So an IPO that doesn't rise at least 10% on its first day is a bit suspect. Either the underwriters didn't do a good job of selling it, or there's just not great demand for the company's stock at the offer price. In this case, Big Dog had Robertson, Stephens & Co., Hambrecht & Quist, and Needham & Co. working the offering, all respectable underwriters that should have had few problems. Indeed, such firms have so many relationships with institutional investors that they can often succeed at selling shares that the purchasers themselves don't want. There's just an implicit quid pro quo arrangement with these big money clients. Help us out here by taking a part of this offering, and we'll make sure you get a piece of that hot IPO we've got next month.
So Big Dog's weak opening raised the question: Was there a problem with aftermarket demand? Did anyone who wasn't having his arm twisted want to own this company at $14 plus per share?
The question was best answered by a fundamental analysis of this retailer that features activewear and casual sportswear marked with a Saint Bernard logo and slogans like "If You Can't Run with the Big Dogs, Stay on the Porch." The company sells its products through 144 of its own retail stores, as well as through catalogs and other retailers. Prior to the third quarter earnings report, Big Dog had trailing earnings of just $0.04 per share on sales of $75.5 million. Comparable store sales were up 9.6% for the first half of the year, with overall sales up 28%. First Call estimates projected FY97 earnings of $0.29 per share rising to $0.62 in FY98.
The third quarter report did nothing to disrupt these projections, with net income up 113% to $1.6 million on 23% higher total sales, though same-store sales increased just 5.2%. With the stock still at $14 after this report, the company sported an enterprise value of $162.3 million (based on 13.23 million common stock equivalents), putting it at two times trailing sales and 133 times trailing income. With a straight PE of 117 but projected annualized growth of 272% over the next five quarters, Big Dog PEGed out at a tail-wagging 0.43. Yet, if you assumed a 25% long-term growth, above the 19% industry rate but perhaps still conservative, the YPEG fair value stood at $15 1/2.
These numbers suggested that the analysts' high expectations were pretty much already built into the stock price. If these numbers didn't entice an investor to run with the Big Dog, they didn't necessarily make the stock a screaming short, either, despite the lofty PE ratio. Shorting involves selling a stock you don't own and then buying it later, hopefully at a lower price, to cover the "short" sale. You can do this as long as your broker can borrow the stock from another investor. Stocks that are marginable are borrowable, and most new issues become marginable after trading for a month. There are numerous philosophies behind shorting, but it generally involves determining that a company is overvalued and believing that the market will correct this mistake sooner rather than later.
To buy or short a stock like this you have to understand the special dynamics involved in an IPO. It's just relatively unusual to have a group of investment bankers responsible for placing 30% of a company's outstanding shares into new hands. To make that process run as smoothly as possible and avoid embarrassment and bad feelings all around, the underwriters must be willing to step up and support the stock, especially if it's in danger of slipping below the issue price. The goal is to keep the price afloat until the company's fundamentals attract new buyers. But underwriters clearly aren't going to put a floor on a stock forever. The danger is that once they stop hitting the offer price, the stock sinks.
Big Dog's aftermarket trading in the month before its collapse appears to offer a remarkably clear example of what it looks like when underwriters are supporting a stock. Day after day, for weeks, the stock held steady at $14 a share or above, with most of the trading occurring within just six cents of that price. Even during the recent market correction, this stock remained impassive, staying put at $14. The efficient market theory to the contrary, this was simply not normal trading activity. An investor looking to purchase the stock should have been apprehensive about doing so, and a short-seller convinced that the company was overvalued might have foreseen an imminent trigger for a decline in a basic imbalance of supply and demand.
Underwriters do not comment on such things. Yet what seems to have happened is that they waited for the company to release its earnings report. Needham and H&Q then followed that up on October 31 with the inevitable recommendations, which were distributed to their clients, most of whom probably already knew the story and weren't interested or were possibly eager to dump the shares they still owned. The underwriters supported the stock through Monday and most of Tuesday, with every block order Tuesday crossing at $14 a share until the analyst recommendations hit Bloomberg at 2:28 p.m. After that, three more block trades occurred at $14, the last at 3 p.m. Then the stock collapsed.
The next large transaction at 3:39 p.m. involved half a million shares at $11. Virtually all of the day's transactions, some 1.7 million shares, went off in the last twenty minutes of trading at $11. Had the underwriters pulled back the troops, retreating to make a new stand at the lower price? Perhaps. However, news of the analyst recommendations, the formal indication that the underwriters liked the company's shares, was ironically an implicit admission that the stock was now more or less on its own. Based on the stock's weak finish the day it went public plus the unusual trading in the month that followed, this outcome was not exactly surprising.
Next week, we'll look over the past few months worth of IPOs to see whether this story of Big Dog suggests a template that might help investors avoid unstable new issues while serving as a possible screen to find new ones worth shorting.
Please see the Motley Fool's Conference Calls page for call information and links to synopses.
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Randy Befumo (TMF Templr), a Fool One
Dale Wettlaufer (TMF Ralegh), Fool Two
Alex Schay (TMF Nexus6), Fool Three
Louis Corrigan (TMF Seymor), Fool Four
Contributing Writers
Brian Bauer (TMF Hoops), Fool Five
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