Diary: spinoffs

Sketch notes on a webpage discussing spinoffs.

3 periods when an investor can get involved:

1. pre-spin period - spinoff is announced. The decision to buy stock in the corporate parent may be desirable if it enables the investor to purchase both entities at a lower combined price that the two separate post-spin companies.  But, this can be difficult without definitive knowledge of the spin-off’s balance sheet, asset base and normalized earnings power.    Typically, the market reacts positively to announcements of spin-offs.  Often there will be an initial jolt to the price of the stock, as investors anticipate increased operating efficiencies that are consistent with these transactions. As the initial euphoria subsides, the stock often settles into a narrow trading range until the actual spin-off takes place.  This can be as long as a year or more. This can be an attractive time to get involved with the spin-off if one is patient, and believes both parts are attractive investments. 
2. initial trading period -  spinoffs often drop initially. those who are adept traders may wish to consider selling (the spinoff) as soon as possible (assuming you hold), then repurchase the shares as the selling subsides.
3. seasoning period -  The seasoning period starts from the moment the spin-off is announced and can last up to several years.  The better the spin-off is understood and perceived the faster the seasoning period. During this time more information becomes available, management tells its story to Wall Street, and more realistic appraisals of the company’s prospects can be made.  Depending on how much structural selling the spin-off endured, this period can have the greatest mispricing of a given stock as well as the best opportunity to profit from that market inefficiency.  One must be patient and selective when sorting out attractive spin-offs. 

Dangers

buying most spinoffs in the early weeks of trading due to the intensity of artificual selling pressure was generally the best strategy. "Now" (2000 - when there were lots of spinoffs), much greater discernment required

Diary: IPC, spinoffs

ICP - Intermediate Capital - 198p/£791m
ICP provides mezzanine finance, leveraged credit, and minority equity. The trading update, released today, reveals:

• The events of the summer have further highlighted the imbalance between supply
  and demand for credit which will remain a feature of the European credit markets
  for the foreseeable future.  This imbalance is placing considerable stress on
  credit markets and therefore presents considerable opportunities for specialist
  lenders to generate high returns
• Mezzanine Funds:  Our portfolio companies are performing well and our mezzanine funds continue to
  show top quartile performance versus private equity funds.
• Credit Funds: Our senior loan portfolio has delivered a strong performance in the period, with
  default rates remaining at historical lows.
• Longbow Real Estate Capital: We  are  delighted  by  the  success of the fundraising in a difficult
  environment.
• Investment Company (IC): The performance of the IC's portfolio remains strong.

ICP trades on a PER of 6, against a decade median of 12.7. Yield is 9.4%. PBV 0.63, PBV10 1.8. I am a holder of ICP, and view it as a buy at this level.

Spinoff mishaps
In August, Frog's Kiss wrote a post of where he went wrong with spinoffs. He related his purchase of spinoff Seahawk Drilling:

It started life with tons of cash, a huge discount to book value, and was in a super distressed segment of an industry.

 "Why wouldn't I be convinced it was a great buy?", he asked, rhetorically. He continues:

There were plenty of elements I should have identified - rapid cash burn, lack of interested buyers in old dry stacked rigs, difficulty in predicting a turn in demand for shallow water natural gas drilling ...

 He was happy to buy, though, because "it was a spinoff"; I'm assuming he's borrowing this idea from Greenblatt's "Genius" book. Frog states:

This is the absolute dumbest reason to buy a spinoff.  I simply extrapolated occasional past successes in spinoffs with the idea that by virtue of the transaction it would work out fine - similar to a mutual thrift conversion where there really are mechanisms that can minimize downside risk and offer nice upside by virtue of the transaction.

 His blog is high quality, and I urge you to check it out.

Analysis Paralysis
Excerpts from a post by Geoff Gannon, "Analysis Paralysis: Stop Thinking, Start Simplifying". Two statistics he looks at are:

1. 10-year average free cash flow margin/Price-to-sales
2. 10-year average ROE/ PBV

He looks for a 10% hurdle rate, and performs calculations based on tangible values.

There are some interesting comments to the post:

• Klarman- The ability to distil two or three major themes out of an investment and get right to the heart of the matter is truly an art
• Mauboussin in "More than you know" shows the research that indicates more information not to increase the accuracy of your judgement, but merely to increase the confidence in your judgement. More information and analysis has questionable usefulness. [I read the other day that people often make their best decisions when they need to go to the loo urgently]
• Personal experience suggests that a categorical "yes/ no" investment decision is reached after 10-20 hrs. Any longer and it's not 'screaming cheap' and you risk fooling yourself.