Thursday, November 8, 2012

Invest in the After Election Sell-Off

Be fearful when others are greedy, be greedy when others are fearful” is one of the classic mottos for value investors, told by the most successful investor, Warren Buffett. Thus, investors should stay away from overall cheery market consensus. When a huge sell-off happens in the market, it is normally the time to invest. It did happen, just one day after President Barack Obama was elected to be the President of the United States of America. 
It could be called the worst selloff of the year. The Dow Jones Industrial Average lost 313 points, or 3.26%, to close below 13,000. Coincidentally, when President Barack Obama was elected the first time, The Dow experienced a decrease of more than 400 points in the following day. This second time, two Dow Jones’ stocks that were hit the most, were two mega-banks, Bank of America (NYSE: BAC) and JP Morgan Chase (NYSE: JPM). BAC plunged 7.14%, from $9.94 to $9.23 per share. This loss seems to be nothing compared to its 66% year-to-date gain for its shareholders. BAC is valued at 0.5x its book value and the dividend yield is 0.4%. JP Morgan lost 5.6%, and settled at $40.48 per share. Year-to-date, JP Morgan has also had a nice run, but less than that of BAC, with a 21.74% gain. JP Morgan is valued at 0.8x P/B and the dividend yield is 2.8%. So the banking sector has led Dow Jones in the overall decline.
Indeed, the banking sector got hit the most, as it is the leading industry of all economic activities. Then the overall decline came to the energy sector. The biggest loser in the S&P 500 during the day was a metallurgical coal supplier and exporter Alpha Natural Resources(NYSE: ANR). ANR dropped 12.16%, from $9.62 to $8.45 per share. Year-to-date, Alpha’s investors are not happy, as the company has lost nearly 62%. With more than 220 million shares outstanding, the total market capitalization of Alpha is $1.86 billion. In addition, the largest coal producer in the US, Peabody Energy, couldn’t escape this bear. It plunged 9.64% to $26.24 within a day. The total market capitalization for this coal producer is $7.04 billion. The stock seems to be cheaper after the fall, of only 7.7x P/E and 1.2x P/B, along with the dividend yield of 1.3%. However, it is expected that the coal industry in general would receive much tighter regulation under Obama’s administration. Furthermore, the demand for coal would be less due to the fact that power generation companies could switch to cheaper and cleaner alternative, the natural gas. 
Bill Gross of Pimco told CNBC on Wednesday: “A newly re-elected President Barack Obama will push for higher taxes—including a dividend-tax hike that will cause a substantial drop in stocks.” He reasoned that higher dividend taxes would discourage risk-adverse investors invest for dividends. The rise of 15% to 25% would make the stock market fall for another 5% to 10%. In addition, following the New York Times: “The tax increases and spending cuts, known as the fiscal cliff, could push the economy into recession in 2013, economists say they fear.”
Not all stocks were in the red; the majority of healthcare operator stocks were up significantly.Vanguard Health System (NYSE: VHS) was up 5.3% to $11.13 per share. This stock has been rewarding investors, climbing from its low of $7.35 in June.  At the current price, the market capitalization is $840 million. The market is valuing 9.5x P/E and 2.8x P/B. HCA Holdings (NYSE: HCA) was up as high as 9.44% to $33.85 per share. It was a big hospital operator with 163 hospitals. The market capitalization is $14.92 billion. Even with the daily significant increase, HCA is trading at only 4.8x P/E. Its P/B valuation is not valid as it has negative equity. The firm has nearly $27 billion in debt out of an equivalent amount in total assets. Investors’ expectations are Affordable Care Act will push up those companies’ net income up.
Overall, the major selloff is just an emotional factor, it was reported by Bespoke Investment Group that since 1990, the market has gone down 13 times and up 15 times one day after a new election. It could be an opportunity to invest in the sell-off. Nevertheless, investors should look deeper at the fundamentals of each company to determine its attractiveness compared to the price offered in the stock market.

Bullish About Microsoft? Bill Gates Thinks Differently

Many investors might think Microsoft (NASDAQ: MSFT) is undervalued and the stock is a good buy right now. Its new operating system, Windows 8 was recently launched. Windows 8 is known to work on both tablets and personal computers, creating synergies for software developers. SamsungHTC and Nokia are three smartphone devices to have Windows 8 bundled in. The $237 billion software company, which pays a consistent dividend and is valued at only 15.3x P/E, appears to be cheap to many value investors. However, insiders are thinking differently.
From October 21 to 24, Bill Gates, the founder and chairman of Microsoft has sold 20 million shares in the market for around $28 per share. The total value sold was nearly $560.3 million. Three months ago, from July 25 to 27, he sold 13 million shares, with the total value of  $381 million. Should we follow him or keep being bullish about Microsoft?
Recently, Microsoft announced poor Q1 earnings results. Revenue was 16.01 billion, 7.8% lower than the same period last year. Its operating income experienced a 26.3% year-over-year decline to $5.31 billion, and Q1 EPS was $0.53, lower than last year EPS of $0.68. Although its total revenue decreased, due to the PC demand slowdown, its enterprise revenue kept growing. Its Server & Tools business recorded $4.55 billion in revenue, an 8% growth from Q1 2011. Microsoft’s only current growth driver is a Windows 8 operating system. It is said that this operating system is convenient for users, as it is fully compatible with other existing hardware and software, which works well with Vista or Windows 7.  In addition, it is able to sync information with multiple devices. 
As of September 2012, Microsoft has a strong balance sheet. It has $66.6 billion in cash, $2.4 billion in short-term debt, $9.1 billion in long-term debt and $68.8 billion in stockholders’ equity.  Currently, it is trading at $28.21 per share. The total market capitalization is $237.43 billion; the enterprise value (after subtracting cash and adding debt) is $183.73 billion.
Compared to its peers including Apple (NASDAQ: AAPL)Google (NASDAQ: GOOG) andOracle (NASDAQ: ORCL), Microsoft is paying highest dividend yield to its shareholders. Its dividend yield is 3.3%, whereas Oracle’s and Apple’s are 0.8% and 1.8% respectively. Apple just began to pay dividend the first time during the last 10 years. Google doesn’t pay a dividend.

Net margin (%)
ROIC (%)
Dividend yield
All of those four companies are quite conservative. They use little leverage; Oracle is the most leveraged among the four, with only 0.3x D/E. Microsoft has the least net margin among the four, of 21.7%, whereas Apple’s, Google’s and Oracle’s are 27%, 25.7% and 27.6% respectively. Notably, Apple seems to be the most interesting stock with extremely high return on invested capital, no debt but it is valued cheapest in terms of P/E ratio. Google is the most expensive with nearly 20x earnings valuation.
Foolish Bottom Line
Microsoft still delivers to investors satisfactory operating figures, with 21.7% net margin, 20.4% ROIC, 2.8% dividend yield and reasonable P/E valuation of 15.3x. However, it does not stand out among its peers like Apple. With Bill Gates’ heavy selling, I would rather follow Bill Gates and not to involve with Microsoft at the moment. 

This Chemical Company is Good for Income Investors

Most of the time, George Eastman is well known for being an innovator of roll film and a founder of Eastman Kodak. For a long time, Eastman Kodak had been an extremely successful wealth creator for investors. However, after a digital camera was invented, Kodak lost its moat and nearly sunk into oblivion. In contrast to the significant decline of Kodak, another legacy of George Eastman, Eastman Chemical (NYSE: EMN) has been performing quite well over time. Actually, Eastman Chemical was created in 1918 to supply chemicals for George Eastman’s photographic processes. It was quite interesting to see two connected businesses in the past, with the same founder, are heading into two opposite directions. Kodak is worth only $58.3 million while Eastman Chemical is worth more than $8.3 billion in the market. 
Recently, Eastman Chemical announced its third quarter results. The revenue for Q3 2012 was $2.3 billion, an impressive growth of 25% compared to the same period last year. However, sales have already included Solutia business, which Eastman Chemical just recently acquired. The pro-forma combined sales revenue actually decreased by 3% due to lower selling prices. The pro-forma combined operating income was $397 million, a year-over-year growth of nearly 10.6%. Its adjusted earnings from operations were $1.57 per share, higher than analysts' estimates of $1.42. It was 24.6% higher than EPS in Q3 2011, of $1.26.
The recent $3.4 billion deal to buy Solutia, a global manufacturer of specialty chemicals used in both consumer and industrial applications, would help Eastman Chemical to reach emerging markets, especially Asia Pacific for organic growth opportunities in the future, as Solutia had around 30% of total sales come from Asia Pacific. In addition, the acquisition could help the combined company to save up to $100 million costs yearly by the end of next year.
Right after its earnings announcement, investors began to be bullish on Eastman Chemical’s shares. It jumped 14% within a day. Year-to-date, its stock has made investors wealthier by nearly 50%. It is most performing stock compared to its competitors including BASF(NASDAQOTH: BASFY.PK) and Celanese (NYSE: CE). BASF and Celanese returned 12.9% and -16.5% to investors year-to-date respectively.

Net margin (%)
ROIC (%)
Interest coverage
Dividend yield (%)
Eastman Chemical seems to be quite comparable to its peers in terms of operating figures including net margin and return on invested capital. Although it is the most leveraged company, with 1.8x D/E, it has the highest interest coverage, indicating its high ability to cover its interest expense. For the last 10 years, it is the constant dividend payer. The current dividend yield is 1.7%, higher than Celanese’s but lower than BASF’s. It seems to be the most expensive company among the three. Its P/E is 14.8x, higher than BASF’s of 11.1x and Celanese’s of 10.1x. 
My Foolish Take
I personally think that all of three chemical companies are worth investors’ consideration. All three have a history of paying sustainable dividends for several years. With double-digit returns on invested capital, comfortably high interest coverage, and not-so-pricey P/E valuation, Eastman Chemical, BASF and Celanese could be suitable income stocks in the investors’ long-term diversified portfolios. 

A Closer Look at This Volatile Premium Bedding Stock

Investors who love the premium pillow and mattress business would know Tempur-Pedic International (NYSE: TPX). In the past year, the stock has experienced high volatility that caused many investors’ stomachs to churn. The stock went from $87.26 to $21 in around two months. Recently, it dropped from $32 to $24.90, a loss of 19.5% within a day, after its earnings announcement. Should we get scared of its recent volatility? Or should we get excited when the stock, which used to be a market darling, is being punched down significantly?
For the last 5 years, Tempur’s stock has been a roller coaster. It dropped from $34 in 2007 to $4.50 in March 2009, then it went back up to $85.8 in April 2012, and now it stays at $25.80 per share.
Recently, it announced poor Q3 earnings results. Its revenue reduced from $383.1 million to $347.9 million, a year-over-year decrease of 9%. It was due to the 14% decrease in the North American segment whereas the International segment increased 3% compared to the third quarter last year. The adjusted net income was $42.3 million, much lower than the 2011 third quarter of $61.9 million. Adjusted EPS was $0.70 whereas GAAP net income was -$2 million and GAAP EPS was -$0.03.
Looking carefully into its financial statement, the loss in the third quarter was due to a $61 million income tax provision on $59 million in income before taxes. The income tax provision was two times higher than that in the same period last year, and its income before taxes decreased from $93.1 million to $59 million. Those factors combined have made its net income plunge to a loss from nearly $62 million last year.
With the third quarter pre-tax income of $59 million, its trailing twelve months pre-tax income would be $268 million. Tempur’s current market capitalization is $1.54 billion, so the company is trading at only 5.75x pre-tax income.
Recently, Tempur announced that it intended to acquire the largest mattress manufacturer,Sealy Corporation (NYSE: ZZ), which is the owner of several brand names such as Sealy, Stearns & Foster, Bassett, TrueForm etc. The deal would create a $2.7 billion global beddingprovider. The company would pay $1.3 billion including $230 million equity for Sealy and its debt. Tempur would assume all of Sealy’s debt, of more than $1 billion.
Strategically, the acquisition of Sealy seems to make sense. By acquiring Sealy, Tempur will expand its business from the existing premium market to the mid to lower end of the market, which Sealy serves. Nevertheless, the acquisition would weaken its balance sheet with a heavier debt burden, from $650 million to around $1.7 billion post-acquisition. On top of that, the company already has a negative equity.
The huge debt with negative equity sounds quite scary. However, the negative equity was due to the fact that Tempur financed significant stock buybacks using debt. Its treasury stock was $1 billion at the end of 2011. Historically, it bought 6.5 million shares at $55.69 and 8.5 million shares at $29.41. Along with that, in June 2012, Andrews Mclane, the chairman of the board, bought $2.8 million of shares in the market.
My Foolish Take
The action of the company itself and its chairman has shown its shareholders their belief in Tempur’s long-term future. Maybe after acquiring Sealy to enter the mid and lower end market, Tempur might be heading to brighter future prospects. But definitely, it would take quite some time. At the moment, the poor earnings result, the huge debt burden after a potential Sealy acquisition, and the negative equity would make me feel nervous about initiating any positions in the stock at the moment. 

iCraze or Amazon Craze, Which One to Buy?

The iCraze has been the mainstream of the stock market for the last several years, beginning with the launch of an iPod, iPhone, then iPad. People love the products so much that it has reflected quite positively in Apple’s (NASDAQ: AAPL) stock price. For 5 years, investors have realized a gain of 226.3%. Besides Apple, there is another stock, which receives similar market sentiment. This stock has made investors wealthier by 164.4% during the past 5 years. That is Amazon (NASDAQ: AMZN).
We may ask ourselves what we should buy, Apple or Amazon? Or, we should buy both? Or, we should avoid both for now?
Both Amazon and Apple are manufacturing tablets, Apple with the iPad and Amazon with the Kindle Fire, but with different strategies with totally different price points. iPad is one of the mainstream products of Apple, so if iPad doesn’t become a market leader in the tablet industry, Apple’s share will definitely shrink. Luckily, the iCraze has made Apple the tablet market leader. For Amazon, Kindle Fire is just a tool for its main businesses, selling books, magazines, games, and movies online via its digital storefront. Following IHS iSuppli, in Q2 2012, Apple’s tablet accounted for nearly 70% of the total market, whereas Amazon accounted for only 4.2%.
The different strategies create different price points for Apple’s and Amazon’s tablets. The smaller iPad, the iPad mini, is released to compete directly with Kindle Fire HD, with a much lower price than the normal iPad. These two tablets are quite similar in nearly every hardware related aspect. However, the iPad mini is still more expensive than the Kindle Fire HD. iPad mini is selling for $329, whereas Kindle Fire HD is selling for just $199.  Jeff Bezos, Amazon’s CEO, admitted that Amazon’s tablet is sold at a cost to customers as the company doesn’t try to make money on the hardware. He commented on Amazon’s philosophy: “We do not like the razor and razor blade model, where you lose money up front and then somehow make it up on the backend. We also do not like the other model, where you make a lot of money on the device, because it doesn’t follow our approach…In my view, you set up the business in a way that is aligned with the customer, or you can set it up in odds with the customer. When you have the option, you should figure out a way to be in alignment. Sometimes that requires you to be more patient, so it’s part and parcel with long-term thinking.”
When Apple missed earnings estimates, its shares plunged. It has dropped from $700 to $604 within a little over a month. At $604, Apple is valued at 14.2 trailing P/E and 0.4x PEG, even with a 35% operating margin and a 44% return on invested capital, the dividend yield is 1.75%. Amazon has a much higher valuation, with 294x trailing P/E and 2.9x PEG ratio. Its operating margin and return on invested capital is much lower, of 1.2% and 4.94% respectively.
Foolish Bottom Line
I like Jeff Bezos’ business approach, with a long-term focus to deliver customers’ long-term value and satisfaction. However, the market is valuing Amazon too high with triple-digit earnings valuation and a 2.9x PEG ratio. It seems that Amazon’s extraordinary growth has been over-factored in its share price. In contrast, Apple can be an attractive investment to investors. It is quite rare to see such a growth powerhouse is being valued quite cheaply at only 14.2x P/E and a 0.4x PEG ratio, and it is paying 1.75% yield. 

Three Stocks to Buy During a Frankenstorm

Beware! Hurricane Sandy is coming to town. It began the trip from Bahamas on Friday, causing 40 deaths in the Caribbean, and it could join with winter weather fronts to form a Frankenstorm, the worst super storm in a century. Everybody would remember old scary friends such as Gloria ($1 billion damage in 1985), Hugo ($7 billion damage in 1989), Andrew ($30 billion damage in 1992), Katrina (up to $200 billion damage in 2005) and recently, Irene ($15 billion damage in 2011).
Facing a huge storm, what will you choose to buy in a department or grocery store? Of course, I think the majority of people will stockpile necessity items, such as flashlights, plywood, batteries, and generators. After emergency items have been stockpiled, we would think of pharmacies, food, and gas. Several businesses have been preparing for its customers’ emergency shopping, including generator provider Generac Holdings (NYSE:GNRC), retailer Sears (NASDAQ: SHLD) and Wal-Mart (NYSE: WMT).
Generac, a leading provider of back-up generators for home, has shot up significantly, from $25.60 to $28.30 in just a week. Actually, in the beginning of September, it was only $20.70 per share. So the stock has risen 36.7% within just two months. Aaron Jadgfeld, the company’s CEO said: “This is becoming a must-own product for households, especially for people who live in areas where power quality and reliability are issues.” This company is the leader in the home generator market, with a 70% market share. However, it is not a large company with only $1.93 billion market capitalization. Over the trailing twelve months, it has generated $187 million free cash flow and delivered a return on invested capital as high as 28.7%. In July, it just paid out a $6 special dividend. Even after a recent significant rise in its stock price, Generac is still valued cheaply, at only 5.6x P/E, whereas the industry’s average is at 16.2x P/E.
Based on the past experience with previous storms, Wal-Mart is helping shoppers by providing support in 800 stores and clubs in the path of Hurricane Sandy, by keeping enough emergency goods for shoppers. A Wal-Mart spokesperson said: “We have made sure stores in those areas expecting winter storms were recently stocked with shovels and other items they will need when the storms hit. Our store managers are empowered to help the communities that help us stay in business. They work closely with their local emergency responders to identify community needs and look for ways we can help." Indeed, Wal-Mart always has a long-term view with great community bond. Its share price has shot up since September 2011, from around $50 to $75.10 currently. Wal-Mart is paying investors a $0.40 quarterly dividend, with the yield of 2.12%. It was quite fairly valued at 15.8x P/E, compared to industry’s average of 16.3x. Its PEG ratio seems to be high at 1.7x. At $75.11, Wal-Mart is one of the biggest retailers with $252.5 billion market capitalization.
For Sears, it has prepared well for the hurricane for shoppers. Hundreds of Sears and Kmart stores along the East Coast are stocked with portable generators.  The company suggests that when buying a generator, shoppers should secure a unit large enough to deliver the power they need. Besides generators, Sears and Kmart are loading up wrenches and pliers to turn off gas and water valves before the storm comes. Shoppers can purchase items via its website and via their mobiles too. Sears’ investors must be happy when seeing its stock price gain nearly 6%, from $62.92 to $66.69 within just a day.  Moreover, since January, Sears has been performing extremely well. It delivered to shareholders 129% gain year-to-date. As it is generating a trailing twelve months loss, its P/E ratio is not valid. At $7.1 billion market capitalization, the market is valuing Sears at 1.6x P/B and 61.7x P/CF. Several famous value investors including Chuck Akre, Bruce Berkowitz and its current chairman and CEO Edward Lampert, have been bullish on Sears as they have been loading up its shares since the beginning of 2012.
My Foolish Take
Three stocks are attractive with different reasons. Generac enjoys a market leader position in back-up residential generators with cheap P/E valuation. It also generates good free cash flow with high return on invested capital. Wal-Mart, with its huge economy of scale, still gives shoppers the lowest price ever. With its “everyday low price” strategy, its huge moat couldn’t be taken away easily. Wal-Mart is still the stock for investors to preserve their capital in the long run. Last but not least, Sears is quite undervalued compared to its real estate assets. Following GAAP, its book value recorded its real estate at lower cost or market. Sears is definitely a real estate play for investors. 

This Sheepskin Shoe Maker is Cheap Now!

Investors who love to own a piece of UGG sheepskin footwear business would be disappointed again, when Deckers Outdoor (NASDAQ: DECK), the owner of the UGG brand, plunged heavily in a previous trading day. Shares tumbled 17% in a day, from $35.49 to $29.48, the lowest price in the last 3 years. 2012 doesn’t seem to be a good year for DECK, as its shares has been heading south continuously. DECK has lost more than 60% of its value compared to the beginning of the year.
Many investors are still bullish about DECK, while others are scared and staying away. So what should investors do? Let’s look at the fundamentals to determine whether we should be bull or bear on this stock. 
Why Are Shares Tumbling?
DECK’s third quarter results were disappointing. Net sales were $376.4 million, 10% lower than the same period last year, of $414.4 million. It also missed analysts’ sales estimates of $413.46 million for the quarter. Q3 net income plunged nearly 47% year-over-year, from $62.35 million last year to $43.06 million this year. EPS was $1.18, lower than $1.59 EPS in Q3 2011. In addition, the firm expected that Q4 2012 would experience a 14% dropin EPS compared to Q4 last year, quite a big gap from the previous guidance of a 22% increase. For the full year, 2012 EPS was estimated to decrease as much as 33% year-over-year. Angel Martinez, the President, CEO, and Chairman commented: “Over the past two years, we have raised prices on selective key styles to help mitigate the impact of an 80% increase in our sheepskin and raw material costs over this same period. We believe that these selective price increases, particularly during a period of one of the warmest years on record, has pushed us above the consumer’s price-value expectations for the UGG brand. We also believe that this has resulted in softer than expected third quarter sell-through trends in our company-owned stores, and has pushed back the start of the brand’s key selling season at retail this year.” 
Balance Sheet Strength
DECK has a solid balance sheet, but it tends to be weaker over time. As of September, the stockholder’s equity was $682 million. The cash on hand was $61.1 million, lower than in September 2011, when DECK had $90.4 million in cash. The accounts receivable increased 5% and inventories jumped 36.2% compared to the same period last year. In addition, DECK increased its outstanding borrowings from $45 million in September 2011 to $275 million. The decrease in cash and increase in borrowings was used for retail expansion, stock repurchases, and other capital expenditures. Within a year, DECK has used $184.7 million to repurchase shares. And it still has $115.3 million remaining from a total $200 million buyback program announced in July 2012.
Industry Peers
Compared to its peers including Nike (NYSE: NKE) and Wolverine World Wide (NYSE:WWW), DECK seems to be the most attractive stock.

Net margin (%)
ROIC (%)
Dividend yield (%)
The company has the highest trailing twelve months net margin and return on invested capital, 12% and 25.2%. Besides, it was selling for the cheapest at a single-digit P/E and P/CF. The market is valuing DECK for only a third of Nike’s and Wolverine’s P/E valuation. The only negative point is that DECK is not paying any dividends, whereas Nike and Wolverine are paying a 1.6% and 1.2% dividend yield, respectively.
Foolish Bottom Line
Personally, even with the sluggish third quarter performance and a weak Q4 guidance, I think DECK is worth investors’ consideration, as it has top-notch operating figures with a high return on invested capital, and it is cheap with a single-digit valuation in the marketplace. 

3 Companies That Allow Investors to Sleep Well

Looking for long-term investment opportunities, I always look for sustainable businesses that are able to pay good dividends. In order to be a sustainable business, a company must operate in a sustainable industry. What industry do you think to be classified as “sustainable?” For me, one of the most sustainable industries is Food & Beverage. And besides being in a sustainable industry, a company should operate sustainably. By saying "sustainably", I mean a company should have no debt or comfortable interest coverage and be able to pay dividends to shareholders over time. After screening in the Motley CAPS, here are top 3 Food & Beverage companies, which have the market capitalization of at least $1 billion, have no debt or comfortable interest coverage, and pay above average dividends to shareholders.
Mondelez International (NASDAQ: MDLZ) is a former international business unit of Kraft Foods. Mondelez is a global market leader in the confectionery industry, with 15% share of the chocolate market, 30% of gum, and 7% of the candy aisle globally. Mondelez owns great brands like Oreo, Chips Ahoy, Cadbury, etc. Currently the stock is trading at $26.60 per share; the total market capitalization is $47.21 billion. As the company is expected to pay dividends of $0.52-$0.55, so the dividend yield would be around 2%. The interest coverage of Mondelez is 3.42x, which is a comfortable level for the company. It is interesting to note that Irene Rosenfeld, Kraft Foods’ CEO has chosen to be at Mondelez rather than Kraft Foods. It means to everybody that Mondelez has brighter prospects with huge potential growth from emerging markets, whereas Kraft Foods growth is being tied to the mature domestic US market. Currently, Mondelez is valued only at 13.2 P/E, 1.3x P/B and 8.7x P/CF.
Lancaster Colony Corporation (NASDAQ: LANC) is a manufacturer of specialty foods, baked goods, and pasta with several brand names such as Cardini’s, Pfeiffer, Girard’s, etc. Lancaster is trading at $72.75 per share. With the quarterly dividend of $0.36, the dividend yield is nearly 2%. Lancaster is a debt-free company. With $192 billion cash on hand and $2 billion market capitalization, the enterprise value is around $1.8 billion. Over the past 4 years, Lancaster’s share price has advanced twofold, and investors have been getting increasing and sustainable dividends as a plus. Maybe, because of the good operating performance, Lancaster is a little pricey now, it is valued at 20.7x P/E, 3.5x P/B and 16.2x P/CF.
Mead Johnson Nutrition Company (NYSE: MJN) is the global nutrition company for infant and children. A big chunk of its revenue was from nutritional products to newborns up to 5 years old. With the current quarterly dividend payment of $0.30 and the share price of $62, the dividend yield is 1.94%. The market capitalization is $12.63 billion with nearly 204 million shares outstanding. Currently, Mead Johnson has negative equity, with only $2 common stock and negative $695 million additional paid-in capital. It employs $1.5 billion long-term debt and has $787 million cash. However, because of sustainable earnings and cash flows, its interest coverage is as high as 14.52x, indicating that Mead Johnson is in a quite comfortable position to cover its interest expense. Mead Johnson is valued at 22.6x P/E and 20.8x P/CF. Because of the negative equity, so P/B ratio is not valid.
Investors should dig deeper to determine suitable stocks for themselves. Personally I would prefer Mondelez the most among the three as the $36 billion company has built its strong footprint in more than 80 countries with 44% of total revenue coming from emerging markets. Mondelez seems to have a great moat while trading at only 13.2x P/E. Lancaster and Mead Johnson have good operating performance also, but those two seem to be quite expensive with 20x P/E valuation.

This Restaurant is Not Tasty Now

Buffalo Wild Wings (NASDAQ: BWLD) got crushed in the stock market after its Q3 earnings announcement. The share plunged nearly 12% in a day, from $83.50 to $74.70 per share. It lost nearly $164 million in market capitalization with that single drop. It sounds scary for investors, but the drop is nothing compared to the 485% gain BWLD experienced from Nov 08 – Mar 12. Will this stock soar again, or keep heading south? A deeper look into business fundamentals will help. 
In the third quarter, total revenue experienced a 24.8% year-over-year increase, from $197.8 million to $246.9 million. 92.5% of total revenue came from restaurant sales, and only 7.5% were franchise royalties and fees. Its same-store sales rose 6.2% at company owned restaurants and 5.8% at franchised ones. However, the impressive revenue growth still missed Wall Street’s estimates; analysts expected revenues to have been $253.9 million. And even with the double-digit growth, its net income declined from $11.27 million Q3 2011 to only $10.7 million third quarter this year. Q3 2012 EPS came at $0.57, a little lower than last year EPS of $0.61. The decline in profit was due to higher restaurant operating costs including cost of goods sold, labor, operating, and occupancy. Sally Smith, the President and CEO, said in a conference call: “We're pleased with our strong top-line growth of nearly 25% in the third quarter. We focused on operational excellence at the restaurant level and our teams delivered strong same-store sales. In addition, we leveraged on labor, operating, and occupancy expenses. High cost of sales and incremental pre-opening expenses moderated our bottom-line expansion, producing earnings per diluted share of $0.57 compared to $0.61 in 2011."
The interesting thing is the company’s confidence to grow its restaurants to 1,700 within the next five to seven years, higher than previous forecast of 1,500. Buffalo currently has only 854 restaurants, with 343 company-owned and 511 franchised. And with this growth prospect, it has a goal to achieve 20% net earnings growth on a 52-week basis in 2013. Its 2011 net income was $50.43 million, so in order to have a 20% net earnings growth for a continuous two years; it should deliver $60.52 million in 2012 and 72.6 million in 2013.
What I like about Buffalo Wild Wings is the debt-free operation. As of September, it has $31.3 million cash, $52.5 million marketable securities, and $365.8 million stockholders' equity. It has $184 million liabilities, but no interest-bearing debt. At the current price of $75.87, the total market capitalization is $1.41 billion. The market is valuing BWLD at 25.8x P/E, 4x P/B and 9.8x P/CF.
Buffalo Wild Wings’ direct competitors are private companies such as Carlson Restaurants Worldwide, Fox & Hound Restaurants, and Hooters of America. So in a broader view, we can somewhat compare Buffalo to its peers in the fast food/quick restaurants industry includingDarden Restaurants (NYSE: DRI)Ruby Tuesday (NYSE: RT) and Chipotle Mexican Grill(NYSE: CMG).

Net margin (%)
ROIC (%)
Over the previous twelve months, Buffalo Wild Wings’ net margin is comparable to Darden Restaurant’s, around 6%. Even with much higher return on equity that Darden delivers, but Buffalo Wild Wings outweighs Darden in terms of return on invested capital. Darden’s high return on equity of 25.5% is due to significant financial leverage of 3.24x. Ruby Tuesday is the only company, which had negative trailing twelve months loss. Chipotle is the best performing restaurant chain, with 24.7% return on invested capital and 10.4% net margin. However, it is the most expensive with 29.2x P/E. Whereas Buffalo Wild Wings has a comparable net margin to Darden’s, but comparable P/E valuation to Chipotle’s (in fact, just a little lower).
My Foolish Take
With a disappointing profit decline in the third quarter, rising raw material costs, Buffalo Wild Wings would be justified with a lower valuation. Even with an 11% daily drop in the share price, I did not think BWLD is cheap enough at 25.4x P/E. I’d rather wait for another price drop and/or an improvement in its operating results to initiate a position in the company. 

Looking Beyond GAAP Consolidated Figures: This Loss Making Insurer is a Buy

The GAAP accounting rule has been improved over the years to truly reflect business fundamentals. However, it should be treated with care by investors as even with so many improvements, it still has limitations. One particular case is when a holding company, with many subsidiaries, consolidates its financial figures. The more subsidiaries are lumped together, the less useful those presentations are for making informed investment decisions. Warren Buffett commented that Berkshire Hathaway (NYSE: BRK-A) prepared consolidated numbers only for outside requirements, but he and his lifetime partner, Charlie Munger constantly studied segment data.
That is the case with Old Republic International (NYSE: ORI), a holding insurance company. Old Republic has around 27 insurance subsidiaries in all 50 States and in Canada, operating in three main segments: General Insurance, Title Insurance and RFIG (Consumer Credit Indemnity (CCI) and Mortgage Guaranty (MI)). RFIG segment is in a run-off mode, meaning the company has stopped writing new policy for CCI and MI lines, it only settled the claims from the previous written policies. The other two segments, General Insurance and Title Insurance are running well and profitably. Because RFIG is generating a loss and it need to be consolidated into Old Republic's financial statements, RFIG drags the consolidated financial earnings into losses.
Yesterday, Old Republic reported its quarterly earnings result. Fortunately, the loss for the third quarter has been narrowed down as the company paid out fewer claims in mortgage insurance subsidiaries. The third quarter loss was $14.8 million, nearly only 1/10 of the same quarter's loss last year of $116.5 million. RFIG’s operating loss in the third quarter has been reduced by nearly 50%, from a $250 million loss last year to nearly a $133 million loss this year, whereas the General Insurance and Title Insurance segment had pretax operating income of $60.3 million and $21.7 million, respectively. 
It is a good sign to see the RFIG segment narrowing its loss gradually. But even if RFIG was in the worse situation, I personally do not think it would affect the holding company as long as it does not commit any further capital to RFIG. ORI’s chairman and CEO Aldo Zucaro commented on a conference call that the company viewed RFIG run-off business as being akin to a discontinued operation.  And the company would keep including RFIG operations in the consolidated financial statements. 
We say akin too because existing GAAP accounting rules do not allow financial reporting treatment as in fact a discontinued operation even though that is effectively what’s happening with it, since it’s being driven as I say, for an extended run-off period…So in the mean time, we will just plug along, and we’ll include, we’ll keep including the RFIG results in the Old Republic consolidated statements in the same manner as we’ve shown in this morning’s report as well as in the second quarter report when we reconfigured the financial presentation of our business. As we’ve indicated in the past, we are very confident that RFIG will continue to register losses well into 2013 with still a good chance that the red ink should begin to disappear sometime in 2014.”
In addition, ORI has continously paid increasing dividends for 44 years. With the current share price of $10.12, the dividend yield is as high as 7%. Among its peers including Radian Group (NYSE: RDN) and Fidelity National Financial (NYSE: FNF), ORI offers investors the juiciest dividends. Radian Group has a dividend yield of only 0.22% and Fidelity is paying investors a 2.48% yield. In terms of valuation, ORI is currently trading at 0.7x P/B, comparable to what Radian is trading right now. FNF is much more expensive with 1.3x book value. It is quite understandable that the market values Fidelity highly as Fidelity is the industry leader with 45%-50% market share in the title insurance market. And for Radian Group, it is the credit enhancement company with the main operation in first lien residential mortgage insurance and financial guaranty. The mortgage insurance industry has suffered from billion dollar losses because policies had been sold too cheaply before the housing bubble wentburst. As being a player focusing on mortgage insurance, Radian Group is not an exception.
My Foolish Take
I wrote an analysis about ORI when the share price was $9.45 in the middle of September, so the share price has advanced 7% in more than a month. And I am still bullish on this stock at the moment because of the following reasons:
  • Consolidated financial statements are overstating the risks of RFIG, although I think the negative income from RFIG subsidiaries would not drain the holding company.
  • Juicy dividends of 7%, and there is a high probability that ORI will sustain the dividend because the holding company can benefit from profitable subsidiaries in General Insurance and Title Insurance segments.
  • It is trading at a 30% discount to the book value. 
  • The investment portfolio of $8.4 billion is worth much more than the current market capitalization of $2.6 billion.
  • The chairman and CEO bought more than $160,000 worth in shares in July and August this year. And he is the largest non-institutional investor in the company, with more than 1.2 million shares.

Can This Park Operator "Amuse" Investors?

It is always fun to ride a roller coaster in an amusement park. It is full of extreme surprises and excitement, mixed with anxiety. When it goes up, you never know when it’s suddenly going to come down, or twist, or keep going up. I think that is what investors have experienced with the stock of amusement park operators. Six Flags Entertainment (NYSE: SIX) has been climbing up continuously, from $27.70 to $64.70 within just a year. But, what goes up must up, must go down. Right after its third quarter earnings announcement, Six Flags’ stock price dropped as much as 10%, from $62.34 to $56.16 per share. 
Effectively, investors who have been investing in Six Flags for a year have realized an annualized return of 71.5%, even after 10% drop after earnings. Could this stock's roller coaster dive deeper? Or will it bounce back surprisingly? In a long run, it would depend on the business performance. So we need to look at the operating fundamental of the business to determine the attractiveness of this investment.
For the third quarter, Six Flags reported $485 million in quarterly revenue, 2% higher than the same quarter's revenue last year, $476 million. Its net income was $272 million, an impressive year-over-year growth of 29%. Its attendance grew 3%, to 11.5 million guests. However, the company mentioned that total guest spending per capita experienced a slight decrease, to $40.56, due to its success in having a higher mix of season pass attendance. In accordance with strong growth momentum, the company announced a 50% increase in its dividends, to $0.90 per share per quarter. In addition, it used $70 million of proceeds from the sale of its minority interest in Dick Clark Productions to repurchase $1.1 million common shares. To date, the company has used $168 million out of $250 million in 2012-2015 share-buyback plan.
Jim Reid-Anderson, the company chairman, president, and CEO proudly said: “Six Flags' strong momentum continues, driven by record-high guest satisfaction, innovative new attractions and great execution by our dedicated employees, our consistent performance and strong financial position allow us to increase our dividend by 50 percent to an annual dividend rate of $3.60 per share. We remain laser focused on delivering our aspirational target of $500 million of Modified EBITDA by 2015, which would equate to nearly $6 of cash earnings per share.”
Even with the strong growth performance, the $485 million revenue didn’t live up with Wall Street’s expectations of $514 million. High analysts’ expectations were reasonable as this amusement park business is highly seasonal. The company derived 80% of park attendance and its top line in the second and third quarter, and the busiest period was between Memorial Day and Labor Day (May – September).
Looking deeper into the its income statement, the significant growth in its net income was due to its disposal of minority stake in Dick Clark Productions, creating a one-time gain of $67 million, but this was booked into continuing operations. If this were deducted, the income from continuing operations before the reorganization, income taxes, and discontinued operations would be $209.44 million, instead of $276.4 million. That would represent only 4% growth compared to the third quarter last year.
Six Flags is the second biggest operators of amusement parks in the world, only after Walt Disney Parks and Resorts. Others are Cedar Fair (NYSE: FUN) and Universal Parks & Resorts. Walt Disney Parks and Resorts is a subsidiary of Walt Disney diversified worldwide entertainment company. It is one out of the five main segments including Media Networks, Park and Resorts, Consumer Products, Interactive Media, and Studio Entertainment. The peer-to-peer comparison would only be between Six Flags and Cedar Fair.

Operating margin (%)
ROE (%)
Interest coverage
Dividend yield (%)
In terms of dividend yield, Cedar Fair seems to be more favorable than Six Flags. And it has a much higher return on equity. Nevertheless, the extremely high return on equity is due to the significant leverage that Cedar Fair employs, its debt is 24 times higher than its equity. Although Six Flags has a much lower D/E ratio than Cedar Fair's, but its interest coverage is less than that of Cedar Fair. Both companies indeed have enough interest coverage, but I do not think that would put them in a quite comfortable position to cover its interest expenses. Last, but not least, both of them have enjoyed a significant rise in their stock prices and they are selling quite expensive in the marketplace. As a value investor, I personally would not involve in both companies at the moment.