The Stalwart

I've Moved to Research Reloaded

The Stalwart has unfortunately been very quiet as of late, or even for awhile already given that Joe now writes at Clusterstock (As most who have followed this site probably know) and I, Vincent, have been busy with my own research consulting work after resigning from Citi. 

Nevertheless, I've now launched a personal blog called Research Reloaded and I invite former Stalwart readers to come check it out,  (I will be pleasantly surprised if they are still following this enough to see this post!) I was always impressed by the quality of the readership here and your commentary. I think we had some good debates. I'd love to continue them.

I'll warn that the new site is very much investment analysis oriented so far, and so perhaps for a very niche audience, and a bit dry for the wider audiance. But as I grow comfortable with the blog, and find my voice, we'll probably start to see broader economic and business issues blogged as well, as was the case here at The Stalwart. I'm basically hoping to do the same thing as I did here at The Stalwart, once I hit my stride. 

One unique feature I have incorporated is a research upload function. Basically readers can upload research pdf's for discussion. So for example, the site could debate the latest Goldman research on Energy. And there's a lot more in the pipeline. I hope to debate professional research that has been submitted directly from research firms. That's the dream. We'll see. But feel free to come and give it a try if you think there is an article worth discussing whether you are for or against. Or just come read what others say.

...and of course maybe one day the Stalwart will come back, but until then... feel free to keep in touch with me via Research Reloaded.

Best,

-Vincent

Whole Foods Might Have to Dismantle Its Wild Oats Acquisition

Beware the insurmountable barriers to entry which the retailing of organic tomatoes bestows on its business owner. We mentioned this situation whereby the Whole Foods/Wild Oats completed M&A was under fire since the "deal would harm consumers who shop at "premium natural and organic supermarkets."", treating this business as if it were impenetrably walled off from the rest of the economy. 

Anyhow, it looks like Whole Foods might have to dismantle its acquisition should certain judges get their way. What a waste of time and energy if that happens.

U.S. Circuit Court Judges Janice Brown and David Tatel "agreed that this Court has the power to grant relief despite the merger having already taken place." That could mean either stopping further efforts to eliminate Wild Oats as a separate brand or possibly ordering Whole Foods to reconstitute Wild Oats, re-creating the same level of competition that would exist today if the merger had not taken place. That process, known as "unscrambling the eggs," is a rarely used remedy in antitrust law.

It would seem to make more sense just to let the merger happen, give it some time, and then see how badly luxury grocery shoppers are hurt rather than assume this will be the case. If not to allow for economic freedom to exist, then merely to set us up for the next round of hilarious opposition in say two years, whereby Whole Founds becomes accused of price gouging on life necessities such as Cornish Hens. 

But why wait for future comedy, when there's more nonsense to expose in the current situation.

The U.S. Federal Trade Commission also said that if the court ruled that the agency had a strong case against Whole Foods, the government would also seek to rebrand the acquired stores with their former Wild Oats signs and create an independent management team to supervise them.

So we could be on the way to national control of the organic and premium grocery industry, as to some this business seems too important for private market forces to control. Ahem.

For a simple way to just end the discussion with any naysayers, show them Whole Foods stock, (WFMI), it has been creamed, down massively from 52-week highs. Also, its all time high was in 2006, before the merger. Obviously a whole lot of people don't see some sort of invincible monopoly ahead due to Wild Oats being acquired! So why do a few judges see it this way? Someone should send them a WFMI stock chart, its been falling for years from its 2006 peak and speaks for itself. This debacle is complete baloney and unfit for the US.

(Vincent)

Time Period for PSD Reconsiderations Ended Jan 9

In regards to Macqarie/PSD M&A, TheDeal says the timeline has passed for people to respond to the WUTC's approval, and now going forward any questions would only be amendments to the deal. Still, they speculate that the relatively wide spread could be in regards to worries that the original investors could get cold feet. Still, to me it seems that if they had cold feet then they could have seeked clarifications from the WUTC in order to delay the deal just recently.

The [WUTC] order is final regardless of whether clarifications or reconsiderations are requested, an attorney familiar with the review said. Any changes would be amendments.
That could be significant, because the merger agreement requires the buyers to close the deal within 15 business days of a final order. That timetable, however, remains murky because the merger agreement defines final order as a "final action" by the regulatory authority, "which has not been reversed, stayed, enjoined, set aside, annulled or suspended."

The WUTC process calls for a 20-day period for the commission to act if a clarification or reconsideration is filed. Otherwise, parties could file for a court appeal of the order within a 20-day period.

The earliest the 15-day period could expire is Jan. 20.

The financing for the deal has been in place since midsummer. But arbs worry that in the current environment, Macquarie or any of the Canadian pension funds investing equity in the deal might get cold feet.

The spread seems rather wide ($28.3 vs. $30.25 take out, with $0.25 dividend included) still given the short remaining time period and that Macq and the pension funds could have delayed the process much earlier if indeed they have cold feet. If anyone has insight on why the spread is still rather large, would be interested to hear it.

(Vincent)

Some Good News Peeking Through For Credit Markets

I've noticed a few pieces of good news starting to peek through, though still a lot of bad news out there. It makes me think an interesting book I read, called Anatomy of the Bear. Its published by CLSA and looks the four worst bear markets of the 20th century, this one not included. What I like about the book is that it doesn't hit you with all kinds of vague pronouncements and conjecture as to when "the cycle has turned". It it pretty fact-based, simply recounting what happened step by step, piecing together the story from old news clippings. It provides a reader with news in chronological order both leading up to and following market bottoms. 

This means that the book is a useful read even if in the end you don't agree with the author on some points. Nevertheless, of all the information and analysis provided, I found the most interesting to be the authors conclusion that for each of the four bear markets analyzed, market bottoms did not come when bad news was at its peak. This sort of proves false the maxim that its the best time to buy when things look the worst. The interesting thing that the authoer found is that actually, for the four bear markets analyzed, what marked a market bottom was when good news was increasing, yet was being still being heavily discounted by the market. So just as bad news can get heavily discounted and ignored towards peaks, the author shows how market bottoms can be when good news in regards to signs of a turn around are already out there, but most simply don't believe them yet or just ignore them after being shellshocked by the bear market.

Am I saying I think that we're there now? No. I have no conviction in terms of where we are in terms of a turn around. But anyhow, today I saw too interesting, positive pieces of news which at least made me think of this great CLSA book mentioned above.

WSJ blog on easing credit markets. (Note the quick M&A implications of this for situations such as DOW/ROH below)

Now, the full week’s data are in, and it is looking certain at least that the credit markets are more open than they have been for at least a year and investor appetite is allowing for multibillion-dollar deals. Last week, companies raised $152.6 billion by selling debt to investors. That is the highest volume since the first full week of 2008, when volume was $176.3 billion, according to Thomson Reuters data.

It is a sign that investor nervousness has dispelled considerably since the near-total shutdown of the summer and fall, when bond investors were reeling from the unexpected collapse of Lehman Brothers Holdings and were reluctant to deploy their cash.
Now, big deals are packing the market. Of the 105 debt offerings last week, more than one-third, or 37, were bigger than $1 billion, according to Thomson Reuters.

Report from an auto consultancy saying auto sales could bottom in 2009.

The Northville, Mich., firm projected 2009 global sales would fall about 8 percent to 56.8 million units. However, CSM forecast 2010 sales would rise nearly 7 percent to 60.8 million units.

CSM said it expects 2009 sales in the U.S. to hit a 27-year low of 11.5 million, then rebound to 13.6 million in 2010.

Nevertheless of the two articles above, I find the second to be potentially questionable. I note that CSM has pleaded with Bush to intervene to support the automakers and has written how a bankruptcy would be disastrous. I don't know much about the CSM, but perhaps they are to be taken with a grain of salt, such as the National Association of Realtors, whose research was proven an intellectually dishonest joke during the housing bubble and downturn.

Well at least the first article above is positive, and credible since based mostly on fact rather than forecast. In addition to a lot of other things, it could help selected M&A tighten, such as DOW/ROH, tighten as refinancing of debt becomes increasingly viable and market worries are reduced.

If anyone has any other suggestions of M&A's currently facing uncertainty due to refinancing/debt burden worries, feel free to leave an idea in the comments, as they might benefit if indeed credit markets loosen a bit as the WSJ blog suggests.

(Vincent)

Dr. Doom #5

Many thanks to a comment from Pej. It turns out we have a fifth Dr. Doom. Peter Schiff.

His extremely bearish views on the U.S. Dollar, the United States stock market, bond market and the United States economy have earned him the nickname "Dr. Doom." ^[3]...

In an August 2006 interview Schiff generated much controversy when he repeated his long-held investment thesis: "The United States economy is like the Titanic and I am here with the lifeboat trying to get people to leave the ship ...I see a real financial crisis coming for the United States." On May 16, 2006 in debate on Fox News, Schiff accurately forecast that the U.S. housing market was a bubble that would soon burst.^[7] On December 13, 2007 in a Bloomberg interview on the show Open Exchange, Schiff further added that he felt that the crisis would extend to the credit card lending industry.

Thus Peter Schiff appears to have indeed laid claim to the alias Dr. Doom, in addition to Nouriel Roubini, Marc Faber, Stephen Roach, and Henry Kaufman. Though from a preliminary read of his views, his gloom and doom seems to have been de rigeur, in terms of a housing bust and excessive consumer credit. I feel a lot of people sort of acknowledged that US housing prices were quite high and that growth in consumer debt would have its limit. Twin deficits was another bandied about problem on the radar. But the real suprise was when US housing weakness caused damage in all sorts of seemingly random, far flung places, knocking unexpected companies into insolvency and freezing up credit markets as the entire financial system, globally, lost confidence in itself. Who thought that major US financial giants would be blown to bits within months by the eventual fall in housing? Anyhow, we now have five known Dr. Dooms. 

TIPs vs. Treasuries - A Play on Inflation Being Over 0.27% Going Forward

The idea for this came via a friend, and then I looked a bit more into it. Basically the spread between inflation protected US government bonds and standard US government bonds has become extremely small vs. history and even potentially nonsensical, which could be do to panic buying of US government bonds as money has sought a safe haven. Some investors might just have a mandate for plain bonds, rather than TIPs. Or perhaps there still isn't enough liquidity in the TIPs market to accommodate everyone.

As a reminder TIPs are US govt-backed just like standard bonds, plus protect for inflation. The odd thing is that right now, 10-year TIPs have a yield of 2.2%, vs. US 10-year treasuries at 2.47%. This is only a 0.27% spread despite TIPS carrying inflation protection, and means that the standard treasuries are priced as if US inflation will average just  0.27% per year for the next 10 years, which seems highly unlikely. While this market oddity didn't just happen, it nevertheless still exists, thus there could be an interesting opportunity if one were to create a trade based on the expansion of this spread going forward. Something along the lines of short treasuries, long TIPs. 

I am unintentionally Long TIPs and short Treasuries right now, but there is probably a better way to do it than I have unintentionally set up. A spread sheet and some leverage could probably be one method, but given the times this is probably not the most popular way to explain a strategy! So perhaps just be unsophisticated and plain short treasuries.

(Vincent)

ROH Could Close This Week, "Smart Money" Buys Into Distressed Energy Co's

Energy smart money buys into distressed Sandridge. (SD) Chesapeake Energy (CHK) also gets a dose of cash by selling assets to the same smart money.

Student loans a bright spot in lending, with lots of liquidity due to quick thinking US policy.

GE Capital begins $10bn debt sale of FDIC backed debt. Interesting to see how this goes.

Great detailed chart tracking where the bailout funds are going so far. 1/2 dedicated, 1/2 to go.

DOW could close ROH deal this week. The $78 price rises if the deal isn't closed by this Saturday, meaning more to negotiate down. ROH currently at $63.8. UPDATE: Second related link.

US Refiners Continued - If We're Not Going Back to a 2006-2007 Industry Environment, Then They Don't Look Cheap

In regards to US refiners still being priced for good times, in my view as per EV/Capacity analysis. If you have a bullish near term view on their industry, think we're going back to 2006-2007, then fine. The point I make is that if you think we're going back to a 1999-2002 environment, then US refiners such as VLO, TSO, HOC, and FTO still look a bit overvalued despite their massive declines this year. Original refiner piece here.

I had some useful comments on this US refiner work I did, posted over on Seeking Alpha, and wish to republish comment excerpts here at the Stalwart.

Comment Excerpt: Using complexity adjusted capacity might improve clarity given complex refineries trade at a premium. 

Comment Excerpt: One thing you're missing, is that these companies have a lot of "liquid assets" such as oil and refined oil products. In VLO's most recent 10Q, they listed their inventory as including $4.5 billion of refinery feedstocks and products. In addition, the market value of LIFO inventories exceeded their carrying costs by $7.6 billion. So there's another $12 billion in enterprise value that is not reflected in your numbers, although I'm sure this value is smaller since oil prices have decreased since their 10Q report was issued due to falling oil prices.

Yes, but they always have liquid assets such as these. I compare these companies to their own history. Thus in the past they had additional liquid assets as well. There will be some difference, but will it actually be realized? And might it be enough to overcome their high current valuation vs. their capacity, relative to their own valuation history? Or might this liquid asset value just fall with oil prices/ product prices. I think it is not dependable from an investment standpoint to try to add this value and then depend on it as your investment case.

The key point of the piece, is that we are comparing companies by a single metric, and comparing them to themselves in the past. It gives I think a clear understanding of relative value to their own histories. Once we try to start guessing what their inventory values will be, and what they were expected to be in the past, for each year from 1998 until 2008, we start adding a ton of variables with a lot of room for error. 

There are other assets I have not included in the analysis, which I explain in the piece. Such as pipelines and retail operations. But they had other assets in the past, so to some extent we're comparing like to like. 

The point is simply that if we just value capacity, which is the lions share of the value behind US refiners, and just compare this metric to where they have traded in the past (and in the past they had retail assets, other liquid assets as well, so its pretty much a like to like comparsion), then it seems to me very clear that these haven't bottomed out and are still priced for a pretty strong outlook since their EV/Capacity's are above the highs of many years in the past.

Then the next question then is what your call on the cycle is. If you do indeed believe we are returning to 2006-2007 in the near future, then the refiners might be cheap. But if you think we're going to 1999-2002, or something similar, then probably they are still a bit overvalued.

I also haven't, yet at least, done a complexity adjusted capacity. I explain in the piece why I haven't, though I admit it would be useful. Basically, its based on a lot of estimates, and my goal here is to first keep it simple. If something looks cheap by my pretty austere valuation, then it will be even cheaper once we heap on other harder to value assets and adjust above average facilities, which actually all four of these players have. Note that we would have to adjust their capacity in the past as well, so to some extent it would be a wash. (though upgrades to facilities might help the current valuation a bit)

But if I have to heap on somewhat nebulous asset values, which are perhaps a less dependable value, (such as oil inventories at expected market price for example), if I have to add all this in order to make it cheap, then its probably better staying on the sidelines. It means its not cheap enough.

(Vincent)

Even CEO Can't Figure Out How Radioshack is Still in Business

Great satire via the Onion.

Even CEO Can't Figure Out How RadioShack Still In Business

FORT WORTH, TX—Despite having been on the job for nine months, RadioShack CEO Julian Day said Monday that he still has "no idea" how the home electronics store manages to stay open. ...

"You wouldn't think that people still buy enough strobe lights and extension cords to support an entire nationwide chain, but I guess they must, or I wouldn't have this desk to sit behind all day."

The retail outlet boasts more than 6,000 locations in the United States, and is known best for its wall-sized displays of obscure-looking analog electronics components and its notoriously desperate, high-pressure sales staff...

One of Day's theories about RadioShack's continued solvency involves wedding DJs, emergency cord replacement, and off-brand wireless telephones. Another theory entails countless RadioShack gift cards that sit unredeemed in their recipients' wallets. Day has even conjectured that the store is "still coasting on" an enormous fortune made from remote-control toy cars in the mid-1970s...
In the cover letter to his December 2006 report to investors, "Radio Shack: Still Here In The 21st Century," Day wrote that he had no reason to believe that the coming year would not be every bit as good as years past, provided that people kept on doing things much the same way they always had.
Despite this cheerful boosterism, Day admitted that nothing has changed during his tenure and he doesn't exactly know what he can do to improve the chain.
"I'd like to capitalize on the store's strong points, but I honestly don't know what they are," Day said. "Every location is full of bizarre adapters, random chargers, and old boom boxes, and some sales guy is constantly hovering over you. It's like walking into your grandpa's basement. You always expect to see something cool, but it never delivers."

Well the stock (NYSE:RSH) has done better than the "smart guys" at Goldman lately!

PSD An Interesting Spread to Watch

Shares of M&A target Puget Energy (PSD) jumped last week as Washington state regulators finally approved the company's acquisition by Macquarie and a group of pension funds. Still, rather oddly, the shares are well below the $30 take out price (at $27 and change right now) for a deal that should be closing in 1Q09 as far as I have understood. Perhaps financing and Macquarie & Friends' commitment to the deal is in question, but hard to see how as we have large pension funds involved and the investors have waited patiently for a regulatory outcome, now in their favor.

An M&A worth watching. Some similar spreads have been captureable in recent months since confidence is generally lacking these days.