Sunday, February 22, 2009

Buy Like A Businessman

Real business owners, not large company executives, have always had to face reality when it came time for them to sell their business and consider retirement. If the company they built was large they might hit a home run by selling to a public company and getting an outsized price for their years of hard work. Of course, the company had to have large, growing sales volume, be nicely profitable, financial statements that were audited, and an acquirer that didn't think like a private company. But it happened.

If he wasn't so fortunate the ordinary business owner had to sell to another businessman. That acquirer was either using his own cash or must visit his bank for some help. He didn't get to play with any funny money, public equity. It's all his hard earned cash and he's going to buy smarter than the big company acquirer, or at least cheaper.

The seller sees what similar public companies sell for on the stock market and transposes their P/E to his own company and hopes to go off and sit under a palm tree. It rarely works that way as the businessman buyer wants a return of his money in a short period of time. Years ago when I was active in the M&A arena, the buyers goal was to pay no more than 5 times EBITDA , get a return of 20% and his money back in 5 years. Simplistic but you get the idea. Businessmen drive hard bargains with their own money. That's why you want to sell to a public company if you can pull it off. They have a different mind set.

In today's market you don't have to buy 100% s of a smaller private company to enter at 5 X EBITDA.  Loads of public companies are selling for that threshold and lower. Of course the earnings number is fuzzy today, but reasonable assumptions of reduced profits can be made. There are relatively safe companies, reasonable debt levels and good economic moats, that can be bought at these levels.

Now I think the market will likely go down further and any recovery in prices will not be V shaped, and I continue to be patient before wholesale recommitment to the market, but there are companies that will make you money if a buyer purchases like a businessman buying a company, not an investor buying a stock. 

Monday, February 16, 2009

Growth is Safety in 2009

I spend a lot of time attempting to find opportunities to invest safely. It hasn't been easy or productive. Many of my great ideas are worth less money today than when they were conceived. But I don't give up.

The landscape is fraught with time bombs. Financial firms are de-leveraging, consumers have discovered thrift, retailers are caught without demand, manufacturers have seen exports crater, and the auto industry is near collapse without a bailout. Consumer staples companies are seeing customers trade down to store brands. Energy and agricultural companies have seen their pricing power lessen. Recreation and travel are hurting and even casino gaming is contracting. I've depressed myself again.

The only sectors that look promising are healthcare technology and for profit education. I haven't sifted through all the healthcare information technology companies yet so I don't have any brilliant ideas in that area. The for profit education area, an area that generally serves post high school students, has been an investor favorite and will probably continue to attract followers as a safety investment. I'm not fond of those companies due to their dependence on federal student loans, expensive tuition, and dubious value. But they've made lots of money, have little debt, and will benefit from Obama's stimulus spending on Pell Grants and student loan funding. They are so popular that they will make a better short play some day in the next year or two.

There is a public, for profit education company that I do like conceptually. The online, virtual school industry is growing at a fast pace. These companies, mostly private and some quite large, sell online courses to school districts, private schools, home school parents, and corporations. Their business plans depend on school funding not student loan funding. Obama will benefit this group as well.

In 2000 I invested in a company that was in the vanguard of high school internet education. Investing in that private placement has not built my net worth. For years they chewed up capital, with plenty of dilution, developing and enhancing coursework. Earnings were nonexistent. However, the last two years have been nicely profitable. There is a market for their products and they are projecting a very good 2009. That company is a miniature K12 [LRN].

K12 is not a cheap Ben Graham type investment. In fact it is rather expensive. In 2009 I believe their is better upside potential in an expensive stock that can still show growth vs. a low book value company that is experiencing volume and earning declines. The market will pile into those companies that can show growth while the majority of companies contract. Growth will command a premium. Growth will be the year's safety play.

LRN has a market capitalization of $530MM and has been as high as $30 during the past 12 months. It sells for 3XBV and 14XEV/EBITDA, two very rich valuations. But it also produced revenue growth of 43% quarter over quarter and 68% growth in EBITDA. Their platform of internet courses is highly scalable and the growth numbers are starting to show why the shares may not prove to be rich for long. While the valuation is rich today, you at least get a good balance sheet. They have $50MM of cash, virtually no debt, and still have a loss carryforward of $64MM. They aren't dependent on lenders; a plus in this credit crunch.

As I've opined before, it's difficult to buy a stock in this environment, but I like the odds of putting some money into K12. LRN has a good opportunity to continue growing as they are in a growth area with expanding funding. The market should pay for this safety play.

Sunday, February 8, 2009

Aaron's Rents Is Worth A Nibble In Bad Times

Tough times are prosperous times for rent-to-own companies. Rent-to-own companies are low-end banks. They provide furniture, appliances, and electronics to those that have credit issues or are turned off by the established credit industry. Customers are generally lower income earners that know that they will get into financial difficulty, again, at some time and like the flexibility of returning the merchandise that they are renting as opposed to the embarrassment  and frustration of suits and repossessions. They are willing to pay higher prices for flexibility, such as the return privilege, weekly payments, and the possibility of eventual ownership if they can maintain their financial stability. 

Aaron's is the second largest RTO company, after Rent-A-Center, in the country. It recently sold it's Rent-To-Rent  division, furniture rentals to corporations and relocating business people, and is now solely RTO. The combination was confusing to Wall Street. In a past life I owned 25 RTO stores that did about one-third of their business in RTR with the balance being RTO. I always thought it was good diversification as one arm was high risk/high return and the other was low risk/low return which produced a good result. When I sold the company to a NYSD RTO company they didn't get excited about the RTR part. It's probably good that Aaron's has simplified their structure. Analysts will find their numbers easier to understand.

Proof that they excel in tough times is  supported by RNT recently raising 2009 guidance to around $1.80 eps. Not many companies are willing to increase guidance in a recession. It all depends on the multiple that the Street puts on RNT, but your stock price isn't going to go down because of falling profits. Profits will grow and it is likely that the market will pile into the company as a safe haven. I believe there is some upside from here. If the "safe have' premium gets anywhere near the intensity of the for profit education industry stocks, then the upside is large. 

Aaron's has always been conservatively run, for a RTO company, and avoided industry problems that develop every couple of years. Accounting irregularities nearly killed RentWay the company that bought my stores and was ultimately purchased by RCII. RNT has sold the RTR division to Warren Buffett's Cort Funiture Rental and is repurchasing franchised stores. They currently operate about 1000 company owned and 500 franchised outlets. They also manufacture furniture and bedding for their own use. A distinct advantage and different than most RTO competitors.

The company's balance sheet isn't pristine, but it isn't overextended either. They have about $150 million of long term debt, but that represents a low percentage of capital and they easily cover their debt service. The risk in RTO companies is in the collection area and Aaron's  has always had a good handle on this area. 

Today you can buy 2009 earnings of between $1.70 and $1.85 for $24.66.  That's a forward P/E of about 14, not cheap, but the E isn't likely to be decreased and therefore the share price won't fall for that reason. Growth should be positive so the multiple should hold relative to other stocks. RNT offers an opportunity to have share price appreciation in 2009.

RTO is a low end bank, but, come to think of it, it may be better than its more socially acceptable commercial banking brethren. Nationalization isn't in the cards and RNT and RCII don't need TARP funding to augment capital. They make money and that may be rare this year. A gain here may offset some losses and help hold net worth together.

Thursday, February 5, 2009

Specialty Food Producers Have Been Tasty So Far In 2009

January hasn't been kind to the buy and hold investor. Short selling, put buying, call writing, and, maybe, some savvy trading would have goosed performance.

Besides the For Profit Education stocks that I've written about before and believe to be overvalued, there is another small industry subset that has done well. Specialty Food has done nicely so far this year. I'm not talking the likes of Kellogg, ConAgra, or Pepsi, but their smaller, niche brethren.

Flowers Foods, Diamond Foods, and Smart Balance all have staked out corners of the food industry and dominate their niche. FLO reported today and beat by 3 cents and had a promising outlook. DMND had a similar report about a week ago. SMBL hasn't reported earnings yet, but they haven't pre-announced either. I own all three and wish I owned more at my entry basis. Adding to a position in this market is always dangerous since many brilliant ideas turn into falling knives. If I add more it will probably be FLO as they have the most conservative balance sheet.

It will be interesting to see how these companies perform in a bear market rally. they've done well by me since January and I remain hopeful that they will continue to
be tasty. 

Monday, February 2, 2009


My missives from this past week were worthy of wearing a Steelers uniform. Flowers Foods was up $.50 today for a nice percentage gain. My Vulcan puts and shorts gained value as that stock continued its slide. Best of all, I followed my own advise and did not short any of the for profit education companies such as ESI. ESI charged upward today as it always does when the market in general is having a down day as investors seek the perceived safety of this sector. Finally PSD edged closer to it's February 6th merger closing date and its price rose a few pennies.

The prior week I thought the pounding of the nation's best airline was overdone and opined that it was a buying opportunity. Southwest [LUV] stutter stepped for a few days and has gone down ever since. That brilliant decision, so far, was worthy of  Punxsutawney Phil  being engulfed in his shadow. It's a gloomy feeling. 

Todays results were approximately a push financially since I put more money into LUV. I'm hoping that the Steeler in me makes a continued comeback tommorrow and I can lift that cloud as making money sure feels good.

Sunday, February 1, 2009

Flowers Foods: A Holsum Buy

On February 5th Flowers Foods [FLO] will announce their latest quarterly results. I expect the results to be good as the company updated 2008 guidance as recent as early December and the company has a good record of managing Wall Street's expectations. In our current environment of lower results and cloudier forecasts, I expect Flowers to be relatively upbeat about their 2009 results.

In the interest of full disclosure, and humility, I first became interested in FLO last Spring during the rampant increases in commodity prices. Food costs were skyrocketing along with diesel prices and Flowers' competitors were reporting terrible results as input costs were far exceeding the ability to raise prices. Flowers was still selling at an all time high and hadn't seen any impact of the stock market pull back. I expected that increased costs would affect their earnings as they had their competitors and net income would drop below expectations. I bet against Flowers. The company announced record sales, earnings, and raised the quarterly dividend. I lost money. But I was impressed by a management that could outperform an entire industry. I decided to keep watching and waiting for an opportunity to buy FLO and recoup some of my losses.

Several quarters have elapsed and the results have been the same. Management has continued to deliver the results in an economy that has grown more difficult. Forbes Magazine recognized the same and named Flowers the best food company of 2008. 

The company is forecasting net income, for 2008, of between $1.22 and $1.26 and 2009 net of between $1.33 and $1.45. Earnings will grow at an estimated 12% rate and the company's forward P/E is only 15. FLO's ROE is 16%, debt-to-equity isn't excessive at .43, and they pay a dividend that yields 2.5%.

Best of all, Flowers can be purchased now for $21.50. It sold not too many weeks ago around $30. Yes, most stocks are not selling for anywhere near all time highs, but, also, most companies are not increasing earnings and forecasting continued growth. Flowers' management has proved, through performance in tough times, that they are a company worth investing in. The recent stock price decline has given investors an opportunity. FLO isn't cheap, nor is it expensive. It remains a growth stock that is now selling for a very reasonable price. It, the price, could decrease from its present level, but people will continue to eat bread and this management knows how to bake it into profits. 
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