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Geoff Gannon

 
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  • On Ben Graham, Bank Stocks, Jason Zweig and Tom Brown [View article]
    Alex,

    Graham's idea of “new conditions expected in the future” differs considerably from what I think many people today might mean when they use that phrase. Basically, we’re talking about some sort of normal earnings power. That’s why I used a bank like Valley National as an example. It’s not cheap and Ben Graham would never buy it for that reason. However, it is the kind of company where one could believe the past record will help you come up with an idea regarding future earnings. Graham wouldn’t use a single year P/E. He wouldn’t assume ROEs could be what they had been recently. However, he might look at banks with long records of operating in a relatively consistent manner.

    My point in this post and the last (responding to Zweig’s article) is that the stumbling block for Graham wouldn’t be the black box nature of financials, or some credit terra incognita, but rather the price. I felt that portraying Graham as avoiding stocks where the internal workings of the business could be glimpsed only dimly at best was inaccurate. If Graham got both a good past record and a good price on a stock, he’d be willing to buy it even if major qualitative concerns were present. He simply wasn’t the kind of investor who would ignore an entire sector because of a major crisis in that industry.

    Finally, re-read the quote you used careful. It actually doesn’t refer to future prospects at all. What it refers to is the reliability of the past record in predicting the future. For example, Graham didn’t want to buy a munitions company after years of war and assume it would do what it had in the past. However, and here we may disagree, I think there are banks (not all banks – probably not even most banks, but some banks) that have done business in a relatively consistent way over long periods of time. Eventually, these banks will return to delivering “normal” results that could be gleaned by looking at their past record.

    No. Graham wouldn’t look at Washington Mutual and think that he could rely on the past record at all. He would look for banks with long records of operating under a variety of different conditions.
    I stand by my statement that: “(Graham) spent almost no time worrying about a business’s management, corporate culture, or future prospects." Countless sources support this statement. Too many people have attributed certain qualitatively conservative stances to Graham that he never possessed. He was a conservative investor; however, he was a quantitatively conservative investor.

    For Graham, most bank stocks today fail on quantitative grounds, not qualitative grounds. They lack the combination of a solid past record and a low price-to-book ratio that he would demand if he were to invest in financials.
    By the way, I just started doing a weekly chapter-by-chapter commentary / reading group on Graham’s Security Analysis (1940 ed.). Please check out my blog next Monday (or any Monday) and share your thoughts on Graham – I’d love to have a dissenting voice present.
    Jul 30 08:11 PM | Likes Like |Link to Comment
  • On Ben Graham, Bank Stocks, Jason Zweig and Tom Brown [View article]
    Regarding going long the preferred and short the common – I suppose Graham would call this a related hedge in all cases (when he wrote “related”, he just meant he wasn’t hedging by shorting another company, or a basket of stocks – like an ETF today).

    However, Graham’s operations involved convertible senior securities. He did, however, do a lot of other long/short combinations in a do it yourself kind of way. Most notable was when he bought DuPont and shorted GM, when DuPont owned a lot of GM, thereby buying DuPont for next to nothing regardless of how GM traded. The most common opportunity for this kind of operation today is when a smaller, faster growing partial IPO goes through the roof while the larger, slower-growing parent initially holds a lot of its stock in the new entity.

    I almost mentioned the idea of trading a company’s debt one way and the common the other in this post – however, I decided Graham would never do that in the current environment, because the possibility of bailouts, gov’t assistance, etc. could make the debt too unresponsive as your common got crushed. If this wasn’t the case, Graham would probably look for situations in which he thought you could somehow hedge the risk of a financial collapse while betting that, absent a total collapse, the common was way too cheap.

    Anyway, if the preferred was convertible, then yes that fits Graham exactly. If not, I’d still say it’s a related hedge; but, it’s not quite what Graham did.
    Jul 30 04:21 PM | Likes Like |Link to Comment
  • Jason Zweig on Graham and Bank Stocks: 'The Un-Intelligent Investor' [View article]
    "Do you happen to know if Graham ever invested during a massive credit crunch?"

    Graham ran a partnership (in some form) from 1926 - 1956. His worst period was 1930 - 1932. The fund (which like a lot of investors had done some buying on margin) declined by 50.5% in 1930, 16% in 1931, and 3% in 1932. This was largely because Graham was unable to maintain his normal hedges (he had to cover his shorts in 1929 - 1930). Throughout the entire period, Graham was still making quarterly distributions to owners of 1.25% a quarter. As a result, the fund's capital was badly depleted by 1932.

    Several investors withdraw all their money. However, Graham eventually recovered - making over 50% in 1933 alone.

    As a side not, it was at the near nadir of his career (in 1932) that Graham began work on Security Analysis. That book was shaped by his experiences in '29 - '32.

    Sorry if that doesn't answer your question directly - it's as close as I could come to giving a good answer to Graham's investing in extreme circumstances.
    Jul 28 07:58 PM | Likes Like |Link to Comment
  • On Normalized P/E Ratios, Interest Rates and Long-Term Returns [View article]
    Rohit,

    Sorry I didn't respond sooner. I can't see the graphs either in Seeking Alpha. But, they look fine on my site. See if going to this page works for you:

    www.gannononinvesting....

    You should be able to see the graphs then. You can click on them to explore them further.

    Hope that helps.
    Jun 21 04:25 PM | Likes Like |Link to Comment
  • On Investing Like Billionaires: The Cases of Kerkorian and Buffett [View article]
    Berkshire has done special deals, because Berkshire has the cash to do such deals. Most of the positions Berkshire has (and that are reported in the press) are common stock purchases. Berkshire's best known investments were, with the exception of Gillette, neither special nor complicated – they simply consisted of buying stock in a public company. In the case of Gillette, Buffett probably made a mistake by agreeing to a special deal when he could have simply bought the common stock. An individual investor who tried to imitate Buffett by buying Gillette common would have done just fine.

    Buffett's investment record at Berkshire is based on the common stock purchases far more than any special deals – although Berkshire has made a lot of them. If you compare Berkshire's record on special deals with its record on common stock purchases in the market, you'll see that Buffett's record is not the result of benefits resulting from such special deals – because, quite frankly, he's accomplished a lot more at Berkshire in the open market than in negotiated transactions with public companies. In fact, his "special deals" record in the 80s in this regard was actually quite poor when compared to his common stock purchases.

    Of course, in all of this, I'm excluding the deals with private companies as well as the acquisition of public companies. However, those activities should be completely separate in everyone's minds. Berkshire is not a closed end fund. It's a conglomerate with plenty of operating businesses, several major insurers, and investments that are made with the cash from the company's insurance operations as well as the free cash flow generated by its many subsidiaries.

    Stressing the fact that Buffett's record of compounding book value at Berkshire is not an investment record (alone) is perfectly correct. Stressing the importance of "special deals" in Berkshire's investments in public companies is misleading.

    That isn't how Berkshire has made most of its money – and the portfolio that's reported in the press consists almost entirely of positions that resulted from common stock purchases in the market rather than special deals.
    Mar 27 01:27 PM | 1 Like Like |Link to Comment
  • Topps Shareholders Should Reject Eisner's Offer [View article]
    Amit,

    Thanks for the excellent explanation regarding your views on valuation. I am certainly looking at it from the perspective that the business will improve. It has already improved considerably if you look at the last quarter or so. The entertainment business has been a very poor performer. You are also getting Bazooka – which at this point is really a brand name without a product behind it. The current management more or less concedes this point.

    I think there is a lot of potential in Topps. I don't own shares and it would not be the first company I would think of if I were hunting for LBO candidates. The good points are the high unlikelihood of consuming meaningful amounts of cash under even the worst circumstances, the brand names, the extremely low cap-ex requirements (because it’s an intangibles business), and the market structure of the card business – especially now that Topps has managed to push some of its competitors out through lobbying the leagues to alter the market structure.

    But, on the other hand, the company has underperformed for years. The card business has been declining for years if you look only at sports cards and exclude the Pokemon craze that made so much money for Topps (but ended as quickly as it began).

    I don't fault Eisner or Madison Dearborn here. The offer, while only providing a small premium over the recent share price, is not by any means outrageously cheap relative to past performance. A buyer shouldn't be faulted for trying to get a good deal.

    I only wish to educate shareholders on the deal and to draw some attention to it. Obviously, the buyers are well aware of the cash on the balance sheet. The cash really provided the opportunity to make an offer at these levels. I'm less certain that shareholders have fully considered the possibilities offered by having that much cash on the balance sheet (for a company that certainly doesn't need it).

    While sales are not the traditional method for evaluating these buyouts, I do think it is the best measure in this case, because that is the only way you can assess the potential for the business if there is an improvement – in this case, an improvement that is brought about by two factors: the removal of a largely unsuccessful and clearly complacent manager, and the benefits of the "turnaround" plan already implemented.

    Regarding the last point, I recommend the company's most recent conference call (available at the corporate website). It should lead to meaningful improvements. I hope that shareholders fully understand the potential there as well as the potential uses of the cash on the balance sheet. Part of the underperformance for shareholders has been due to poor capital allocation decisions by the company.

    However, I agree with you as far as comparing the offer to the company's past performance. I am not advocating playing hardball with the buyers as much as I am advocating taking a serious look at alternatives such as removing Mr. Shorin, using the cash to buyback shares and/or pay out a large special dividend, and taking on an acceptable amount of debt.

    As for Eisner and Madison Dearborn, I an LBO really does put constraints on them that would make a deal at a higher price difficult. That isn't to say that a deal at a higher price wouldn't be "fair" or that the company isn't worth a higher price, it's merely to say that a highly leveraged offer can not value the company at much above its demonstrated cash generating ability (of past years), because it has to be financed with that cash. In many ways, an active management team running the company while it remained public would be in a better position to run the company in the ideal manner in the years ahead, because it could (and should) make use of an appropriate amount of debt – but, it would have no need to take on a potentially troublesome burden.

    And for the record, while I'm quite happy with Seeking Alpha and the care they've taken with my posts, it's worth noting that they choose the titles for the posts as they appear on this site – I do not. The post they entitled "Is Michael Eisner Stealing Topps" was simply "Topps to be Acquired by Eisner and Others" when it appeared on my blog. Likewise, this post entitled "Topps Shareholders Should Reject Eisner's Offer" was simply titled "Against the Topps Deal" on my blog. So, the posts as they appear on Seeking Alpha do give a bit more of a sense that I'm writing with Eisner in mind, when really I'm just trying to encourage shareholders to take a serious look at the company they own and to agitate for change if they feel such change is necessary.

    Thanks again for the great response. It's by far the best comment I've seen in response to one of my posts on Seeking Alpha.
    Mar 21 05:09 AM | Likes Like |Link to Comment
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