Use Linn Energy To Build Income Now [View article]
That 8%-9% dividend yield the Linn bulls tout is misleading, because it omits the investment required to generate that use of cash.
Here's a better approach: shareholder yield. Add dividend, stock buyback, and debt reduction, and then divide by market value (average two years). The higher the yield, the better.
I'll use Linn's 2012 results to illustrate. To reinforce Warren Buffett's mindset that we own the entire business, rather than a lottery ticket, we'll use company-wide amounts, which you will find in the financing section of the 10-K's cash flow statement. For the $6,630M market value, I multiplied 188.3M shares, which is the average of two years, and a $35.22 stock price.
Dividend: $597M [positive] Stockbuybacks: $(1,974)M [negative, because of owner dilution] Debt reduction: $(2,040)M [negative, because of increased credit risk]
Add these three numbers up and you get $(3,417)M. Divide by $6,630M market value and you get a -52% shareholder yield. When you account for the deterioration in the balance sheet to produce your 8%-9% dividend yield, your all-in cost is substantial.
Here is Linn's shareholder yield for the past five years:
As we have also seen with Linn's free cash flow, shareholder yield is both negative and getting worse. As I noted elsewhere, What the income statement giveth, the balance sheet taketh away. If you own Linn because of its yield, take a broader perspective...that yield is a mirage!
I don't have a position in Linn. But if I were thinking of buying, I'd start with the 8%-9% dividend yield, and then try to determine the changes in stock buybacks and debt reduction every year for the next five years. Then you know the implied shareholder yield, which is forward-looking and ultimately more important than what's happened in the past.
***
Meb Faber of Cambria Fund and author of "The Ivy Portfolio," has a new book on Amazon's Kindle about shareholder yields http://bit.ly/12Erhci. Meb's research shows high shareholder yield stocks gain an average of 15.04% a year during 1982-2011, beating high dividend yield stocks by 160 points a year. Meb's Cambria Investment Management also just debuted a shareholder yield ETF, symbol SYLD.
Use Linn Energy To Build Income Now [View article]
Bruce -
Good points!
Here's Linn's problem: Using long-term capital (debt, equity) to finance depleting assets.
And when the assets run out, what's an owner left with?
A pile of debt, and continued share dilution, that's what.
When a firm runs a persistent cash deficit, as is the case with Linn, the right (bottom) side of the balance sheet suffers. Capital-intensive companies underperform the broader markets, according to all the studies I read.
My impression is that many Linn bulls own this company for income. So if a bull just has to own this company, they may find almost the same yield, but with a more senior claim, with the bonds http://bit.ly/10Ezqt0
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
Fear -
I have no position in any stock mentioned in this column. But I have spent time on Linn in the last several days, as I intend to use it as a case study (negative) in a forthcoming book. I am not familiar with DLR.
Also, here's an area of common ground: Our affection for Golden Retrievers. Our 4-year old female, Daisy, has several of her pink (yes, pink) tennis balls scattered around the house, yard. She is one of our best investments. I imagine you feel the same way.
2. Motive - Same as you and me: Earn a profit without permanent loss of capital.
3. Ethics - Was it unethical for Jacobsen and Chanos to point out the flaws at Enron? For Chanos to point out the flaws at WorldCom? Or for Einhorn to point out the flaws at Allied Capital? http://amzn.to/Zq95Bx? This notion that longs are ethical and shorts are unethical is wrong, IMO (provided securities laws are followed). Short sellers help keep our Wall Street ecosystem honest, just like reporters help keep our political ecosystem healthy (or, healthier than otherwise).
4. I am still waiting for someone to answer the question, Why pay $14.43 billion for a company whose PV-10 reserves are worth $6 billion?
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
Fear -
Implied in my comment is that Highlands is smart money (they smelled a rat at Enron, which is why Skilling got upset), so if Jacobsen has red-flagged Linn, this alert is worth paying attention too.
1. "If Linn Energy’s (LINE) enterprise value is $14.43 billion http://yhoo.it/12bkF3n and its PV-10 is $6 billion http://bit.ly/104Q75i (pg. 9), does a forward annual dividend yield of 9% justify paying 240% of intrinsic value?
2. "PV-10 is $6 billion. Use these funds to repay the credit facility and senior notes and stockholders are left with a negative $200 million. Meanwhile, the current market value is $8.4 billion, at $36. So if I buy the entire company and then pay off the debt, what do I get for $8.6 billion ($8.4B plus $200M deficit)? If we want to invest like the famed Michael Price, then we'll demand a maximum price-intrinsic value of 65%. So are the unproven reserves worth more than $13.2 billion? ($8.6B/0.65) If the answer is no, then where is your margin of safety to protect against what Ben Graham called "miscalculation or bad luck." Without a margin of safety, you are a speculator, not an investor...regardless of the apparent rich dividend yield.
3. "...another recent SA article values Linn on the basis of the next several years' worth of dividends. This is a naive approach, because the cost to acquire the reserves that enable management to pay a dividend are excluded.
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
Fear& Greedtrader -
Jacobsen's former colleague, Richard Grubman, was called an a**hole by Enron's Jeff Skilling during that infamous conference call just prior to The Crooked E's demise.
Use Linn Energy To Build Income Now [View article]
Casey -
Always (!!!) use enterprise value, for three reasons:
1. The banker wants her money back at some point--and this is a use of cash.
2. Equity is subordinate to debt in the event of a liquidation (bondholders can seize control of the assets...happens all the time).
3. This company uses debt to finance its capex and pay the dividend.
I can tell by the comments above that a lot of unsophisticated folks own this company, because they need income. But step back for a moment and ask yourself what is the investment required to finance this lush, 8%, yield?
The answer is, repeated bank borrowings and stock sales, which increase credit risk and owner dilution. This company has lost money on a free cash flow basis in four out of the last five years. Why do you want to own a company that has repeated cash deficits? When will the capital intensity end?
Look, PV-10 is $6 billion. Use these funds to repay the credit facility and senior notes and stockholders are left with a negative $200 million. Meanwhile, the current market value is $8.4 billion, at $36. So if I buy this entire company and then pay off the debt, what do I get for $8.6 billion ($8.4B plus $200M deficit)? If we want to invest like the famed Michael Price, then we'll demand a maximum price-intrinsic value of 65%. So are the unproven reserves worth more than $13.2 billion? ($8.6B/0.65) If the answer is no, then where is your margin of safety to protect against what Ben Graham called "miscalculation or bad luck." Without a margin of safety, you are a speculator, not an investor...regardless of the apparent rich dividend yield.
So my question to you and anyone else who owns this company: What's the value of the probable and possible reserves, after subtracting all direct production costs and adjusting for the time value of money. If we know the answer to this question, then we can determine whether this is a safe investment.
One other item...another recent SA article values Linn on the basis of the next several years' worth of dividends. This is a naive approach, because the cost to acquire the reserves that enable management to pay a dividend are excluded.
Good column...all your assumptions are transparent to the reader.
Question: Given Street estimates for 10% annual growth for the next 5 years, a 33% CAGR for dividends, to $13.57 in year five from TTM $3.30, seems aggressive. What is your thinking here? What are the qualitative aspects of IBM's business (e.g., industry structure, SWOT, Porter's Five Forces) that give you confidence to support this robust performance.
Use Linn Energy To Build Income Now [View article]
Casey -
If Linn Energy’s (LINE) enterprise value is $14.43 billion http://yhoo.it/12bkF3n and its PV-10 is $6 billion http://bit.ly/104Q75i (pg. 9), does a forward annual dividend yield of 9% justify paying 240% of intrinsic value?
What am I missing? The reward-risk here seems poor, IMO.
Linn Energy: Don't Believe The (Negative) Hype [View article]
Junkbond guy:
I am not a fan of the EBITDA metric for business owners, because investment in fixed and working capital are excluded. Without these two uses of cash, a firm may earn an accounting profit but have to raise cash via stock sales (increases dilution) or bond issuance (increases credit risk.) Also, EBITDA ignores the explicit cost of debt and implicit, but real, cost of equity.
Nevertheless, to your point, if management sells stock with an intrinsic value of $1.00 to buy, say, $1.20 worth of (legitimate) net assets or free cash flow, then this activity is value-creating and should continue. With Linn, I read how Berry will boost the dividend, but no mention of the deal's economics; i.e., what is the incremental return on incremental investment?
Given your background, you can appreciate how everyone is scrambling for yield, which is why the Barclays U.S. Corporate High Yield index fell last week to a record low, 4.96%. This is the first time the index tracking debt of non-investment grade debt dropped below 5%, according to the Wall Street Journal.
But my concern is that Linn's management raised $8.4 billion of debt/equity during 2008-2012 and yet per-share corporate net worth fell 8%. It appears, then, that what the income statement giveth (via an apparent lush dividend), the balance sheet taketh away (via share dilution, increased bank borrowings).
Use Linn Energy To Build Income Now [View article]
Mr. Bary's bio:
"Andrew Bary is an associate editor at Barron’s, The Dow Jones Business and Financial Weekly. He has been with Dow Jones & Company for 27 years, including the past 19 years at Barron’s.
"Bary now writes feature stories on a wide range of topics. He was named a senior editor at Barron’s in 1995 and an associate editor in 2006.
"In 1983, Mr. Bary joined Dow Jones as a reporter for the Capital Markets Report (CMR) one of the Dow Jones newswires. He worked as a reporter and editor at CMR before joining Barron’s.
"A Brooklyn native, Mr. Bary earned a bachelor’s degree in history from Princeton University in 1983. He lives in New Jersey with his wife and two daughters.
Linn Energy: Don't Believe The (Negative) Hype [View article]
Elliott:
1. We can agree that management can afford to pay a dividend if the business is free cash flow positive, yes? If you agree, then what are we to make from Linn's persistent and growing negative free cash flow?
2. Linn has $6 billion of long-term debt. Meanwhile, the average of its last four years' worth of operating cash flow is $392 million. Given this implied 15-year debt repayment period, are you concerned about credit risk? (I prefer to use free cash flow in my denominator, but Linn's 4-year average is negative.) To reduce the risk of buying companies with leveraged capital structures, my maximum debt repayment period (using FCF, not OCF) is 5 years.
3. Management in 2012 sold nearly $2 billion of stock. Isn't this a bearish signal for stockholders? After all, rational managers buy their stock when the price-intrinsic value is less than 1.0, and sell when PIV is greater than 1.0. In the last 5 years Linn's management has sold $3.7 billion of stock, causing shares outstanding to double. (To learn more about savvy capital allocation, read Leon Cooperman's profile of the late Henry Singleton here http://bit.ly/15VsHUl.) If management is selling, then why am I buying?
4. Book value per-share at year-end 2012 was $22, vs. $24 for year-end 2008. Is this decline in corporate net worth a concern?
5. Linn has $11.5 billion of total assets, of which $10.6 billion are classified as long-term. Thus, most analysts would consider Linn as capital intensive. Research shows capital intensive companies are poor stocks. Why will Linn buck the trend? 6. I appreciate that you included your intrinsic value estimate in your article. Too many SA contributors omit this important piece of information.
Why I Bought Linn Energy 3 Months Ago And Still Like It [View article]
That 8% yield you cite turns negative when you factor in the source of funds required to finance the dividend.
Check out my recent comments to learn more.
hewitt
Use Linn Energy To Build Income Now [View article]
Here's a better approach: shareholder yield. Add dividend, stock buyback, and debt reduction, and then divide by market value (average two years). The higher the yield, the better.
I'll use Linn's 2012 results to illustrate. To reinforce Warren Buffett's mindset that we own the entire business, rather than a lottery ticket, we'll use company-wide amounts, which you will find in the financing section of the 10-K's cash flow statement. For the $6,630M market value, I multiplied 188.3M shares, which is the average of two years, and a $35.22 stock price.
Dividend: $597M [positive]
Stockbuybacks: $(1,974)M [negative, because of owner dilution]
Debt reduction: $(2,040)M [negative, because of increased credit risk]
Add these three numbers up and you get $(3,417)M. Divide by $6,630M market value and you get a -52% shareholder yield. When you account for the deterioration in the balance sheet to produce your 8%-9% dividend yield, your all-in cost is substantial.
Here is Linn's shareholder yield for the past five years:
2012: - 52%
2011: -27%
2010: - 39%
2009: 3%
2008: 10%
Souce: Old School Value
As we have also seen with Linn's free cash flow, shareholder yield is both negative and getting worse. As I noted elsewhere, What the income statement giveth, the balance sheet taketh away. If you own Linn because of its yield, take a broader perspective...that yield is a mirage!
I don't have a position in Linn. But if I were thinking of buying, I'd start with the 8%-9% dividend yield, and then try to determine the changes in stock buybacks and debt reduction every year for the next five years. Then you know the implied shareholder yield, which is forward-looking and ultimately more important than what's happened in the past.
***
Meb Faber of Cambria Fund and author of "The Ivy Portfolio," has a new book on Amazon's Kindle about shareholder yields http://bit.ly/12Erhci. Meb's research shows high shareholder yield stocks gain an average of 15.04% a year during 1982-2011, beating high dividend yield stocks by 160 points a year. Meb's Cambria Investment Management also just debuted a shareholder yield ETF, symbol SYLD.
hewitt
Use Linn Energy To Build Income Now [View article]
Good points!
Here's Linn's problem: Using long-term capital (debt, equity) to finance depleting assets.
And when the assets run out, what's an owner left with?
A pile of debt, and continued share dilution, that's what.
When a firm runs a persistent cash deficit, as is the case with Linn, the right (bottom) side of the balance sheet suffers. Capital-intensive companies underperform the broader markets, according to all the studies I read.
My impression is that many Linn bulls own this company for income. So if a bull just has to own this company, they may find almost the same yield, but with a more senior claim, with the bonds http://bit.ly/10Ezqt0
hewitt
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
I have no position in any stock mentioned in this column. But I have spent time on Linn in the last several days, as I intend to use it as a case study (negative) in a forthcoming book. I am not familiar with DLR.
Also, here's an area of common ground: Our affection for Golden Retrievers. Our 4-year old female, Daisy, has several of her pink (yes, pink) tennis balls scattered around the house, yard. She is one of our best investments. I imagine you feel the same way.
hewitt
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
2. Motive - Same as you and me: Earn a profit without permanent loss of capital.
3. Ethics - Was it unethical for Jacobsen and Chanos to point out the flaws at Enron? For Chanos to point out the flaws at WorldCom? Or for Einhorn to point out the flaws at Allied Capital? http://amzn.to/Zq95Bx? This notion that longs are ethical and shorts are unethical is wrong, IMO (provided securities laws are followed). Short sellers help keep our Wall Street ecosystem honest, just like reporters help keep our political ecosystem healthy (or, healthier than otherwise).
4. I am still waiting for someone to answer the question, Why pay $14.43 billion for a company whose PV-10 reserves are worth $6 billion?
hewitt
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
Implied in my comment is that Highlands is smart money (they smelled a rat at Enron, which is why Skilling got upset), so if Jacobsen has red-flagged Linn, this alert is worth paying attention too.
***
In the comment section of Casey Hoerth's column here http://seekingalpha.co... I observe:
1. "If Linn Energy’s (LINE) enterprise value is $14.43 billion http://yhoo.it/12bkF3n and its PV-10 is $6 billion http://bit.ly/104Q75i (pg. 9), does a forward annual dividend yield of 9% justify paying 240% of intrinsic value?
2. "PV-10 is $6 billion. Use these funds to repay the credit facility and senior notes and stockholders are left with a negative $200 million. Meanwhile, the current market value is $8.4 billion, at $36. So if I buy the entire company and then pay off the debt, what do I get for $8.6 billion ($8.4B plus $200M deficit)? If we want to invest like the famed Michael Price, then we'll demand a maximum price-intrinsic value of 65%. So are the unproven reserves worth more than $13.2 billion? ($8.6B/0.65) If the answer is no, then where is your margin of safety to protect against what Ben Graham called "miscalculation or bad luck." Without a margin of safety, you are a speculator, not an investor...regardless of the apparent rich dividend yield.
3. "...another recent SA article values Linn on the basis of the next several years' worth of dividends. This is a naive approach, because the cost to acquire the reserves that enable management to pay a dividend are excluded.
hewitt
5 Dividend Stocks From The Ira Sohn Investment Conference [View article]
Jacobsen's former colleague, Richard Grubman, was called an a**hole by Enron's Jeff Skilling during that infamous conference call just prior to The Crooked E's demise.
http://bo.st/17C2ZE5
hewitt
Use Linn Energy To Build Income Now [View article]
Always (!!!) use enterprise value, for three reasons:
1. The banker wants her money back at some point--and this is a use of cash.
2. Equity is subordinate to debt in the event of a liquidation (bondholders can seize control of the assets...happens all the time).
3. This company uses debt to finance its capex and pay the dividend.
I can tell by the comments above that a lot of unsophisticated folks own this company, because they need income. But step back for a moment and ask yourself what is the investment required to finance this lush, 8%, yield?
The answer is, repeated bank borrowings and stock sales, which increase credit risk and owner dilution. This company has lost money on a free cash flow basis in four out of the last five years. Why do you want to own a company that has repeated cash deficits? When will the capital intensity end?
Look, PV-10 is $6 billion. Use these funds to repay the credit facility and senior notes and stockholders are left with a negative $200 million. Meanwhile, the current market value is $8.4 billion, at $36. So if I buy this entire company and then pay off the debt, what do I get for $8.6 billion ($8.4B plus $200M deficit)? If we want to invest like the famed Michael Price, then we'll demand a maximum price-intrinsic value of 65%. So are the unproven reserves worth more than $13.2 billion? ($8.6B/0.65) If the answer is no, then where is your margin of safety to protect against what Ben Graham called "miscalculation or bad luck." Without a margin of safety, you are a speculator, not an investor...regardless of the apparent rich dividend yield.
So my question to you and anyone else who owns this company: What's the value of the probable and possible reserves, after subtracting all direct production costs and adjusting for the time value of money. If we know the answer to this question, then we can determine whether this is a safe investment.
One other item...another recent SA article values Linn on the basis of the next several years' worth of dividends. This is a naive approach, because the cost to acquire the reserves that enable management to pay a dividend are excluded.
hewitt
IBM: Excellent Value For Money [View article]
Good column...all your assumptions are transparent to the reader.
Question: Given Street estimates for 10% annual growth for the next 5 years, a 33% CAGR for dividends, to $13.57 in year five from TTM $3.30, seems aggressive. What is your thinking here? What are the qualitative aspects of IBM's business (e.g., industry structure, SWOT, Porter's Five Forces) that give you confidence to support this robust performance.
Thanks,
hewitt
Use Linn Energy To Build Income Now [View article]
If Linn Energy’s (LINE) enterprise value is $14.43 billion http://yhoo.it/12bkF3n and its PV-10 is $6 billion http://bit.ly/104Q75i (pg. 9), does a forward annual dividend yield of 9% justify paying 240% of intrinsic value?
What am I missing? The reward-risk here seems poor, IMO.
Thanks!
hewitt
Alan Abelson Died: Lives On Through A Generation He Defined [View article]
Linn Energy: Don't Believe The (Negative) Hype [View article]
I am not a fan of the EBITDA metric for business owners, because investment in fixed and working capital are excluded. Without these two uses of cash, a firm may earn an accounting profit but have to raise cash via stock sales (increases dilution) or bond issuance (increases credit risk.) Also, EBITDA ignores the explicit cost of debt and implicit, but real, cost of equity.
Nevertheless, to your point, if management sells stock with an intrinsic value of $1.00 to buy, say, $1.20 worth of (legitimate) net assets or free cash flow, then this activity is value-creating and should continue. With Linn, I read how Berry will boost the dividend, but no mention of the deal's economics; i.e., what is the incremental return on incremental investment?
Given your background, you can appreciate how everyone is scrambling for yield, which is why the Barclays U.S. Corporate High Yield index fell last week to a record low, 4.96%. This is the first time the index tracking debt of non-investment grade debt dropped below 5%, according to the Wall Street Journal.
But my concern is that Linn's management raised $8.4 billion of debt/equity during 2008-2012 and yet per-share corporate net worth fell 8%. It appears, then, that what the income statement giveth (via an apparent lush dividend), the balance sheet taketh away (via share dilution, increased bank borrowings).
hewitt
Use Linn Energy To Build Income Now [View article]
"Andrew Bary is an associate editor at Barron’s, The Dow Jones Business and Financial Weekly. He has been with Dow Jones & Company for 27 years, including the past 19 years at Barron’s.
"Bary now writes feature stories on a wide range of topics. He was named a senior editor at Barron’s in 1995 and an associate editor in 2006.
"In 1983, Mr. Bary joined Dow Jones as a reporter for the Capital Markets Report (CMR) one of the Dow Jones newswires. He worked as a reporter and editor at CMR before joining Barron’s.
"A Brooklyn native, Mr. Bary earned a bachelor’s degree in history from Princeton University in 1983. He lives in New Jersey with his wife and two daughters.
http://bit.ly/13tqfRB
hewitt
Linn Energy: Don't Believe The (Negative) Hype [View article]
1. We can agree that management can afford to pay a dividend if the business is free cash flow positive, yes? If you agree, then what are we to make from Linn's persistent and growing negative free cash flow?
Free cash flow, in $millions
2008 $(160)
2009 $288
2010 $(1,303)
2011 $(1,611)
2012 $(3,335)
(Source: Old School Value)
2. Linn has $6 billion of long-term debt. Meanwhile, the average of its last four years' worth of operating cash flow is $392 million. Given this implied 15-year debt repayment period, are you concerned about credit risk? (I prefer to use free cash flow in my denominator, but Linn's 4-year average is negative.) To reduce the risk of buying companies with leveraged capital structures, my maximum debt repayment period (using FCF, not OCF) is 5 years.
3. Management in 2012 sold nearly $2 billion of stock. Isn't this a bearish signal for stockholders? After all, rational managers buy their stock when the price-intrinsic value is less than 1.0, and sell when PIV is greater than 1.0. In the last 5 years Linn's management has sold $3.7 billion of stock, causing shares outstanding to double. (To learn more about savvy capital allocation, read Leon Cooperman's profile of the late Henry Singleton here http://bit.ly/15VsHUl.) If management is selling, then why am I buying?
4. Book value per-share at year-end 2012 was $22, vs. $24 for year-end 2008. Is this decline in corporate net worth a concern?
5. Linn has $11.5 billion of total assets, of which $10.6 billion are classified as long-term. Thus, most analysts would consider Linn as capital intensive. Research shows capital intensive companies are poor stocks. Why will Linn buck the trend?
6. I appreciate that you included your intrinsic value estimate in your article. Too many SA contributors omit this important piece of information.
Thanks!
hewitt
Linn Energy: Don't Believe The (Negative) Hype [View article]
hewitt