Just watched this old video of a guest lecture by Michael Price at the Columbia Business School – Heilbrunn Center for Graham & Dodd Investing (18 April 2006). Quick summary of key points below. Someone else wrote another summary here.
- Steak and sizzle approach
- Steak is what you are buying: earnings stream, asset values, cash, real estate, etc.
- Sizzle are new things where there is nothing there today, e.g. VOIP, new movies, etc.
- Figure out the steak and ignore the sizzle.
- Look for inflexion points where there are problems, earnings disappointment, litigation, bankruptcies, etc.
- Compute the intrinsic value of a company/asset and buy it when people are selling it at a big discount, 30-50%.
- You are in this environment now, bull market, cheap money, lots of M&A activity, where it is very hard to find cheap stocks. So what do you do? You wait.
- Merger proxies includes information on bankers’ opinions on the deal which includes comparables and recent transactions, which you can use to value other comparable firms.
- You want to compute intrinsic value using what very smart private equity firms and investment banks pay for companies after lots of due diligence.
- When a businessman buys control of a business, that represents intrinsic value.
- He doesn’t believe in computing intrinsic value by discount a stream of future earnings, or measures like price/book or multiples of EBITDA. You have to go when there are transactions.
- Bankruptcy disclosure statements (comes out at the end of a bankruptcy) are great treasure troves of industry and corporate data.
- Max Heine had a rule not to buy any non-voting stock because he thinks that as an owner of the company, you should have the right to vote.
- Michael Price thinks its okay to hold non-voting stock if you trust the management and is just in it for the ride.
- For companies where the founding family holds the voting stock, you need to look into the family history, see what were their past actions, and which generation is it currently. The further down the generations, the greater pressure on the management to do well because the family wants to maintain the value of their inheritance. However this may not be true as in the Dow Jones case where the family willingly sold stock at half of intrinsic value.
- If the family holds the voting stock in a foundation/trust, which gives money to charity organisations, there would be scrutiny by the State Attorney General when the foundation votes in any M&A because he is also in charge of charities.
- The best situation is when there is a lot of voting stock held by a foundation, three generations after the founder passed on, where the trustees are professional, and have to vote with their fiduciary duty because of the Attorney General, and someone wants to buy the company.
How to Read the Newspaper
- Loves the Lex column in the Financial Times. You can get a lot of ideas and it has a high betting average. The Lex column can move a stock.
- Will read articles and look into situations where there can be an opportunity, e.g. a company re-stating its financial statements, management changes where a small company hired a good manager from a large company, a company had a busted deal (e.g. Hallmark failed to sell its TV channel and movie library) which means the stock price will take a hit, companies restructuring, getting sued, product recalls, having late financials, etc.
- Look at the worst performing groups, worldwide and domestically, tender offer tombstones, dividend cuts/omissions.
- You have to start doing the work when the bad news starts to come out and the stock starts to go down a bit, so that you are ready to act when the stock price tanks (e.g. the morning after an announced dividend cut).
- Ignores the rest of the articles, or articles where there could be opportunities but you are not interested in (e.g. Russia).
Position Sizing and Diversification
- Say he has $100M.
- Top 5 names to be each 3-5% of assets.
- Next 10 names to be each 2% of assets.
- Want 20-30 positions at 1% each.
- Every day, look at those 1% positions, and say I bought them cheap, should I be adding to them, should they be 2 or 3%? For the 5% positions, are they good enough to stay at 5% or should I bring them down to 1%.
- The rule came from a mutual fund company he worked at, and it worked fine, so he still does that.
- Usually enters the position cheap, the stock moves up, sells off some at a high price, the stock pulls back, and it ends up in a position where you don’t want to buy and you don’t want to sell. If you did a good job in your research, these positions will do okay. Constantly evaluate whether you still want to hold the positions, can be impacted by industry news, general economy, level of interest rates, commodity prices, etc.
- When companies comes up with a new drug, the gross profit margin is 85-90%.
- Companies disclose what the revenues of the specific products are, and how long their patents last
- Plot out how long they will get these 85% margins on the top line, extrapolate the top line using the trailing twelve months.
- Take the drugs that they are currently selling, look at the number of years left of their patent, look at an 85% profit margin, and discount that to come up with X. Take that X away from the market capitalization and that is what you are paying for the pipeline.
- Merck’s pipeline in the past has been valued at $15-20B to a $100B. He would rather buy their pipeline at a $15B than a $100B.
- If you have a conglomerate with other lines of business (e.g. surgical tools), you can back those out also, to get price of the pipeline.
- Do this math to know what an investor in the common is paying for the unknown. Very rarely can one buy the pipeline for free.
- To account for the uncertainty on the liability side because of litigation, you can make a provision of $2-3B to be paid out over time.
- The dividend yields of 4-5% creates a floor, they typically have clean balance sheets, and you have the chance of consolidation of the industry which is needed.
- His dad’s stock broker was Max Heine’s partner. Michael Price was doing work for his dad’s broker, who introduced him to Max.
- He was interested in merger arbitrage. In 1974, Manufacturers Hanover was buying Riddle Financial, and Michael Price researched into the deal because he was interested in deals.
- He sat down with Max for an interview, and Max asked what Michael liked. Michael spent 10 minutes talking about the deal and his opinion that it was absolutely going to close, and during the interview Max got up and bought 20,000 shares.
- Large foundation membership domiciled in New York with Eliot Spitzer involved.
- Foundation and former control shareholders were selling stock that Michael Price thinks is a lot below intrinsic value.
- He recognised that it is hard analysing a big insurance company, and what potential liabilities they might have.
- He thought there is an opportunity for the company to do a big buyback. Expects to see a year from Apr 2006, for litigation to be settled, and AIG buying back 400-500M shares, and for the stock to go up to $75.
- He owned AIG and was buying more “because of its troubles”. AIG was ~5.7% of his portfolio in 4Q07. He subsequently sold out in 3Q08. AIG was a very interesting case where so many who’s who of investing got AIG wrong, including
- Christopher Davis, Kenneth Feinberg
- David Tepper
- Michael F Price
- Wallace R. Weitz
- Bill Miller
- Robert Hagstrom
- David A. Katz
- Robert E. Torray
- William V. Fries, Connor Browne
- Tweedy Browne Team
Sharper Image (SHRP)
- Michael Price talked about Sharper Image which was having problems because its air purifiers (ionic breeze) did not purify air but instead actually released harmful ozone gasses.
- The stock dropped from $30 to $12-13, there was a group that bought a lot of stock and was trying to force out the founder. So there is a lot of pressure for the company to realise value.
- He thinks that the balance sheet is fine, the ionic breeze issue will be over, and the company can come out with a new ionic breeze.
- It turned out that the company did not recover and filed for bankruptcy in Feb 2008.
- Michael Price had a position in this stock but subsequently sold out.