Lollapalooza Investing

Dell: Return with a Vengeance

2009-08-14T01:13:00.000-07:00

I put out a brief post on 24th Feb 2009 on "Dell: A Fallen Angel" when it was trading at $7.99 per share or equivalent to 5 X after-tax operating income.

Since then, Dell has rallied to $14.29 per share, or equivalent to 79% increase in less than 6 months (annualised return: 158%).

At current price of $14.29, Dell is trading in the region of 90% of my conservative estimated intrinsic value.

I have thus closed out my Dell position and will not update Dell until is it significantly mispriced again.

Until then, happy hunting!

Insight into Decision Making

2009-03-09T05:29:00.000-07:00

A group of children were playing near two railway tracks, one still in use while the other disused. Only one child played on the disused track, the rest on the operational track.

The train is coming, and you are just beside the track interchange. You can make the train change its course to the disused track and save most of the kids. However, that would also mean the lone child playing by the disused track would be sacrificed. Or would you rather let the train go its way?

Let's take a pause to think what kind of decision we could make........ ........

Most people might choose to divert the course of the train, and sacrifice only one child. You might think the same way, I guess. Exactly, to save most of the children at the expense of only one child was rational decision most people would make, morally and emotionally. But, have you ever thought that the child choosing to play on the disused track had in fact made the right decision to play at a safe place?

Nevertheless, he had to be sacrificed because of his ignorant friends who chose to play where the danger was. This kind of dilemma happens around us everyday. In the office, community, in politics and especially in a democratic society, the minority is often sacrificed for the interest of the majority, no matter how foolish or ignorant the majority are, and how farsighted and knowledgeable the minority are. The child who chose not to play with the rest on the operational track was sidelined. And in the case he was sacrificed, no one would shed a tear for him.

The great critic Leo Velski Julian who told the story said he would not try to change the course of the train because he believed that the kids playing on the operational track should have known very well that track was still in use, and that they should have run away if they heard the train's sirens.. If the train was diverted, that lone child would definitely die because he never thought the train could come over to that track! Moreover, that track was not in use probably because it was not safe. If the train was diverted to the track, we could put the lives of all passengers on board at stake! And in your attempt to save a few kids by sacrificing one child, you might end up sacrificing hundreds of people to save these few kids.

While we are all aware that life is full of tough decisions that need to be made, we may not realize that hasty decisions may not always be the right one.

'Remember that what's right isn't always popular...
and what's popular isn't always right.'

Everybody makes mistakes; that's why they put erasers on pencils.

Berkshire Hathaway: A Wonderful Investment At A Wonderful Price

2009-03-06T03:06:00.000-08:00

At $2,3000 per B share, Berkshire Hathaway is trading at least 30% below intrinsic value.

If you are interested in reading my brief 2-page write-up on Berkshire Hathaway, please shoot me an email.

Happy bargain hunting,
David

Dell: A Fallen Angel

2009-02-24T03:29:00.000-08:00

At the current share price of $7.99, Dell is trading at 5X after-tax operating income!

If you are interested in reading my 2-page write-up on Dell, please send me an email.

Happy bargain hunting,
David

WaMu's Collapse: Lessons Learned

2008-09-26T05:11:00.000-07:00

From AP News:

The Federal Deposit Insurance Corp. seized WaMu on Thursday, and then sold the thrift's banking assets to JPMorgan Chase & Co. for $1.9 billion.

Seattle-based WaMu, which was founded in 1889, is the largest bank to fail by far in the country's history. Its $307 billion in assets eclipse the $40 billion of Continental Illinois National Bank, which failed in 1984, and the $32 billion of IndyMac, which the government seized in July.

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So, what can we learn from WaMu's ordeal?

Among WaMu investors are Bill Nygren of Oakmark Funds, David Dreman of Dreman Value Management and Charles Brandes of Brandes Investment Partners. These are respectable, proven value managers with years of experience. So, the most important lesson here is that we have to do our own work. Even professionals can be very wrong.
WaMu was Bill Nygren’s largest position, accounting over 15% of portfolio. The significant value destruction of WaMu caused Oakmark Select I Fund to drop 14.6% in 2007 and a further 9% drop this year.
So, don’t make financial company the largest position, unless it has a very strong balance sheet and no liquidity issue with superior management like Berkshire Hathaway.

Happy learning,
David

Buffett's Goldman Steal: Lessons Learned

2008-09-24T05:52:00.000-07:00

Warren Buffett has secured another great deal during this great financial turbulence by investing $5 billion in Goldman preferred shares, which has 10% dividend yield. On top of that, Berkshire also will get warrants granting it the right to buy $5 billion of Goldman common stock at $115 a share, which is 8% below the 4 p.m. closing share price Tuesday of $125.05. At Goldman's roughly $50 billion market value, based on that closing price, exercising those warrants would give Berkshire about a 10% stake in Goldman.

So, what are the important lessons that we could learn from Buffett:

WSJ summarized Buffett's technique accurately, "Characteristically, Mr. Buffett's investment gives him an attractive income stream, downside protection and the strong chance of big gains."
Avoid excessive leverage. If you have significant leverage like Goldman Sachs, Morgan Stanley, Lehman Brothers and other financial institutions, when liquidity disappears either you go bankrupt like Lehman, or you might need to pay extremely high interest on loans to stay in the game.

Happy Learning!

A.H. Belo: Sell Out

2008-09-21T08:59:00.000-07:00

Dear readers,

On 21st July 2008, I posted my write-up on A.H. Belo, stating why I find A.H. Belo mispriced. The share was trading at $5.83 at that time. Now, two months later, the price has reached $7.07, which is an increase of 21.3%, or an annualized rate of 127.6%.

Although I still believe that A.H. Belo is mispriced and has more upside than downside, I have sold off my stake in A.H. Belo. My primary reason is because A.H. Belo is in a very difficult business and the situation might get worse over time. With current volatility in the market, a lot of significantly better companies with strong cash flow have become very attractively priced. It would be prudent for me to "upgrade" to better quality companies.

To quote Mr. Buffett, "Both our operating and investment experience cause us to conclude that "turnarounds" seldom turn, and that the same energies and talent are much better employed in a good business purchased at a fair price than in a poor business purchased at a bargain price." [Extracted from Berkshire Annual Report: 1979]

I will stop covering A.H. Belo from now.

Happy investing,
David

Disclosure: No position in A.H. Belo

Constellation Energy: Stars Align for Buffett

2008-09-19T02:46:00.000-07:00

Warren Buffett’s ability to act swiftly in buying Constellation Energy Group for $4.7 billion is truly amazing. At the beginning of the year, Constellation traded over $100 and its share has slumped below $25 prior to Buffett’s acquisition announcement. For $26.50 take-over, Buffett is paying about $11.5 billion price tag for Constellation, including net debt and retirement obligation. LTM EBITDA: $1,925 million, which means Buffett paid less than 6 X EBITDA for Constellation. BTW, property, plant and equipment (PPE) are worth $10.4 billion.

The great lessons from Buffett and Munger are:

• Cash is King (in the right hands): In 1987 annual report, Buffett said, “Our basic principle is that if you want to shoot rare, fast-moving elephants, you should always carry a loaded gun.” Although holding cash isn’t exciting, it is a potent instrument for “offensive” during crisis or panic time.

• Be Prepared: From OID Aug 2008 Edition, Charlie Munger said, “What is interesting is how brief many of these opportunities to take advantage of dislocations are…. The dislocation was very brief, but very extreme. And if you can’t think fast and act resolutely, it does you no good. So you’re like a man standing by a stream trying to spear a fish. And if the fish just comes by once a week or once a month or once every ten years, you’ve got to be there to throw that spear fast before the fish swims on. It’s a pretty demanding activity if done right.”

• Leverage Kills. Even good companies can be killed by excessive leverage. Unlike Lehman, which is loaded with “toxic” investments, Constellation Energy has real, valuable assets. The only reason it is pushed to the brink of desperation is because of the leverage. If it has strong balance sheet at the first place, Buffett would not have the opportunity to get these prized assets.

• Buy from Desperate Sellers: True bargains only come along when there are desperate sellers. Just one week before, Constellation traded above $55 per share and now it is trading at half of that.

Disclosure: LONG BRK.A, BRK.B

Good Deal or Bad Deal? Lloyds TSB to Acquire HBOS

2008-09-18T05:11:00.000-07:00

It is fascinating to see HBOS to be acquired by Lloyds, which is only half its size! In my humble opinion, I think the government might have played a key role in this deal to avoid another Northern Rock-like nationalization. However, I'm not sure whether this is a smart move or not.

Lloyds has total assets of £367.8 billion and net tangible equity of £8.54 billion. Leverage of 43 to 1.

HBOS has total assets of £681.4 billion and net tangible equity of £18.32 billion. Leverage of 37 to 1.

These two institutions are as leverage as one can be. How much can a much leveraged, yet smaller bank: Lloyds "rescue" HBOS?

BTW, when Lehman filed for Chapter 11, it has a leverage of 32 to 1. And, Bear Stearns has a leverage of 33 to 1 when bailout by JPMorgan Chase. Even Morgan Stanley with 25 to 1 leverage is potentially merging or selling to Wachovia or other willing buyer.

The Lloyds-HBOS deal doesn't look like a good deal to me. It might solve a temporary liquidity crisis for HBOS, but if residential mortgage defaults start climbing, which I believe it will, then, Mr. Gordon Brown, might need to rethink of bailing out Lloyds-HBOS on a later date....

If HBOS needed a bailout, it would need a larger, better capitalized bank, i.e HSBC. Of course, the government is worried about monopoly, etc, etc. Unless government wants to nationalize HBOS, it really should let bigger bank like HBSC to step in. Bear Stearns is successfully taken over by JPMorgan Chase as JPMorgan is significantly bigger and has a "fortress balance sheet".

Any thought?

Disclosure: No position in any of the above mentioned banks

AIG Bailout; Warren Buffett's, Charlie Munger's and Jeremy Grantham's Advice

2008-09-17T02:58:00.000-07:00

It is incredible that AIG is taken over by the U.S. government as credit dries up. I want to share with you what Warren Buffett said at 2008 annual meeting....

Buffett: In fact, that was one of the interesting things that was said in testimony before the Senate finance committee. I think two of the witnesses (Bear Stearns) said: " We understood we couldn't borrow money unsecured if people started looking at us askance. But we never dreamed that we couldn't borrow money secured." Well we found that out at Solomonn 17 years earlier, when we were having trouble borrowing money secured. When the world doesn't want to lend you money, 10 or 20 or 50 basis points - or a bigger haircut on collateral - doesn't do much. They'll only lend you money if they want to lend you money.

And if you're dependent on borrowed money every day, you have to wake up in the morning hoping the world thinks well of you. And there was a period a couple of months ago when almost every investment bank in the United States was plenty worried about whether people were going to think well of them the next morning. [Extracted from OID Aug 31, 2008 edition]

Also, Charlie Munger made excellent point on risk-aversion....

Munger: You can easily see how risk-averse Berkshire is. In the first place, we try and behave in such a way that no rational person is going to worry about our credit. And after we have done that, we also behave in such a way that if the world suddenly didn't like our credit, we wouldn't even notice it for months, because we have so much liquidity. That double layering of protection against risk is as natural as breathing around Berkshire. It's just part of the culture. [Extracted from OID Aug 31, 2008 edition]

Jeremy Grantham wrote this in Jan 2008....

Grantham: About 2 years ago I was introduced to Hyman Minsky's argument on the development of credit bubbles. Remarkably, 'stability is unstable' really captures his point. Investors, when confronted with an apparent reduction in risk, will seek to return to their normal or desired risk by leveraging up. This attitude becomes contagious and reinforcing – risk is ignored and debt levels soar until at the peak capital gains are needed to merely pay the carrying costs. Then something, it doesn't really matter what, goes wrong; the risk in the environment is seen to return to more normal levels. Many players are caught with risk levels far above their desired level and are forced to cut back on leverage and risk in general, which puts pressures on the prices of what they own and so on. It has a simple and powerful logic. Well, the Minsky Meltdown has clearly arrived, and one shoe after another of the market centipede drops onto the floor, and we are waiting for many more. This is the most important U.S. financial crisis since World War II: it is of course far more global than previous crises, with tentacles reaching everywhere, and it coincides with broad overpricing of assets.

So, the take home messages:

* Excessive leverage kills. Just look at Bear Stearns, Freddie Mac, Fannie Mae, Lehman Brothers and now, AIG. Thus, avoid excessive leverage and have plenty of liquidity like Berkshire Hathaway and Fairfax Financial.
* Margin of Safety. Like Munger said, having "double layering protection against risk."
* "Stability is Unstable"!

Best,
David

Warren Buffett on Fannie Mae and Freddie Mac

2008-08-22T04:30:00.000-07:00

On my previous post, I'm wondering what is the chance of shareholders of common stocks of Fannie Mae and Freddie Mac would suffer permanent loss of capital. With tremendous amount of leverage, worsening economy, deteriorating housing market and diminishing liquidity in credit market, it takes huge courageous to go against the crowds, which Bill Miller, Richard Pzena and David Dreman have been doing.

It would be helpful to hear what Warren Buffett, the greatest investor of all time, has to say.

From CNBC Interview with Becky Quick, Buffett said Freddie and Fannie would have been gone a long time ago if the government hadn't been behind them. He thinks Freddie and Fannie will survive but shareholders could "lose a lot of money".

When asked is Fannie Mae going under? Buffett says in a sense they already have because they wouldn't survive without government backing. "They priced risk wrong."

Take home messages from Warren Buffett...

Rule No 1: Never Lose Money

Rule No 2: Never Forget Rule No 1

Freddie Mac: An Interesting Bet?

2008-08-19T08:22:00.000-07:00

Bill Miller has increased his stake in FRE and now owns 12.2% of the company. Besides Bill Miller, other smart managers such as Richard Pzena, Charles Brandes, David Dreman and others are long on FRE.

On the other hand, there are smart people like Bill Ackman, Whitney Tilson and others that short FRE.

Being an amateur investor myself, it is scary to see very smart people on different side of the bet. My knowledge is too shallow to analyze the complex FRE and the severity of housing slump.

However, I have been thinking.....

If Miller, Pzena and Dreman were right, the earning power would be $3 - $5 per share 2 to 3 years out. Using PE of 10, FRE would worth $30 to $50. Let's say $30. At current price of $4, that is a 7.5-fold increase.

If Ackman and Whitney were right, FRE would worth 0.

Assuming 50% chance of 7.5-fold increase and 50% chance of going to 0, the expected value = $15 per share.

With such a high positive expected value of $15, this seems like a potential good bet.....?

What is your thought on the above? Shoot me an email.

P.S. Actually, I think the LONG CASE has higher probability than the SHORT CASE. Combined Miller's, Pzena's and Dreman's ages > combined Ackman's + Whitney's ages. :)

This is only a mental exercise...

DISCLOSURE: No position

A.H. Belo Update Following 2nd Quarter 2008 Results

2008-07-29T06:52:00.000-07:00

Significant restructuring plan:

Reduction of employees by 500 people or 14 percent of work force to eliminate $50 million of operating expense by 1st quarter of 2009.
Reduction in capital spending by 10 percent. To maintain capital spending at $20 million per year for 2008 and 2009.
Disposal of non-core assets, which potentially could fetch $35 million. The current operating losses would save capital gain tax.
Reduction in dividend payout for 2009, which is still under discussion.

In my opinion, management is taking rational steps towards coping with current difficult environment, which might be a chronic situation.

Goldman Sachs has issued a sell report on AHC (dated 28th July), and pegged its intrinsic value at $5.00 per share based on DCF analysis. However, it has not put any valuation on AHC's $150 million worth of non-core property values. At 25 percent haircut, the properties are worth at least $112.5 million, or $5.50 per share.

I have sent an email to Goldman analysts find out on their thoughts of these properties and should update you in due course.

Disclosure: LONG

A.H. Belo: Why might it be a Value Trap?

2008-07-21T15:00:00.001-07:00

A very smart friend of mine shared with me the following thoughts on why A.H. Belo could potentially be a value trap....

He thinks it’s a value trap for three reasons =>

The value is found in non-operating assets,
Management has no incentive to realize non-operating value and
Management controls the vote, so no potential for activist situation.

He spoke to management a couple of times and get the feeling that they have no interest in monetizing real estate at any point. He initially thought that management should take this company private given the balance sheet strength (plus it’ll be easier to go through business transformation out of the public eye). But then he realized that they cannot do that for 1-2 years due to tax repercussions of the spin. And if they want to take the company private, they will want to do so at the lowest price possible. So why not try to turn the business around in the public, if the stock stays here or lower (lower is likely given direction of newspaper businesses) they take the company private in 3-years at much lower valuation.

Poor operating business + no hard catalyst + no potential for activism = value trap.

What is your thoughts on A.H. Belo? If you have feedbacks, please shoot me an email.

A.H. Belo (AHC): A Value Stock or A Value Trap?

2008-07-21T07:30:00.000-07:00

Below is my write-up on A.H. Belo, which was spun-off from Belo Corp recently.

I would appreciate your feedbacks, especially on why my thesis might be flawed.

Disclosure: I'm long on AHC.

Cautions:

This is not a recommendation to buy or sell AHC.
Please do your own work prior to investing in AHC.
The author will not be liable for any potential losses resulting from your AHC investment.

A.H. Belo (AHC): A Value Stock or A Value Trap?

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