Monthly Archives: February 2013

Strategy Session – First Look at Our Long-Term Model Price S&P 500 Index Chart

“Bill” has asked me a couple of times to post a long-term chart of the S&P 500 with its EBV lines in the comment section of the Model Price blog.

Well here it is!

S&P 500 Index Chart – Monthly Price Bars – From 1995 to Present

S&P 500 Index with monthly price bars, and EBV Lines (colored lines).

S&P 500 Index with monthly price bars, and EBV Lines (colored lines).

Granted, there is a lot going on with this chart so let me list my observables to help you interrupted what you are seeing.

First, as I have said many times, this chart represents an aggregate of all designated (at the time) S&P 500 companies by market weight, from a bottom up basis.  This chart is instructive on where the S&P Index is trading relative to its Economic Book Value or EBV lines.  This chart can be viewed in the same way as individual company’s model price chart in that transits either positive or negative will give a general indication on the direction of the market as a whole.

My Three Observables

1.  Let’s talk about the Economic Book Value (EBV) lines first off.  Note how they slant up on a 45% angle.  These EBV lines represent the growth in the balance sheets of all the companies in the S&P 500.  Plotted on a logarithmic scale an observer can see the very important compounding that is taking place of all companies in the S&P 500 Index as a whole.  This compounding, which you can see from our model price chart, is truly a wonder in our capitalist market driven world and one of the main drivers of wealth creation for society as a whole.

Two other observations of our EBV lines are notable.  First is how relatively flat our EBV lines are around 2001 and 2002.  This flatness or non-growth occurred as companies wrote off assets, primarily goodwill, that was recorded when acquisitions and business combinations were commonplace in the “Tech Bubble” of 2000.  Time Warner/AOL merger was a poster child for M & A activity in this period.  Massive goodwill was recorded as an asset of the combined company when these two entities merged with much hoopla.  Resulting in massive write offs of this same goodwill when planned synergies didn’t occur in the market decline in 2001 – 2002.

The second observation is the downward slopping EBV lines from the end of 2007 through 2008.  These downward slopping EBV lines represent write off of assets, and companies going insolvent during this period.  The insolvency of Lehman Brothers, AIG and General Motors may ring a bell.  Additional write downs were incurred of financial assets of companies surviving the financial crisis of 2008 as well – the massive deleveraging of the Too Big To Fail (TBTF) banks as an example. This EBV dip represents hundreds of billions of dollars of impaired assets written off of balance sheets of companies in the S&P 500.  As you can see once the write offs were complete the EBV lines of the Index companies resume their compounding albeit at a lower EBV level than the EBV highs in 2007.

2. Is the S&P 500 Index forming a triple-top or possible “break-out” to new absolute highs for the Index?  For technical investors this seems to be the number one question.  How can our model price chart help with the answer?  Simple, it is a question of valuation.  Let’s have a look at our model price chart a little closer.  The first top occurred back in 2000.  Notice the market, the S&P 500, almost reached EBV+6!  The second top, as you can see, occurred in 2007 at EBV+4.  Currently, the S&P 500 is trading underneath EBV+3.  Assuming the market does break out to new highs is this cause or reason for concern?  No, in my opinion.  Why? The valuation on this possible third breakout is considerably lower than the previous two highs noted above.

One of the great attributes of our model price charts is we can extend where are EBV lines will be one or two years out to 2015.  As you can see EBV+3 will be somewhat higher then the current year or 2013. So even if the valuation of the S&P 500 stays the same relative place within the zone, just under EBV+3, new highs will be reached recognizing the underlying growth (compounding) of the company’s balance sheets in the future.  In other words, it’s just a matter of time.

For fun let’s have a look at a normal graph of the S&P 500 Index.  See graph below.  You can see why chartists or technical analysts are having a field day saying the end is nigh, just like 2000 and 2007.


3.  Another observation that stands out on our model price chart and is observable on the regular chart – but less so – is the last four corrections since the market bottomed in March of 2009.  I have highlighted these bottoms on our model price chart.  Notice how higher bottoms were made over the last almost 4 years.  I call this rather “saw tooth” market action a bullish indicator and as I have been highlighting this pattern in my monthly market blogs.  If a correction were to start again, this pull back should be somewhat contained and less violent than the previous four (just guessing but seems logical) as investors feel more comfortable buying dips on equity prices as time goes on.


When it comes to the financial markets just about everyone including the financial press seems too focused on the daily news and lose sight of longer-term perspectives.  It is no secret that retail investors and sophisticated pension funds have moved out of equities because they are unpredictable, volatile and low compound returns based on the last 10 years.


What about the valuation of equities?  From 1995 to 2008, the S&P 500 consistently traded above EBV+3.  Other than the spike down to EBV+1 in early 2009, the S&P has been trading in the zone between EBV+2 and EBV+3 since the low in March of 2009.  As you can see the Index has bounced off of EBV+3 on numerous occasions since 2010 without a positive transit.  Time will tell but a positive transit seems inevitable as the US economy regains its footing and powers forward.  Once a transit of EBV+3 does occur, this is my mind would be a significant event and a precursor of much higher equity prices in the foreseeable future.

For the last 18 years this one chart can quickly sum up what has transpired in the US equity markets in terms of valuation and what is occurring with company balance sheets as a whole.  I also believe this model price chart can give you an educated guess on the future direction of US equity markets.  Is there one chart in finance that can give you this perspective other than our model price chart?  I haven’t seen it, have you?

$76 Billion Reasons to Sell Gold Stocks!

I have seen some strange things in the almost 20 years since we have been tinkering with our model price charts but this one takes the cake.  Have a look at these three model price charts.

Barrick Gold Corp.

Barrick Gold Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Barrick Gold Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of ABX subsequent to this post will be maintained on Facebook, here.

Goldcorp Inc.

Goldcorp Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Goldcorp Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of GG subsequent to this post will be maintained on Facebook, here.

Newmont Mining Corp.

Newmont Mining Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Newmont Mining Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of NEM subsequent to this post will be maintained on Facebook, here.

All three companies, all major gold mining companies, had negative transits not only on the same week but also on the same day!  Wow, I have to admit I haven’t seen this in quite some time – if ever.

Just for fun I added the market capitalizations of all three of these companies with an aggregate total of $76 US billion – hence the title of my blog.

All three of these companies had a negative transit of either EBV+2 or EBV+1 this week implying lower prices for all three of these companies in the future.

Who do you believe, analysts or the market?

As you will notice, all three have calculated model prices substantially above where the companies’ shares are trading.  Remember we are delivering two separate calculations for our readers.  The model price calculation or fair market value and our Economic Book Value (EBV) lines.  Our model price calculation is largely influenced by analysts’ mean earnings estimates.  Our EBV lines are a function of the company’s balance sheet.  The market is signalling lower prices in the future, by a negative transit, where the analysts may be late in recognizing that lower earnings estimates may be warranted in the future.  In other words, analysts are usually wrong, as a group, especially at secular tops or bottoms, until future negative news is well known with resulting adjustments in downward estimates are made as a result.

In this instance I believe what the market is communicating – lower prices ahead – and in time I’m sure the analysts will follow with lower estimates thereby reducing our model price calculations.

Maybe a more interesting question is “Are we seeing a secular decline in gold or gold related investments?”  Time will tell however something is surely going on when a sell signal is clearly given this past week with these three major gold producers.

How Jumbo Gains are Possible Using Model Price – Part 2

OK, so I hate when so called experts in the financial markets look backwards and select an example of a stock that had big gains and said I told you so.  I call bullshit quite frequently on these individuals and tune out whatever they are recommending or better still selling.

So for the last year I have been highlighting specific names that have been transiting above EBV-3 or “Coming out of the Blue” as I call this specific investment strategy.  I have selected 5 of them to see what has happened and obviously keep on eye on these stocks in the next few years as these stocks continue to transit through their respective EBV levels and generate generous rates of return for their investors.

Sun Life Financial

I highlighted Sun Life Financial – SLF on February 28, 2012.  Here is the model price chart I included in the blog.

Sun Life with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Here is the model price chart as of the close on Friday, February 15, 20013.

Sun Life Financial with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Sun Life Financial with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Sun Life is up 34.13% since the blog post and with the addition of dividends is up 40.86%.  As you can see SLF had a positive transit of EBV-2, on the first week on November and is trading at the top of the zone.  I would be patient with this name and continue to hold the position, enjoying the hefty dividend from my original purchase price.

Financial stocks, usually want to trade at EBV or green line when conditions are normal.  Sun Life traded as high as EBV+2 back in 2005 to 2007 when financial conditions were optimal.

Manulife Financial

The other life insurance company in Canada, Manulife Financial – MFC finally had a positive transit of EBV-3 on December 12, 2012.  MFC had a false “break out” back in March 2012 however couldn’t stay above EBV-3 with a negative transit back on the first week of May.  Here is the model price chart I included in my “Coming Out of the Blue” (Again)! blog.

Manulife Financial with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Manulife Financial with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Here is the model price chart as of the close on Friday, February 15, 20013.

Manulife Financial Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Manulife Financial Corp. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

As you can see MFC had a positive transit of EBV-2 this week, which is very positive.  You will also note that our model price calculation is above its current trading price, which again is also positive.  Manulife is up 18.47% since my blog post and with the addition of dividends is up a total 19.46%.  Certainly before the financial crises of 2008, Manulife consistently traded in and around EBV+2.

First Solar Inc.

I highlighted First Solar on November 28, 2012.  Here is the model price chart I included in the blog.

First Solar with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Here is the model price chart as of the close on Friday, February 15, 20013.

First Solar Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

First Solar Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

First Solar is up 25.28%% since the blog post.  As you can see FSLR had a positive transit of EBV-2 in the first week of January of 2013, and subsequently traded down but not through EBV-3.  Sometimes its important to give these positions some room to maneuver but also sell when the position transits down through EBV-3.

This one time high flyer traded well above EBV+5 back in 2009.  Will FSLR trade there again?  Time will tell.

Goldman Sachs

Goldman Sachs (GS) finally had a positive transit of EBV-3 on December 18, 2012, noted here.  GS had a false “break out” back in February 2012 however couldn’t stay above EBV-3 with a negative transit back in the middle of April.  Here is the model price chart I included in my “Coming Out of the Blue” (Again)! blog.

Goldman Sachs with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Goldman Sachs with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Here is the model price chart as of the close on Friday, February 15, 20013.

Goldman Sachs with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Goldman Sachs with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Goldman is up 21.53% since the blog post.  Since I noted GS’s transit back on December 18, 2012 the stock price has pushed forward with a positive transit of EBV-2.  Back in 2000, Goldman traded as high as EBV+3.

BlackBerry Inc.

I highlighted BlackBerry on November 28, 2012, here.  I have reproduced the model price chart I included in this blog.

Research In Motion with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Here is the model price chart as of the close on Friday, February 15, 20013.

BlackBerry Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

BlackBerry Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

BlackBerry is up 21.40% since the blog post.  Since I noted BBRY transit back on November 25, 2012 the stock price has pushed forward with a positive transit of EBV-2 and EBV-1.  Back in 2000 and recently in 2008 BBRY has traded as high as EBV+9!


So I think I have made my point.  I have selected 5 “Coming Out of the Blue” situations I have previously noted in prior blogs out of many.  There have been a lot of companies over the last six months transiting over EBV-3 and I have tried to note the bigger companies and/or interesting situations for my readers.  Yes, these noted situations are up nicely since I blogged about them.  My point however is the above noted companies have the potential to increase many hundredfold over the next 3 to 5 years if investors are patient.  Over time with each positive transit of each successive EBV line gives confidence to the investor that future gains are still possible even though sitting on substantial unrealized gains doesn’t make the investor nervous of possible significant reversals.  This, in my estimation, is the key for jumbo returns I have noted in the title of this blog.

I am not recommending any of these stocks to anyone, just merely pointing out one very lucrative trading strategy that is unique to model price users, if interested.

How Jumbo Gains are Possible Using Model Price – Part 1

Peter Lynch famously said, “… if you have a garden and every day you water the weeds and pick the flowers, that in one year you will have all weeds.”  Peter Lynch was one of the most successful investment managers on Wall Street because he pulled his weeds and watered the flowers in his portfolio, metaphorically speaking of course.  Unfortunately most traders and investors do the opposite.

Two Stories

You feel good when you make a profit. You worked hard researching a specific stock.  Fundamental or technical analysis was used for stock selection.  You purchase the stock perfectly and are now sitting on a profit.  What do you do?  Do you sell the position – pocket the money?  Do you hold on for another day, week, year?  The market corrects and your unrealized gain on the position disappears.  You are reminded of that old Wall Street adage, “Bulls make money, bears make money, and pigs get slaughtered”.  The position slips into a loss.  You rationalize, when the position increases in price that reverses your paper loss you will be happy to sell – break even.  The position continues downward further increasing your losses.  You hold the position. You water this weed everyday in your portfolio.

You have been trading for some years.  You worked hard researching a specific stock some time ago.  You purchased the stock perfectly and the stock appreciated a quick 15%.  You learned your lesson in not taking your profits… you bank profits, right!  You sold the position and realized a profit.  Great.  The stock continues to appreciate.  You rationalize if and when the stock pulls back to where you sold the position you will re-enter the position.  Unfortunately the stock continues to appreciate and it has lost your interest.  Some years later, while doing some stock research, you see this same stock trading somewhat higher than you originally sold the position.  No problem, you say.  Until you look at the additional information supplied from the charting service and find out the stock you once owned, split – stock split – on three separate occasions since you sold the position!  Just by holding this one position, the position you traded for a gain, you realize that your investment, long ago, could have enhanced your investment account by more than 7 figures.  Yes, by buying this stock, as you did, and done NOTHING you could have exceeded all your investment and retirement goals.  Meanwhile all of your hard work and frantic trading resulted in a portfolio full of stocks trading far below their individual purchase price paid by you in the first place.

Model Price to the Rescue

I have selected this model price chart from our database as a visual aid.  If you want to see this chart in our Facebook database the company’s name is Crocs Inc. (CROX-us).

Crocs Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Crocs Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Forgetting about what the company actually does or produces, I would like to focus on how investors would have enjoyed a move on this particular stock from under the $4 level to $35 in two years, from mid 2009 to mid 2011.  As Peter Lynch would say a “seven bagger” or 7 times your investment or almost an 800% gain.

“Coming Out of the Blue” Investment Strategy

For long only investors and/or traders I love this strategy.  As you can see above CROX had a break out of EBV-3, or positive transit of EBV-3, back in mid 2009.  As I blog frequently I call this strategy, “Coming Out of the Blue” and that’s why we color our last EBV line (which is EBV-3) on our model price charts blue.

So an important point to note, this isn’t technical analysis in action.  Quite the opposite, this is fundamental analysis.  When a positive transit occurs at the EBV-3 level the market is communicating fundamentally the stated assets values on the company’s balance sheet are either NOT impaired or gaining value from a discounted level.  This may occur subsequent to management initiated write offs of unproductive assets or goodwill write down from a previous acquisition.  Nowhere in finance does this occur except here with our model price work – in that the market judges the value of a company’s recorded balance sheet assets.

So when an initial transit occurs of EBV-3, I’m immediately thinking I have a potential 100 to 800% gainer on my hands, irrespective of the company making the transit.  Why? The market is signaling that something has changed in this company.  What has changed? Sometimes you will never know!  Could be a new CEO adopting a new corporate strategy.  Could be the company has just designed and launched a new market category leader in the marketplace.  Could be anything.  Do I care what the explanation is? Nope!  The market is communicating and I’m listening and acting.

Run to EBV – Point A

Once a transit occurs at EBV-3 (blue line), the company’s stock price quickly trades to EBV (green line).  Why?  EBV or green line is “our” calculation of book value.  Our calculation of book value is different than the accounting definition of book value.  Our calculation of book value or EBV includes accounting book value plus our calculation of theoretical earnings, also known as TE – see Key Concepts.

Once the market makes a connection to the company’s balance sheet with a positive transit of EBV-3 (blue line), and having the stock price run to EBV (green line) is usually easy and possibly quick – see chart above, because the market is recognizing the full value of the company’s assets stated on its financial statements.  If and when this occurs guess what?  You have just made 70% return – from EBV-3 to EBV (depending on the time frame and whether dividends are paid).  Not bad.  Not only have you made 70% on your investment, but also the stock you invested is only trading at EBV (green line) or our definition book value – a very low valuation for publicly traded companies taken as a whole.

Run to EBV+3 – Point B

Talking in generalities, the stock will usually spend some time around the EBV level or green line.  Again, stocks that have a gain of 70% or more – 70% from EBV-3 level however the original move may have started at lower prices before the positive transit – tend to want to consolidate. Once the consolidation is complete, and depending on perhaps quarterly earnings news, the stock can run to EBV+3 (Red Line).  This is usually followed by a substantial jump in our model price calculation as equity analysts who follow the stock simultaneously increase their earnings estimates.

EBV+3 (Red Line) will probably be another consolidation level for the position.  Again, I’m talking about generalities here but it usually occurs’ more often than you think.  So from EBV-3 (blue line) to EBV+3 (red line) you have generated a gain of at least 240% – again depending on time and dividends paid!  As you can see from the chart above this gain occurred less than a years’ time.  Not bad at all.

Run to EBV+5 – Point C

As equity analysts’ jump on the bandwagon, with “Strong Buy”, “Conviction Buy List” rankings the stock continues to climb.  Valuation increases.  Earnings momentum is starting to pick up.  Momentum stock players begin to invest as the stock reappears on the daily “52-week High” list.  Management starts to appear on CNBC and the business press lauds management’s business strategy and acumen.  The stock heads to EBV+5 (yellow Line), another consolidation level.  Yes, you have gained some 500%.  You patiently wait as the stock consolidates the move to EBV+5, and trade along EBV+5 (yellow line) as the stock price uses this EBV level as support. Stock price appreciation is being sustained as the upward slopping EBV+5 line as growth of the company’s balance sheet continues compounding.

Above EBV+5 – Point D

Once consolidating at EBV+5 (yellow line) for a period of time, the stock lifts off for EBV+6, and has a positive transit.  Under close examination – as you can see from the chart above – the stock begins to trade above its’ calculated model price or fair market value.  You decide if the stock has a down transit of EBV+6 you will exit the position.  The stock does transit EBV+6 and you sell the position harnessing capital gains and dividends paid along the way.

Using Model Price to help you stay invested longer in specific stocks

So there you have it!  Model Price alerted you fundamentally that something was changing and action should be taken as the stock had a positive transit of EBV-3.  With each succeeding positive transit of our EBV lines, EBV-2, EBV-1, EBV, EBV+1… EBV+6 confirmation was given for you to continue to hold the stock for continued gains.  Our calculation of model price or fair market value confirmed that fundamentals were improving along with the appreciation in the stock price.  When finally the stock started trading above its model price with a negative transit of EBV-6 this was the signal the stock had run its course and gains should be taken.

Granted the example I picked, in this case CROX, was relatively quick – two years!  What if the position took 5 years to transit through our EBV levels?  Would you be disappointed?  I think not.

Believe it or not I highlight stocks all the time emerging from EBV-3 or “Coming out of the Blue”.  (I will highlight a few stocks I have written about in the past year in Part 2 of this post.)  What if hypothetically you just put a fraction or a small percentage of your portfolio or RRSP (401K) into stocks having a positive transit of EBV-3?  You would have a portfolio full of names “Coming out of the Blue” with huge potential and limited downside – you would sell the position when the company had a negative transit of EBV-3.

Even better let’s form a community on Facebook, Model Price, (sound familiar) where we can all inspire ourselves to hold onto “Coming out of the Blue” stocks so we have a chance at 800% gains in our portfolio.  Hell, I’m sure we would all be happy with a lousy 100% if you wanted to sell early. Just saying!

Of course shape eyed readers could rightly claim that investors/traders could have been shaken out at point A and B on my example chart and sold their position.  I agree with that assessment, but I would counter by saying as the stock re-transited EBV at point A and point B re-entries could have occurred by the investor/trader.  Even if no re-entry was established, considerable gains – more than 70% could have been achieved.

P.S. For those investors who love playing the short side or selling stocks short, you can’t help but notice what occurred to CROX from the end of 2007 to the end of 2008 – see chart above.  CROX went from over $70 to less than $1 in a year!  Obviously model price work can be used for shorting stocks just as well as going long equity investments.  Notice how CROX’s was trading well above our calculated model price at the end of 2007.  And with each negative transit of our EBV lines, continued to tell the short speculator they were on the right course of action being short the position – fundamentally.

I’m on Market Call!

On Friday, February 15, 2013, I will be on Market Call on BNN (Canadian Business Show) 1:30 pm – 2:00 pm (eastern standard)

While I’m on the show answering viewer’s questions about individual stocks, you can input the stock symbol in our Facebook app and follow along – easy.  Just click on “Go to Application” button on the right and this will take you our app.

Would you say something different from what I said?  You can make comments via Facebook.

Apple – Einhorn’s “Wacky” Proposal with Apple’s “Wacky” Response

Nothing like a snow day on Friday, blanketing much of the Northeast, including Toronto, to give me time to consider the proposal David Einhorn has given to Apple Inc.

Reading from Apple Inc.’s SEC filing, which includes Mr. Einhorn’s letter to Apple’s shareholders, Mr. Einhorn’s originally proposed a strategy where by Apple would issue perpetual preferred shares, at no cost, to existing shareholders back at a May 2012 investment conference.  According to Mr. Einhorn he demonstrated that Apple could unlock several hundred billion dollars (my emphasis) of shareholder value.

Apple’s filing also noted since May, Mr. Einhorn has had discussions with Apple on his value creation idea, but Apple rejected it outright in September 2012 – rightly in my opinion.  (Which I will get to.)

Apple not only rejected this idea, but has taken an additional step – some say unprecedented – to eliminate preferred stock from the company’s charter.  To do this they need shareholder approval.

Fine.  Are you with me so far?

Apple went a step further by “bundling” this proposal, the elimination of preferred stock, with two other proposals (majority voting for directors, and establishing a par value for the Company’s common stock) into one proposal.  So shareholders can and will vote on the “bundled” proposal.  Three proposals bundled together for one vote.  Mr. Einhorn is suing Apple to have these three proposals, “unbundled”, so shareholders can have a say on each separate proposal.

Mr. Einhorn’s Proposal

Mr. Einhorn proposes that Apple distribute perpetual preferred stock to all existing shareholders at no cost.  This perpetual preferred would trade in the marketplace and take advantage of the market’s appetite for yield obviously implying a premium valuation of this newly issued stock versus the common shares which many people including Mr. Einhorn believe trades at a discount.

To further quote from Mr. Einhorn’s letter (Bold lettering is my emphasis)

For example, Apple could initially distribute to existing shareholders $50 billion of perpetual preferred stock, with a 4% annual cash dividend paid quarterly at preferential tax rates. Once a trading market is established and the market recognizes the attractiveness of a highly liquid, steady yielding instrument from an issuer backed by Apple’s unmatched balance sheet and valuable franchise, the Board could evaluate unlocking additional value by distributing additional perpetual preferred stock to existing shareholders.  With this conservative action, Greenlight [Mr. Einhorn’s Investment Company] believes the Board could unlock hundreds of billions of dollars of latent shareholder value.

Assuming Apple retains its price to earnings multiple of 10x and the preferred stock yields 4%, our calculations show that every $50 billion of perpetual preferred stock that Apple distributes would unlock about $30 billion, or $32 per share in value.  Greenlight believes that Apple has the capacity to ultimately distribute several hundred billion dollars of preferred, which would unlock hundreds of dollars of value per share.  Further, Greenlight believes additional value may be realized when Apple’s price to earnings multiple expands, as the market appreciates a more shareholder friendly capital allocation policy.

Simple right!

Not so fast.

Mr. Einhorn, through his proposal, wants to change the capital structure of Apple.  (Instead of the operating nature of the balance sheet itself – which I will get to in a future blog.) By the issuance of perpetual preferred shares, these shares will have a claim on the earnings of the company ahead of the common shareholders.  In other words, Apple would be separating the equity of the company in two parts – preferred and common shares.  This additional claim comes at the expense of the common shareholders alone and no other group of stakeholders.

It would interesting to speculate what additional claims Apple may have to give these preferred shareholders.  Keep in mind Mr. Einhorn wants these preferred shares to not only trade at par value but also at some sort of premium.  (So additional preferred shares can be issued)  Will this value be recognized with only an earnings claim against the common equity or additional claims have to be attached (claim on assets) to ensure after market trading gives market precipitants the valuation they are hoping for.

Two Thought Experiments

What if Apple has no earnings?  Apple almost went bankrupt once without Steve Jobs and in this fast paced technology world this scenario cannot be ruled out.  The question is how these preferred shares trade with its common cousins.  We dare say the preferred shares would have all the value with no to little value subscribed to the common shares as the market correctly focused on the claims of each security.

What if Mr. Einhorn had his way and is able to issue hundreds of billions of dollars of these perpetual preferred shares?  Again as a thought experiment, what if Apple issued $1 trillion of these shares.  To expect NO diminution in the common stock value is unrealistic in my view.

How would Model Price account for the suggested Perpetual Preferred shares?

One of the key characteristics of Mr. Einhorn’s proposal is the perpetual preferred shares are issued at no cost.   We would account for these preferred shares as equity but separate from the common equity of the company.  This would lower the book value of Apple, thereby reducing our EBV lines, (see Key Concepts), as our EBV lines are a function of book value.  Reduction in the EBV lines would have an impact on our model price calculation, assuming all variables in our model price algorithm are constant.

So for fun, we calculated a new model price assuming the issuance of perpetual preferred shares of say $50 billion with our current model price calculation assuming the status quo.  The delta is roughly the same (model price delta times shares outstanding) as the value subscribed to these preferred shares or $50 billion.

So paradoxically the more perpetual preferred shares Apple issues, the more our model price calculation would diminish.  How the market actually reacts to this reduction of model price is another question and maybe over the short term the market wouldn’t care of the siphoning of value from one security to the other.  However over the longer term this assumption cannot be made.

Mr. Einhorn’s Proposal is “Wacky”, in my opinion!

In my opinion, proposing a major change in the capital structure of Apple to “unlock” Apple’s inherent value is the wrong way to go.  Our math shows that for every perpetual preferred share issued our model price or fair market value calculation would be reduced by roughly the same amount.  We concede the market maybe fooled in the short term however over the longer term we believe the market value of the common shares would recognize the diminution in claims and inferior capital structure position.

Mr. Einhorn’s proposal also has other qualitative negative aspects, which should be considered.  The word “perpetual” is a long time!  As long as the company itself is around.  I’m sure this would be a legal and governance nightmare for Apple and its current and future shareholders.  Not that would be a problem for Mr. Einhorn.  I am sure once he “unlocks” any perceived value which his proposal claims to unlock, he will fly (sell) like the wind looking for other “special situations” to “unlock value” as he sees fit.

Apple Response is “Wacky” too!

As Mr. Einhorn points out in his letter over 90% of the S&P 500 companies have the flexibility to issue perpetual preferred shares in their corporate charters.  For Apple to take this unprecedented action, the elimination of perpetual preferred shares from their charter is “wacky” in my point of view.  To further “bundle” three (3) proposals together for one vote is beyond paranoid.


So in a nutshell, what is to make of all these shenanigans?  All stakeholders, except for management and the Board of Directors, believe Apple has too much cash on its balance sheet – at $137 billion or $145 per share of cash – including us.  Mr. Einhorn wants to force Apple into some sort of strategy to distribute some of this cash to shareholders, including him, obviously.  Apple is playing hardball and overreacting to the situation – again in our opinion, but in doing so is breathing life and press coverage into Mr. Einhorn’s very bad idea.

The only people benefiting from these “Wacky” maneuvers, as usual, are the lawyers.

P.S. I have written two blogs last year on Apple and how in increase its market value by changing the operations portion of its balance sheet. (Instead of the capital structure that Mr. Einhorn is proposing.)

Apple – Four Actions Management Can Do To Double Their Stock Price (Without Breaking a Sweat)!

Apple Computer – A Special Dividend of $75 Billion would Reward Shareholders, management and the Economy.

P.P.S. I will update these blogs into a new blog dealing with Apple’s valuation at a future date.  Unlike Mr. Einhorn’s proposal, Apple can change their balance sheet and improve, mathematically, their model price or fair market value from corporate actions other than changing Apple’s capital structure, which should be the objective of both Mr. Einhorn and Apple’s management.


Two Stories that Piqued my Interest in the Weekend Edition of the Wall Street Journal.

Weekend business reading is one of my favorite activities even though at times it can be frustrating (stupid journalists) and can cause me lots of anxiety.  That said here are two “good news” stories that caught my interest, which relates to other blogs I have written.

The first story relates to the U.S. trade deficit for the month of December.  I have reproduced the second and third paragraph of this article, which states:

The U.S. deficit in international trade of goods and services shrank nearly 21% to $38.54 billion from a revised $48.61 billion the month before, the Commerce Department said Friday.  The decline was the biggest in nearly four years.

Oil exports hit a record high, while the amount of imported oil dropped to its lowest level since 1997.  Thanks to new technology, U.S. production of crude and natural gas has expanded, while consumers are using oil more efficiently.  Reduced imports of foreign oil, aside from lowering the nation’s energy tab, could boost the U.S. growth rate over time.

Back on June 27, 2012 I wrote this blog, “US Energy Self-sufficiency – Big Game Changer for Investors”.

One of my macro themes is the coming bull market for the US dollar, and US dollar based assets.  Energy self-sufficiency is a big piece of the puzzle for my macro point of view.  As you can see from the December U.S. trade deficit numbers this positive trend is continuing.

The way I see any trade deficit of any country, is a supply of a nation’s currency flowing out into the world, which is sold in the international marketplace.  Lessen the supply of this outflow by reducing the nation’s trade deficit; with demand (Capital Account) staying the same, the currency naturally appreciates.  This is good news for U.S. dollar based assets, including U.S. equities.

The second story involves Dell Inc.’s largest outside investor on Friday said it would vote against the proposed $24.4 billion deal to take the computer maker private.  The WSJ continues;

The shareholder, Southeastern Asset Management Inc., which says it owns approximately 8.5% of Dell’s shares outstanding, voiced its opposition to the leveraged buyout in a strongly-worded letter to Dell’s board.

“We are writing to express our extreme disappointment regarding the proposed go-private transaction, which we believe grossly undervalues the Company.” The letter said.

 We will not vote in favor of the proposed transaction as currently structured,” the firm continued.  “We retain and intend to avail ourselves of all options at our disposal to oppose the proposed transaction.”


Here is Friday’s model price chart of Dell Inc.  As you can see our model price calculation or fair market value is $17.01.

Dell Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Dell Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of DELL subsequent to this post will be maintained on Facebook, here.

I wrote a blog last week saying Michael Dell and Silver Lake were under paying for Dell Inc. at $13.65 to take Dell Inc. private.  The buyout group needs the majority of shares outstanding, without the buyout group shares (including Michael Dell) to vote yes in order to be successful.

As I ended my blog, “It will be interesting to see what shareholders do in this situation.”

I guess we know!

$DELL – Dell Going Private at $13.65 a share!


It has been rumored for weeks, but today it’s finally official.  Company founder Michael Dell in partnership with the technology investment firm Silver Lake offered to purchase Dell Inc. for $13.65 a share in cash.

The first thing I do when I see a buyout, merger and/or acquisition with a stated price value I look up the acquired company on our Facebook application to see what our calculated model price is showing.  We are about valuation and when third parties agree to terms we are curious to see what price or valuation these parties have negotiated.

Model price chart of Dell Inc. as of February 4, 2013

Dell Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Dell Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of DELL subsequent to this post will be maintained on Facebook, here.

As you can see our calculated model price for Dell Inc. is $16.76.  This implies the purchasers are picking up an 18.5% discount from fair market value.  Not bad at all!  When we look at our model price calculation for 2015, at same earnings estimate as 2014 (Dell has a February year-end) model price is calculated to be $18.07, almost a 25% discount to fair market value.

The merger agreement provides for a so-called “go-shop” period, during which a Special Committee will actively solicit, receive, evaluate and potentially enter into negotiations with parties that offer alternative proposals.

Hum…someone or some company is going to bid in excess of $25 billion dollars without Michael Dell, who has been CEO, on and off, since the company was founded, in his own college dorm room? Not likely.

As I mentioned in my second paragraph, when third parties agree to terms we are always curious comparing these negotiated terms with our algorithm calculating model price.  I believe the key in this instance, is this not a third party deal in the traditional sense.  Michael Dell has the financial resources to be opportunistic in buying a company he already owns 14% of, at a discount to fair market value, with little to no competitive bidding.

I guess if you were Michael Dell you would be asking me how would I know my algorithm could calculate fair market value?  There has been a dearth of M&A activity since I started this blog, back in January 2012, however I have seen model price capture fair market value of deals for 10 years now.  Also I highlighted two deals in these respective blogs confirming our model price calculation.

Warnaco (WRC) Acquisition Confirms Model Price Calculation

CVH – Aetna to buy Coventry Health. Confirmation of Model Price.

It will be interesting to see what shareholders do in this situation.

RIMM – Big Week for Research In Motion or should I say Blackberry!

The other stock I wanted to talk about this week was Research In Motion (RIMM).  So before Phil’s back nine at the Waste Management golf tournament and the Super Bowl let me write just one more blog about what caught my attention this week.

RIMM finally unveiled its new blackberry phones on Wednesday.  One thing for sure everybody had an opinion not only on how the new phones worked, but also whether RIMM would survive with these new products.  Equity analysts are all over the map as well.  A perfect environment for model price charts!

To me, some stocks are about campaigns.  I stalked Netflix for a year, waiting and blogging for the right opportunity.  When it finally came, I blogged about it here, where minimal risk and maximum reward were evident with our model price charts I pounced producing a considerable gain.  RIMM has that feel.  Big Game grazing on the Serengeti, with my weapon, model price charts that nobody has except for you and me!

The market crushed RIMM this week.  Perfect for the old adage “Buy on rumor, sell on news” or product release.  The American media blew raspberries (get it!) at the company and its products.  (Man, the Americans either love you or hate you there is no in between – Black or white, never grey!)

So let’s have a look at Friday’s model price chart to see what happened.

Research In Motion with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Research In Motion with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of RIMM subsequent to this post will be maintained on Facebook, here.

RIMM traded up to EBV last week and was the perfect opportunity to let a little stock go – which I did.  I expected a pull back but not two complete zones, EBV-1 and EBV-2!   EBV-2 is $12.50US as I have indicated on the model price chart above.  Hopefully this will become support however I will let the market decide.

After two months of huge volatility hopefully RIMM stock price can settle down and start to work the zones with more purpose.  Having a few weeks basing at EBV-2 with little volatility would help.  This is not a prediction; the market will do what it will do; however I do like playing “what if’s” in my head.

After this big show on Wednesday, RIMM needs to focus on their product.  It needs to go back to the “Block & Tackle” – its Super Bowl Sunday after all – of convincing enterprise customers and consumers they have a better product.  This war will be won “in the trenches” and it is far from over.