Valuation: Akamai Technologies Inc. (AKAM)

Company Review: Akamai Technologies Inc. (AKAM)

Company Profile: Akamai Technologies Inc. (obtained via Google Finance)

Akamai Technologies, Inc. (Akamai), incorporated in 1998, provides services for accelerating and improving the delivery of content and applications over the Internet. The Company’s solutions are designed to help businesses, government agencies and other enterprises enhance their revenue streams and reduce costs by maximizing the performance of their online businesses. By advancing the performance and reliability of their Websites, through the Akamai EdgePlatform, the technological platform of Akamai’s business solutions, customers are able to utilize the Company’s infrastructure and reduce expenses associated with internal infrastructure build-ups. Akamai offers services and solutions for digital media distribution and storage, content and application delivery, application performance services, on demand managed services and Website intelligence. In March 2007, the Company completed the acquisition of Netli, Inc., a privately held company based in Mountain View, California. In April 2007, the Company acquired Red Swoosh, Inc.

 Business and Management Review

1) Is the business simple and understandable? 

This is a simple business that creates a digital operating environment for the World Wide Web traffic. Their global platform of thousands of specially-equipped servers helps the Internet resist the crush of daily requests for rich, dynamic, and interactive content, transactions, and applications. They detect and avoid Internet problem spots and vulnerabilities to ensure Websites perform optimally.

 2) Does the business have a consistent operating history? 

They had reported unsustainable performance for the past 10 years, mostly injected by the volatility of this business. In addition to that, this stock is in the systems & security industry, which has been a poor industry for the last 10 years, though it has been much stronger the past five. Nonetheless, Akamai Technologies Inc. has been one of the strongest performers in its industry over the five-year period.

 3) Does the system have favorable long term prospects? 

Most stocks in the systems & security industry have seen steadily growing revenue and earnings over the past three years. AKAM’s stock has done better than most of its peers and its revenues have grown very rapidly over the past three years. In contrast to its competitors, this stock’s earnings per share have grown at a very high rate over past three years, though they actually declined last year. AKAM would probably have to raise additional capital from outside sources at some point if it continues to hold a growth rate that is less than the rate at which its EPS have grown.

 4) Is management rational? 

I find management to be rational.

 5) Is management candid with its shareholders? 

Management seems to be candid with its shareholders as they have a investor relations site.

 6) Does management resist the institutional imperative? 

AKAM’s management does resist the institutional imperative.

 Financial and Value Review

Defensive

1) Size of firm 

The market cap of Akamai Technologies Inc. is higher than $2 billion.  “Pass”

 2) Strong financial condition 

The company current ratio is above 2. “Pass”

 3) Earnings stability 

AKAM has not had positive net income for the past 10 years. “Fail”

 4) Dividend record 

The company has not made dividend payments for the last 10 years. “Fail”

 5) Earnings growth 

It has not have an increase of one-third in EPS for the previous 10 years. “Fail”

 6) Price to earnings analysis 

Its PE ratio is higher than 20. “Fail”

 7) Price to book analysis 

The company PB ratio is higher than 2.5 and PB*PE ratio higher than 50. “Fail”

Conclusion 

Having passed only two of the required seven tests for the defensive investor following Benjamin Graham’s value investing strategy, we do not believe Akamai Technologies Inc. is suitable for the defensive investor.

  Enterprising

1) Strong financial condition 

Akamai Technologies Inc. posses a current ratio higher than 1.5, but its debt to NCA is not higher than 1.1. ”Fail”

 2) Earnings stability 

The company has not had positive net income for the prior five years. “Fail”

 3) Dividend record 

AKAM does not pay dividends currently. “Fail”

 4) Earnings growth 

Its earnings are greater than 5 years ago. “Pass”

 5) Price 

Its stock price is higher than 150% of the net tangible assets. “Fail”

Conclusion

We find AKAM to be unsuitable for the enterprising investor, having passed 2 out of 5 tests.

Valuation

Our valuation model finds a fair value to be $38.62.  

Opinion 

Since the company is currently trading at about $36.95, we believe AKAM is fair valued, but would not be a suitable investment for the defensive or enterprising investor.

None of the staff at ModernGraham held a position in Akamai Technologies Inc. at the time of publication.  Also, please read our disclaimer and Our Methods.

Valuation: Avon Products Inc. (AVP)

Company Profile: Avon Products, Inc. (AVP) (obtained via Google Finance)

Avon Products, Inc. is a global manufacturer and marketer of beauty and related products. Its products fall into three product categories: Beauty, which consists of cosmetics, fragrances, skin care and toiletries (CFT); Beauty Plus, which consists of fashion jewelry, watches, apparel and accessories, and Beyond Beauty, which consists of home products and gift and decorative products. Sales from Health and Wellness products and mark, a global cosmetics brand that focuses on the market for young women, are included among these three categories based on product type. Its business is conducted worldwide primarily in one channel, direct selling. The Company’s segments are based on geographic operations in six regions: North America; Latin America; Western Europe, Middle East & Africa; Central & Eastern Europe; Asia Pacific, and China.

Business and Management Review

1) Is the business simple and understandable?

Avon has a fairly simple business model as they are in the business of personal vanity in terms of beauty products. They produce their beauty products and distribute them to retailers as well sell directly to consumers via their website.

2) Does the business have a consistent operating history?

In terms of operations there has been a consistent history as people continuously need and purchase cosmetic products. Looking at the company’s financials, however, tells a completely different story as both their top and bottom line have been erratic and inconsistent.

3) Does the business have favorable long term prospects?

We feel that Avon will continue to be a player in this industry in the future, but products such as these are subject to sensitivity to macroeconomic conditions within the economy.

4) Is management rational?

There is no reason to suggest management is not acting in a rational behavior.

5) Is management candid with its shareholders?

Investor relations are strong as their webpage cleanly lays out all relevant information for the investor.

6) Does management resist the institutional imperative?

We find no reason to have any concern related to this issue.

Financial and Value Review

Defensive:

1) Size of firm

Market capitalization is greater than $2 billion. Pass.

2) Strong financial condition

With a current ratio of about 1.3 Avon falls short of the required 2. Fail.

3) Earnings stability

Avon has reported positive net income for the past ten years. Pass.

4) Dividend record

The firm has paid consistent dividends for the past ten years. Pass.

5) Earnings growth

EPS have grown by 1/3 over the past ten years. Pass.

6) Price to earnings analysis

Our ModernGraham P/E for Avon is around 27(using our Methods) and is above the benchmark of 20. Fail.

7) Price to assets analysis

The P/B is roughly 7 and is significantly greater than the required 2.5. Fail. As well the weighted P/B and P/E ratio is not in line with our requirements. Fail.

Overall

Scoring 4/8, Avon fails the test for the defensive investor following Ben Graham’s investing criteria. We would not recommend this security for this class of investor(s).

Enterprising:

1) Strong financial condition

Current ratio is lower than the required 1.5. Fail. As well the debt to net current assets is less than the required 1.1. Fail.

2) Earnings stability

Avon has had positive net income for the past five years. Pass.

3) Dividend record

The firm currently pays a dividend. Pass.

4) Earnings growth

Earnings are not greater than what they were five years ago. Fail.

5) Price

The current share price is greater than our required 150% of net tangible assets. Fail.

Overall

Scoring only 2/5 Avon fails the test for the enterprising investor and should not be included in this investor’s portfolio if following Ben Graham’s investing philosophy.

Valuation:

We find a fair market price for Avon to be around $46 per share.

Opinion:

The current share price of $40 is in line with our valuation and our internal analysis recommends a hold if you currently own this security. However, for the individuals looking to acquire Avon we would not recommend this move as the stock failed both tests and is frankly too erratic for our taste.

None of the ModernGraham staff held a position in Avon at the time of publication. Also, please read our disclaimer and Our Methods.

Valuation: Honeywell International Inc. (HON)

 Company Profile:  Honeywell International Inc. (HON) (obtained via Google Finance)

Honeywell International Inc. (Honeywell) is a diversified technology and manufacturing company, serving customers worldwide with aerospace products and services, control, sensing and security technologies for buildings, homes and industry, turbochargers, automotive products, specialty chemicals, electronic and advanced materials, and process technology for refining and petrochemicals. The Company operates in four segments: Aerospace, Automation and Control Solutions, Specialty Materials and Transportation Systems. It is engaged in manufacturing, sales, service and research and development mainly in the United States, Europe, Canada, Asia and Latin America. In May 2006, the Company purchased Gardiner Groupe. In February 2006, Honeywell sold Indalex. In May 2006, it sold First Technology Safety & Analysis (FTSA) business. In December 2006, the Company also sold First Technology Automotive business. In July 2007, the Company acquired Dimensions International and Enraf Holding B.V.

Business and Management Review

1) Is the business simple and understandable?

Honeywell’s business is simple but its products are not.  Most would not be able to understand the inner workings of an airplane or spacecraft.  This fact may turn away the investor who is most adamant about following this Buffett tenet, but overall the actual business side of things is more on the understandable side of things.  The company designs and manufactures high-tech products for sale to large corporations or governments as well as home appliances.

2) Does the business have a consistent operating history?

Honeywell traces its roots to the 1880s, when one of the founders invented the thermostat.  Since then, a few mergers have occurred to create the company we know today, but the operating strategy has remained constant.  You can read an in depth history of the company on their website. 

3) Does the business have favorable long term prospects?

The company’s prospects are excellent as long as it continues to be a front-runner in the creation of new products and competes for large scale projects.  In particular, we are enthusiastic about the company’s efforts in the aerospace field as space seems to be an area of interest and potential growth.

4) Is management rational?

The company’s management has remained rational throughout its history by remaining focused on its original strategy and not pursuing unneeded acquisitions.

5) Is management candid with its shareholders?

The company’s investor relations page is slightly more in depth than most, and we enjoyed perusing the “about us” section.

6) Does management resist the institutional imperative?

We find no reason to believe the management is following the institutional imperative.

Financial and Value Review

Defensive:

1) Size of firm

The market cap of Honeywell is $44.22 billion.  Pass.

2) Strong financial condition

The company’s current ratio is about 1.13, far below the 2.0 requirement.  Fail.

3) Earnings stability

The company has not had a consistent positive net income for over 10 years.  Fail.

4) Dividend record

Honeywell has consistently paid a dividend for over 10 years.  Pass.

5) Earnings growth

Earnings have not grown more than 1/3 over the last 10 years.  Fail.

6) Price to earnings analysis

With a ModernGraham PE ratio (using our Methods) of 32.65, the requirement of under 20 is not met.   Fail.

7) Price to assets analysis

The ModernGraham Price to Book ratio for Honeywell is 4.77, higher than our 2.5 limit.  The multiple of PE to PB is higher than our requirement of 50.  Fail.

Overall

Having passed only 2 of the required 7 tests for the defensive investor following Benjamin Graham’s value investing strategy, we do not believe Honeywell is suitable for the defensive investor.

Enterprising:

1) Strong financial condition

The company’s current ratio is below 1.5 and debt to net current assets is not below than 1.1.  Fail.

2) Earnings stability

The company has not achieved a consistently positive net income for over 5 years.  Fail.

3) Dividend record

The company currently pays a dividend.  Pass.

4) Earnings growth

Earnings are greater today than they were 5 years ago.  Pass.

5) Price

The price is not less than 150% of the net tangible assets.  Fail.

Overall

We do not find the company to be suitable for the enterprising investor, having passed 2 out of 5 tests.

Valuation:

Our valuation model finds a fair value to be around $40. 

Opinion:

Since the company is currently trading at about $59, we feel it is overvalued at the present time but could have potential in the future.  This is a company that has a strong history and future prospects but has not had as good a record over the last 10 years as we’d like, and seems to be overvalued. 

None of the staff of ModernGraham.com held a position in Honeywell at the time of publication.  Also, please read our disclaimer and Our Methods.

Definitions

We believe that all of our methods are based on Benjamin Graham’s basic strategy and teachings. We have studied The Intelligent Investor and Security Analysis, and understand his approach. We believe in no other way of investing – any method that is not based on value investing is merely speculating.

After reading Graham’s writings, we spent time studying Warren Buffett’s modifications and style. We believe that Buffett follows Graham’s teachings extremely well and that is the reason he has been so successful. Buffett’s greatest contribution to value investing are his guidelines for the selection of companies with good management.

Overall, Graham taught us the philosophy behind valuing a company and investing, while Buffett has shown an example of how to apply Graham’s knowledge and has taught us how to be more critical of management.

We have developed this website and our own methods in an effort to modernize Graham’s teachings, and we have updated many of his basic requirements of companies. For example, Graham suggested that defensive investors shy away from companies with less than $100 million in annual sales. We update that by requiring a market cap of $2 billion for the defensive investor.

Additionally, we use a number of different approaches to traditional terminology. Here is a short explanation of some of our terminology:

Intrinsic Value – In The Intelligent Investor, Benjamin Graham presents a formula as follows:  Intrinsic Value = EPS x (8.5 + 2g).  After studying this model we found that it does provide a solid foundation for determining value.  In modernizing the formula, we changed the EPS used to our normalized EPSmg.  We also looked at the 8.5 factor and determined in this post that if you are looking at a no growth company (thus making the formula be EPS x 8.5), you are left with a perpetuity of the current earnings level.  Therefore, the 8.5 comes from the valuation of a perpetuity (V = earnings / discount factor) with a discount factor of 11.76%, which is near the long-term average return on equities.  We also have a calculator page where you can run the formula.

EPSmg – Graham taught us to normalize the earnings in order to determine what level of earnings can be expected in the future.  As a result, instead of using the current EPS, we use a 5 year weighted average of the diluted EPS to determine a the EPSmg level.  The weights are based on a sum of the years digits method (often used for depreciation) with emphasis on the most current annual periods.

Estimates – We make a very conservative estimate when determining what the future earnings may be.  Earnings estimates are often wrong and we limit our forecasts to a maximum of three quarters.  Specifically, if the first quarter actual earnings are not available at the time of valuation, we do not make any estimate on the next fiscal year.  If the first quarter actuals are available, we will use the lowest published analyst estimate for the remaining quarters in the company’s fiscal year.  If the first and second quarter actuals are available, we add those to the lowest published estimates for the third and fourth quarters to determine our fiscal year estimate.  If the third quarter actuals are available, we add the lowest published estimate for the fourth quarter to the actuals produced in the three quarters to date.

Growth – Our estimate for growth is based on taking the growth in EPSmg from the current period (or estimate) less the EPSmg from five years prior.  The average over the period is then taken, subject to a safety margin of 0.75 of the result, and capped at 15%.  For example, given a current EPSmg of $5 and a five years prior value of $3.50, the overall growth would be 42.9%.  The average annual growth over the period would be 8.56%.  Subject to a 0.75 safety of margin-multiple, the estimate of growth would then be 6.42%.  Since this is less than 15%, the cap does not apply.

PEmg Ratio – The PEmg ratio is the Price divided by the EPSmg.

Defensive and Enterprising Investors – Graham taught that a Defensive Investor is one who is not willing or able to take the time to do extremely thorough research.  As a result, the defensive investor must seek companies that have very solid financials in order to minimize the risk of losing an investment.  An Enterprising Investor is willing and able to do more research on potential investments, and as a result is able to take on slightly higher risk through investing in companies that do not hold as strong financial positions.  Graham suggested some basic requirements for each type of investor, and we have updated those requirements to fit today’s marketplace.  Every company valued by ModernGraham must go through a series of tests to determine whether it would be suitable for a Defensive Investor or an Enterprising Investor.  If it is not suitable for either type of investor, the company is deemed to be speculative.

Quote Naming Contest

 The Contest is now closed.  Thank you all for participating.  The answers are listed below.

 We have a couple of copies of the new edition of Warren Buffett Speaks:  Wit and Wisdom from the World’s Greatest Investor by Janet Lowe to give away and we think you would all love the book.  As a result, we will be holding a contest.  The first two people to name the people behind the following quotes will receive a free copy of the book.  Please send your entries to ben@moderngraham.com.  If no one can name all 8 correctly, the two earliest received entries with the most correct will receive a copy of the book. 

 

Get your entries in as soon as you can – we will be announcing the winners and giving away the answers in the next few days.

On to the quotes:

1)  "I’d be a bum on the street with a tin cup if the markets were efficient "  Warren Buffett

2)  “You are neither right nor wrong because the crowd disagrees with you.  You are right (or wrong) because your data and reasoning are right (or wrong).”  Benjamin Graham

3)  “Rule Number One:  Never Lose Money.  Rule Number Two:  Never forget rule number one.”  Warren Buffett

4)  “All Intelligent Investing Is Value Investing”  Charlie Munger

5)  "The stock market is filled with individuals who know the price of everything, but the value of nothing."  Philip Fisher

6)  “Forgetting your mistakes is a terrible error if you are trying to improve your cognition.”  Charlie Munger

7)  “The individual investor should act consistently as an investor and not as a speculator.  This means… that he should be able to justify every purchase he makes and each price he pays by impersonal, objective reasoning that satisfies him that he is getting more than his money’s worth for his purchase.”  Benjamin Graham

8)  “Be fearful when others are greedy and greedy only when others are fearful.”   Warren Buffett

Christmas Reflections

We would like to wish you all a Merry Christmas and a Happy Holiday to all who celebrate differently. 

 

Here are some thoughts to reflect upon this year:

 

Around this time of year I often find myself turning my eyes towards the sky – the stars come out so early that it is difficult to resist the urge to observe the amazing sights.  This year as I did that, I was reminded of the story of the scholars (Magi) from the East.  I wanted to learn more about their story, so I looked up a few things. 

 

Did you know that around the time of Jesus’ birth, Jupiter and Saturn were aligned in an extremely rare astrological event – many people believe this was the “star” that the scholars saw that led them to the manger.  The word “Magi” refers to a group of scholars during Jesus’ time that were dedicated to the study of astrology (this subject was the predecessor to astronomy and advanced math).  Magi were very attune to movements in the stars and the alignment of Saturn and Jupiter was sure to attract their attention – a sign from God that something important was happening.

 

The scholars played a critical role in the Christmas story.  Because they had faith in their studies and that God was giving them a sign, they set out to find what they were supposed to see.  In the meantime, King Herod heard they were looking for the King of the Jews, became nervous, and plotted to kill the baby – a plot that was sabotaged by the scholars.

 

The Message translation of the Bible portrays the story of the scholars this way:

 

After Jesus was born in Bethlehem village, Judah territory – this was during Herod’s kingship – a band of scholars arrived in Jerusalem from the East.  They asked around, “Where can we find and pay homage to the newborn King of the Jews?  We observed a star in the eastern sky that signaled his birth.  We’re on pilgrimage to worship him.”
When word of their inquiry got to Herod, he was terrified – and not Herod alone, but most of Jerusalem as well.  Herod lost no time.  He gathered all the high priests and religion scholars in the city together and asked, “Where is the Messiah supposed to be born?”
They told him, “Bethlehem, Judah territory.  The prophet Micah wrote it plainly:  It’s you, Bethlehem, in Judah’s land, no longer bringing up the rear.  From you will come the leader who will shepherd-rule my people, my Israel.”
Herod then arranged a secret meeting with the scholars from the East.  Pretending to be as devout as they were, he got them to tell him exactly when the birth-announcement star appeared.  Then he told them the prophecy about Bethlehem, and said, “Go find this child.  Leave no stone unturned.  As soon as you find him, send word and I’ll join you at once in your worship.”
Instructed by the king, they set off.  Then the star appeared again, the same star they had seen in the eastern skies.  It led them on until it hovered over the place of the child.  They could hardly contain themselves:  They were in the right place!  They had arrived at the right time!
They entered the house and saw the child in the arms of Mary, his mother.  Overcome, they kneeled and worshiped him.  Then they opened their luggage and presented gifts:  gold, frankincense, myrrh.
In a dream, they were warned not to report back to Herod.  So they worked out another route, left the territory without being seen, and return to their own country. (Matthew 2: 1-12)

 

One sentence from the passage speaks to me more than any other:  “Overcome, they kneeled and worshiped him.”  I can only imagine how it must have felt to be there, to be a witness to the beginning of the coming of the Messiah and the fulfillment of prophecy.  This Christmas, I encourage you to reflect upon the impact the scholars had on the story of Jesus’ birth and imagine yourself in their shoes.  How wonderful it would have been to witness it first hand!  One day we will all be able to experience the joy of seeing Jesus when he comes again.

Company Review – McGraw Hill Companies

McGraw Hill Companies

As always our valuation follows Warren Buffett’s approach for the business review, and Benjamin Graham’s method for equity valuation. Please note our methods are clearly described on our website.

Business and Management Review

1) Is the business simple and understandable?

The McGraw-Hill Companies, Inc. is an information services provider serving the financial services, education and business information markets. Other markets include energy, construction, aerospace and defense, and marketing information services. It serves customers through a range of distribution channels, including printed books, magazines and newsletters, online via Internet Websites and digital platforms, through wireless and traditional on-air broadcasting, and through a variety of conferences and trade shows. The company’s basic business model is to sell these products to individuals and corporations and the company is susceptible to macroeconomic conditions.  

2) Does the business have a consistent operating history?

The operating history of the company is strong given the analytical data provided below. Both earnings and dividends have grown over time. Being in the publishing industry the demand for their product is fairly predictable, and even with the emergence of digital delivery of the content, the company has been able to change with the times and alter their business model.

3) Does the business have favorable long term prospects?

Given the nature of the industry there will be continued pressure from digital delivery, but as long as they continue to innovate and move with technology they should be able to have the same success they have enjoyed. The textbook publishing division of the company should continue to have the success they have seen, especially considering that they have no competition in terms of other content providers besides other competing publishers.

4) Is management rationale?

With a very low debt to equity ratio we feel that management is not over leveraging their shareholders, and even could have missed opportunities in years past to take on more debt to expand for larger projects. With that being said, however, we still feel that management is acting in the best interests of shareholders. The company also states that they have returned over 5 billion in cash to their shareholders through dividends and share repurchases.

5) Is management candid with its shareholders?

The investor relation page is quite extensive and overall we are happy with the level of communication they have with shareholders. Typical information one would expect is present and easily available.

6) Does management resist the institutional imperative?

Given the low levels of debt and the dividend and share repurchase record, we fell they are resisting this urge.

Financial and Value Review
 

Defensive:

1) Size of firm

McGraw Hill’s market capitalization is about 24 billion which surpasses the 2 billion requirements.

2) Strong financial condition

McGraw Hill fails this test as their current ratio is below 2 (it is 1.16).

3) Earnings stability

The company passes this test as net income has been positive for the prior ten years.

4) Dividend record

The company passes this test as they have paid dividends for the past ten years.

5) Price to earnings analysis

With a P/E ratio of 28 it fails the test of being below 20.

6) Price to assets analysis

With a P/B of over 7 the company fails the test of being below 1.5.

Enterprising:
1) Strong financial condition

Current ratio of the company fails the test.

2) Earnings stability

Company passes the test of having positive net income for the five years prior.

3) Dividend record

The company currently pays a divided, therefore, passes the test.

4) Earnings growth

Earnings are greater than five years prior; therefore, McGraw Hill passes the test.

Valuation:
Our valuation puts a fair price for the company at $32 a share showing they are quite overpriced purely on a valuation approach.
 

Opinion:
We agree in principle that the company is overpriced, but we do not feel the gap is as large as the valuation dictates. We would be comfortable paying a small premium to own this company and would put a fair value at $45 a share. Therefore, the company would need to reduce in share price significantly in order to meet our amended standards.

Neither of us held a position in McGraw Hill at the time of publication.  Also, please read our disclaimer and Our Methods.

Please register and discuss this article in our forums.  Your comments help us mold our future articles.

 

 

Undervalued Company of the Week – BHS

The company of the week this week is Brookfield Homes Corp. (BHS), a homebuilder with operations in California and Washington.  As we did last week, we will be looking reviewing the company using Warren Buffett’s approach for the Business & Management Review.  We will also use Benjamin Graham’s overall philosophies to guide our Financial & Value Review.

Business & Management Review

1.  Is the business simple and understandable?

     Brookfield Homes is not in a complicated industry.  They are in the business of constructing homes and selling them to luxury and move-up buyers. 

2.  Does the business have a consistent operating history?

     Brookfield Homes was spun off from Brookfield Properties Corporation in January of 2003 in order for Brookfield Properties to strengthen its pure play strategy in the premium property business.  Brookfield Properties was founded in the 1920s and has been successful in the real estate industry throughout its history.  Since the spin-off, Brookfield Homes has experienced excellent growth in its operations along with virtually all other homebuilders.  Usually we would seek companies that have attained a more apparent consistency in their history, but we believe the history of Brookfield Properties must be taken into account.  Brookfield Homes is not a mere start-up that is only 3 years old – the company has a considerably longer history as a division of Brookfield Properties.

3.  Does the business have favorable long-term prospects?

     The focus here is on the long-term.  Home prices may fall in the next year or so, but over the long term the company is sure to remain profitable.  As the target customer of Brookfield Homes is the upper-middle class, we believe the company has the potential to be resistant to downturns in the economy.  Also, the company’s main focus is on properties in California where the land value over the long-term is sure to continue to rise.  California will always be a location where people are driven to live – we cannot say the same with certainty for a homebuilder focused on building luxury subdivisions in North Dakota.

4.  Is management rational?

    We believe management to be rational.  The management is focused on the long-term prospects of the company and interests of the shareholders.  The company is working and planning over 7 years ahead, targeting properties and planning construction projects.  We believe this approach will benefit the company over the long-term, as management is not discouraged by the prospect of lower prices in the short-run.

5.  Is management candid with its shareholders?

     Brookfield Homes has an average to below-average investor relations website.  While all of the required information and annual reports are available, we have seen better and have come to expect more disclosure and candor with shareholders.  More messages directly from the management would be appreciated so prospective investors can get a better feel for the people they place their money in.

6.  Does management resist the institutional imperative?

    We believe the company’s management resists the institutional imperative.  However, as mentioned in the previous point, we would like to be provided with more information from the management to confirm this. 
 

Financial and Value Review

Upon our review, we find Brookfield Homes Corporation to be suitable for the enterprising investor but not the defensive investor following Benjamin Graham’s value investing strategy.  The company’s size, current ratio, and lack of an independent operating history of at least 10 years eliminate it from the defensive investor’s portfolio.  With a PE ratio (see Our Methods) of 7.11 and an ROIC of 16.10%, we believe this is an excellent investment opportunity.

We believe the company has potential to reach $52/share in the next few years.  We even find that if the company delivers a measly 5% growth rate over the long-term, its earnings should be valued at $43.

Neither of us held a position in Brookfield Homes Corporation at the time of publication.  Also, please read our disclaimer and Our Methods.

Please register and discuss this article in our forums.  Your comments help us mold our future articles.

 


Company of the Week – Westwood One (WON)

The company of the week this week is Westwood One, Inc. (WON), the radio communications company that provides News, Sports, Traffic, and other programming to numerous affiliates across the nation.  As we did last week, we will be looking reviewing the company using Warren Buffett’s approach for the Business & Management Review.  We will also use Benjamin Graham’s overall philosophies to guide our Financial & Value Review.

Business & Management Review

1.  Is the business simple and understandable?

     The company sells advertising space on its radio station affiliates across the nation in exchange for the programming it provides to those affiliates.  In the past this has been a simple business and though the landscape of the industry is changing, the overall business plan remains the same.

2.  Does the business have a consistent operating history?

     The company was founded in the 1970s and has grown over the last 30 years to be one of the largest radio networks.  Financially, the company has provided a positive net income for over 10 straight years, has grown its earnings per share over the last 10 years, and recently began paying a dividend.

3.  Does the business have favorable long-term prospects?

     The last couple of years the company has faced an increase in competition with the advent of satellite radio and mp3 players.  The industry has changed, and so must the company’s approach.  During my research on the company, I discovered a past article from The Wall Street Journal.  The article mentions the problems the company is facing, and highlights the approach new President and CEO Peter Kosann is taking.  According to the article, “Mr. Kosann has cut around 100 jobs, recruited new executives and introduced initiatives to get Westwood onto new platforms, such as iPods and mobile phones.  But his biggest plan is simply trying to improve the programming lineup.”  We believe Mr. Kosann is right on target with his plan.  Technology has improved – the company must adapt itself to the changes, but first and foremost must ensure its programming is the best it can be.  Westwood One appears to be setting itself in position to move forward and resume its growth.

4.  Is management rational?

    As mentioned in the previous point, it appears that management is on the right track and is rational in realizing that its previous approach to the business will not entirely fly in the future.  With the significant changes in radio and music technology, the management must rethink its strategy.  The board of directors was wise to put a young sales executive at the helm of the company – an action that instantly injects youth into the company.

5.  Is management candid with its shareholders?

     Westwood One’s investor relations page on their website needs to be radically improved.  It only provides annual and quarterly reports, corporate governance information, and press releases.  In addition, the company profile page is very basic and does not provide any information that is not available on all financial resource websites.  However, the url of the investor relations page is:  http://www.westwoodone.com/pg/jsp/aboutus/aboutus.jsp

6.  Does management resist the institutional imperative?

    As the management of the company has only recently been hired, it is difficult to ascertain whether they will resist the institutional imperative.  However, we are optimistic that the management will resist blandly following the methods of fellow executives and be innovative into the future.
 

Financial and Value Review

Upon our review, we find Westwood One to be suitable for the enterprising investor following Benjamin Graham’s value investing strategy, but not suitable for the defensive investor.  The company is too small for the defensive investor, does not have a significant dividend history, and does not have a current ratio high enough for the defensive investor.  However, we find the company to have a PE ratio of 7.66, and a price to book ratio of 0.88. 

We believe the company has potential to reach $16/share in the next few years. 

Neither of us held a position in Westwood One at the time of publication.  Also, please read our disclaimer and Our Methods.

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