Fernando MonteiroEquity for Debt
May 10th 2009 11:11
It is rather amazing to state that in the current economic climate there is no shortage of equity capital to fund the many capital raisings we have been hearing about. In fact, companies such as Fairfax Holdings, Qantas, Macquarie Group, most of the big four banks and so on have raised quite a few billion dollars in equity. What was the use given to that new equity? With the only exception of Macquarie, which keeps it as a reserve to buy assets when opportunity arises, it was to reform debt.
This brings up two realisations: (a) that there is a lot of equity capital around and ready to be deployed; (b) that there is a belief in the market that there are about a lot of valuable business which given the chance of retiring their debt, would be good investments.
I marvel at every capital raising which ends up oversubscribed. I suppose we in Australia are fortunate. Were we into a protracted economic recession, had it begun a much longer time ago and I wonder whether there would be so much equity capital around, especially considering that then the accounting losses would have accumulated and eaten it up mostly.
What is also to wonder at is that the market knows that the equity raised is to replace debt, which is not a very productive way to use money, but it still goes ahead with it. This to me means that there is a belief in the underlying economics of most of these businesses and the realisation that in current economic times, with prices so much below their peak, buying is what you should be doing.
In fact, the bear market has been so deep – the stock market is down 54.5 per cent since its peak while it was down 1/3 during the Great Depression – that even good, debtless businesses are hammered down.
Consider Radio Rentals, an amazing business who rents electronics, household goods and furniture, office and gym equipment. It markets to the sub-prime market which is credit strapped but income and cash rich. Radio Rentals is very profitable and cash flow is its strength so much so that it funds all its operation from it and has no debt. Yet, given the down market its price fell from $1.00 in November 2007 to 41.5 cents and is now 59 cents, while its book value stands at 47 cents.
If Radio Rentals stands to my intrinsic value calculation of between $1.50 and $2.00, buying it now is the right thing to do. And like this there are so many wonderful business whose prices are a true bargain today and not to be found again soon.
This brings up two realisations: (a) that there is a lot of equity capital around and ready to be deployed; (b) that there is a belief in the market that there are about a lot of valuable business which given the chance of retiring their debt, would be good investments.
I marvel at every capital raising which ends up oversubscribed. I suppose we in Australia are fortunate. Were we into a protracted economic recession, had it begun a much longer time ago and I wonder whether there would be so much equity capital around, especially considering that then the accounting losses would have accumulated and eaten it up mostly.
What is also to wonder at is that the market knows that the equity raised is to replace debt, which is not a very productive way to use money, but it still goes ahead with it. This to me means that there is a belief in the underlying economics of most of these businesses and the realisation that in current economic times, with prices so much below their peak, buying is what you should be doing.
In fact, the bear market has been so deep – the stock market is down 54.5 per cent since its peak while it was down 1/3 during the Great Depression – that even good, debtless businesses are hammered down.
Consider Radio Rentals, an amazing business who rents electronics, household goods and furniture, office and gym equipment. It markets to the sub-prime market which is credit strapped but income and cash rich. Radio Rentals is very profitable and cash flow is its strength so much so that it funds all its operation from it and has no debt. Yet, given the down market its price fell from $1.00 in November 2007 to 41.5 cents and is now 59 cents, while its book value stands at 47 cents.
If Radio Rentals stands to my intrinsic value calculation of between $1.50 and $2.00, buying it now is the right thing to do. And like this there are so many wonderful business whose prices are a true bargain today and not to be found again soon.
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Comment by Michael Kindel
Schmoozer
Mike Kindel
The Schmoozer