Modern Security Analysis: Understanding Wall Street Fundamentals / Edition 1

Modern Security Analysis: Understanding Wall Street Fundamentals / Edition 1

ISBN-10:
1118390040
ISBN-13:
9781118390047
Pub. Date:
05/28/2013
Publisher:
Wiley

Hardcover

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Overview

Modern Security Analysis: Understanding Wall Street Fundamentals / Edition 1

A legendary value investor on security analysis for a modernera

This book outlines Whitman's approach to business and securityanalysis that departs from most conventional security analysts.This approach has more in common with corporate finance than itdoes with the conventional approach. The key factors in appraisinga company and its securities: 1) Credit worthiness, 2)Flows—both cash and earnings, 3) Long-term outlook, 4)Salable assets which can be disposed of without compromising thegoing concern, dynamics, 5) Resource conversions such as changes incontrol, mergers and acquisitions, going private, and major changesin assets or in liabilities, and 6) Access to capital.

  • Offers the security analysis value approach Martin Whitman hasused successfully since 1986
  • Details Whitman's unconventional approach to security analysisand offers information on the six key factors for appraising acompany
  • Contains the three most overemphasized factors used inconventional securities investing

Written by Martin J. Whitman and Fernando Diz, ModernSecurity Analysis meets the challenge of today's marketplace bytaking into account changes to regulation, market structures,instruments, and the speed and volume of trading.

Product Details

ISBN-13: 9781118390047
Publisher: Wiley
Publication date: 05/28/2013
Series: Wiley Finance Series , #861
Pages: 496
Product dimensions: 6.40(w) x 10.00(h) x 1.70(d)

About the Author

Martin J. Whitman is Chairman of the Third Avenue Fundsand founder of Third Avenue Management, an investment adviser toprivate and institutional clients. Mr. Whitman has proven for morethan fifty years that active, opportunistic investors can findunder-priced securities in companies with strong balance sheets. Heis also an adept control investor who was an important participantin the rehabilitation of Nabors Industries and Covanta Energy,among others. He was Third Avenue's Chief Investment Officer fromits founding through January 2010.

For over thirty years, Mr. Whitman was a DistinguishedManagement Fellow at the Yale School of Management. He is also anhonorary trustee at Syracuse University which is also home to theWhitman School of Management. He is a frequent speaker andcommentator within the financial services community.

Fernando Diz is the Managing Director of the Orange ValueFund, LLC, the Martin J. Whitman Professor of Finance and theDirector of the Ballentine Investment Institute at SyracuseUniversity. He teaches classes in value, control and distressinvesting and created and directs the two-year Orange Value Fundprogram. He is the co-author with Martin J. Whitman of DistressInvesting: Principles and Technique. Professor Diz received hisMSc and PhD degrees from Cornell University.

Table of Contents

Acknowledgments xv

Introduction 1

PART ONE The Foundations of Modern Business and SecurityAnalysis 9

CHAPTER 1 The Scope of Fundamental Finance, Investing, andthe Investor Landscape 11

Investing versus Speculating 12

The OPMI Defined 17

Activists 18

Summary 18

CHAPTER 2 A Short Introduction to the Going Concern andResource Conversion Views of Businesses 19

Methods of Wealth Creation 20

The Pure Going Concern View 21

The Resource Conversion View 23

Summary 25

CHAPTER 3 Substantive Consolidation and StructuralSubordination 27

Substantive Consolidation Not of Prime Importance 29

The Accounting for Stock Options Controversy in Light of theSubstantive Consolidation Doctrine 32

Structural Subordination Not a Signifi cant Factor 37

Lack of Progress in Eurozone Crisis Resolution: The Failure toUse Substantive Consolidation 40

Summary 41

CHAPTER 4 The Substantive Characteristics of Securities43

Types of Securities for Analytic Purposes 44

Control versus Non-Control Securities 44

Control and Non-Control Pricing and Arbitrage 45

Terms of Securities as Options 49

What a Security Is Depends on Where You Sit 50

Summary 55

CHAPTER 5 Primacy of the Income Account or Wealth Creation'What Are Earnings, Anyway? 57

Wealth or Earnings? 59

Infl uence of Reported Earnings on Common Stock Prices 61

The Long-Term Earnings Record 63

Parsing the Income Account 64

Summary 68

CHAPTER 6 Net Asset Value: The Static and Dynamic Views69

The Graham and Dodd View on NAV 71

The Financial Accounting View on NAV 72

Our View on NAV 73

The Usefulness of NAV in Security Analysis 75

The Importance of NAV Dynamics 78

NAV as One Measure of Resources 83

NAV as One Measure of Potential Liquidity 84

Limitations of NAV in Security Analyses 89

Large Premiums over Book Value Always Mean High P/E Ratios: ItDepends on ROE 93

Net Nets Redefined 94

OPMI Investing in Companies with Growing NAVs 96

Summary 101

CHAPTER 7 Creditworthiness 103

Creditworthiness from the Borrowing Entity Point of View 105

Capital Structure 107

Capital Structure from the Corporate Perspective 107

Factors Affecting Capital Structure 112

Conservative Capital Structures 117

Summary 118

CHAPTER 8 What Matters Is Investment Risk 119

There Is No General Risk—Only Specific Risk 120

The Components of Investment Risk 122

Successful People Avoid Investment Risk 123

Methods to Avoid Investment Risk 125

Safe and Cheap Investing and Minimizing Investment Risk 127

Summary 130

CHAPTER 9 Shareholder Distributions from the Company Point ofView 131

Cash Dividends or Retained Earnings 132

Stock Dividends 135

Stock Repurchases 138

Distribution of Assets Other than Cash 141

Liquidation 141

Summary 142

CHAPTER 10 Roles of Cash Dividends in Security Analysis andPortfolio Management 143

The Three Conventional Theories 145

Cash Dividends as a Factor in Market Performance 149

The Placebo Effect of Cash Dividends 151

Cash Dividends and Portfolio Management 151

Cash Dividends and Legal Lists 154

Cash Dividends and Bailouts 154

The Goals of Securities Holders 156

Summary 157

CHAPTER 11 The Appraisal of Managements and Growth: GARPversus GADCP 159

New Framework for the Appraisal of Managements 160

Managements Attuned to OPMI Interests 161

Managements as Resource Converters 162

Tradeoffs 165

Growth: GARP versus GADCP 166

Growth at a Reasonable Price (GARP) 167

Growth at Dirt Cheap Prices (GADCP) 168

Summary 170

CHAPTER 12 The Significance (or Lack of Signifi cance) ofMarket Performance 173

Market Performance and the Character of a Portfolio 176

Market Performance of Portfolios versus Individual Securities177

Outsiders, Insiders, and Market Price 179

Professional Money Managers and Beating the Market 180

Perspective on Bailouts and the Significance of MarketPerformance 181

Summary 182

CHAPTER 13 How Much Diversification? 185

Portfolio Diversification versus Securities Concentration186

Corporate Diversification versus Concentration 190

Summary 191

CHAPTER 14 Toward a General Theory of Market Efficiency193

The Determinants of Market Efficiency 195

External Forces Influencing Markets Explained 198

Great Economists Can Learn a Lot from Value Investors 199

Markets Where External Disciplines Seem to Be Lacking 206

Market Efficiency and Fair Prices in Takeovers 211

Summary 213

PART TWO Putting It All Together: Safe and Cheap Investingversus Conventional Approaches 215

CHAPTER 15 Safe and Cheap Investing 217

The Safe and Cheap Approach 218

Benefi ts of the Safe and Cheap Approach for the OPMI 220

Restrictions and Demands of the Safe and Cheap Approach 222

Summary 231

CHAPTER 16 Graham and Dodd Placed in Context 233

The OPMI Defined 235

The OPMI Perspective of Analysis 236

The Going Concern and Investment Company Views of Businesses238

Primacy of the Income Account and Wealth Creation 238

Primacy of the Income Account, Dividends, and Corporate Uses ofCash 240

Primacy of the Income Account and the Appraisal of Managements240

Primacy of the Income Account and Top-Down versus Bottom-UpAnalysis 241

Primacy of the Income Account and Diversification 241

Primacy of the Income Account and Growth Stocks 242

Market Risk versus Investment

Risk and Margin of Safety 242

The Importance of Market Performance 243

Uses and Limitations of Financial Accounting 244

Substantive Consolidation 245

Compensation of Promoters 245

Do Stock Market Prices Reflect Corporate Values? 245

Trade-Offs 247

Modern Capital Theory versus Graham and Dodd 247

Summary 248

CHAPTER 17 Academic Finance: Modern Capital Theory249

The MCT Point of View 253

Equilibrium Pricing Is Universally Applicable 254

The Outside Passive Minority Investor Is the Only RelevantMarket 260

Diversification Is a Necessary Protection against UnsystematicRisk 261

Systematic Risk Exists 262

Value Is Determined by Forecasts of Discounted Cash Flows262

Companies Are Analyzed Basically as Going Concerns; Investors inMarketable Securities Are Analyzed as Investment Companies 264

Investors Are Monolithic: Their Unitary Goal Is Risk-AdjustedTotal Return, Earned Consistently 266

Market Efficiency Means an Absence of Market Participants WhoEarn Excess Returns Consistently or Persistently 267

General Laws Are Important 269

Risk Is Defined as Market Risk 271

Macro Considerations Are Important 272

Creditor Control Is a Nonissue 273

Transaction Costs Are a Nonissue 273

Free Markets Are Better than Regulated Markets 273

The Outside Passive Minority Investor Market Is Better Informedthan Any Individual Investor 275

Markets Are Efficient or at Least Tend Toward an InstantaneousEfficiency 275

Summary 276

CHAPTER 18 Broker-Dealer Research Departments andConventional Money Managers 277

How Research Departments and Conventional Money Managers Think279

Problems Faced by Research Departments and Conventional MoneyManagers 282

Summary 292

PART THREE Real-World Considerations 295

CHAPTER 19 Uses and Limitations of Financial Accounting297

The Conventional Approaches 299

Financial Accounting Reports as Objective Benchmarks 302

Generally Accepted Accounting Principles as Defining

Reality for Certain Specifi c Purposes 309

Generally Accepted Accounting Principles as a Road Map for DueDiligence and Less Thorough Investigations 310

Summary 319

CHAPTER 20 Company Disclosures and Information: Following thePaper Trail in the United States 321

Narrative Disclosures in the United States 322

The Documents and How to Read Them 327

What the Paper Trail Does for the Outside Investor 328

What the Paper Trail Doesn’t Do 331

How Good Is the Paper Trail? 334

Summary 335

CHAPTER 21 Buying Securities in Bulk 337

Methods for Acquisition of Common Stocks 338

Acquisition of Voting Equities through Exchanges of Securities343

Acquisition of Control without Acquiring Securities by Using theProxy Machinery 345

Summary 346

PART FOUR Understanding Resource Conversion 347

CHAPTER 22 A Short Primer on Resource Conversion 349

Long-Term Arbitrage between OPMI Prices and Control Values350

More Aggressive Employment of Existing Assets 355

Merger and Acquisition Activity 355

Corporate Contests for Control 356

Going Private and Leveraged Buyouts 359

Summary 368

CHAPTER 23 Restructuring Troubled Companies 369

The Five Basic Truths of Distress Investing 370

Rehabilitation of Troubled Entities 380

Summary 391

CHAPTER 24 The Role of Government in Reorganizations393

Bailouts or Capital Infusions? 394

Too Big to Fail Is a Phony Concept 395

The Government and Private Sector Are in Partnership WhetherThey Like It or Not 396

Wall Street Professionals and Corporate Executives Are All inthe Business of Creating Moral Hazards 398

Taxpayer Bailouts Are a Phony Concept 398

Reorganizations of General Motors, Chrysler, and CIT Corporation399

Strict Regulation of Financial Institutions Is AbsolutelyNecessary 399

Summary 400

PART FIVE Active Investors Buy and Sell Common Stocks on anAdvantageous Basis 401

CHAPTER 25 The Economics of Private Equity Leveraged Buyouts403

The 2005 Acquisition of Hertz Global Holdings and SubsequentEvents as a Prime Example 404

Super-Attractive Access to Capital Markets 404

Cash Payments to Sponsors and Sponsor-Controlled Funds 409

Sponsors’ Control of Hertz 410

Sponsors Attuned to the Needs of Bankers and the Wall StreetUnderwriting Community 411

Questions about LBOs 412

Summary 413

CHAPTER 26 The Use of Creative Finance in a CorporateTakeover 415

The Case 415

The Postscript 427

Investment Lessons 428

The Appraisal of Management 430

Spotting Doable Deals 431

Summary 432

CHAPTER 27 The Use of Creative Finance to Benefit ControllingStockholders 433

The Problems Faced in the Schaefer Corporation Deal 435

The Background of the Deal 435

Discount Purchases of Restricted Corporate Stock 437

Corporation’s Acquisition of Brewing 440

Problems and Wealth Creation Potentials for the Parties inInterest 449

Summary 467

Glossary of Acronyms 469

About the Authors 471

Index 473

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