lu_hawk

There can be "stock market reasons" why spinoffs can be good investments, and there can also be conventional business reasons. The "stock market reasons" have to do with the trading in the stock and have been discussed (e.g., forced selling for funds with a mandate that doesn't allow them to hold, price insensitive selling for people who find themselves owning an insignificant position in the spin because of its small size relative to the parent, the spin will often be an "ugly" business compared to the parent). The business reasons are varied, but one that would be pretty consistent across all spin-offs has to do with the new incentives that exist after the spin-off. (I.e., the life/dinner principle--the rabbit runs faster than the fox because the rabbit is running for his life, while the fox is running for his dinner). Say a company has two segments, with one business unit that amounts to 5% of its total sales and 2% of its total profit, while the other unit accounts for the remaining 95% of sales and 98% of profits. And say the smaller unit is also in a declining industry. Well, in that case the company is unlikely to expend much effort to improve the results of the smaller unit. It simply wouldn't be very efficient to do so. They would have to double profits at the smaller unit to have the same effect as increasing profits by only 3% at the larger unit. And for management teams who get paid with stock options, the results of the smaller unit will have almost no effect on the total valuation of the company and its stock. It's almost irrational for such a management team to work at all on improving the results of the smaller unit. But once that smaller unit is spun off, the operations of that small unit now become of primary importance for the new management team (it becomes the rabbit's life, not the fox's dinner), and they have the right incentives in place because they will have stock options in the spinoff. So this can lead to a real increase in the value of the spun off company that would not have happened had it remained part of the parent company. Another reason that you'll often see is regulatory/legal. Sometimes because of regulatory or legal reasons, the spun off business can do better simply by not being a part of the parent company anymore. An example is the LLL/EGL spin-off from a couple years ago. The EGL business can basically be described as a temp/staffing agency that employs people with security clearances and contracts them out to the Dep't of Defense or other gov't agency(Edward Snowden worked for Booz Allen Hamilton, which is a similar company to EGL). Margins for the EGL business are low and the cash flow characteristics are not good because (like many federal contractors) they carry a large receivables balance that is not offset by a similarly-sized payables balance (they have to pay their workers every 2 weeks, hence no real payables balance, but the gov't does not pay them until about 70 days later, hence the large receivables balance). The parent company's main business--designing and manufacturing high-tech defense hardware--is a much "better" business on almost every metric, and was much bigger on an absolute basis. The regulation at issue here is the Organizational Conflict of Interest rule (OCI), which says that a company can provide one of the above services on a single project, but not both. So before the spin, LLL could supply hardware to a certain project, or it could supply the people, but it could not do both. The idea behind the rule is that if employees from a certain company work on a project, then they would have the incentive to steer purchases of hardware to that company, and that incentive might lead to bad outcomes. In practice, the hardware business always had priority because there was much more potential profit there. So if the hardware business bid for the contract on a certain project, then the EGL business simply would not bid on that same project so as not to put the hardware bid in jeopardy. By getting spun off from LLL, the EGL business was no longer subject to that constraint, and projects that previously would have been off-limits to them (because the hardware business was going to bid on it or was already working on it), could now be bid on. (The SAIC spin was done for the same reasons. But it was done a little over a year after the EGL spin was done and by that time the general rally had progressed to where it wasn't common to see spin-offs really sell off much.) So there are the stock market reasons that might allow you to buy the stock cheaply, but there are often real business reasons why the spun off company is worth more as an independent entity.

The vast majority of the 'commons' are enforced as such by governments. The solution to the tragedy of the commons is private ownership. Private ownership IS a form of government regulation. Who determines who owns what? Who enforces property rights? If the government collapsed tomorrow, what would happen to your private property? Private property only exists where a government says it exists. In the fishery example, you give people "shares" of the fishery that can be exploited personally, or that can be bought and sold. The fishery is now "privately owned." This has been done, and there are examples of this type of scheme working very well in ensuring the long-term health of the fishery and in maximizing the economic value obtained. It's "private ownership" but it's still a form of government regulation, as all "private ownership" is.

The example where even an economist would tell you a free market is bad is any type of scenario that would lead to a "tragedy of the commons" situation. You have a resource that is sufficient to sustain a population, or a region, or a nation, etc. If the resource is well-regulated then this resource will last indefinitely, and everyone will prosper. The resource is sufficient to meet everyone's basic needs, and can provide for a little more and produce a comfortable lifestyle. And if everyone exploits the resource just to attain a comfortable lifestyle, then it will last indefinitely. But self-interest dictates that most people are going to want to take a little more than what they need for a comfortable lifestyle, so they can have the nicest car on the block. And seeing this, everyone else starts grabbing more, before it runs out. Which just feeds on itself and escalates. And pretty soon, the resource that could have lasted indefinitely is now gone and everyone is poorer for it. This can be avoided with government regulation, but without regulation it's nearly inevitable that the resource will be quickly depleted. The classic example is a fishery. Without regulation of how many fish can be caught, and general management of the fishery, the fishery will be depleted. But with regulation, the fishery may be sustained for a long time.

Nobody had a tough time valuing Apple before the iPod--it was valued at cash on the books.

+1 I think almost all value investors recognize that market timing doesn't work, yet they seem to do it with their cash positions all the time. Decreeing that 15% of your portfolio should be in cash, for example, because the market looks frothy is still market timing. If you hold a certain amount of cash simply because of what you think about the market, then that is probably market-timing. If a bottoms-up approach isn't able to find many investments that are safe and cheap then you should hold cash. And many people probably are holding cash now because of this. Also, it's important to consider opportunity costs. Both opportunity costs of not being invested, and opportunity costs of not having cash when you wish you did have it. The opportunity cost of holding cash rather than investments is fairly low now, because rates are low and valuations are fairly high. So I don't believe you are losing out on much by holding cash now. And "opportunity cost" has to be thought of separately from short-term market return; sure, you could have bought stock in a mediocre company at a mediocre valuation in the past year, and it is probably up 50% in 6 months, but I am talking about long-term expected returns. And on the flipside, there is the opportunity cost of not having cash when you want it, which has to be considered when you are thinking about the opportunity costs of holding cash. Or, another way of saying this is Munger's adage that "it's the waiting around that is important."

Very difficult to find good ideas, more difficult than any other time. People sometimes compare this to 2000, but that is misguided IMO. In 2000, tech stocks were crazy, and the big indexes (and the stocks in those indexes) were up a lot and were not cheap. But what was going on with the tech stocks and the indexes was not broad-based; everything else was ignored, especially small-cap non-tech stocks, and there were legitimate small-cap businesses trading at 5x earnings or less. That is why so many value investors did so well in the early 2000s -- the tail end of the dotcom bubble was actually one of the most fertile time periods to find value ideas despite what the indexes were doing, especially among small caps (although many value investors got fired by their clients for not living up to what the market was doing). When the dotcoms and tech crashed, the rest of the market got more sane as well, meaning that those legitimate businesses at less than 5x earnings went up to a more appropriate valuation. Now, the market rally is very broad-based. Which has led to some cargo-cult value investing (go through the motions without a true understanding) and leads to people overestimating their abilities, because just about every stock has gone up a lot, no matter what it is. I cringe when I see people say that it is still very easy to find ideas, or that certain things are a no-brainer. I don't think there is a proper respect for the risks involved, and I think there is an overestimation of skill level based on individuals' performance over the past several years.

I think it would be instructive to see what % of folks on here were investing before 2008-2009 and went through that time period. I say that because the market in 2007 was not all that different from now: valuations stretched in general, if you stuck with the "shooting fish in a barrel" approach to investing then you would have a very tough time being fully invested, and many people had a hard time keeping strict discipline when everyone around them was making a lot of money. But if you did get fully invested or close to it by buying things that looked relatively cheap, especially if you were in small caps and other stuff that was not very liquid, then you lost over 50% when the market fell, and could have easily lost 80% (plenty of seemingly smart investors suffered losses of this magnitude). And if you were fully invested then not only did you see your net worth decline dramatically, but much more importantly, you did not have the cash available to buy during a possibly once-in-a-lifetime opportunity. After all, you can always buy stocks at 15x-20x earnings, but huge portions of the market selling at 5x or less? It's those kinds of rare opportunities that you need to be able to capitalize on. It seems the sentiment on this board is firmly in the "greedy" area of the greed/fear spectrum (lots of posts about "What are you BUYING today?" for example). The market for the past 5 years has seemingly indiscriminately rewarded owning stocks, and some of the worst companies have rewarded shareholders the most (e.g., the highest returns are among the most highly shorted stocks). And for people that weren't around during 2008-2009, it would serve well to remember this, that the market has indiscriminately rewarded owning stocks. You may be a very smart investor, but what I am saying that your returns over the past 5 years may not be an accurate assessment on who is smart and who is not. After all, the last 5 years is the ONLY 5 year period ever that Buffett has not grown book value in excess of the return on the S&P 500. Some will quickly dismiss this because Buffett has too much capital and cannot buy the things that the members of this board can buy, but I would venture that this shows that performance over the last 5 years is not necessarily indicative of skill or predictive of future performance. Be greedy when others are fearful, and fearful when others are greedy. You have to get both of those right for either of them to work.

Seems to me that the NOL will be preserved, but will be subject to the Section 382 rate of use limitations which could seriously impair their value. The applicable law is in Section 382(L)(5) of the internal revenue code. Seems the sticking point will be that most of the new stock was purchased in a rights offering, and this defeats the provision in (L)(5)E) that requires the stock received by creditors to be received in satisfaction of the debt. I don't think the rights offering shares would qualify as they were purchased for new and additional consideration rather than simply being distributed in exchange for the debt. Have not confirmed this however, you may be able to find some precedent discussing the implications of a rights offering wrt change of control for NOL purposes.

I feel like the OP's question is the kind of question that will be asked a lot when the market is up a bunch and people are feeling good about their investment skill, and won't be asked nearly as much if the market is down and people are hurting from recent losses and are questioning their abilities more than usual. So keep that in perspective when making your decision: you are going to go through periods where you lose money on your portfolio. The effect of that on your finances and your sanity will be different depending on if you borrow to invest or if you pay cash. Not that I am saying you definitely should not borrow the money, just that you need to take a longer view of things when deciding.