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Does this valuation make sense?


WeiChiLoh

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A company that provides a commoditized, capital intensive, low ROIC (infact ROIC is below WACC) service that does not have organic growth opportunities selling at 1.87x tangible book when the revenue generating assets are marked using mark to model.

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It seems to me that because growth is actually value destructive, and returns are largely asset based, at best, the company shld be valued at 1x tangibles. AND that is when the company determines its asset value, which is the majority of the asset side of the balance sheet, with mark to model which could have used aggressive assumptions.

 

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what does the asset base look like? is accrual accounting messing with the ROIC? is cash return > wacc? any opportunities for lowering the wacc which the market may be pricing in? are margins at normalized levels or is there opportunity to expand them?

 

just random questions to think about!

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Some other things to think about - what does return on tangible cap look like? What does it look like through a cycle? Is the low IC because of bad deals? If not who or why are there people in the industry willing to take such lower returns? Is there a participant with a low cost of capital? What is the shape of the cost curve? Are there sunk assets that are still cash breakeven on a marginal costs basis? What needs to happen for those bad assets to close? 

 

Unless there is a path and a clear economic rational for this to be come a CoC ROTC business (and actually it needs to be much more to justify the current valuation) then its def not worth almost 2x tang book.  Actually if its less than CoC the only reason to own it is because it trades at a big enough discount to book that you can liquidate it slowly and earn a decent return.  Otherwise you are in for a life of slowly getting diluted and levering the Balance Sheet.

 

Another thought is that they've mismarked their assets, but that just means its still expensive

 

 

Would also add - I don't generally find it that useful to think much about why the market values something where it does.

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