Special Situations Investing Pdf

1. Special Situations Investing Pdf
2. Special Situation Stocks

Sometimes you have to make an exception.A value investor is someone who looks to buy stocks when they are trading at a discount.But what if there’s an opportunity that’s too good to pass up? An opportunity that exists outside of your usual paradigm?Jim Rogers often talks about simplifying his thinking. He sits there and will not make a move until there’s money lying on the floor, waiting for him to pick it up.What if there were money on the floor – would you make an exception then?That’s what investing in special situations is all about – buying a security based on a specific event or situation that has the potential to affect share prices, rather than the underlying fundamentals of the stock itself. What is Special Situations Investing?Special situations indicate events that do not occur regularly. As fundamentals investors, we are used to looking at various business indicators and valuation ratios to arrive at an “intrinsic value” of the stock.

The typical investment cycle goes like this:. Find an.

Assess the risk in the stock. Decide how much to allocate if the stock is attractive. Decide on the sale price, and purchase the stock. Hold and adjust if necessary, and finally,.

Sell the stock when it reaches the pre-determined sale price (or any of the 1 of the )But some times, this process falls apart due to unusual circumstances surrounding a stock (or a business).Most investors are not equipped to handle anything out of ordinary and will avoid these situations. An investor experienced in special situations investing however knows that there is a lot of money to be made by looking out for interesting scenarios and finding ways to profit from them. In some cases, valuation thesis can be made while in some other cases the opportunity can be fleeting and quick action is necessary.Special situations fall into a number of different categories:See also: Cash Payouts/AcquisitionsImagine you owned shares in a company like Tesla, trading at around $300 a share as of May 7, 2017.

Unbeknownst to you, General Motors has been cooking up a plan to acquire Tesla in order to shore up the electric vehicle market as well as give themselves an edge in the driverless car race.This may never happen in reality but when a company is acquired in this manner, current shareholders may be given an opportunity to sell their stock at prices above market value (i.e a premium paid above the market price), i.e. General Motors will offer you $350 per share.If you happen to own Tesla stock at the prevailing market price you could lock in a 17% return ($50/$300) on your investment.

These sorts of opportunities present themselves in company acquisitions and mergers.It is pretty much impossible to get the stock at the low price once an acquisition deal is announced. The markets react and adjust almost instantly. However, there is another way you can participate in acquisitions.?A large number of companies that remain undervalued for long periods are eventually acquired for a premium by a competitor or other industry player. This stands to reason as the acquiring company is perhaps the most informed and sophisticated investor in the market for this sector. A significantly large number of Value Stock Guide investments have been acquired resulting in significant profits for us and our members.This may not happen to every stock in your portfolio. It is not possible to reliably predict which companies will be acquired and when.

However, by positioning your portfolio to include undervalued businesses,you increase the odds significantly that you exit your investments with nice profits as some of your holdings are acquired. Company Breakups and SpinoffsA spinoff is a part of a larger company that is broken off and made to stand on its own as a corporate entity. Sometimes the spinoff is a profitable company on its own right and can be a fine investment.Spinoffs can be lucrative because of several reasons.

Opacity: There’s often not a lot of data available on spinoffs right away. This makes it hard for the market to properly value spinoffs and their share prices tend to stay low while the market catches up. Strong selling pressure drives prices down: When a spinoff occurs many investors are automatically given shares in the company by virtue of shareholder status in the parent company. Retail investors often dump their shares, either because they don’t want to take the time to understand the new business or because they feel like they were saddled with something they didn’t ask for. Larger, institutional investors may ditch their shares because they have rules on minimum amounts they must invest and the spinoffs don’t meet those thresholds. They would rather sell than hold and take the time to understand the new company. Index funds will sell the spun off equity as the spun off company is very likely not part of the index they trackIf the spinoff is actually valuable then the market will eventually wake up to its value but until then smart investors can make a good return by searching for promising spinoffs.Investing in spinoffs can be tricky at times.

If you know the intimate details of the business inside and out, you may have an edge over other investors and can come to a better valuation of the spun off company rather quickly. In most other cases, a reasonable profit can be generated by just acknowledging the fact that the stock of the spun off entity will be sold off mercilessly when the spinoff occurs, for no fundamental reason, and a in the stock will in most cases generate some nice profits in a reasonably short time frame (3 months – 1 year). LitigationThere are a few occasions when the value of a stock depends on the outcome of litigation.

The market tends to undervalue litigated assets, allowing investors to and realize fantastic returns once the lawsuit goes away.Sometimes bankruptcy falls under this umbrella – and savvy investors should know to look for situations when solvent companies, firms with valuable assets, file for bankruptcy. In these cases, shareholders tend to do pretty well.Republic Airlines filed for bankruptcy in early 2016; at the time they listed $2.97 billion in liabilities and $3.56 billion in assets, leaving the company with positive net assets. The company was actually trading for less than the amount of cash they had on hand, per share.While the company had decent financials, at the same time Delta Airlines had a lawsuit against Republic seeking $1 billion in damages, liquidity issues and a pilot shortage among other things. Obviously if the court ruled in favor of Delta it would make life extremely difficult for Republic Airlines but if Republic got a positive ruling then a shareholder could reasonably expect to do well – especially considering that the company resolved a lot of their issues in the first month after filing for Chapter 11.Think about how valuable it would be to have the ability to understand and forecast how this scenario would likely play out. Eventually Delta settled for $170 million dollars and also agreed to provide Republic with up to $75 million to help with their liquidity issues. Extreme Case of Special Situations Investing: Distressed Debt InvestingAn extreme example of buying valuable assets for pennies on the dollar arises when a business is being liquidated or under bankruptcy reorganization.

Often, the equity holders are wiped out, but the bond holders may not yet know how much of the value still exists in the business assets that they are likely to receive. Recall, bonds are senior claims on business assets compared to equity.

Even among bonds, some bonds may be more senior than others, and some debt may have assets backing up the debt while others may be unsecured. The dueling claims and counter claims of the lenders are often resolved in courts. The uncertainty of the final outcome forces these debt instruments to sell at significant discount to their real values.An intrepid investor with solid grounding in valuing assets and an ability to wait for the proceedings to pay out, can reap significant rewards by picking out some particularly with otherwise solid values. Most times, the risk lies in the wait and understanding of the legal due process, not necessarily in the actual investment itself. However, you should invest in distressed debt only once you are confident you know what you are doing.

Temporary Distress in Otherwise Healthy BusinessThe idea of mean reversion plays heavily in this theme and an investor can either invest in a distressed stock or a distressed, or declining industry as a whole.Now there’s obviously a difference between investing in a distressed industry that is experiencing a cyclical decline versus an industry that is going extinct. Once the issues that are plaguing the sector work themselves out, for example: high interest rates creating a shortage of readily available capital, then the industry will bounce back.(Actually, investing in a is much more nuanced but you can find investments that can reliably generate nice consistent profits year after year)Other times a firm suffers a reputational hit that also punishes their stock price. For instance, British Petroleum suffered greatly, and rightly so, when news of the oil spill in the Gulf of Mexico broke – an event that saw millions of barrels of oil deposited into the waters of the Gulf. In the months following the spill, British Petroleum saw its share price cut in half, dropping from $60 a share to under $30.Except nothing had changed in their fundamentals. Yes, they had perpetrated an economic disaster but an experienced distressed stock investor might look at the situation and realize that while their reputation and brand might be tarnished, their ability to make money remained.

We all have our ways of defining the characteristics of special situation investing scenarios. Microcap and nanocap stocks present an endless number of special situations. You can look for them to gain an edge in your investment strategy.When I participated in a newsletter panel (April 29 through April 31) at the Planet Microcap Showcase Conference in Las Vegas, Nevada, moderator Brian Balbirnie of Issuer Direct (NYSE MKT:ISDR) asked me to talk about the type of infection points and catalysts I look for when I am hunting for stocks to buy. You can view.Typically, I am looking for situations that will improve the growth and/or risk profile of a company. This can lead to a permanent or temporary expansion in valuation multiples.

I particularly enjoy spending a lot of time exploring the “ risk profile” part of this equation. Valuation And Discounted Cash FlowI am not a huge fan of strictly adhering to valuation models as a holy grail to determine what the fair value of stock prices should be. They require forecasting a set of assumptions that are unknown or will change over time.This tweet by @JSiegel88 sums this up:“DCF to us is sort of like Hubble telescope – you turn it fraction of inch & you’re in differnt galaxy”Third Ave. CIO & PM, Curtis Jensem– Jay Siegel (@JSiegel88)But formulas are logical in their construction and useful in seeing how changes in the inputs can impact stock prices.The assumed risk premium assumption embedded in the interest rate or cost of capital inputs is one of the key factors in discounted cash flow (DCF) analysis and stock pricing models like the Gordon Model.Here is a look at a standard Discounted Cash Flow Model and the Gordon Model:DCF Model EquationGordon ModelThe “r” and “k” in these formulas are going to incorporate the risk free rate of return PLUS risk premium assumptions.

Thus, simple math tells us that if the denominator of the equation decreases through a decrease of “r” or “k”, the price or cash flows will move higher if we keep all other inputs constant. Return On Invested CapitalValue investors like Warren Buffett and point to high ROIC as being the single most important factor that multi-baggers share. As risk comes down a company will be in a greater position to earn a higher return on its invested capital (ROIC).is a calculation used to assess a company’s efficiency at allocating the under its control to profitable investments. Return on invested capital gives a sense of how well a company is using its money to generate returns. Comparing a company’s return on capital (ROIC) with its reveals whether invested capital is being used effectively.The WAAC (cost to access capital) will come down for a company as its risk profile comes down (thus reducing the denominator).But you don’t need to visit these concepts to understand the role risk plays in valuation analysis.

Special Situations Investing Pdf

It’s just logical to assume that as a business becomes less risky there is a good chance that the market will place a higher value on its cash flows and that it will be less expensive for the management to grow the business. The Valuation Facade And Special Situation InvestingI love special situation investing plays that look expensive on a price to earnings (P/E) basis, even more so if the company is losing money, making the P/E irrelevant.

Special Situation Stocks

(GARP) Investors will ignore extremes as they look for undervalued companies. For example, they want stocks that are growing, but not too much such that growth will not be sustainable. Also, they don’t want P/Es that are too low (signifying that there could be unknown risks) or too high (sometimes implying that investor expectations are set too high). But these are the pockets where special situations can live.

Your job as an investor is not to assume that the market is efficient.A low P/E situation is great in that it could mean the stock is already cheap relative to its cash flows. If you can identify that the reason for the low P/E is due to some risk factors and then deduce that management will successfully address them you could see a swift and violent increase in the P/E ratio when risks are removed or reduced.When P/Es are high or not material due to low earnings levels or losses, I like to reference the price to sales, enterprise to sales and price to tangible book multiples. If these multiples are low, it could mean some major risks exist in the company.

If resolved, you could see these multiples expand. The EV/EBITDA is a nice way to search for companies that have high debt burdens, but are on the cusp of reducing debt. With the elimination or reduction of interest expense, the hidden value is more evident in earnings per share and P/Es. Microcap Investors Can ShineThis is where microcap investors shine since other investors ignore these stocks when they just look at trailing P/Es.

In fact, in his famous book, “”, Ben Graham advocates for using normalized P/E ratios so as to not put too much weight on the most recent results. I recommend that investors should try to develop special situation investing skills to eye up “troubled” companies where future cash flow will increase substantially.Listen closely to what value investing advocates like Peter Lynch and Warren Buffett have preached over the years. The value of the stock is the total value of its future earnings discounted back to the present —to reiterate, the FUTURE earnings!In part two of this special situation investing topic I will present different types of de-risking scenarios I look for to help me build wealth over time. GeoInvesting is an investment research boutique in Skippack, Pennsylvania.

The GeoTeam's focus is on providing high quality stock market research tools and in-depth due diligence on U.S. Small and micro-cap equities and on Chinese companies trading in China and the U.S. We research long and short ideas, and are the leading research boutique charged with helping investors navigate the treacherous China equity universe with a paramount goal to protect portfolios from fraud. Numerous notable media outlets have credited GEO We have been credited with exposing numerous fraudulent companies in China. We have built a reputation in the US small and micro-cap space as champions of transparency.On the long side, we have also developed a knack for picking stocks that have the propensity to get acquired at attractive premiums to their current prices.Our team is currently comprised of 13 analysts and traders, and 7 on-the-ground researchers in Mainland China.