COMMENTARY | COLUMNISTS | BRENT WILSEY

More positive signs in American investment

I was happy to read so many positive responses to my column from last week, “Looking for bright spots in American business.”

Apparently, people are looking for some good news for a change. I hope the media will pick up on that and run some positive economic stories; I have a few ideas for them.

One response I received stood out with regard to the United States' strong intellectual property rights. Pat writes that his son works for a private company (I’m assuming it does business in China) and it doesn’t patent its innovations — rather, it keeps them proprietary.

When Pat asked why, his son replied that once it hits the patent office, the Chinese don’t respect the patent, and then steal the idea.

I’m sure many of you have heard about the lawsuit from the Department of Justice against Standard & Poor’s. Many have different feelings on the subject, I look at it from the investment angle. More specifically, since McGraw-Hill Cos. Inc. (NYSE: MHP) owns Standard & Poor’s, I wonder how will this affect the company and whether now is a good time to buy McGraw-Hill?

The stock was just at a 52-week high of $58.62 and now trades in the low to mid 40s.

A few things I liked about the company were that its debt to equity was only 67.1, compared to the industry average of 112.6, and a good return on equity of 39.5 percent. I have seen companies like this before, where they will take a short-term hit of 20-25 percent and then 12 months or so later will be back above that level.

I think that could be the case here, except for the following.

When I invest into a company — in what I call a special situation — I want to make sure I’m buying a strong company. When I looked at the valuation ratios for McGraw-Hill, I noticed that its price to tangible book value was not material.

So before I invest, I wanted to look at the balance sheet to understand more about its assets. The bad news is that the company has seen its equity decline by 19 percent, from $2.208 billion to $1.786 billion. But worse than that, the company has seen its intangible assets and goodwill increase 32 percent, from $2.963 billion to $3.907 billion.

Maybe the company has acquired some good assets that will generate some decent revenue, but when you’re in a fight like it could be for some time to come, and with the U.S. government that has unlimited legal resources, a company must be strong as steel.

And what would worry me on holding McGraw-Hill through this legal battle is asset impairments could happen, cash resources can be used up and before you know it, credit lines are being called in and the company is talking bankruptcy to prevent liquidation. I hope that doesn’t happen to this company, but when I invest my client’s money and my own, this is not a risk I'm willing to take.

Landis from San Diego wants to know about Sprint (NYSE: S) since hearing about the buyout of 70 percent of the company by Japanese company, Softbank Corp.

First, I wanted to understand a little about the buyout along with Softbank and its president, Masayoshi Son. One article I read from the business insider talks about Mr. Son being a gambler and bent on world domination — not someone I would be excited about being partners with.

The deal is for $20 billion, of which $12.1 billion goes to shareholders and $8 billion is to strengthen the balance sheet and networks.

One thing I enjoyed reading as an owner of Apple (Nasdaq: AAPL) is what a hit the iPhone is in Japan and how it has shaped Softbank’s image along with the fact that Softbank has a four-year contract with Apple to buy $15.5 billion of iPhones. I was unaware of that, so Landis, I’m so glad you asked me to look at Sprint. If the deal is approved by Softbank’s board, shareholders will receive $7.30 per share, a 27 percent premium above where the stock trades now.

Will the board approve or disapprove Mr. Son’s wild acquisition request? Time will tell. However, the Apple contract will stay in place.

Sprint is currently sitting on $21.3 billion in debt, yet has equity of only $8.5 billion which is down 35 percent from $13 billion one year ago. If Softbank were to use the entire $8 billion to pay down debt the company would still have debt of $13.3 billion, which is well above the current $8.5 billion equity.

The mean estimate of 30 analysts are looking for the company to lose 81 cents for the year ending Dec. 31, 2013, better than the $1.46 loss of 2012, but still losing money.

We could get information any day on what the board thinks about this acquisition of Sprint — why they would approve it makes no sense to me. If they wait they could perhaps get the assets of Sprint for pennies on the dollar in bankruptcy court.

While it is possible the deal could go through and shareholders could get a nice 27 percent bump on the shares, the risk to me is too high, because if the deal doesn’t go through, the shares could drop 50 percent or more.

Have a question or a company you'd like me to take a look at? Email me at brent@wilseyassetmanagement.com.

Wilsey is president of Wilsey Asset Management and can be heard every Saturday at 8 a.m. on KFMB AM760. Information is provided by Reuters.

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