Revisiting the M&A Put

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  • on February 18th, 2011

We’re seeing a continued opening of wallets for retailers with what would seem to be decent but not great growth.  The latest deal for Family Dollar($FDO) adds to the list of lagging stocks being rescued from their floundering action by the desires of hedge fund and private equity types to do some financial engineering.  I wrote this piece last summer warning about the overnight risk of short positions even in wounded companies.

Think back over the past few months, to JC Penney($JCP) and Dillards($DDS) and BJ’s Wholesale($BJ) and JCrew($JCG); either 80s and 90s suburban style is making a comeback, or someone sees an opportunity to restructure and make a quick buck.  Defying the perception of them as non-growth companies, the long-term franchise value was seen as too compelling to overlook.

What does this mean for today’s trader/investor?  BEWARE the obvious!  We know companies like Ann Taylor($ANN), Talbots($TLB), Liz Claiborne($LIZ), OfficeMax($OMX), Office Depot($ODP) and yes even Barnes and Noble($BKS) are dead meat as this consumer era is passing them by.  But would you want to stay short any of them in hopes of profiting from their demise?  I say no, there are better opportunities than to fight this overwhelming need to keep up.  These stocks share a dying business, but also share the following:

1) Miniscule Price/Sales ratio: $ANN runs a little hotter than the rest at .72, but priced at 1/3 of sales a financier with an ego can easily be swayed on the ability to squeeze something out of these franchises

2) Digestible Market Cap: none of these has a market cap over $1.5 billion, not even midcaps by today’s standards

3) High Short Position: each of these carries at least 8% of the short float, a sign that people have noticed these companies aren’t today’s innovation machine

These companies offer nothing of interest to growth investors in an era when $AAPL and $NFLX and $AMZN and $LULU are redefining chic consumption.  You don’t need to buy them in hopes of a takeover.  But consider a GenXer schooled in value investing with $1 billion to work some equity magic…these obviously dying companies don’t have to die quite yet.  A little motivation and financial wizardry could make any of these stocks a graveyard for shorts.

Patient shorts got their winnings in Circuit City and Borders among countless other retail dogs over the years.  But those seeds were sewn into the teeth of a recession…these laggards at least have the support of a (slowly) recovering economy and a Fed determined to put spending money in everyone’s pocket.  Short them if you must, but be sure to consider them as binary outcomes.  They’ll either get taken over or put out of business…the first can happen TO YOU overnight, the second happens to them over a long and drawn out demise.

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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