Miscellaneous Stock Tips: Issue #1

1. As one fund manager has noted, there is a reason to not like companies with a very low tax rates: because it's a sign that IRS will eventually catch up with them or that the company is possibly manipulating the earnings. With an average corporate tax rate of 35%, companies with a tax rate of 15-20% seem suspicious.


2. Avoid homebuilding stocks as they are difficult to value: it is not always clear whether the gains come from the business growth or from the higher valuation of their land assets.


3. Bank stocks are still not a good buy since global credit boom is most likely in its last days and even good banks are likely to suffer or trade sideways. (Having said that, if you have a long-term investing outlook you can find a few financial giants that may rock your world, such as Bank of America (BAC) and Capital One Financial (COF), which I've recently reviewed).
   


4. Gold is considered as a hedge investment (or insurance) against an equity market slowdownsince it usually goes up when the stock market goes down.

Merger Arbitrage Opportunity: Florida Rock Industries

Looking at the acquisition of Florida Rock (FRK) by Vulcan Materials (VMC). It was announced in February, approved my shareholders in August and currently pending regulation approval. It's a stock and cash deal at $67/share. Stock currently trades at $62/share, so that represent an arbitrage opportunity that amounts to about 8% return on the transaction. Transaction is expected to be completed by the end of the year, so that's an 8% return for less than two months and a 59% compounded annual return.

One thing I'm not too excited about is that it's not a cash-only deal, so that part somewhat complicates the evaluation of the arbitrage opportunity. On the upside, Vulcan is currently severely underpriced (according to the Morningstar valuation), this means that even if you get Vulcan's stock in return for Florida Rock shares, it still wouldn't be that bad.

Here are some excerpts from their merger web site:

What are the terms of the transaction?
Under the terms of the agreement, Vulcan Materials shareholders will receive one share of common stock in a new holding company (whose subsidiaries will be Vulcan Materials and Florida Rock) for each Vulcan Materials share. Florida Rock shareholders can elect to receive either 0.63 shares of the new holding company or $67.00 in cash for each Florida Rock share, subject to proration, to ensure that in the aggregate 70% of Florida Rock shares will be converted into cash and 30% of Florida Rock shares will be converted into stock.

What’s the strategic rationale behind this transaction?
For Vulcan Materials, combining with Florida Rock further diversifies and broadens the Company’s reach and regional exposure, providing the Company with a significant presence in Florida – one of the fastest growing markets for aggregates in the U.S. – and bringing Vulcan Materials approximately 2.5 billion tons of reserves in markets where reserves are increasingly scarce.

For Florida Rock, the transaction offers shareholders an opportunity to receive a significantly increased dividend, as well as the opportunity to participate in the upside of the combined company.

Additional resources:

• Vulcan Materials/Florida Rock Industries Merger-related web site
  

• To learn more about merger arbitrage, read: How to Make Money from Merger Arbitrage.

Microsoft Rallies, I Cry

As Microsoft has posted one of the largest gains (as far as short-term spikes are concerned) within the last five years, I'm starting to kick myself in the butt. I analyzed MSFT just 3 days after it started its rally on Oct. 19th, but since I'm still in the process of analyzing a bunch more stocks, I have not made my final portfolio picks yet.

I'm sure there are still plenty of great opportunities in the market, but it's definitely a bummer when you miss out on a 15% gain (within a week!) from a company like Microsoft.

The only stock that is currently in the "buy" zone for me, is Johnson & Johnson (JNJ). It's currently trading at a 34% discount to my intrinsic value of the company.

Additional resources:

• Morningstar: U.S. stocks rally on Microsoft's strong profit, Fed hopes

Investing into "Sin" Stocks

In a recent article (Cigarettes, Booze, Gambling...and Economic Moats), Morningstar columnist has made an interesting connection between "sin" companies, such as cigarette, alcohol beverage, and gambling outfits, and government's stake in their well-being.

The argument is that although government wants to curb the use of these companies' products, it's making out like a bandit from the tax revenue that comes from the sales of these products. The amount of this tax revenue is directly correlated with the revenue of these "sin" companies.

Another great point made in the article is that all the increased regulation has made it nearly impossible for any new companies to enter the market. This makes for an oligopoly virtually guaranteed and protected by the government.

So, all these companies have huge wide moats preventing competitors from stealing their market share, products that will have a consistently increasing demand in the foreseeable future, and huge margins. What is there not to like? Well, there is of course that whole notion that these companies are detrimental to the society as a whole, but for people who can detach investment aspect from the social aspect, there are potentially significant returns that can be made from some of these companies.

Now, these companies' effect on the society is certainly questionable to say the least, but for those who want to keep their options open, here is a list of stocks mentioned in the article and can be viewed as high-potential "sin" companies:

• Altria (MO)
• Reynold American (RAI)
  
• Carolina Group (CG)
  
• UST (UST)
  
• Diageo (DEO)
  
• Anheuser-Busch (BUD)
  
• Molson Coors (TAP)
  
• AmBev (ABV)
  
• Femsa (FMX)
  
• International Gaming Technology (IGT)

Again, not all "sin" stocks are made equal. These are simply companies worth taking a hard look at, research each one individually before committing any of your money to any one of them.