Wednesday, May 22, 2013

Profit Down, Shares Up

HP's quarterly profit fell 32 percent from the same quarter last year, but the company's shares jumped 10 percent as EPS beat analyst's estimate. HP recorded an EPS of $.87, exceeding the $.81 expected. HP also announced that its projected EPS for the year was now $3.50 to $3.60. 

Where Have All The IPOs Gone?

In what will be a recurring feature on our blog, today we present our first guest blogger, Dr. Jay Ritter, renowned IPO researcher. Professor Ritter is the Cordell Professor of Finance at the University of Florida and has published more than 30 papers regarding equity issuance. Here, Dr. Ritter discusses the results of his recent research about the shrinking number of IPOs since 2000.

During 1980-2000, an average of 310 companies per year went public in the U.S. Since the technology bubble burst in 2000, the average has been only 99 initial public offerings (IPOs) per year, with the drop especially precipitous among small firms. Many have blamed the Sarbanes-Oxley Act of 2002 and the 2003 Global Settlement’s effects on analyst coverage for the decline in IPO activity. Xiaohui Gao, Zhongyan Zhu, and I offer the economies of scope hypothesis as an alternative explanation. We posit that the advantages of selling out to a larger organization, which can speed a product to market and realize economies of scope, have increased relative to the benefits of operating as an independent firm. Consistent with this hypothesis, we document that small company IPOs have had declining profitability and an increasing likelihood of being involved in acquisitions, either as an acquiring firm or as a target. Both the profitability trend and the acquisition trend started in the early 1990s.

Alternatively stated, the reason that few small high-tech companies have been going public rather than selling out to a larger firm in a “trade sale” is that getting big fast is more important than it used to be. Remaining as an independent firm and growing organically is not the profit-maximizing strategy for most startup tech firms because it takes too long. Thus, the decline of small company IPOs is not a private market versus public market issue, but is instead a big company versus small company issue.

Cash Balances Increase

The cash held by U.S. corporations has increased to record $1.79 trillion. Even with the increase, companies have been using cash to pay back shareholders. Companies paid a fourth-quarter dividend record of $79.83 billion and repurchased $99.15 billion in stock. One interesting fact is that even though U.S. corporate cash holdings are at a record, it only represents 11 percent of GDP, up from 10 percent of GDP in 2000. In contrast, European companies cash holdings typically represent to 14 to 20 percent of the corporation's home country GDP. Overall, 44 percent of finance executives expect cash balances to increase even further in the next six months.

Monday, May 20, 2013

Stock Picking

One question we often get is "What should I invest in?" Although we feel that we have a pretty good feel for investments, we would like to point you to a recent article written by economist N. Gregory Mankiw. While we are loathe to take investment advice from an economist (although some of our best friends are economists), Professor Mankiw makes some important points about investing, namely: 1) The market processes information quickly. The market is efficient. 2) Price moves are often inexplicable. In other words, we don't always understand what caused a stock price change, even after the fact. 3) Holding stocks is a good bet. The equity risk premium more than makes up for the riskiness of stocks over the long-term. 4) Diversification is essential. If you don't believe this, reread Chapter 11. 5)  Smart investors think globally. Why? Global investment increases diversification.

Sunday, May 19, 2013

Are Cat Bonds Growing Up?

Cat bonds, or catastrophe bonds, have been around since 1997. Generally, CAT bonds have been issued by insurance companies or reinsurers to cover insurance losses from major natural catastrophes, such as hurricanes and earthquakes. Recently, corporations have been slowly moving into the the issuance of cat bonds. For example, a corporation could issue a cat bond that has a trigger based on a natural catastrophe destroying a manufacturing plant. For the corporation, the cat bond could replace traditional insurance on the plant. A major reason that is enticing corporations is that cat bond costs have been dropping for issuers. In the second quarter of 2012, investors offered a price 40 percent lower on a cat bond covering Florida hurricanes than the price of a similar bond issued the previous year. 

Wednesday, May 8, 2013

Inflation Is How Much?

Although we discuss inflation in the textbook, we do not discuss how it is calculated. The inflation numbers from Ibbotson are based on the Consumer Price Index (CPI), although there are numerous other inflation measures. This results in the inevitable argument: So how much is inflation? Peter Schiff, found of Euro Pacific Capital, argues that the current measure of inflation is flawed and that inflation is substantially higher than that reported by the U.S. government. Interestingly, the article discusses a behavioral topic, the confirmation bias. As the author points out, people are likely to seek out and remember information that supports their argument and ignore or forget evidence to the contrary.