If you owned a fantastic business generating tons of free cash flow every year, why would you ever sell? A wealthy friend of ours with a $300 million-a-year business asked himself the same question about three years ago. He was considering selling a chunk of his company to the public. He made the right decision... to keep his equity.
Most businesses go public for one reason: so the principals can cash out. That's why investing in initial public offerings (IPOs) is a fool's game. The principals want to squeeze the market for as much money as possible. Wall Street, earning huge fees from the principals, is cramming the IPO down the throat of every dummy it can find – hoping to drive up the stock price and the value of their shares. In the end, the public is left holding shares in a much-hyped, ill-performing company.
One of the best examples of a disaster IPO took place three years ago when private-equity powerhouse Blackstone Group (BX) went public. Here's what we wrote back then:
Chief Executive Stephen Schwarzman and his partner Peter Peterson started this company in 1985 with $400,000. They've worked hard for 22 years. And they're no dummies. They've seen a top in the credit markets before... and this time they're cashing out – The S&A Digest, June 13, 2007
As you can see from the chart below, our prediction proved correct. Blackstone stock nosedived after the IPO, falling from $35 to $4... an 89% drop. Shares are still trading for less than $10. Shareholders were destroyed. But Schwarzman and Peterson still made close to $2 billion on the deal.
Around the same time Blackstone went public, Kohlberg, Kravis, Roberts (KKR), a fellow private-equity behemoth, was trying to sell shares. KKR failed to go public before the credit crisis, so the firm delayed its plans. And now that the market has recovered from its 2009 lows, KKR is trying to go public again. Shares are set to start trading on July 15. And just like the Blackstone founders, KKR founders Henry Kravis and George Roberts (first cousins) will make a fortune... $1.65 billion to be exact.
Another multibillion private-equity firm, Apollo Global, is also trying to list on the New York Stock Exchange. So... almost every asset in the world looks expensive, investors are worried about a market plunge, and two of the smartest private-equity firms in the world are trying to sell shares to the public. Be wary.
If you want more proof of how lousy an investment IPOs are, just look at the recent debut of electric car manufacturer Tesla (TSLA). The company makes $100,000 electric cars. They're beautiful, but impractical. You can only drive 245 miles per charge. In times of economic uncertainty, we don't see huge demand for toys like this. Plus, the company has yet to turn a profit. Despite that, Tesla shares soared as much as 70% on its IPO day last week. Share closed 40% above the $17 open. But the excitement has already worn off – and the company's underwriters are no longer willing to support the share price. Tesla fell more than 6% today to $15 per share.
Right now investors are scared of muni bonds. You see, back in 1975 and 1978, New York City and Cleveland defaulted on their debt. People are worried that's going to happen again.
But folks are missing a big thing here: If Washington D.C. isn't going to let GM, AIG, or Citibank go belly-up, do you really think they'll let a big state go bankrupt? I'm not in favor of any bailout, but that's the game we're playing.
My favorite way to own muni bonds is through "closed-end funds." These investment vehicles aren't like regular mutual funds... They can trade for premiums and discounts when investor sentiment gets out of whack. Oftentimes, you can use closed-end funds to buy a dollar's worth of assets for 85 or 90 cents.
And that's where the opportunity is today: closed-end muni-bond funds that are trading for much less than their "net asset value." Right now, we can buy several closed-end California municipal funds for as cheap as 84 cents for every dollar of assets. – David Eifrig, DailyWealth, June 18, 2009
As you can see from the chart below, the BlackRock MuniYield California ETF (which Dave mentions in his essay) has soared. Readers made more than 37% in a year, and they're currently collecting a 7.9% tax-free dividend on their initial capital (equivalent to a 10% taxable dividend). Dave's municipal bond recommendation is a great reminder to buy during times of maximum pessimism... When the last person already sold, the security can only go up.
In the latest issue of his newsletter Retirement Millionaire, Dave tells readers about "one of the best retirement stocks you'll ever buy." The company pays a large, stable, and growing dividend. The stock is also super-cheap and growing its earnings. In addition to the stock pick, Dave shows you how to save 50% on your cell phone bill, how to save money on a bank loan, and easy ways to cut your risk of cancer in half. To access the latest Retirement Millionaire, click here...
New high: Porter's short sale of Barnes & Noble (BKS).
In the mailbag, trouble shorting shares of the above stock... feedback@stansberryresearch.com.
"I use Charles Schwab and was unable to short sell BKS. Returned the following message: This stock is either ineligible to be shorted or share are not available to short." – Paid-up subscriber David Pyndus
Goldsmith comment: I just got off the phone with my broker, and there are currently no shares of Barnes & Noble available to short. If you still want to short the stock, continue checking with your broker. More should become available if the stock rallies a bit. More than 16% of the outstanding shares are currently short.
"Guys, I'm really grateful for your admonitions to short stocks. For those still worried it may not work, why not try selling calls as well, to give you some cash flow on the way down, or while waiting for the stocks to go down (like those who doubted GE). You can also sell puts against your sold stocks (covered puts as opposed to covered calls), to give even more cash flow.
"One word of caution which has not come up as a complaint yet, no doubt as so few dare to short stock, is that you will have to pay the dividend instead of receiving it. I was rather narked by that, but at least all my sold option premiums paid for the dividend payments, and still left me ahead.
"It has taken me a while to say anything on this as I didn't want my incredible opportunities to be spoiled by everyone rushing in, but like with so many things in life, good advice is rarely taken. Another spur to write was the words of Zig Ziglar – 'You can have anything you want if you help enough others have what they want.' I hope someone will benefit from this at least as much as I do." – Paid-up subscriber Roger Hooper
Goldsmith comment: We agree that selling options is a great income-generating strategy. In fact, we publish two services dedicated to just that. If you want to sell puts and calls, check out Porter's Put Strategy Report and Jeff Clark's Advanced Income.
"Hi there at S&A... a belated Happy 4th of July to all of you. I am Canadian and have also experimented with carrying gold through airports. One day last year, I had just purchased 3 one oz wafers and had them in my pocket. There was no beep on the metal detector. This was in Vancouver Intl Airport, so I am sure that they are operating with the same level of security as any American airport. And from what I can gather when I read the warning about crossing the border with more than 10,000 in cash or negotiable instruments... gold is not included. Am I right? Is it considered a negotiable instrument, or does that refer to bonds, etc.?" – Anonymous
Goldsmith comment: I'm no customs attorney. But you should legally be able to travel with as much gold as you like... The government does not recognize it as "currency." But we have a feeling it may get more difficult soon...
Regards,
Sean Goldsmith
Baltimore, Maryland
July 7, 2010