Wall Street Back To Basics December 28, 2012Posted by Ishmael Chibvuri in Latest Articles!!!.
Stocks like Campbell (CPB) and Heinz (HNZ) take you back to a time when Wall Street actually made a lot of sense. A struggling company would look to sell shares to the public. The shares would be titles to capital, allowing the average Joe to "share" in the profits of any company by buying the capital titles. Hence, we get shares and capitalism. The public would give the company money to further its capital investments and grow, and the company would share its profits with the public by handing out dividends per share. People often forget that this is the dictionary definition of investment in stocks. Not technicals, not support and resistance, not 200 DMA’s, and not sentiment. Not even buy-low-sell-high. The central point is to buy them in order to share in a company’s profits, allowing the company to grow in tandem.
The fact that a company like Apple (AAPL) only just started paying out a dividend to its owners for the first time since 1995 really shows us how absurdly speculative the stock market has become. People stopped buying stocks in order to invest in companies, and they started buying them in order to second guess how much other people would pay for them even though many of them paid out nothing intrinsically. Sharing in profits became old fashioned to the point where it became commonplace and acceptable for such a wildly successful operation like Apple to share not a cent with its actual owners.
Nobody cared because the extrinsic value of the stocks just kept going up. Google (GOOG), by the way, with a net income of $2.18B last quarter, still pays out nothing to the public that owns the company, and never has. So why is a title of ownership in the company worth $720 if it pays nothing? On the hope that someone else will fork over $721 for it because interest rates are so absurdly low there’s nowhere else to park money. Stocks without dividends are like fiat currency with no backing. People buy them out of habit because they expect other people to buy them out of habit just like we use fiat dollar bills out of habit since the dollar was delinked from gold in 1971. Wall Street has become a gambling hotbed instead of a hotbed of actual capitalism.
How should it work ideally? Stocks should be worth more or less what they pay out, and what they pay out should be proportional to how much money the company makes. The more they make, the more the stock pays out, the more the stock is worth. People take a look at a company’s earnings, its statements, and its stability, and decide if the company’s profits are worth sharing for the price of the title or not. Say if Google makes a quarterly profit of $2.18B, has 328.6M shares and pays a reasonable 1% dividend per share per quarter that would put it at $7.20 per share. That would mean they are forking out $2.37B in dividends every quarter, leaving the company with a loss.
Hence, if Wall Street operated normally, Google’s market capitalization would be considered way overvalued for the amount of money Google actually makes. Either that or they would have to drastically lower their dividend, which would be another reason for the stock price to go down. Either way it’s too high assuming a normally functioning stock market, which we haven’t had since Alan Greenspan started seriously messing with the money supply in the 90’s.
Let’s go back to the Heinz and Campbell example, two all-American companies that sell simple things – food, condiments, soup, sauces – all very well. Both started paying out dividends in 1987, Heinz on June 16 at 1.87%, and Campbell on June 30 at 4.38%. After all, two companies in direct competition and stock prices more or less stable, you can’t have one paying out a dividend and the other not or there’d be a selloff in one and a spike in the other. Campbell was trading at $1.04 at the time, accounting for splits. Heinz was at $4.85, which makes sense considering their dividends. Campbell would have to pay more (4.38%) in order to attract more buyers and get its stock price up to Heinz’s.
Campbell’s last dividend was .79% per share. With 314.42M shares on the market and trading at about $36, that’s about $90M in dividends. Last quarter they earned $245M. So 37% of their income went to their shareholders. Not bad.
Heinz’s last dividend was .88% per share. With 320.66M shares on the market trading at an all-time high of almost $60, that’s $165M in dividends. Last quarter they earned $289M. Over 57% of their income went to shareholders. That’s a bit much. Ergo, the stock is too high. Heinz will have to make more money and justify their dividend for their stock price, or else lower their dividend, which will probably bring down the stock price. Considering that HNZ is at an all-time high, it’s not surprising.
Lesson: If you’re looking for a trade, Campbell’s earnings and dividends more adequately match its stock price, and at 42% below its all-time high, it’s a much better trade then Heinz, which just this week made new highs. But if you’re looking to share in company profits, Heinz pays more for now.
Of course, even though speculation has almost completely overtaken Wall Street and dividends are laughed off as old fashioned these days, speculation does still have its place in the market. If you invested $1,000 in Campbell 30 years ago before they were paying out a penny in dividends, meaning before the shares had any intrinsic value, you’d have enough money today to buy a nice house and a Rolls Royce in cash. Dividends are not going to get that for you. But there’s no use crying over spilled milk and we can’t go back to 1981. What we can do, however, is look for the next possible Campbell Soup.
If pure speculation is your thing though, take a look at SoupMan (SOUP.OB). This is one of the riskier but endearing bets. It was founded by Al Yeganeh, the man on which the character of the Seinfeld "Soup Nazi" was loosely based. Yeganeh has been operating his World Famous Original SoupMan restaurant on 55th Street in Manhattan since 1984. The reason Al has such strict rules about his soup is that people wait for up to two hours in line to buy them, and the line needs to move fast or you get pushed to the back, inspiring the plotline of Seinfeld’s famous episode. Their stock is trading at a low volume – around 5000 per day and the price hovering around over $.40 cents which subjects this company to large shifts on the stock price. This however, is not indicative of the company’s value. Unlike Overhill (see below), Soupman has no dividend nor is it net positive, but they are growing their revenues, which have almost doubled year over year from 2011 to 2012.
Overhill Farms (OFI), the company behind the Boston Market brand among others, has been a steady earning company (with a few hiccups) for over a decade. Their best year was 2008, with a net income of over $10M. 2011 saw a huge drop in revenues and income, and subsequent drop in their stock price from over $6 to under $4. They are currently trading at around $4.50, having earned $3.1M this year. Overhill does not pay a dividend, but they’d only be able to afford a quarter percent dividend at their current stock price.
Their biggest barrier to really breaking out is their profit margins, which were a paltry 8.7% this year (ratio of gross profit to revenues). Campbell was 37%. If they can cut down costs and make their operations more efficient, then they could start breaking out. I don’t see them becoming the next Campbell in the near future, but earning 50% returns is a serious possibility considering their recovery since 2011, especially if they keep up the numbers in the next two quarters. In terms of risk, their chart shows solid support in the $4 range.
As in all products in this sector, the proof is in the pudding. If the products look and taste well then you got something. Campbell and Heinz are always a safe bet for slow but steady growth. For those however, looking to place some money on a longer term high growth potential stock, I say go to a Safeway or HEB or A&P where many of these products are sold, pick up a box of Overhill frozen soups or SoupMan soup and compare them. If you like one or both soups, then consider picking up a few shares of SOUP or OFI, and check back in 30 years. If either of them succeeds, the sky’s the limit. If any of them fails, at least you’ll get some good soup out of it.