Thursday, October 2, 2008

Value in Action: Sherrit International

Sherrit International is a diversified resource company involved in the production of nickel, coal, cobalt, oil and electricity. In April 2001, a few months after the year 2000 audited financial statements were available for perusal, shares in Sherrit International (TSE:S) were available in the public market for $4.42/sh.

In April 2001, this company had a market cap of $320M and a book value of $1.2B producing a very low price to book ratio of .27. As Saj mentioned here, we don't feel valuing commodity companies to be a straight forward exercise and so unless there is a special situation that we feel comfortable with, we will just look elsewhere for value.

Sherrit International in 2001 did qualify as a special situation. What was special is that you didn't have to posses any sublime commodity valuing ability in order to recognize it as a value play. The company had $261M in cash and short term investments which represented 81% of the share price at the time! In addition, the debt/capital ratio was only 2.2% including the impact of operating leases which indicated very conservative debt levels and low financial risk. To make things even easier for investors, the company had positive operating margins for the 5 years ending Dec 2000.

If that wasn't enough to get you interested in the company, Graham's famous net-net was available with the current share price in April 2001. The company's current assets minus all liabilities worked out to $5.53/sh when the stock was trading at $4.42/sh! Valuing their assets and earnings power, I estimated the company to have an intrinsic value in the range of $12 - $14 per share. This calculation, as always, requires many assumptions, but I believe the assumptions I had to make were quite conservative.

How would an investor have fared, deciding to buy Sherrit International in April 2001 for $4.42/sh?

As evident by the table, patience rewarded investors who held shares of Sherrit until the stock market priced the stock around its intrinsic value in April 2006. Investors who purchased shares in April 2001 and sold in April 2006 would have realized a 23.2% compounded annual return! Not bad, even by Mr. Buffett's standards. In making the investment, investors would have had considerable protection of capital based on the very strong balance sheet position of the company in 2001.


Anonymous said...

Unfortunately the same situation does not exist for the company in today’s markets.

Reyer Barel said...

Indeed, this is not the same company situation today as in 2001. Today, this is a 1.5B market cap company and the current assets of $1.6B is far outweighed by the total liabilities of $4.5B (i'm approximating). So this is definitely not a Graham net-net like in 2001 where just the current assets less all liabilities was worth more than the stock price and you essentially got all the capital assets thrown in for free!