Returns to Buying Negative TEV Firms
Who doesn’t love the idea of buying something for nothing?
Jack and I were intrigued with the concept of something for nothing and took a shot at answering an interesting research question:
How do negative total enterprise firms perform?
In theory, a firm selling for a negative enterprise value is not possible because the seller is actually paying someone to take all their assets off their hands.
If you recall, total enterprise value (TEV) is supposed to represent the total cost an outside buyer would have to pay to acquire all assets of a firm–debt, equity, minority interests, preferred stock, etc–the whole enchilada.
We calculate TEV as follows:
- market value of common equity
- debt value at book value
- minority interests at book value
- preferred equity at book value
- cash and cash equivalents at book value
Remember, we must minus off cash and cash equivalents, because immediately after purchasing all the firms assets we can take the cash out of the till and put it back in our pocket (assuming we don’t need any of the cash for working capital requirements–strong assumption, but what the heck).
In the preliminary analysis below we look at the universe of negative TEV firms through time and calculate the performance to an annually rebalanced strategy. We look at the full universe, the universe that boots the bottom 10% of market caps (NYSE breakpoint), and the universe that boots the bottom 20%.
The basic stats
Here is a little analysis on various stress events
and our favorite MBA 101 chart
My main takeaway is these strategies are WILD and have pretty insane volatility.
You might be sitting there thinking, wow, all I gotta do is hold an equal-weight basket of negative TEV firms and I’ll compound like Warren Buffett, right?
The Bad News:
Here is a timeline of the number of opportunities that actually pop up over time.
A few key points:
- After you eliminate the micro-crap stocks, you end up being invested in a few names at a time (sometimes you go all-in on a single firm!)
- Sometimes the strategy isn’t invested.
- The amazing Bueffettesque returns for the “all firms” portfolio above are exclusively tied to micro-craps.
If you want to buy cigar-butts, as defined by negative-TEV firms, you need to have some guts. You’ll also need to have a very limited capital base to work with or you’ll bounce yourself out of all the great returns associated with the smallest firms in the sample.
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