Aswath Damodaran’s Spring, 2015 Valuation Class Project Results

As some of you know, I’m finishing my MBA at NYU’s Stern School of Business, and thankfully, I’ve had the privilege of taking Aswath Damodaran‘s capstone valuation class. Each year since 1999, students in Professor Aswath Damodaran’s capstone valuation class are required to complete a large valuation project. Students pick from any listed stock globally (with a few exceptions), and perform a discounted cash flow (DCF), relative, and in some cases, a real-option valuation.

The results are in, and boy are they interesting! I’ve written a quick summary, and I think you’ll enjoy reading it!

Town Sports’ ‘High-Value Low-Price’ Strategy Is Doomed To Fail. Horribly.

• The New York Sports Club parent is trying to win back market share from low-priced competitors with $20 & $40/month “high-value low-price” no-contract plans.
• Most existing members will switch from $60-125/month memberships to these low-priced packages.
• Members of low-cost competitors unlikely to switch for same or higher cost, with little if any difference in amenities/service at CLUB.
• With generous assumptions, CLUB needs to increase membership 50% from 505,000 at 3/31/15 to 755,000 just to realize break-even operating income.
• It is extremely unlikely that CLUB will break even, let alone turn a profit any time in the foreseeable future.
• Bankruptcy is a very real concern over the next 2 years.

It seems two very competent activist investors, PW Partners and HG Vora, have got themselves into a sticky situation. Together, they control about 25% of the company and now the board, as well. Regardless, they face a Sisyphean task. As we have remarked and detailed several times before, turnarounds are hard, and this one is no different.

P/E Ratios – You’re Doing it Wrong

This weekend I put together a short paper (it just worked better that way than as a blog post) wherein I explain how P/E ratios are routinely misused/abused by everyone from day traders to fundamental value investors and everyone in between. The issue is when you just look at the ratio, you simply can’t understand the fundamental factors that actually drive the ratio, and they are not, contrary to popular belief, just the price on your screen and last year’s or LTM earnings.

Here, I explain why it is imperitive for traders and investors alike to understand the drivers of relative valuation ratios like P/E – free cash flow to equity, equity cost of capital, and long-term growth rate – so that comparisons between firms, across industries, and over time have context, rendering comparison and analysis far more useful than just looking at current and historical levels or averages.

I use the model to determine the implied growth rate in the S&P 500 based on its P/E and question whether there may be a large disconnect between the rate that’s priced in (the implied number) and what analysts are projecting, which is significantly higher than the implied growth rate.

This short paper will help market participants of all stripes improve their though, research, and investment selection process, and only takes a few minutes, max, to read.


P-E Ratios You’re Doing it Wrong 2015-4-19 v4

Rainbow Connection

After reading a top notch piece of research from Nomura’s Nick Firoozye (Mythbusters – “LSD” Leverage, Shorting, Derivatives can be reasonable) and a few too many bourbons I decided to emulate the Team Macro Man financial cover song format. For background on this sort of trade see @matt_levine here. Hat tip @MBlockRhino who stuck the song in my head. Apologies to Jim Henson, Paul Williams, Kenny Ascher, and Kermit.

Why aren’t there so many trades of our rainbows?
And who’s on the other side
Rainbow are options
With many inclusions
And risks Monte Carlos hide

So we’ve been told
And some choose believe it
These products should trade OTC
Someday we’ll find it
The rainbow connection
the lovers, the dreamers, and me

Who said that every risk
Could be priced and answered
When cleared by a CCP?
Somebody thought of that
And someone believed it
And look what it’s done to me

What’s so amazing
That keeps the Fed gazing
And what do they think they might see
Someday we’ll find it
The rainbow connection
The lovers, the dreamers, and me

All of us under its spell, we know that it’s probably magic

Have you been half asleep?
And have you heard voices?
I’ve heard them calling my name;
Is this the sweet sound
That called the young traders?
The voice might be one and the same

I’ve heard it too many times to ignore it
We’re providing liquidity
Someday we’ll find it
The rainbow connection
The lovers, the dreamers, and me

On the Perils of Management Access & Straying From Process: Our Adventure With Jones Soda


  • We initially were skeptical about Jones Soda (JSDA) due to declining and generally weak financials, questionable strategy, and uncertainty surrounding its turnaround plan.
  • After the annual meeting and a one-on-one with the CEO (& CFO), we became convinced the company was in capable hands, and the turnaround would go well.
  • Turnarounds are hard, particularly for severely resource-constrained firms. We now believe Jones should put itself up for sale rather than wait/hope for a small miracle.

  • Introduction

    In late May 2013, we started working for a client who was interested in knowing what we thought about Jones Soda (OTCQB:JSDA). It was a bit of a treat to be able to work on a company whose products I had enjoyed so much during my more formative years, and it provided me the opportunity to do a lot of work that I don’t often get asked to do, some banking and activism stuff in addition to research.

    Unfortunately, until very recently, I was bound by a non-disclosure agreement, which prevented me from sharing further analysis publicly. Now that I’m at liberty to write again, I want to discuss how we got the bullish call wrong in June 2013, what happened when we realized we were wrong, what we’ve learned in the process, and what we think about Jones Soda today.

    I’ve tried to be brief, but since there’s a lot of relevant background information, this isn’t exactly a quick read. If all you care about is our current view on the company, you may skip to the last section, though you’ll be doing so at the expense of understanding the bigger picture.

    A Good Analyst is a Skeptical Analyst
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    Stone Street Advisors LLC Seeks Equity Research Interns

    Stone Street Advisors LLC is seeking 2-3 undergraduate or graduate (MBA, MFin) interns interested in fundamental equity research (value-oriented, mostly bottom-up, long/short/special situations). This position is geared towards those interested in pursuing careers in investment research, investment banking, and asset management, to name a few.

    Ideal candidates will have coursework in accounting and finance as well as other business/law classes. Candidates do not need to have previous investment research experience, however we strongly prefer some practical experience as the classroom and the real world are vastly different.

      Extremely strong Excel proficiency is required; no exceptions.

    Native English speakers preferred; those without must demonstrate native written and conversational abilities. There are no university, GPA, or test score limitations/requirements for intern positions. All else equal, we don’t care where you went/go to school or what your GPA was/is; we want people who can do the job.
    Candidates must be extremely self-directed as the role involves a large degree of autonomy and self-teaching/learning. There will be a significant amount of education and instruction involved as well. Interns will work remotely with ~weekly in-person meetings and as-needed voice/video calls. Internships are part-time (approximately 20 hours/week +/-) and will start in February or March, continuing into early Summer. The position is unpaid.

    Responsibilities include but are not limited to:
    - Business, industry, competitive research and analysis
    - Financial statement analysis
    - Financial modeling and valuation
    - Developing and performing stock screens
    - Preparation of research reports and supporting material
    - Data collection
    - Marketing/sales
    - Ad-hoc assignments (no food/coffee trips, don’t worry)

    Cover letter is not required, though you should make an effort to introduce yourself and explain your interest in/qualifications for the position. A resume is required, transcripts are not. Be creative; don’t be afraid to use whatever material/approach you think appropriate to demonstrate your qualifications for the position. If your initial application suggests you may be a good fit, you will be given approximately a week to identify an investment opportunity that you think will return 50%+ over the next 1-3 years. You will submit an investment pitch, ideally showing your understanding of the business/industry, financial analysis, and valuation. We are looking to gauge your abilities, education, experience, knowledge, resourcefulness, thought process, and attention to detail, rather than the actual pitch/idea itself, though we are, naturally, looking for good ideas with solid analytical support as well. For an example of what we are looking for, see our presentation.

    If you want to learn, are teachable, and hungry, please apply here. An Opportunity Begging For an Activist With 10x Upside Potential

    I’ve finally uploaded our presentation on (OSTK) to Slideshare, which now includes a summary of what we do here at Stone Street Advisors LLC, how we do it, and how we’ve performed since our founding in 2011. The investment thesis is fairly simple:

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    Where’s the Slack?

    Don't worry, Strickland was wrong too

    This June, the Fed’s most reactionary member, and noted hand talking enthusiast, James Bullard gave what I found to be one of the most reasonable presentation on FOMC policy in years.  It was titled ‘How Far Is the FOMC from Its Goals?’ and if you have not seen it please do give it a look here. In it he outlined a simple formula to quantify how close the Fed is to threading the needle on policy based on absolute distances from the inflation and unemployment targets levels.

    The data from that presentation was from April.  I thought it worthwhile to update it since, for reasons I do not understand, the market is currently pricing Fed Funds rate hikes even further out today than they were then.

    The Fed is currently closer to its dual mandate targets than 89% of the historical data and closer than any point in since 2004. This is a noted improvement from June when it was closer than 75% of readings.

    It is important to recognize that when your target has multiple inputs and data is constantly in flux you are not likely to be precisely at your target often.  As a matter of fact, the Fed has not hit both targets in any month since 1960 when they started the PCE index.

    The Fed targets are symmetrical so it is worth remembering when economists like Krugman, Stevenson, & Wolfers point out the Fed is “missing on both mandates” today, that it strictly a function of their political viewpoints.  The Fed is always missing the mandates but the goal is to set the best policy for 6-12 months from now.

    In all previous examples the Fed has changed course on rates within three months of being this close to targets, which is one of the many reasons I maintain the view I’ve expressed for the past 20 months.  First hike Q1 2015 and continuing at 200 bps a year.

    Unilife Releases OrbiMed Loan Covenants: Is Default Imminent?

    In May, we explained how UNIS – with the helping hand of the SEC – was able to file the OrbiMed credit agreement and leave out very important details, particularly what financial performance it had to achieve to avoid triggering an event of default/covenant breach:

    As far as we know, we are the only observers to find this unacceptable, as it allows UNIS to severely impair analysts’ and investors’ ability to evaluate the firm’s default risk and valuation.
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    My Ten Commandments for Finance Twitter

    "Fucking cool it chief!" - Moses

    I am a noted admirer of rules and have recently fielded some requests for my rules of engagement on twitter after a tweet from my friend @munilass. I am sure these are not ideal for everyone but for me, as a private account with only opt in interaction and a rather specific industry focus, they have proven valuable. The rules are ever growing but here are the top ten that stuck out.

    1. Do not send traffic to bad content. If you do, you are paying for more of it.
    2. Avoid tweeting about topics where you lack expertise and unfollow those who regularly do. Credit on this thought process goes to Ray Dalio for “Ask yourself whether you have earned the right to have an opinion.”
    3. Do not complain about the stream. You chose that content and it is your fault if it sucks.
    4. Limit your number of follows to a level that you can reasonably read.
    5. Do not subtweet. It is cowardly and wastes everyone else’s time due to lack of context.
    6. Do not use straw man arguments to prove a point. Address thesis directly with whoever presented it.
    7. Do not feed the trolls. If you engage those lunatics you are the problem.
    8. RTs are endorsements.
    9. Block someone every day. Trust me this will save you some outrage.
    10. Keep your stream dynamic. Cut dead wood and add new voices, this medium cannot be stagnant.

    Though I’m a man with a passion for rules, the trick with these and all others, is possessing an understanding and knowing when to break them.