Monday, September 11, 2006

IPSCo Steel announces acquisition of NS steel

Today we faced a feeling familiar to all stock investors. That stomach churning feeling of buying a stock only to watch unpredictable news cause a drop. In this case the news was an announcement by IPS that they were buying rival NS Holdings (ticker: NSS).

Recently something similar happened with Apple. We did a full analysis and came to the conclusion that it was a solid buy. Then we followed up with predictions of sales performance, and those predictions were proven correct! Eventually, however, news surfaced that Apple had backdated options and now Apple is delinquent in its filings because they are still sorting out the options mess.

So what did we do? More analysis of course! That analysis showed that Apple was still worth holding and since then Apple has recovered nicely. If you followed my recommendations on Apple you've made 26% in three months, with the market barely moving.

This shows that keeping your head and doing no-nonsense analysis is critical to making the right moves.

We bought IPS based on an analysis that showed the company had strong financials and an excellent net present value. So now the question is whether we should get out after the acquisition announcement. IPS was down an unpleasant $6 today after the announcement so clearly some people are getting out. But that happened with Apple, too and our analysis kept us in the stock for further gain.

The buyout was reported in most wire stories as being done all-cash, which would keep IPS from winding up in debt. I know the company from my recent analysis and I know they don't have that much cash. I looked into it and the company is also using a pre-existing bank credit line. At reasonable cash flow expectations the company should be able to pay off this debt just fine, although it does make the company a bit less resistant to downturns.

What about the business?

I sat down and did a quick present value analysis on NSS. It turns out that NSS is even more undervalued on an earnings basis than IPS. At a discount rate of 15%, using analyst 5-year growth rate projections and my usual variables, NSS would be a fair buy at about $116 (IPS is getting it for $66). The combination of NSS and IPS should be about as good a holding as IPS itself.

Another way of looking at it is that the earnings from NSS are being bought cheaper than IPS is valued. So assuming the market has the same opinion of IPSs' management next year, the NS purchase should make stockholders money. This happens even if they don't manage to save any money in the combination or make more money off the combined product lines. Ideally they should be able to accomplish both those improvements, in which case the NS purchase looks even better.

All told I think that those who bought IPS on my recommendation should hold and I will be holding my position. If you haven't bought yet this is a great opportunity.

Invest well,

FW
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