Last January I read an article by, Aswath Damodaran, a professor at the Stern School of Business at New York University, about companies that did not earn their cost of capital and were long-term destroyers of shareholder capital. I ran a screen looking for enterprises that did not earn the cost of their capital and had failed to do much to grow the net worth of the company over the past few years. I reviewed the screens and then wrote about them. Over the weekend, I ran across that spreadsheet and checked how the list had performed. I found that it had lagged the market with an overall flat return in 2016.
Not every stock on the list went down, and a handful went up quite a bit. However, using the screen as an avoidance tool, you sidestepped some of 2016's stinkers, like Nuance Communications (NUAN) , Ruby Tuesday (RT) and SunPower (SPWR) . Many of the stocks on the list were flat on the year and have not participated in the recent post-election rally.
I am not going to run the full list just yet as I would rather do that again in January. However, I did see a couple of names I think are worth mentioning as stocks you probably want to avoid adding to your portfolio right now.
Mondelez International (MDLZ) is a stock that everybody loves this year even though the company's attempt to buy Hershey (HSY) fell flat. The shareholder list includes Bill Ackman, Jana Partners, Mario Gabelli and a host of other well-known investors. Mondelez has a robust brand portfolio, including names like Ritz crackers, Trident gum and Cadbury and Milka chocolates. The company is frequently mentioned as a potential takeover target for the owner of Kraft Heinz (KHC) , a holding in the Action Alerts PLUS portfolio, and 3G Capital, which is raising a new fund for acquisitions. That could happen, but according to the screen the company is not earning its cost of capital and has not grown book value for the past five years.
In his latest shareholder letter Bill Ackman said, "While the global growth rate of Mondelez's snacking categories has moderated over the course of the year primarily due to macroeconomic headwinds, we continue to believe that the long-term outlook for these categories remains robust, especially in the emerging markets where Mondelez has large market shares and robust routes to market." My observation, based on 30 years of experience, is that betting on emerging market growth to drive your stock price higher is usually an uncertain bet. Unless you have a very high degree of conviction that this company will be a takeover target, it is probably best to avoid the stock as we go into the New Year. Trading at 2.3x book, 2.4x sales and almost 20x hoped-for earnings, it is difficult to make a case that the shares are bargain priced right now.
Another name that is probably best avoided right now is Icahn Enterprises (IEP) . I am a huge fan of Carl Icahn, but once again the company does not earn its cost of capital and book value has not increased over the past five years. While some may rush to say that this is a find and should not be evaluated in this fashion, I will point out that the company has nine other businesses outside the investment portion, including automotive, energy, gaming, railcar, mining, food packaging, metals, real estate and home fashion.
I would be much more enthusiastic about the company if we were able to snap up units at a bargain price. but the shares trade at more than 3x book value and a little over twice the recent estimated NAV published by Barron's. Icahn is one of the greatest investors in the world, but that's too high a premium to invest in his company right now. According to the recent investor presentation on their website his main fund, Icahn Capital, has had a tough three years and in spite of his billion-dollar election-night stock purchases it is probably not going to get a whole lot better anytime soon.
I will be revisiting this topic when the calendar changes in a few weeks. We will also talk about how to use the list as a potential activist hunting ground after the first of the year. For now, these two companies, Mondelez International and Icahn Enterprises, stand out on the current list of possible value destroyers.
