VALUE INVESTING
Anatomy Class Two – API

By Stephen Bland (TMFPyad)
September 17, 1999

Last week I wrote how, in September 1998, I bet half the farm on Barratt Developments (LSE: BDEV) and came out strongly ahead about six months later. I said that I did not know why I put only half of my money into the company, but then I am prone to doing strange irrational things from time to time.

Anyway, half my funds remained in the bank waiting for the next investment. Patience is a prerequisite for this game. Not that I have much in my real life apart from investments. (Is there life after investments?) In fact I am one of the most impatient people you could meet in non-investment matters. I fly into an uncontrollable rage waiting in bank queues and the like. I always seem to get the bloke in front of me, standing there forever, trying to change Hungarian Forints into Brazilian Cruzeiros travellers cheques and paying with a Latvian credit card or some such. Why do such things happen only to me?

From September to December I waited. This meant that half of my money had been sitting in the bank for virtually a year. And then it appeared. Like magic it drifted in front of me.

This is what I saw in the Investors Chronicle of 18 December 1998, and again I thank them for kind permission to quote from their company results pages.

API Group (LSE: API)

• P/E 8 historically and around 6.5 on forecasts.
• Yield 4.6%
• Assets – P/BV just under 1
• Debt – net cash of £6m
• Cap at a price of 287p per share £97m
• Strongly rising eps forecast
• 12 month high/low 645/275 so it was around its low

There was strong relative weakness to the market over the last year. This appeals to me, as I mentioned with Barratt Developments, provided the other value criteria make sense.

API manufactures foil, paper and packaging products. A dull business, you might think. But as you travel with me on this journey you will learn that deep value shares are almost always in superficially dull industries. Superficial because beneath the ostensibly dull surface lies beauty and the road to serious money. If this is dull, give me dull every time.

I have no interest in exciting industries except in the very unlikely event that they are pyad value shares. But since such companies attract investors because of the perceived excitement, I am unlikely to find them appealing because the price is driven up by the excitement.

Real investment beauty for me is the hidden kind that nobody else finds attractive at first. The flashy, tarty, heavily made-up miniskirted appeal of the latest fadstock with her teasing and probable false promise is not my sort of share. These will lead you astray much of the time with their appearance belying what really exists beneath their skirts. What I want to see is the company dressed in spinsterish, sensible clothes, wearing dull glasses, hair drawn back into a severe bun, listening to Radio Four. Hang on a minute, I listen to Radio Four. Well sometimes. I like John Peel's show and the news. Never mind, you know what I mean. But underneath that grim exterior lies an unlit bonfire of seething passion just waiting to be discovered and ignited by you, the value investor. You want to catch it at that point. Sink everything into it and just as it rewards you, dump it quick. Let the next guy have the risky part, you've extracted the best bit.

Sorry, I'm rambling a bit, back to API. A clear pyad share. The share price had collapsed over the last year or so due to poor sentiment in the paper and packaging sector. But the fall at API had been massively overdone in my view. It was the classic case of a recession in a sector hitting the share prices of all constituents equally hard, even though some did not deserve such treatment, not by a mile. I believed the company was undervalued to the point of ridicule. It had a fine record, rising eps, there was absolutely nothing I could see wrong with it. I was certain that the market had made one of its rare and wonderful errors of valuation.

As usual though, stand back and take a deep breath before going in. Smell. Put all the numbers out of your mind for a minute. Hard for an accountant, I know, but essential to me in this game. What did I know about the paper and packaging industry? Panic. Nothing. Unlike Barratt Developments, which was a housebuilder and which I was still in at the time, where I do have some knowledge of the property business, I knew sweet FA about API's trade. But I did not get any negative vibes either. Call the smell neutral. I settled for neutral.

I made my decision and went in hard with the lot. This was it, where the other half of my uninvested 1998 farm was going. Just before Christmas, I paid a little over 300p for API, the price having risen, unfortunately for me, when the IC published the figures. I was fully invested in two shares now, Barratt Developments and API. I settled back for the ride.

I did not mention API on the Fool's Value board at the time.

The subsequent bull run in API was far quicker than usual. Possibly one of the quickest value plays I have ever been in. I don't know why exactly, perhaps brokers and tipsheets had started pushing it, who knows – it didn't matter. Whatever, it suited me marvellously, of course, after I had gone in. Within no more than about eight weeks, the price had risen some 39% to 430 or so, at which point I decided that the big rise was over for the time being. P/BV, usually the first value weapon to run out of ammo, was now quite high, yield was modest at around 3.1%, never having been that great to begin with. P/E was still quite low but the deep value had been outed. The signs were clear and API was finished as far as I was concerned. Consequently, leaving something (or possibly nothing in this case judging by hindsight) for the next guy, I got on the phone and terminated the share, quite painlessly.

API had done the business for me and in dramatically short time too. I banked the 39% enhanced half farm resulting from this deal.

By around March 1999 I had liquidated both Barratt and API and the cash was safely back in the bank. I love the point of going totally liquid, provided I have made money which does not happen every single time. Overall returns on these two amounted to about 54% in some six months, from cash to cash, and I was on the lookout for the next investment. As luck would have it, I did not have long to wait.

Next week, 1999's first play and one I did mention on the board on going in – The Fairview Story. No half farms this time.

Comments and questions to the Value Shares board.