Stock Talk #4: My Galaxy Brained Quest to Find the “Worst” Companies (And Invest In Them)

This Stock Talk is going to be a bit of an experiment; instead of going over market trends, I want to discuss a new experiment I’m working on; finding companies the market believes are most likely to file for bankruptcy (BK). I believe these opportunities will be reflected in a market cap that foots to liquidation (book) value or below, and should be easier to find in small caps (which don’t have as strong access to capital markets) than large caps.

Why am I doing this? Because I think these companies are the ones that could be 10x+ returns. They also are the most likely to be zeroes, so they do come with a ton of risk. That said, I view these opportunities the same as call options, which represent a right to buy at a specific price before a certain date. With call options, you accept the price of the option could be zero at expiration in return for an unlimited potential future profit.

In the case of these close-to-BK companies, the analysis is very different from what you would do for “normal” stocks:

– Normal stock analysis – Based on the discounted value of future cash flows or some other metrics of your choice, determine the lowest possible price the company “should” be valued at; buy below that price.
– Nearly BK stock analysis during Coronavirus crisis – If the company’s equity value is more than zero (or some super low market cap, like 15 million) and will survive AC (“After Coronavirus”), buy the company

Call me crazy, but I think Nearly BK stock analysis is more straight-forward than Normal stock analysisThis analysis involves a few things:

– Calculating the company’s total liquidity on hand (cash, revolver capacity)
– Calculating the company’s expenditures over the next 3-6 months (which is how much longer I assume Coronavirus lockdowns will last)
– Calculating the company’s debt maturities (do they have to refinance a ton of debt during Coronavirus?)
– Calculating the company’s potential access to capital markets (do they have unencumbered assets they could use to raise secured debt?) or government financing through federal or state C19 financing programs
– Final determination – Buy if company has 1) enough liquidity to pay expenditures over 3-6 months, 2) has no debt maturities in 3-6 months and bonus, 3) can raise capital in this environment (by the way, this isn’t impossible – Royal Caribbean and Carnival Cruise Lines have both raised since this crisis started)

I plan to spend my free time doing this type of analysis. For now, I want to start with universes like these 28 companies. I found these names based on the following percentiles based screen:

– Bottom 50th percentile of market cap (with minimum of bottom 5th percentile, to screen out ETFs and micro, micro pink-sheet like stocks)
– Bottom 1% of percentage of 52w high.

Here’s what I came up with (you can click the link above to see the full list):

Four of these companies were billion dollar plush market caps in the last year; all of them except one at their 52w high were 18x+ what they currently are now. Not surprisingly, many are in the energy sector doing nat gas, resource exploration, etc. and have been burned by oil prices in the thirties and twenties (CDEV, USWS).

I did notice a number of them have had declines that preceded the C19 crisis, so the next step in my analysis this weekend is to find declines since late February.

Just messing around with my screener to include higher market cap stocks, I stumbled upon CHEF ($258 million market cap), a stock that ran up over the last three years but since C19 has gone from $42.06 to $8.46:

Chef’s Warehouse is a food distributor that makes fancy gourmet stuff (ex. cheese plates). The company’s sales look like below per their last 10-K:

Of course, I have a ton of research to do on liquidity and the questions I raised above. By the way, “Center-of-the-Plate” I learned is considered poultry, seafood and other types of meat. Something like this piques my interest – what reasons are there that CHEF wouldn’t get back to expected sales or 3/4 of expect-sales following C19?

The important analysis I haven’t done; can they survive with zero revenue for 3-6 months? Good analysis here could net me a few ten-baggers.

To searching,