Security Analysis : Sixth Edition, Foreword by Warren Buffett: Additional Aspects of Security Analysis. Discrepencies Between Price and Value

that gave $900 of new debentures, fully guaranteed by the Province of Ontario, for each $1,000 Ontario Power Service bond. The new debentures were quoted at 90 in December 1933, equivalent to 81 for the old bonds. The small number of bondholders not making the exchange received 70% in cash.
    2.
Amalgamated Laundries, Inc., 6½s, Due 1936
. Receivers were appointed in February 1932. The bonds were quoted at 4 in April 1932. In June 1932 the properties were sold to outside interests, and liquidating dividends of 12½% and 2% were paid in August 1932 and March 1933. In December 1933 the bonds were still quoted at 4, indicating expectation of at least that amount in further distributions.
    3.
Fisk Rubber Company First 8s and Debenture 5½s, Due 1941 and 1931
. Information regarding these issues was given in Chap. 18. Receivership was announced in January 1931. In 1932 the 8s and 5½s sold as low as 16 and 10½ respectively. In 1933 a reorganization was effected, which distributed 40% in cash on the 8s and 37% on the 5½s, together with securities of two successor companies. The aggregate values of the cash and the new securities at the close of 1933 came close to 100% for the 8% bonds and 70% for the debenture 5½s.
    Price Patterns Produced by Insolvency. Certain price patterns are likely to be followed during receivership or bankruptcy proceedings, especially if they are protracted. In the first place, there is often a tendency for the stock issues to sell too high, not only in relation to the price of the bond issues but also absolutely,
i.e.
, in relation to their probable ultimate value. This is due to the incidence of speculative interest, which is attracted by a seemingly low price range. In the case of senior issues, popular interest steadily decreases, and the price tends to decline accordingly, as the proceedings wear on. Consequently, the lowest levels are likely to be reached a short time before a reorganization plan is ready to be announced.
    A profitable field of analytical activity should be found therefore in keeping in close touch with such situations, endeavoring to discover securities that appear to be selling far under their intrinsic value and to determine approximately the best time for making a commitment in them. But in these, as in all analytical situations, we must warn against an endeavor to gage too nicely the proper time to buy. An essential characteristic of security analysis, as we understand it, is that the time factor is a subordinate consideration. Hence our use of the qualifying word “approximately,” which is intended to allow a leeway of several months and sometimes even longer, in judging the “right time” to enter upon the operation.
    Opportunities in Railroad Trusteeships. In the years following 1932 a large part of the country’s railroad mileage went into the hands of trustees. At the close of 1938 a total of 111 railway companies operating 78,016 miles (31% of the total railway mileage in the United States) were in the hands of receivers or trustees. This is the greatest mileage ever in the hands of the courts at any one time. Reorganization in every case has been long delayed, owing on the one hand to the complicated capital structures to be dealt with and on the other to the uncertainty as to future normal earnings. As a result the price of a great many issues fell to extremely low levels—which would undoubtedly have presented excellent opportunities for the shrewd investor, had it not been that the earnings of the railroads as a whole continued for some years to make disappointing showings as compared with general business.
    Viewing the situation about the end of 1939, it appeared that many of the first-mortgage liens on important mileage had fallen to lower levels than were warranted by anything but a most pessimistic view of the future of the carriers. Certainly, these issues were cheaper than the bonds and stocks of solvent roads, which sold for the most part at liberal prices in relation to their current exhibits and which in many cases would be in danger of insolvency if future conditions turned out as badly as the low price of trusteeships issues seemed to anticipate. The technique of analyzing issues of the latter group is covered on accompanying CD in Chap. 12 and in Appendix Note 66, page 821.
Chapter 51

D ISCREPANCIES B ETWEEN P RICE
AND V ALUE (
Continued
)
    T HE PRACTICAL DISTINCTIONS drawn in our last chapter between leading and secondary common stocks