Bill Ackman tells Charlie Rose: “It sounds like the government is looking into product quality issues in Herbalife.”

Last night Charlie Rose interviewed Bill Ackman of Pershing Square after he has resigned from the board after unsuccessfully pushing for yet another new CEO. They talked about his past and present positions in JC Penney, Herbalife, General Growth, CP Rail, Target, MBIA, the present problems plaguing him and future business prospects. Ackman commented on the on going feud between him and Carl Icahn, stating he is “Getting back at me” from a prior dispute over collecting money owed to him by Mr. Icahn that he eventually sued for. He also said to Charlie, “Look at our history over 10-years, I am not actually use to getting in disputes with people.” Bill’s view on Dan Loeb’s position was that it may have been a good trade but “I am not a trader” Bill told Charlie.

When talking about JCP and Ron Johnston’s mistakes he seemed composed and collected citing JC Penney real estate assets (over 1100 stores) as valuable, as well as the brand. Bill was a little perplexed explaining why JC Penney is once again pursuing a discount strategy stating “People would rather a $100 item at a 50% discount than an item marked at $40, a surprising psychology phenomenon.”

Between both his JC Penney long position and Herbalife short position, Bill Ackman has paper losses close to 1 billion. He sounded optimistic telling Charlie, “It sounds like the government is looking into product quality issues in Herbalife.” Although Bill is known to be very disciplined reflecting back on his MBIA short position that was held for over a 7 year period viewing his articulations as a warning sign for investors. “Short sellers are the canary in the coal mine,” he said.

http://www.bloomberg.com/video/investor-bill-ackman-on-jc-penney-board-resignation-XEfSuVOhSSylm_Ac4gvRjA.html

A Basic & Useful Ratio Comparison

ROE or the return on equity of a company can be a very useful financial ratio when used in combination with others. Return on Equity is Earnings/Equity or what the company can earn on invested capital. For example lets say you purchased a house for 100,000 and sold it one year later (Ex all fees and taxes for illustration purposes) for 130,000 you would have 30,000 profit.

30,000/100,000 = 30% ROE

Now when used in comparison with PE or price to earnings ratio you can find discrepancies between the market price and equity valuations. Earnings/Price gives you the PE but the price is the market capitalization “Mr. Market” is willing to give you on any given day or during any given period. Now lets take any given company, for this example I will use Apple (AAPL). Assume the price given by the market is 425B but the company earns 42.5B net income annually or otherwise known as priced at 10P/E. (42.5/425 x 100)

Now lets assume Apple has a ROE of 30% that means for every 1$ of “EQUITY” invested it can generate a 0.30 cent return annually but the market is using irrational behaviour quoting it at 0.10 earnings for each $1 of “PRICE” invested. Equity being a balance sheet item and rough approximation of business liquidation value, price being what someone is willing to pay on any given day, a stark difference.

Understanding the difference between market capitalization and equity (Assets-Liabilities=Equity) is very important and should not be used interchangeably as one has much more volatility from day to day and week to week but should be used in comparison to see what the company could generate relative to the market quote.

My past experiences have led me to believe management as well as the prudent investor should actively buy shares (or buyback) when ROE exceeds P/E, although this is one ratio and should be used in conjunction with many other ratios (P/S, FCF, OCF, PCF, P/E, P/B, ROE, ROA) as well as thorough analysis of company annual reports and SEC filings. Most importantly ROE must be viewed from a historical average over 7-10 years minimum, assuring ROE is not declining consistently over the period.

Apple Stock Valuation

Apple is talked about almost daily if not hourly, so I figured I would put in my two cents. Apple was founded on April 1st, 1976 by Steve Jobs and Steve Wozniak in a Garage in California. Since then there has been many trials and tribulations, some of which almost brought Apple to bankruptcy. Today Apple in is in a different position, the top of the consumer technology industry. Some people see the unexpectedly high share price and assume it is a very expensive stock, that is simply not the case and here is why.

Based on Share Price of 571.75

P/E Ratio: 12.9

Price to Book: 4.5

Price to Sales: 3.5

Price to Cashflow: 10.6

Dividend Yield: 0.9% ($2.65 per share)

Based on next years earnings with growth factored in AAPL is trading at a forward P/E of 9.3

B/V per share: 125.66

During the most recent quarter 26.9 million iPhones were sold (58% Y.O.Y growth), 14 million iPads sold (26% Y.O.Y growth), 4.9 million Macs (1% Y.O.Y growth), and 5.3 million iPods (19% Y.O.Y unit decline). Earnings before tax margin has been continually expanding over the most recent 9 years. There is speculation margins will be effected after renewing their new product line but consumer price point levels will be maintained and margins will return to the equilibrium (roughly 35%) short to medium term. iPhone and iPad sales are continuing to impress, although missing some analyst expectations the growth is still much intact.

• Almost all money managers/hedge fund managers have exposure to Apple and it is heavily weighted in the Nasdaq, QQQ, and SPY.

The 10-year revenue growth average is roughly 39.10% and a 10-year operating income average of 124.48% both are extremely impressive. Some say Apple is running into the law of large numbers and can not continue to grow at these rates. Although I some what agree with that statement, I believe Apple will continue to grow, only at a slower pace. Apple has a mind-blowing 2012 ROE of 42.8% attributable to alpha of management.

That brings us to the current share price. Apple is worth 550 Billion measured by market cap, and may be the first to 1 Trillion. Although it will take time and predictable growth it can be done, but the bulk of shareholder gains will come from distribution in the form of dividends and share buy-backs. Apple is a company worth holding but at what price? Long-term trend lines show support around the 510 and 490 price levels as well as a 200 day moving average at $594 (resistance). I would suggest we are in a trading range until $595-$600 is broken on volume. As a longer term holding I would aim to buy in the 495-515 range and hold the shares until Apple’s growth starts to run out of fuel. I would suggest a 3-5 year price target of $900 and a 1 year target of $650. Consider buying up to $575 but the higher price you pay comes with a lower margin of safety and lower expected returns.

200 and 50 Day moving averages, RSI (top), MACD (bottom)

You must conduct your own research, know your risks, and always do your due diligence before investing or trading.

Disclosure: I have no positions mentioned but my initiate a position in the next 72 hours.