A Hidden Opportunity as Debt Piles Up

Editor's note: The markets and our offices are closed on Monday, February 19, for Presidents Day. Because of this, we won't publish Altimetry Daily Authority. Please look for your next edition on Tuesday, February 20.

The 'smart money' wanted stocks to sell short... but we saw amazing buying opportunities instead.

In April 2009, investors were still reeling from the Great Recession. At Valens Research – our institutional arm – our clients expected more companies to fail. They wanted to bet against those stocks.

Banks across the country still had serious question marks on their balance sheets. Credit markets were grappling with widespread effects from the credit seizure. Even worse, net income for the S&P 500 Index was negative for the first time ever.

U.S. consumers hadn't even started repairing their personal balance sheets. Credit-card, mortgage, and auto-loan delinquency rates were still rising. And so was the unemployment rate.

Everything was a mess... and anyone in their right mind would have been looking for their next short.

But in the midst of all this, all we could find were screaming buy ideas. The worst news had already been priced in.

Any company with any semblance of credit risk was trading as if the apocalypse had hit. Market valuations suggested that even smart, well-run companies with little or no debt would never recover.

All that bad news was precisely the reason for an incredible opportunity. We had a perfect confluence of trends... creating a great opportunity for savvy management teams.

It was also a perfect profit setup for investors who could identify those teams.

We knew lots of companies with great assets would be up for sale soon...

And potential buyers who understood their markets and had sufficient cash wouldn't have a lot of competition.

We began vetting a set of businesses with the management, liquidity, fortitude, and general savvy to win in what we called the "Strategic Buyers' Market."

The idea wasn't intuitive to many of our clients... The general rule of thumb is that 70% to 90% of acquisitions destroy value for the acquirer. It seemed crazy to recommend the companies that were doing the buying.

But it's not that simple. What the numbers don't tell you is the vast majority of those value-destroying acquisitions are "transformational" – a company buys another big business that doesn't mesh with what's already there.

Management doesn't have a clear plan to integrate the two. It often piles on debt with no hope of repaying it all.

Companies that focus on smaller "bolt on" acquisitions have a lot more success... These purchases are easier to digest and fit in well with the existing business.

Back in 2009, we found three unsung heroes...

Specifically, we homed in on cooking-equipment maker Middleby (MIDD), retailer VF Corporation (VFC), and aerospace and defense supplier Esterline Technologies.

Middleby has since become a "one-stop shop" for restaurant-equipment needs over the past 15-plus years. It has made more than 50 acquisitions while keeping Uniform return on assets ("ROA") around 30% or higher.

The stock was up more than 1,100% in the 10 years from April 2009 through April 2019.

VF Corp has a history of buying unloved brands... and nurturing them into strong businesses. Its offerings include The North Face, Timberland, Vans, and plenty more.

The company made three tactical, distressed acquisitions in the year before we recommended it. It then bought four more brands... and either spun off or sold another 15.

VF Corp was buying on weakness and selling on strength. The approach paid off. Shares rose an adjusted 658% in the 10 years after April 2009.

Esterline, meanwhile, had a similar role to Middleby... but in the aerospace and defense world. In April 2009, it was a small company with a $660 million market cap.

Many of Esterline's purchases were small engineer-owned businesses with older owners. Esterline would buy them and integrate them into its larger business. Management often talked about its "big board" of dozens of acquisition targets.

In March 2019, the company was purchased by another famous strategic acquirer... aerospace supplier TransDigm (TDG). From April 2009 through that acquisition, Esterline's stock rose more than 450%.

Each of these companies had a history of smart, manageable acquisitions...

And all of them were primed for even more buying opportunities... in a distressed market with limited competition. It led to years of earnings growth.

We're seeing a similar setup today...

The Federal Reserve is committed to keeping rates high while it combats inflation. Smaller companies are suffering from challenging debt loads they can't easily refinance.

With no cash... and government-extended credit running out... they're facing some tough choices to stay afloat.

Many of these businesses will have to start shedding assets, whether they like it or not. And great strategic acquirers will scoop up those deals at a discount... positioning themselves for years of growth.

Regards,

Joel Litman
February 16, 2024

P.S. I'm not the only one who has noticed a huge opportunity in strategic acquirers. I recently teamed up with Dr. David "Doc" Eifrig – a senior partner at our corporate affiliate Stansberry Research – to reveal why this setup could be the most overlooked stock market opportunity of 2024.

In our brand-new interview, we share all the details of the well-hidden crisis that's hitting a third of U.S. companies... and how it could lead to 500% upside in a select corner of the market. Plus, we "sound the alarm" on 18 widely owned stocks you should sell immediately. Click here for the full story.