The Fate Of The Fantastic Four (Of Financial Engineering)

It was just over two years ago I wrote about The Fantastic Four That Make FANG Look Tame. McDonald’s, Caterpillar, Boeing, and 3M, known in these pages as MCBM, had seen their stock prices, as a group, soar over 120% during the prior two years, more than doubling the performance of the S&P 500 and blowing away any other group you might want to compare them to including the vaunted FANG stocks (Facebook, Amazon, Netflix, and Google).

At the time I would be astounded by the outperformance of these old, blue-chip stocks and was curious to understand what was driving it so I dug a bit into their valuations. What I found was that it was entirely due to an expansion of their valuations to heights never before seen. What made this even more impressive was the fact that this came in response to record low revenue growth. Somehow, investors saw fit to reward these companies by paying unprecedented prices for their equity relative to their sales even as their long-term sales growth was turning negative for the first time ever.

The explanation for this enigmatic episode was not too difficult to discover, however, once you took a look at their balance sheets. Over the past several years MCBM has issued a record amount of debt to buy back stock in massive quantities. This resulted in both the debt and the equity sides of their enterprise value calculation (market capitalization plus net debt) exploding even as sales growth imploded.

The success of this financial engineering, however, is already coming into question. Since that earlier post on the topic, the MCBM stocks have dramatically underperformed the market.

And all of that new debt now on their balance sheets, which is not offset by any new assets to speak of, could soon live up to the term “liability” during the nascent, coronavirus-catalyzed downturn. The best visualization of the predicament is the chart of the total net asset value of the four companies below. It has fallen 90% from $70 billion just a few years ago to about $7 billion today.

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Disclosure: Information in “The Felder Report” (TFR), including all the information on the Felder Report website, comes from independent sources believed reliable but accuracy is not ...

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