For Subscribers

Get the complete article now!

Six money managers examine portfolio management strategies in the latest issue of The Wall Street Transcript, available at (212/952-7433) or http://www.twst.com/info/info550.htm

TWST: Let’s move on to your next holding.

Mr. Ganucheau: Another interesting company is Tyco (NYSE:TYC). Again, short-term controversy can provide opportunity. Tyco is a conglomerate, made of many market-leading companies in three divisions including Electronics, Healthcare & Specialty Products, and Fire & Security services. Electronics is led by AMP, which makes electrical connectors and components. Healthcare & Specialty Products includes disposable medical products made by companies like Kendall and US Surgical, as well as adhesives, plastic hangers and trash bags. Within Fire & Security Services, companies produce tubing, sprinklers and other technology for fire safety, and ADT provides security for homes and businesses. These individual market-leading businesses (AMP, Kendall, US Surgical, ADT and others) give us confidence in the sales and earnings power of the Tyco conglomerate. We know these are real businesses that have significant value. In the wake of Enron, investors are concerned about accounting practices, especially with companies that have grown through acquisition, and this has resulted in what we would define as panic selling. We try to do a fundamental analysis that asks, “Longer term, is there a risk to the viability of the business?” Nobody wants to own the next Enron. Tyco is not the next Enron. Tyco is comprised of understandable businesses that generate real free cash flow. Nonetheless, this fear has caused the stock to fall significantly as investors have fled from companies with controversy. The high in this stock was $63. It’s now $26, down 59%. Recently, the low prices caused the company to plan to split itself into four companies to try to unlock value. Management believed that this would allow its businesses to trade in line with their peers, reducing the growing conglomerate discount. Management was frustrated that Tyco at the time was 13 times earnings, while the market was 21 times earnings. That’s back when Tyco was around $45. However, skeptics thought Tyco was trying to mask slowing growth, and the stock has suffered. A sum-of-the-parts valuation, based on p/e ratios of comparable public companies and EPS for Tyco’s industrial divisions, yields a value of $17 per Tyco share for Healthcare & Specialty Products (Kendall, US Surgical), $15 for Fire & Security Services (Scott, ADT), and $21 for the Electronics (AMP). Valuing the individual businesses yields a value of about $53 per Tyco share today. Assuming a conglomerate discount (they’ve abandoned the breakup plan) of around 20% yields a $42 value. CIT’s IPO for around $6 billion will bring approximately $3 per share in value to Tyco shareholders. This is a total of $45 including the value from CIT. This is only 17 times this year’s cyclically depressed earnings. At $26, Tyco is trading at more than a 40% discount to intrinsic value of $45 based on this method of valuation. Put another way, Tyco could appreciate 73% as controversy fades once CIT is sold in the IPO and debt is paid down. On a fundamental basis, at $26 the company is trading at 9.3 times next year’s depressed earnings and should be able to grow earnings longer term, given its end markets and redeployment of free cash flow, at around 10%. Once the dust settles on the short-term negative psychology, Tyco could garner over a 15 p/e multiple. This means that, over seven years, earnings will double, which reflects a 10% compound rate of return, and the p/e should be up over 60%, which should generate a return of 3.2 times over seven years, and that today represents an 18% compound rate of return, which we think will beat the market quite nicely. So we think that Tyco is a unique opportunity.

This special Investing Strategies Report includes:

1) Peter F. Ganucheau IV, Principal, Portfolio Manager/Analyst with GSB Investment Management, Inc., examines portfolio management strategies in this timely and deeply informative 11,400-word interview from The Wall Street Transcript.

2) William J. DeRosa Jr., Portfolio Manager with Badgley, Phelps and Bell, Inc., examines portfolio management strategies in this timely and deeply informative 4,500-word interview from The Wall Street Transcript.

3)Jonathan W. White, Senior Vice President and Chief Investment Strategist for Banknorth Investment Management Group, examines portfolio management strategies in this timely and deeply informative 3,100-word interview from The Wall Street Transcript.

4) Geoffrey R.B. Carey and Jane W. Korhonen, both Partner and Senior Portfolio Managers at Brown Investment Advisory & Trust Company, examine portfolio management strategies in this timely and deeply informative 3,500-word interview from The Wall Street Transcript.

5) Richard H. Earnest, Director for HighMark Capital Management, examines portfolio management strategies in this timely and deeply informative 4,900-word interview from The Wall Street Transcript.