# Safe Bulkers Inc (SB) Investment Valuation

April 12th, 2013 Posted by criseldar Investment Valuation No Comment yetSafe Bulkers Inc (SB) is an international provider of marine dry bulk transportation services transporting bulk cargoes like coal, grain, and iron ore globally. Dry Bulk Shipping deliveries continue to increase at the expected pace, a possibility of positive earnings this year is also expected.

**SB Value Investing Approach **

This Pricing Model was prepared in a very simple and easy way to value a company for business valuation. This model adopted the investment style of Benjamin Graham, the father of Value Investing.

In essence, Graham’s Value Investing is to purchase a stock at a discount in which the market price is lower than the intrinsic value. He was looking for companies with a good balance sheet with average debt. In other words, he was looking for undervalued stock.

The basis for this valuation is the company’s five years of historical financial records, the balance sheet, income statement, and cash flow statement. I calculated first the enterprise value as our first step in the valuation. I consider this important because this is a great measure of the total value of a firm and is often great starting points for negotiation of a business.

**SB Investment in Enterprise Value **

The concept of enterprise value is to arrive at a cost to purchase the entire business. In other words, the Enterprise Value (EV) is the present value of the entire company. Market capitalization, on the other hand, is the total value of the company’s equity shares. In essence, EV is the company’s theoretical takeover price, since the buyer would have to buy all of the stock and pay off existing debt and take all any remaining cash. The table below would give us relevant data about SB.

#### Explanation

The market capitalization continues to drop by 27 and 39 percent from 2010 up to 2012, respectively. Its total debt was 59 percent while its cash and cash equivalent were 8 percent, thus, enterprise value was greater by 51 percent against market capitalization. Buying the entire business of Safe Bulkers Inc., an investor would be paying 51 percent debt and 49 percent equity. In addition, the net cash per share was $2.30 per share.

The purchase price of the entire business of SB to date April 10, 2013, would be $894.5 million at $11.93 per share. While the market price to date was $4.99 per share.

**Benjamin Graham’s Stock Test **

**Net Current Asset Value (NCAV) Approach **

Benjamin Graham created and tested the net current asset value (NCAV) approach between 1930 and 1932. The average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20 percent. An outside study also showed that from 1970 to 1983, an investor could have earned an average return of 29.4 percent by purchasing stocks that fulfilled Graham’s requirement and holding them for one year.

**Net Current Asset Value (NCAV) Method **

Benjamin Graham’s Net Current Asset Value (NCAV) method is a well-known value investing community. Studies have all shown that the Net Current Asset Value (NCAV) method of selecting stocks has outperformed the market significantly. The concept of this method is to identify stocks trading at a discount to the company’s Net Current Asset Value per Share, specifically two-thirds or 66 percent of net current asset value.

Graham was looking for firms trading so cheap that there was little danger of falling further. His strategy calls for selling when a firm’s share price trades up to its net current asset value. The reason for this according to Graham is when a stock is trading below the Net Current Asset Value Per Share, they are essentially trading below the company’s liquidation value and therefore, the stock was trading at a bargain, and it is worth buying.

#### Explanation

The net current approach of Benjamin Graham tells us that the stock price of Safe Bulkers Inc was overvalued from the period 2008 up to 2012 because the stock is trading above the liquidation value of SB. It shows that the stock of SB did not pass the stock test of Benjamin Graham, therefore the stock was considered expensive.

**Market Capitalization/Net Current Asset Value (MC/NCAV) Valuation **

By calculating market capitalization over the net current asset value of the company, we will know if the stock is trading over or undervalued. The result should be less than 1.2 ratios. Graham will only buy if the ratio does not exceed 1.2 ratios.

*Market Capitalization / NCAV = Result (must be lesser than 1.2) ** *

As clearly seen in the table above, the MC/NCAV approach shows that the stock was overvalued from the period 2008 up to the period 2012 because the ratios exceeded the 1.2 ratios. Therefore, the stock of Safe Bulkers Inc did not pass the stock test of Benjamin Graham.

**Benjamin Graham’s Margin of Safety (MOS) **

The basic meaning of “Margin of Safety” is that investors should purchase security when the market price is lesser than its intrinsic value. The margin of safety is used to identify the difference between company value and price. Value investing is based on the assumption that two values are attached to all companies – the market price and the company’s business value or true value. Graham called it the intrinsic value. The difference between the two values is called the margin of safety. This is the concept taught by Benjamin Graham and still referred to by Warren Buffett. Value investing is buying with a sufficient margin of safety, a minimum of 40 to 50 percent below. In the formula below, the enterprise value was used because it takes into account the balance sheet so it is a much more accurate measure of the company’s true market value than market capitalization.

The margin of safety was calculated through *the Margin of Safety = Enterprise Value – Intrinsic Value*.

#### Explanation

The average margin of safety for SB’s stock was 67 percent. During 2008, there was zero margins of safety because of the negative sustainable growth rate. However, the following periods from 2009 up to 2012, the margin of safety was impressive. Let me share with you the formula for the intrinsic value.

*Intrinsic Value = Current Earnings x (9 + 2 x Sustainable Growth Rate) *

The explanation in the calculation of intrinsic value was as follows:

EPS or the company’s last 12-month earnings per share; G as the company’s long-term (five years) sustainable growth estimate, 9 for the constant represents the appropriate P-E ratio for a no-growth company as proposed by Graham (Graham proposed an 8.5, but we changed it to 9); and 2 for the average yield of high-grade corporate bonds.

#### Explanation

The table above shows that the average intrinsic value was -$9.48 because during the period 2008, the fall of the true value of the stock of SB was great. This is due to the negative stockholder’s equity which produces a negative return on equity. The earnings per share and the growth factor the computation for the intrinsic value. Further, the average earnings per share were $1.90 while the annual growth rate was 16.92 percent average.

#### Earnings per Share

The formula for earning per share was:

Sustainable growth rate (SGR), on the side note, shows how fast a company can grow using internally generated assets without issuing additional debt or equity. You need to know its return on equity (ROE) and the dividend payout ratio. From there, multiply the company’s ROE, which is equal to 1 minus the dividend payout ratio. Sustainable growth rate = ROE x (1 – dividend-payout ratio)

The table above shows that the average return on equity was -13.15 percent from the period 2008.

Return on Equity (ROE), according to the definition, is an indicator of a company’s profitability by measuring how much profit the company generates with the money invested by common stock owners. The Return on Equity shows how many dollars of earnings result from each dollar of equity.

#### Return on Equity

The formula for this is:

Moving forward, I will present to you a graph which I have prepared to help us understand very well the relationship between the price and the true value of the stock,

#### Explanation

As we can see, the enterprise value line which represents the price was stable at $14 average, while the intrinsic value which is the true value of the stock was erratic in movement. The true value of the stock factors the earnings of the company and the growth. From 2008 to 2009, it soared up to 177 percent and then it dropped again to 86 percent the following period. It is safe to buy in 2009 because there is a margin of safety. It almost leveled the following years thereafter.

The margin of safety is the space in between these two lines, or in other words, it is the difference between the price and the true value of the stock. Getting the difference would be 67 percent average and this is the margin of safety.

**SB Relative Valuation Methods **

The relative valuation methods for valuing a stock is to compare the market values of the stock with the fundamentals (earnings, book value, growth multiples, cash flow, and other metrics) of the stock.

**Price to Earnings/Earning Per Share (P/E*EPS) **

This metric is done by multiplying the Price to Earnings (P/E) ratio with the company’s relative Earning per Share (EPS) and comparing it to the enterprise value per share.

The stock price was overvalued because the P/E*EPS ratio was lesser than the enterprise value per share. The average P/E*EPS ratio was 49 percent of the price, thus, the stock is expensive.

**The Enterprise value (EV)/Earning Per Share (EPS) or (EV/EPS) **

The use of this ratio is to separate price and earnings in the enterprise value. By dividing the enterprise value of projected earnings (EPS), the result will then represents the price (P/E) and the difference represents the earnings (EPS).

#### Explanation

The above table for EV/EPS valuation indicates that the price (P/E) was 57 percent average. Earnings (EPS), on the other hand, was 43 percent average. The result of this valuation is at the discretion of the analyst.

**Enterprise Value (EV)/ Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) or (EV/EBITDA). **

This metric is used in estimating business valuation. It compares the value of the company inclusive of debt and other liabilities to the actual cash earnings exclusive of non-cash expenses. This metric is useful for analyzing and comparing profitability between companies and industries. It gives us an idea of how long it would take the earnings of the company to pay off the price of buying the entire business, including debt.

#### Explanation

The EV/EBITDA valuation tells us that it will take 27 years to cover the cost of buying the entire business of Safe Bulkers Inc. Such a very long period of waiting. In other words, it will take 27 times of the cash earnings of the company to cover the purchase price of the entire business.

This valuation also shows the profitability of the company. If you can remember the enterprise value approach, the total debt represents 59 percent of the enterprise value. That was the reason why it will take a long period of waiting to cover the costs. The EBITDA represents only 6 percent of the enterprise value.

#### Bottom Line

The market capitalization continues to drop by 27 and 39 percent from 2010 up to 2012, respectively. Its total debt was 59 percent while its cash and cash equivalent were 8 percent, thus, enterprise value was greater by 51 percent against market capitalization. Buying the entire business of Safe Bulkers Inc., an investor would be paying 51 percent debt and 49 percent equity. In addition, the net cash per share was $2.30 per share.

The purchase price of the entire business of SB to date April 10, 2013, would be $894.5 million at $11.93 per share. While the market price to date was $4.99 per share.

#### Net Current Approach

Further, the stock price was overvalued. because the stock is trading above the liquidation value. Therefore, the stock did not pass the stock test of Benjamin Graham. Furthermore, the MC/NCAV approach shows that the stock price was overvalued because the ratios exceeded the 1.2 ratios.

#### The margin of Safety (MOS)

The average margin of safety for SB’s stock was 67 percent and the average intrinsic value was -$9.48. The average earnings per share were $1.90 while the annual growth rate was 16.92 percent average. In addition, the average return on equity was -13.15 percent.

#### P/E*EPS

Furthermore, the valuation indicates that the stock price was overvalued. The average P/E*EPS ratio was 49 percent of the price. Thus, the stock is expensive. While the EV/EPS valuation indicate that the price (P/E) was 57 percent average. And the earnings (EPS) was 43 percent average.

#### EV/EBITDA

The EV/EBITDA valuation tells us that it will take 27 years to cover the cost of buying. In other words, it will take 27 times the cash earnings of the company to cover the purchase price.

Hence, the price was overvalued, therefore, I recommend a **HOLD** on the stock of Safe Bulkers Inc,

Research and written by Cris

Twitter: criseldarome