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By Root 2577 0

had sustained a net loss of $13,200,000, or $5.17 per share—virtually wiping out their former slim equity. (This disastrous figure included a reserve of $8,800,000 for future losses on investments.) Nonetheless the directors had bravely (?) declared an extra dividend of 5 cents right after the close of the fiscal year. But more trouble was in sight. The company’s auditors refused to certify the financial statements for 1969–70, and the shares were suspended from trading on the American Stock Exchange. In the over-the-counter market the bid price dropped below $2 per share.*

Real Estate Investment Trust shares had typical price fluctuations after 1969. The low in 1970 was 16½, with a recovery to 26 5/6 in early 1971. The latest reported earnings were $1.50 per share, and the stock was selling moderately above its 1970 book value of $21.60. The issue may have been somewhat overpriced at its record high in 1968, but the shareholders have been honestly and well served by their trustees. The Real Estate Equities story is a different and a sorry one.

Pair 2: Air Products and Chemicals (Industrial and Medical Gases, etc.) and Air Reduction Co. (Industrial Gases and Equipment; Chemicals)

Even more than our first pair, these two resemble each other in both name and line of business. The comparison they invite is thus of the conventional type in security analysis, while most of our other pairs are more heteroclite in nature.† “Products” is a newer company than “Reduction,” and in 1969 had less than half the other’s volume.* Nonetheless its equity issues sold for 25% more in the aggregate than Air Reduction’s stock. As Table 18-2 shows, the reason can be found both in Air Reduction’s greater profitability and in its stronger growth record. We find here the typical consequences of a better showing of “quality.” Air Products sold at 16½ times its latest earnings against only 9.1 times for Air Reduction. Also Air Products sold well above its asset backing, while Air Reduction could be bought at only 75% of its book value.† Air Reduction paid a more liberal dividend; but this may be deemed to reflect the greater desirability for Air Products to retain its earnings. Also, Air Reduction had a more comfortable working-capital position. (On this point we may remark that a profitable company can always put its current position in shape by some form of permanent financing. But by our standards Air Products was somewhat overbonded.)

If the analyst were called on to choose between the two companies he would have no difficulty in concluding that the prospects of Air Products looked more promising than those of Air Reduction. But did this make Air Products more attractive at its considerably higher relative price? We doubt whether this question can be answered in a definitive fashion. In general Wall Street sets “quality” above “quantity” in its thinking, and probably the majority of security analysts would opt for the “better” but dearer Air Products as against the “poorer” but cheaper Air Reduction. Whether this preference is to prove right or wrong is more likely to depend on the unpredictable future than on any demonstrable investment principle. In this instance, Air Reduction appears to belong to the group of important companies in the low-multiplier class. If, as the studies referred to above†† would seem to indicate, that group as a whole is likely to give a better account of itself than the high-multiplier stocks, then Air Reduction should logically be given the preference—but only as part of a diversified operation. (Also, a thorough-going study of the individual companies could lead the analyst to the opposite conclusion; but that would have to be for reasons beyond those already reflected in the past showing.)

SEQUEL: Air Products stood up better than Air Reduction in the 1970 break, with a decline of 16% against 24%. However, Reduction made a better comeback in early 1971, rising to 50% above its 1969 close, against 30% for Products. In this case the low-multiplier issue scored the advantage—for the time being, at least.*

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