In part three of the series on special situations, where the little guys have the advantage over the big guys, we’ll be taking a look at spinoffs. This series is based on the book You can be a stock market genius! so for additional information, be sure to read it yourself.
New here? Catch up on the series.
Part 1: Odd Lot Tenders
Spinoffs can take many forms but a simple definition can be defined as a corporation taking one of its subsidiary or business division and then separating it to create a new company. A spinoff usually occurs because the company wants the public to fully recognize the underlying assets of the division and to get a better valuation of the whole company. The newly created company is then valued by the market independently.
The first good sign is that spinoffs in general beat the market. There is a chance that a spinoff index “could” serve better than an index fund. But why? The short answer is the people that receive the shares, usually don’t want it. If the spinoff is performed via an IPO, that would be a different story as people interested in the spinoff are the buyers.
Now if a spinoff occurs so that a previously hidden asset is desired to be recognised, you would think that people would hold onto the shares for dear life. Not the case. E.g. If company ABC is a car manufacturing company with a tiny car alarm division, it is safe to assume the shareholders may not want to hold a car alarm company. Their original intention was to own ABC as a car manufacturer. Thus, there is a strong selling pressure following the spinoff. Other selling factors include:
All of the above reasons cause short term selling pressures which usually result in sharp price drops within the first few weeks.
Here are some characteristics that can point to an exceptional spinoff opportunity.
Partial spinoffs and rights offering are also just as profitable as spinoffs but due to my lack of experience in this area, I’ll be skipping this additional section. As I find examples of past partial spinoffs and rights offerings, I’ll provide an update post when I grasp the whole picture.
In the meantime, for commentary on upcoming or recent spinoffs, Stocks Spin Off blog provides useful information.
Lastly, as I don’t want reader attention to wane, I’ll leave spinoff examples for the next post.
[tags]special situation, spin off [/tags]