The science of selling

The time will come when something has to give, says Vanessa Gilbert

Vanessa Gilbert


IN A RISING MARKET THE THOUGHT of selling shares may seem a little odd. “Why would I sell when the value of my portfolio increases every day?” you ask.

It’s easy to get caught up in the momentum of impressive performance, meanwhile ignoring the poor and worsening economics of the business. Share prices cannot outperform business performance indefinitely and stockmarkets do not continue to rise. After a while, something has to give.

So understanding when you should sell shares is crucial. At Skaffold we approach selling as an opportunity, an opportunity to realise capital growth, to avoid loss or to invest in something better. When, then, should you sell? We advocate five reasons:

1. Business performance is declining At Skaffold we use return on equity (ROE) to quantify the performance of every ASX-listed business (plus another 2000 of the world’s largest listed companies). A business that has $100 million of equity capital and produces a profit of $20 million is far more valuable that one that requires $500m of equity capital to produce the same profit.

Since 2003 BlueScope Steel’s earnings per share (EPS) have fallen from $0.39 to -$1.28. Profits are down from almost $460m to a loss of -$35m and ROE has fallen from 15% to around 1%. Its share price has fallen from around $14.50 to just under $5.

While manufacturing businesses tied to commodities are predisposed to changes in supply and demand, holding on to companies whose performance is in decline will ultimately put a dent in your portfolio.

2. Intrinsic value is declining The intrinsic value of a business is closely tied to its performance. When a company reports falling profits and profitability, you can be fairly certain its intrinsic value will be falling.

In 2006 Skaffold estimated the intrinsic value of Alumina to be around $3.60. Then its shares were trading at more than $6. Fast forward to December 2012 and it reported EPS of -2¢. ROE has fallen from more than 30% to -2%. In 2008 Alumina spent $800 million more than it earned and dividends were suspended in 2009. Since 2006 its intrinsic value has fallen from more than $3.60 to zero. From a high of $7.16 in 2007, its shares are now around $1.

3. Share price rises well above value In the case of Fleetwood, shareholders have enjoyed periods of rising share prices but each has been followed by a decline. Between September and the end of December 2008, the price fell from almost $10 to around $3.30. This was an opportunity to buy shares – which Skaffold rated A1 at the time – at a 50% discount to the intrinsic value estimate of nearly $6.50. By February 2011 the share price had risen to more than $14, almost 30% higher than Skaffold’s intrinsic value estimate of $11. If you’d sold your shares in 2011 you could have made a profit of more than 300%. When share prices rise well above value, it’s time to sell.

4. Future growth is less promising In 2006 OrotonGroup appointed a new CEO, Sally Macdonald, and in the next five years every measure of business performance rose. EPS moved from 19¢ to more than 60¢, dividends from 5¢ to 50¢, debt fell, profits increased more than threefold and ROE almost tripled. The share price rose from around $1.20 in 2006 to a high of $9.46 in February 2011. In August 2012 Oroton announced the end of its agreement to distribute Ralph Lauren merchandise here. It had accounted for more than 30% of net profits. Skaffold estimates the intrinsic value of Oroton could fall more than 15%pa. When the future does not look as good, it may be time to sell.

5. A superior investment is found As an investor, your goal should be to fill your portfolio with quality companies. CSL, Flight Centre, TPG Telecom and Domino’s Pizza are a few that make the grade. But after share price rises this year, they aren’t bargains. If a better investment isn’t available, don’t be afraid to put keep your money in the safety of cash. Not losing money is just as important as making a profit.


Visit to download Skaffold’s free report When to Sell. All valuations and data are provided by Skaffold Pty Limited. Skaffold’s level of analytical scrutiny presented in an easy-to-use interface makes it easy to pick the best-value stocks and identify investment opportunities. Vanessa Gilbert is one of Skaffold’s founders.


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