I think most of the downside risk is in the price now. Here is an article from a while back explaining the situation on TYC.----
Morningstar Analysis by Jeff McConnell 11-30-1999
Despite its recent slide, Tyco International isn't yet a screaming buy.
This company has been a market darling for some time. Tyco is an old-fashioned conglomerate, with businesses as diverse as undersea telecommunications cable, home- security devices, and medical supplies. By management's own count, the company has made more than 110 acquisitions over the past seven years. In the midst of the hot merger market of the 1990s, investors have applauded Tyco's moves: Over the past five years, the stock has averaged a 47% annual gain, outperforming the S&P 500 by more than 20% per year.
But the stock took a big tumble in October after institutional research firm David W. Tice questioned whether certain of Tyco's accounting practices had lowered the quality of the firm's earnings. Tice's report focused on, among other things, whether Tyco was too aggressive in making its numerous one-time acquisition charges. That would enable the company to hide actual operating expenses, an illegal practice. Spooked investors fled the stock, driving it down more than 22% for the month.
But even a drop of that magnitude isn't enough to make this stock a bargain. Tyco still sells for almost 41 times cash flow, almost twice the S&P 500's multiple, and it earns a valuation grade of D. That seems like a pretty steep price to pay for a company facing earnings-quality questions.
True, Tice himself admitted his firm found no evidence of outright fraud at Tyco. And the stock could begin to regain some of its lost ground before long should these concerns pass. In addition, Tyco's increased focus on its telecommunications and electronics segment (for example, the company's recent purchase of telecom- equipment-maker AFC Cable) moves the firm further into more growth-oriented areas.
Still, it's worth noting that any company that's made as many acquisitions as Tyco has will probably be faced with questions about the quality of its earnings at some point. That's because of goodwill, the excess a company pays for a target over its book value. Goodwill is counted as an intangible asset, and firms must amortize a portion of it against their earnings each year. Thus, goodwill both inflates a company's assets and equity and takes a chunk out of its earnings. In Tyco's case, those effects are material: As of June, goodwill made up more than a third of the company's assets.
And running a conglomerate isn't easy. Not many companies have been able to successfully manage large groups of unrelated businesses for long periods of time. That's one reason there aren't many conglomerates around anymore. And one needs only to look at the travails of recent acquirers such as First Union FTU to see how deep a firm can be wounded when it overpays for a target. To Tyco's credit, it has avoided such traps thus far. But investors should be aware that even at its reduced price, this company still packs plenty of risk. |
