Topic: Spinoffs

Here’s how to find spinoffs to buy to accelerate your portfolio gains

spinoff stocks

Learn how to find spinoffs so you can successfully buy what we think are the closest investments in the market to a “sure thing”

Do you know how to find spinoffs? From time to time, companies set up one or more of their divisions or subsidiaries as an independent company, then hand out shares in that company to their own shareholders, as a special dividend or “spinoff.”

As we’ve said before, some investors treat spinoffs as a nuisance—a minor holding in a stock they didn’t choose and that they perhaps know little about. These investors may soon dump any spinoffs they receive. This can be a costly mistake. Numerous studies have shown that after an initial adjustment period of a few months, spinoffs tend to outperform groups of comparable stocks for several years.


They outperform comparable stocks for years

“We can say without reservation that, in investing, spinoffs are the closest thing you can find to a sure thing. It all comes down to the incentives when companies spin off a subsidiary or division and hand out shares to their shareholders. Study after study has shown that after an initial adjustment period of a few months, spinoffs tend to outperform groups of comparable stocks for several years….” Pat McKeough shows how spinoffs and other “special situations” can create windfalls for informed investors.

 

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In fact, as we mentioned in a recent Advice for Inner Circle Members email, we’re so impressed with the long-term benefits of spinoff investing that we launched an investment advisory focused on it—our Spinoffs & Takeovers newsletter.

How to find spinoffs: Discover the biggest reasons investors look for spinoffs

  • More flexibility. Spinning off unwanted assets lets parent-company managers focus on the part of their business they want to retain. Usually they hold on to the part best suited to their talents.
  • Spinoffs are born with the proverbial “silver spoon.” Parent companies may devote great effort to ensuring they have adequate finances and strong management. They want the spinoff to succeed, for their own prestige, and because they want spun-off bargain stocks to benefit their shareholders.
  • Spun off shares often slump when they begin trading. Many investors routinely dump stock they receive in a spinoff. They may only get a handful of shares—perhaps one for each 10 shares they own. They may have little familiarity with the shares, and coverage by brokerage analysts and the press is often minimal at first. But after this initial slump, these spun-off bargain stocks generally go on to outperform the market as a whole.
  • Spinoffs may get lucrative takeover offers.

How to find spinoffs: Here are a couple more reasons to buy the top spinoffs

A spinoff is when a division of a business spins off into its own company. In addition to the positive performance of the spinoff, the parent companies also tend to outperform comparable firms for several years after a spinoff. That above-average performance makes sense for a couple of reasons.

First, company managers naturally prefer to acquire or expand their assets, not get rid of them. Getting rid of assets reduces a company’s total potential profit, which reduces the funds it has available to pay its managers. The management of a parent company will only hand out a subsidiary to its own investors if it’s fairly confident that the subsidiary, and the parent, will be better off after the spinoff than before.

Second, spinoffs involve a lot of work and legal fees. The parent will only spin off the unwanted subsidiary if it can’t sell the stock for what it feels it’s worth. That’s why companies only have an incentive to do spinoffs under two sets of favourable conditions: When they feel it isn’t a good time to sell (which often means it’s a good time to buy); or, when they feel the assets they plan to spin off will be worth substantially more in the future, possibly within a few years.

We think stock spinoffs will boost your portfolio gains

We’ve had great success with a number of spun off stocks over the years. That’s especially true of the many spinoffs we have recommended that have gone up after they began trading and have later attracted a takeover bid at a substantial premium over the market price.

Needless to say, things don’t always work out this well. Spinoffs and their parents do sometimes run into unforeseeable woes. But on the whole, in investing, spinoffs are the closest thing you can find to a sure thing.

Use our three-part Successful Investor approach to learn how to find stocks—including spinoffs

  1. Hold mostly high-quality, dividend-paying stocks.
  2. Spread your money out across most if not all of the five main economic sectors: Manufacturing & Industry, Resources & Commodities, Consumer, Finance and Utilities.
  3. Downplay or stay out of stocks in the broker/media limelight.

Are spinoffs a part of your investing strategy, or do you prefer to look for stock splits?

What is your opinion of spinoffs? Do you find them annoying, as some investors do, or do you like holding them in your portfolio?

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