I Am Not Ben Graham

April 5th, 2009 by Potato

Well, time to fess up to another investing mistake: I’m not Ben Graham. The story behind the mistake is that I invested in a small biotech company shortly after it’s IPO (this is not the part where I thought I might be Ben Graham). As a scientist I thought that I understood their tech and that it looked good and that they could make it big, and essentially gambled a small amount of money on the stock.

Things went poorly, as they so often do, and the share price tanked. It tanked so far in fact that the company was trading at about one-tenth its remaining cash on hand. Since it was still fresh from the IPO it still had cash on hand and wasn’t neck-deep in debt or anything, so I figured that rather than bail on my initial position (which at that point was worth less than the commission it would have taken to sell out), I bought some more. This is where I did mistake myself for Ben Graham. I figured that since it was at such a discount to the cash it just made sense to buy it up while it was still in distress from the poor results. It was a one-trick pony, and that pony had just been brutally killed, so I saw no way that they could continue as a going concern. I figured that they were either going to raise more cash and take another go of it (which was contra-indicated by the wording of the announcement of the failed clinical trial), or close up shop and distribute the remaining cash back to the investors, with the second option being far more likely.

They just recently announced that they managed to sell their patents, for an amount that alone would have made the company worth five times what it was trading for at the bottom, but in the deal they were only going to distribute a tiny, tiny fraction of that as cash to the investors. The rest of the cash would sit in the company to “pursue other opportunities”. There’s been no prospectus or guidance yet as to what form those opportunities would take, but with no patents and a small (but not insignificant) mountain of cash I don’t see how a biotech company can really pursue any opportunities. I was just not seeing how this deal would return value to me, so I bailed today when the stock went up a bit. I ended up doubling the small amount I bought after the bad announcement, but it was a ~60% loss over all because of that larger first bet, and still only about 25% of the book value. I might have sold too early, and when the details of the arrangement come out along with the proxy forms then maybe I would have seen the light, but I was also eager to just get out and not see this 60% loss in my portfolio every day.

I was quite able to look at the (very simple) balance sheet and do the math as to how undervalued the shares were, but what I failed to realize is that I don’t have the power to actually get the value out of the corporate shell — I couldn’t buy up a majority of the shares and bring about a liquidation, or charm the board of directors. Even if I could have identified another 50 such companies to hope value returned in enough of them for it to be positive overall, I don’t have the resources to take a position in all of them…

As a small-time investor I’m just along for the ride.

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