Covanta Holding (NYSE: CVA ) carries $ 754 million of goodwill and other intangibles on its balance sheet. Sometimes goodwill, especially when it’s excessive, can foreshadow problems down the road. Could this be the case with Covanta Holding?
Before we answer that, let’s look at what could go wrong.
AOL blows up
In early 2002, AOL Time Warner was trading for $ 66.27 per share.
It had $ 209 billion of assets on its balance sheet, and $ 128 billion of that was in the form of goodwill and other intangible assets. Goodwill is simply the difference between the price paid for a company during an acquisition and the net assets of the acquired company. The $ 128 billion of goodwill in this case was created when AOL and Time Warner merged in 2000.
The problem with inflating your net assets with goodwill is that it can — being intangible after all — go away if the acquisition or merger doesn’t create the amount of value that was expected. That’s what happened in AOL Time Warner’s case. It had to write off most of the goodwill over the next few months, and one year later that line item had shrunk to $ 37 billion. Investors punished the stock along the way, sending it down to $ 27.04 — or nearly a 60% loss.
In his fine book It’s Earnings That Count, Hewitt Heiserman explains the AOL situation and how two simple metrics can help minimize your risk of owning a company that may blow up like this. Let’s see how Covanta Holding holds up using his two metrics.
Intangible assets ratio
This ratio shows us the percentage of total assets made up by goodwill and other intangibles. Heiserman says he views anything over 20% as worrisome, “because management might be overpaying for the acquisition or acquisitions that gave rise to the goodwill.”
Covanta Holding has an intangible assets ratio of 17%.
This is below Heiserman’s threshold, and a sign that most growth you see with the company is probably organic. But we’re not through; let’s also take a look at tangible book value.
Tangible book value
Tangible book value is simply what remains after subtracting goodwill and other intangibles from shareholders’ equity (also known as book value). If this is not a positive value, Heiserman advises you to avoid the company because it may “lack the balance sheet muscle to protect [itself] in a recession or from better-financed competitors.”
Covanta Holding’s tangible book value is $ 328 million, so no yellow flags here.
Foolish bottom line
To recap, here are Covanta Holding’s numbers, as well as a bonus look at a few other companies in its industry:
Intangible Assets Ratio
Tangible Book Value (millions)
|Covanta Holding||17%||$ 328|
|Waste Management (NYSE: WM )||30%||($ 553)|
|Republic Services (NYSE: RSG )||57%||($ 3,462)|
|Clean Harbors (NYSE: CLH )||14%||$ 565|
Source: S&P Capital IQ.
Covanta Holding appears to be in good shape in terms of the intangible assets ratio and tangible book value. You can never base an entire investment thesis on one or two metrics, but there are no yellow flags here. If any companies you’re researching do fail one of these checks, make sure you understand the business model and management’s objectives. I’ll help you keep a close eye on these ratios over the next few quarters by updating them soon after each earnings report.
From our Blog
- Why You Need a Dumpster September 21, 2016
- Neighborhood Togetherness Matters & Clean Up Does, Too September 19, 2016
- What Waste Should You Recycle And Throw In The Trash? August 3, 2016
- Dumpster Rentals for Business Owners August 1, 2016
- Picking a Dumpster for Your Next Roofing Project July 19, 2016
- Consequences of Illegal Dumping and Littering July 13, 2016
- How To Dispose Of Debris? June 14, 2016
- When Is A Good Time To Clean Out Your Waste? June 13, 2016
- How to Dispose of Construction Waste May 2, 2016
- Why You Should Share Rental Dumpsters With Your Neighbors April 29, 2016
2011 2012 Announces best Call Clean Company Conference Connections Covanta diving dumpster dumpsters Energy Ewaste Garb garbage Harbors Holding Identity Inc. Industry Landfill Management Plant power Present Progressive Recycling Release Rental Reports Republic Second Services Solutions Stericycle stock Third TRASH TriTech Veolia Waste yard Year
- Dumpster Diving for Gourmet Pig Feed – Novella Carpenter July 10, 2011
- A Shout Out To Eating Garbage: Dumpster Diving on CBC September 17, 2011
- MythBusters – Dumpster Diving Trailer July 16, 2011
- Kris Kemp: Dumpster Diver August 21, 2011
- What should happen after my character gets beat up? June 6, 2011
- Frugal TV – Dumpster Diving for Coupons June 11, 2011
- Dumpster Dive (Director Commentary) September 24, 2011
- Dumpster Divers Spark Palin Probe September 11, 2011
- Can Opener? We don’t need no stinking can opener! June 19, 2011
- Auburn-Placer 1 yard dumpster June 8, 2011