To determine optimal risk/reward in a deal Graham used the following formula:
Annual Return = Probability deal will go through (deal price - current price) / current price
Assuming the going private deal proposed by the CEO has only a 50% chance of working out, the formula for PARL would look like this:
50% ( (29 - 19.50)/19.50 = 24%
If you assume a 25% chance of the deal going through:
25% ( (29 - 19.50)/19.50 = 12%
The yield on the 10-yr is 5.1% and by my estimate the yield for the S&P (based on 2007 estimates) is 7.6%. Compared to the alternatives 12% is a nice return.
Now even if the deal does not go through I believe the downside is very limited. It's currently trading at about 7x next years earnings which is an expected growth rate of 38% this produces a PEG ratio of 0.18, making it one of the cheapest stocks on a growth basis. Its also worth noting that the estimates used are historically conservative because PARLUX continues to beat them quarter after quarter.
DISCLOSURE: I maybe long the stocks mentioned above for myself and clients. Not a recommendation to buy or sell any security. The information above has been obtained from sources we believe to be reliable, but its accuracy cannot be guaranteed. The author and affilates shall have no obligation to update or amend any information contained above. For informational and educational purposes only.
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