Corporate Restructuring

As illustrated in Chapter 6 of The Option Advisor: Wealth-Building Techniques Using Equity & Index Options, traders can use the leverage provided by option contracts to benefit from corporate restructuring.

While a major layoff announcement can result in some unfavorable press for a company over the short term, Wall Street actually looks favorably upon corporate restructuring. In the eyes of analysts, a leaner and more focused workforce often results in a boost to the bottom line. Additionally, a company can benefit from divesting itself of non-core segments to refocus on its key business. Therefore, playing a long-term call option on a company that's in the midst of restructuring can result in a nice payoff as the turnaround begins to take place.

New CEOs

In the same vein as general restructuring initiatives, a changing of the guard at a company's helm can make a significant impact on a company's operations and share price. When looking for option plays based on new-CEO situations, it is critical to make sure 2 conditions are in place before one can expect a longer-term uptrend:

• The new CEO must have a history of success with other firms.

   

• The expectations by market participants should not be too high, or the initiatives of the CEO may be set up for a disappointment.

Very often, however, it becomes difficult to satisfy the first point without also encroaching on the second. A proven track record of success can naturally lead to great expectations from Wall Street for a sea change in the company's performance.

For example, if ABC Corp. gained 300% in 5 years under the aegis of Chief Executive John Johnson – who implemented a number of successful cost-cutting and margin-boosting initiatives during his tenure – those same happy investors may be all to eager to buy into XYZ Corp. shares when Johnson takes over the CEO spot at that company.

For an interesting real-world example, you need to look no farther than Dell (DELL). After giving up the CEO position in 2004, Michael Dell resumed his role as CEO in February 2007 amid accounting concerns, slipping market share, and a nearly 2-year downtrend in the stock’s price. While the equity initially jumped on the news, it took the security another month to finally reach a bottom. The shares of DELL have quickly rebounded and enjoyed a lengthy uptrend following the news of Michael Dell’s return to the helm of his company.

In 2005, Mark Hurd assumed the role of CEO for Hewlett-Packard (HPQ) after spending 25 years with NCR Corp. Hurd took over Hewlett-Packard following the resignation of Carly Fiorina and the weaker-than-expected performance of the company following its merger with Compaq in 2002.

However, a new CEO doesn’t always help boost the shares of a company. In mid-June 2007, co-founder Jerry Yang announced that he would be taking over as CEO of Yahoo! (YHOO). Concerns quickly arose surrounding Yang’s decision since he had no prior experience handling the day-to-day management of the company. While the shares briefly popped higher on the news, the equity has since resumed its long-term downtrend.

While the installation of a new chief executive – or the sale of a non-core business division – can give a stock an immediate short-term boost, it's not a given that these changes can result in long-term gains. The efficacy of the turnaround will be reflected in the company's bottom line in the months, quarters, and fiscal years to come. Ongoing positive results can lend the stock continuing upward momentum.