The Joy and the Pain

Sometimes a Fool picks a winner. All the hard work on the front end figuring out industry trends, supply and demand, and fair value for the target company pays off. Better yet, Wall Street comes to the same conclusion and shares go off to the races.

Unfortunately, when shares triple in less than a year, it's often because valuation has gone by the wayside. The least hiccup will slam the price back to reality. That's where I find myself this week with Joy Global (Nasdaq: JOYG  ) .

The joy
I bought shares of the mining equipment manufacturer last summer. High commodity prices made it evident that miners all over the world were going to be digging more coal, copper, iron ore, and just about everything else out of the ground. Furthermore, the development of the oil sands in Alberta was creating a new growth industry for mining equipment manufacturers like Joy Global, Bucyrus (Nasdaq: BUCY  ) , and Caterpillar (NYSE: CAT  ) . Plus, even though shares had advanced a long way from their lows in 2002, they were still reasonably priced.

Shares of Joy Global advanced about 25% during the first four months after my purchase -- a gain that would make this Fool smile after an entire year. That was about the time that Stephen Simpson begged for mercy when evaluating the company's fourth-quarter 2005 results. Then things got really crazy as my stake more than doubled before the 2006 first-quarter results came in. At that point, Stephen was left crying in his Diet Wild Cherry Pepsi. By the end of April, I was sitting on a triple, wondering where I would buy my seaside villa.

The pain
The problem with Joy Global was that it wasn't worth $72 a share. When the not-so-great news rolled in, shares rolled over. In early May, fellow mining equipment manufacturer Bucyrus took a breather when it booked no new equipment orders in the first quarter, which sent chills through the mining equipment sector. This was followed by the unexpected early retirement of Joy Global's CFO, Donald Roof, who is departing for the traditional, "personal reasons." (I will note that Roof is staying through the transition and orientation of the yet-to-be-named new CFO, and this really appears to be a personal decision, not related to Joy Global.)

The final nail in the coffin arrived when Joy Global reported second-quarter results last week. As Stephen Simpson put it, there was No Joy in Mudville. Echoing Bucyrus, new orders were down, and one wondered whether the run in mining equipment was finished. Shares of Joy Global dropped nearly 10% in a single day, ending almost 35% lower than the all-time high from just a month ago.

Is it time to sell?
With uncertainty, cyclicality, and volatility galore surrounding Joy Global, are these shares worth holding? After all, new orders dried up for both Bucyrus and Joy Global. Isn't it natural to ask oneself: Is it time to sell?

As Paul Elliott points out in his commentary, selling is tricky business, particularly when using valuation as the metric. Shares of great companies in growing industries become overpriced, often for long periods of time. Plus, while a simple discounted cash flow analysis may show the current price to be too high, a few new orders or an increase in margins can change the math quite quickly.

Furthermore, I doubt that the industry cycle in mining equipment is finished. There are 140 new coal-fired power plants proposed for the United States and 1,000 new coal-fired power plants planned worldwide. These new plants will require a massive expansion in the coal-mining industry. Metal prices remain high, and oil sands development indicates that this will continue for decades. And all the companies digging things out of the ground are likely to call up Joy Global for some of their equipment needs.

Therefore, I'm inclined to hang onto my shares. The recent reduction has taken the price of Joy Global closer to my estimate of fair value. The slowdown in new orders is worth keeping an eye on, but for now, I'm buying management's statement that the flow of orders in the industry is "lumpy," and we've just taken a lump. If nothing changes and shares drop below $40, you might just see me down on the trading floor increasing my stake.

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Fool contributor Robert Aronen holds shares in Joy Global. The Motley Fool has an ironclad disclosure policy.


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