Now to summarize about growth:
- growth at a competitive disadvantage destroys value,
- growth on a level playing field neither creates nor destroys value, and
- it is only growth behind the protection of barriers to entry that creates value.
- Now the investment required to support the growth is zero then of course it is profitable—that happens almost never (For Duff & Phelps or Moody’s perhaps).
- At a minimum you have A/R and other elements of working capital to support growth.
1. Suppose I invest that $100 million at a competitive disadvantage.
- Suppose I am Wal-Mart planning to compete against a well-entrenched competitor in Southern Germany, am I going to earn 10% on that investment? Almost never. In that case, I will be lucky to earn anything; perhaps I earn $6 million.
- But the net contribution of the growth is the $10 million cost of the funds minus the $6 million benefit which is minus $4 million dollars for every $100 million invested.
- Growth at a competitive disadvantage has negative value.
- So I am going to pay $10 million, I am going to make $10 million so the growth has zero value.
- The only case where growth has value is where the growth occurs behind the protection of an identifiable competitive advantage.
- Growth only has value where there are sustainable competitive advantages.
- And in that case, usually, what barriers to entry means is there are barriers to companies stealing market share from each other.
- There is usually stable market share which is symptomatic of that last situation that means in the long run, the company will grow at the industry rate.
- And in the long run, almost all industries grow at the rate of global GDP.
So in these three situations, the growth only matters in the last one where its profitable (growing within a franchise) is.
- And the critical issue in valuation is either management or the G&D approach will tell you the extent to which that is important or you have a good reliable valuation and there is no value to the growth because there are no barriers to entry.
- Or it is down here (growth is profitable) and there obviously you want to get the growth for free.
- You could pay a full earnings power value and get a decent return. (Buffett with Coke-Cola in 1988).
Introduction to a Value Investing Process by Bruce Greenblatt at the Value Investing Class Columbia Business School
Edited by John Chew at Aldridge56@aol.com
studying/teaching/investing Page 27
Notes from video lecture by Prof Bruce Greenwald