What you have got then is two pictures of value:
1. You have got an asset value
2. You have got an earnings power value
And now you are ready to do a serious analysis of value. If the picture looks like case A (AV > EPV), what is going on assuming, you have done the right valuation here? If it is an industry in decline, make sure you haven’t done a reproduction value when you should be doing a liquidation value. What it means is say you have $4 billion in assets here that is producing an equivalent earnings power value of $2 billion. What is going there if that in the situation you see? It has got to be bad management. Management is using those assets in a way that can not generate a comparable level of distributable earnings.
AV is Greater Than EPV
- In this case the critical issue—it would be nice if you could buy the company—but typically you pay the reduced EPV and all that AV is sitting there.
- Then you are going to be spending your time reading the proxies and concentrating on the stability or hopefully the lack of stability of management.
- Preeminently in that situation, the issue is a management issue.
- The nice thing about the valuation approach is that it tells you the current cost that management is imposing in terms of lost value. That is not something that is revealed by a DCF analysis. And there are a whole class of value investments like that.
- One of the great contributions to the theory of this business is Mario Gabelli’s idea that really what you want to look for in this case is a catalyst that will surface the true asset value.
- You can wait and sometimes that catalyst may be Michael Price or Mario Gabelli if they own enough of the company. I would like to encourage those investors who are big enough to make that catalyst you.
AV Equals EPV
- The second situation where the AV, the reproduction value of the assets = EPV are essentially the same.
- That tells a story like any income statement or balance sheet tells a story. It tells a story of an industry that is in balance.
- It is exactly what you would expect to see if there were no barriers-to- entry.
- And if you look at this picture and then you analyze the nature of the industry—if you say, for example, this is the rag trade and I know there are no competitive advantages—you now have two good observations on the value of that company.
- If it ever were to sell at a market price down here, you know that is what you would be getting. You are getting a bargain from two perspectives: both from AV & EPV so buy it.
EPV in Excess of AV
- We have ignored the growth, but I will talk about it in a second#. The last case is the one we really first talked about. You have got EPV in excess of AV.
- The critical issue there is, especially if you are buying the EPV—is that EPV sustainable?
- That requires an effective analysis of how to think about competitive advantages in the industry.
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 26
Notes from video lecture by Prof Bruce Greenwald
http://csinvesting.org/wp-content/uploads/2012/06/greenwald-vi-process-foundation_final.pdf
Related topic: #
Look at growth from the perspective of investment required to support the growth. Profitable Growth Occurs Only Within a Franchise.
