Warren Buffett's Historical Investments (Part 1)
These are companies Warren Buffett invested either personally, through his foundation, or through Berkshire Hathaway. Be aware that simply because Warren Buffett has made investments in these companies or they met his selective criteria doesn't mean he would buy them today. He bought when the price was right. Remember: You want to identify the company with a durable competitive advantage and then let the price of its shares determine when you pull the trigger. The right price may come tomorrow or it may come five years from now.
Also keep in mind that at times Mr. Market is wildly enthusiastic about some of these businesses and prices them high. On other days he will be very pessimistic about their prospects and price them low. You are interested in the days that Mr. Market is pessismistic, not the others.
Amerada Hess: This is an oil company. Buffett made this investment based on asset evaluation. He multiplied the price of oil by the number of barrels it had in the ground and found that it was selling at a significant discount. He paid $26 a share and we believe he sold it a year later at approximately $50 a share. Not too shabby.
Price paid: $26 a share (Price selling at a significant discount based on asset evaluation.)
Price sold: $50 a share (Sold a year later)
American Broadcasting Companies: ABC is a television network that in the early seventies had one of the most durable competitive advantages around. We believe Buffett started buying it during an advertising recession in 1978 for approximately $24 a share and sold it in 1980 for approximately $40 a share. After it merged with Capital Cities in 1984, it merged with Disney.
Price paid: $24 a share in 1978 (during an advertising recession)
Price sold: $40 a share in 1980
American Express: This is a major financial services company that just about does it all. But its strength is travel-industry-related services for businesses, and at this, it's king. Its credit card business is a kind of toll bridge that makes money every time someone uses an American Express card. Buffett first invested in the company in the sixties during the salad-oil scandal that destroyed its equity base but not its core business. Buffett sold out after the company recovered.
Price bought: In 1960s during the salad-oil scandal when its equity base destroyed.
Price sold: After the company recovered.
In the early nineties AmEx started to have problems. From September 1991 to September 1994 the company lost approximately 2.2 million individual card users and saw its share of the total credit card market drop from 22.5% in 1990 to 16.3% in 1995. This was caused in part by AmEx's push to become a one-stop shop for all your financial needs. In diversifying into different financial products, it lost focus on its credit card operations - the bread and butter of its business. Keep in mind that businesses with a durable competitive advantage are sometimes managed by teams that ignore the wonderful underlying parts of the business that made the company great in the first place. In AmEx's case, Harvey Golub rode to the rescue as the company's new CEO. Buffett jumped on Golub's wagon and began buying the stock. Remember, you invest not only in the company, but also in the people who run it. Buffett made his 1994 purchase right before the spin-off of Lehman Brothers (an investment bank). AmEx gave its shareholders one-fifth of a share in Lehman for every share of AmEx they owned. The one-fifth Lehman was worth approximately $4. Buffett paid $26 a share for the AmEx and then got $4 a share in Lehman stock via the spin-off. Today his AmEx stock is worth approximately $166 a share, which equates to a 30% compounded annual rate of return. When it comes to the American Express card, Warren is happy that people don't leave home without it.
Price bought: $26 a share (In 1994, when AmEx was having problems.)
Price subsequently: $166 a share (30% compounded annual rate of return)
Anheuser-Busch: This is the world's largest brewing company. It has what Buffett calls a durable competitive advantage: You order your beer by brand name, and brand names it has aplenty: Budweiser, Bud Light, Busch, Michelob, Red Wolf lager, ZiegenBock Amber, and O'Doul's. It gets great returns on equity and total capital and has strong earnings growth. You need a recession or panic sell-off to get a buying opportunity on this one. Anheuser-Busch is a Buffett Foundation holding.
Price bought: You need a recession or panic sell-off to get a buying opportunity on this one.
Great ROE, ROTC and strong earnings growth.
Related topics:
Warren Buffett's Historical Investments (Part 1)
Warren Buffett's Historical Investments (Part 2)
Warren Buffett's Historical Investments (Part 3)
Warren Buffett's Historical Investments (Part 4)
Warren Buffett's Historical Investments (Part 5)
Warren Buffett's Historical Investments (Part 6)
Warren Buffett's Historical Investments (Part 7)
Warren Buffett's Historical Investments (Part 8)
Warren Buffett's Historical Investments (Part 9)
Sunday, 7 June 2009
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Mueller Industries: This is a Berkshire holding. Buffett is believed to have started buying Mueller Industries, the leading low-cost producer of copper plumbing fittings, tubes, and related products, during the October 2000 sell-off that knocked Mueller down from $32 a share to $21 against solid earnings of $2.16 a share. The company has been in business since 1917 (talk about durable) and has a low-cost infrastructure that allows it to stomp the competition. As of May 2001, Mueller is trading at $34 a share, giving Buffett a superfast 62% return on Berkshire's money. Buffett loves those fall sell-offs.
Price paid: $21 a share (Down from $32)
Earnings: $2.16 a share
Initial return: 10.3%
Per share earnings annual growth rate: -
Nike: Nike is the world's number one shoe company and has more than 40% of the U.S. sports shoe market. This shows up in Berkshire's portfolio, but we don't have any hard information on Buffett's purchase price. We believe he was buying Nike in 1998 and 2000 when it trading below $30 a share. Buying opportunities include a recession in the shoe business, a general recession, and a correction or panic sell-off.
Price paid: <$30 a share Earnings: - a share Initial return: - % Per share earnings annual growth rate: - % USG Corp: USG is the low-cost producer of wallboard and the number one maker of gypsum wallboard in the world. This is a classic bad-news play. As we write, the price of wallboard is falling and the company is facing asbestos litigation, which has dropped the stock's price from $45 a share to $10. Buffett is buying like crazy. So far he has acquired a 15% stake in the company. In June 2001, the company filed for bankruptcy, but many analysts thought this filing would actually help stabilize current operations. The verdict is still out on this one.
Price paid: $10 a share (Down from $45)
Earnings: $ - a share
Initial return: - %
Per share earnings annual growth rate: - %
Yum Brands: This owns three major fast-food brand names: KFC, Pizza Hut, Taco Bell. This is a Berkshire holding. We believe Berkshire begain its purchases in 2000 after the market crash at approximately $24 a share against earnings of $3.65 a share, which equates to an initial return of 15%. As of March 2002, the stock traded at $55 a share.
Price paid: $24 a share
Earnings: $3.65 a share
Initial return: 15 %
Per share earnings annual growth rate: - %
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Mueller Industries: This is a Berkshire holding. Buffett is believed to have started buying Mueller Industries, the leading low-cost producer of copper plumbing fittings, tubes, and related products, during the October 2000 sell-off that knocked Mueller down from $32 a share to $21 against solid earnings of $2.16 a share. The company has been in business since 1917 (talk about durable) and has a low-cost infrastructure that allows it to stomp the competition. As of May 2001, Mueller is trading at $34 a share, giving Buffett a superfast 62% return on Berkshire's money. Buffett loves those fall sell-offs.
Price paid: $21 a share (Down from $32)
Earnings: $2.16 a share
Initial return: 10.3%
Per share earnings annual growth rate: -
Nike: Nike is the world's number one shoe company and has more than 40% of the U.S. sports shoe market. This shows up in Berkshire's portfolio, but we don't have any hard information on Buffett's purchase price. We believe he was buying Nike in 1998 and 2000 when it trading below $30 a share. Buying opportunities include a recession in the shoe business, a general recession, and a correction or panic sell-off.
Price paid: <$30 a share Earnings: - a share Initial return: - % Per share earnings annual growth rate: - % USG Corp: USG is the low-cost producer of wallboard and the number one maker of gypsum wallboard in the world. This is a classic bad-news play. As we write, the price of wallboard is falling and the company is facing asbestos litigation, which has dropped the stock's price from $45 a share to $10. Buffett is buying like crazy. So far he has acquired a 15% stake in the company. In June 2001, the company filed for bankruptcy, but many analysts thought this filing would actually help stabilize current operations. The verdict is still out on this one.
Price paid: $10 a share (Down from $45)
Earnings: $ - a share
Initial return: - %
Per share earnings annual growth rate: - %
Yum Brands: This owns three major fast-food brand names: KFC, Pizza Hut, Taco Bell. This is a Berkshire holding. We believe Berkshire begain its purchases in 2000 after the market crash at approximately $24 a share against earnings of $3.65 a share, which equates to an initial return of 15%. As of March 2002, the stock traded at $55 a share.
Price paid: $24 a share
Earnings: $3.65 a share
Initial return: 15 %
Per share earnings annual growth rate: - %
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Johns Manville: This was a great company in great financial shape until it sold a ton of products loaded with asbestos that made people deathly ill. These people sued Johns Manville by the tens of thousands, pushing it into bankruptcy. The bankruptcy court put 78% of the ownership of the company into a trust in settlement of the lawsuits. Even though the company was making a great deal of money selling nonasbestos products and the stock was publicly traded, investors weren't very interested. Tech stocks were the ticket of the day, not stodgy old insulation companies.
In 2000, Berkshire purchased Johns Manville, the nations's largest manufacturer of insulation products, commercial and industrial roofing, filtration systems, and fiber mats. It paid $1.8 billion for the entire company against pretax earnings of $343.75 million. That equates to a 19% initial pretax return on Berkshire's money. From 1990 to 2000, John Manville grew its per share earnings at an annual rate of 9.5%, which is better than inflation. Buffett could argue that Berkshire bought a bond with an initial pretax return of 19% that would grow at an annual rate of 9.5%.
Price paid: $1.8 billion for entire company
Earnings: $343.75 (pre-tax earnings)
Initial return: 19%
Per share earnings annual growth rate: 9.5%
Justin Industries: Justin Industries makes Acme Bricks and brand-name western boots like Tony Lama. Buffett bought the entire company for $570 million against pretax earnings of approximately $51 million, which equates to a pretax return of approximately 8.9%. Earnings have been growing at 16% a year for the last 10 years. Buffett could argue that he just bought a bond that paid a pretax return of 8.9% that would increase at 16% a year. It beats the static 6% pretax return that treasuries were paying.
Price paid: $570 million for entire company
Earnings: $51 million (pretax earning)
Initial return: 8.9%
Per share earnings annual growth rate: 16%
La-Z-Boy Inc: La-Z-Boy is the number one manufacturer of upholstered furniture in the United States and the number one seller of recliners in the world. This is a Berkshire holding. We believe Buffett started buying La-Z-Boy after the market crashed in February 2000 for $14 a share, on earnings of $1.46 a share. As of June, 2001, it trades at $19 a share. It has been growing per share earnings at 15.7% a year. Expect Buffett to continue buying if he can get it cheap.
Price paid: $14 a share
Earnings: $1.46 a share
Initial return: 10.4%
Per share earnings annual growth rate: 15.7%
Liz Claiborne: This is America's number one seller of clothes and accessories for the career woman. Its clothes are sold in department stores and in its 275 retail outlets. It also makes Donna Karan jeans and Lucky Brand dungarees. It's been in business for more than 20 years. The durable competitive advantage is its brand name, which it stitches to clothing made cheaply in another part of the world.
In 1998, as momentum investors fled low-tech businesses for high-tech businesses, Liz Claiborne saw its stock tumble from a high of $53 a share to a low of $27. Buffett stepped into the market, buying nearly 9% of the company. In 1998, Liz Claiborne earned $2.57 a share against an asking price of $27, which equates to an initial return of 9.5%. By 2000 it was earning $3.43 a share, which equates to a 12.7% return on his initial investment. The longer you stay, the better it gets.
Price paid: $27 a share (Down from high of $53)
Earnings: $2.57 a share
Initial return: 9.5%
Per share earnings annual growth rate: 12.7%
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Johns Manville: This was a great company in great financial shape until it sold a ton of products loaded with asbestos that made people deathly ill. These people sued Johns Manville by the tens of thousands, pushing it into bankruptcy. The bankruptcy court put 78% of the ownership of the company into a trust in settlement of the lawsuits. Even though the company was making a great deal of money selling nonasbestos products and the stock was publicly traded, investors weren't very interested. Tech stocks were the ticket of the day, not stodgy old insulation companies.
In 2000, Berkshire purchased Johns Manville, the nations's largest manufacturer of insulation products, commercial and industrial roofing, filtration systems, and fiber mats. It paid $1.8 billion for the entire company against pretax earnings of $343.75 million. That equates to a 19% initial pretax return on Berkshire's money. From 1990 to 2000, John Manville grew its per share earnings at an annual rate of 9.5%, which is better than inflation. Buffett could argue that Berkshire bought a bond with an initial pretax return of 19% that would grow at an annual rate of 9.5%.
Price paid: $1.8 billion for entire company
Earnings: $343.75 (pre-tax earnings)
Initial return: 19%
Per share earnings annual growth rate: 9.5%
Justin Industries: Justin Industries makes Acme Bricks and brand-name western boots like Tony Lama. Buffett bought the entire company for $570 million against pretax earnings of approximately $51 million, which equates to a pretax return of approximately 8.9%. Earnings have been growing at 16% a year for the last 10 years. Buffett could argue that he just bought a bond that paid a pretax return of 8.9% that would increase at 16% a year. It beats the static 6% pretax return that treasuries were paying.
Price paid: $570 million for entire company
Earnings: $51 million (pretax earning)
Initial return: 8.9%
Per share earnings annual growth rate: 16%
La-Z-Boy Inc: La-Z-Boy is the number one manufacturer of upholstered furniture in the United States and the number one seller of recliners in the world. This is a Berkshire holding. We believe Buffett started buying La-Z-Boy after the market crashed in February 2000 for $14 a share, on earnings of $1.46 a share. As of June, 2001, it trades at $19 a share. It has been growing per share earnings at 15.7% a year. Expect Buffett to continue buying if he can get it cheap.
Price paid: $14 a share
Earnings: $1.46 a share
Initial return: 10.4%
Per share earnings annual growth rate: 15.7%
Liz Claiborne: This is America's number one seller of clothes and accessories for the career woman. Its clothes are sold in department stores and in its 275 retail outlets. It also makes Donna Karan jeans and Lucky Brand dungarees. It's been in business for more than 20 years. The durable competitive advantage is its brand name, which it stitches to clothing made cheaply in another part of the world.
In 1998, as momentum investors fled low-tech businesses for high-tech businesses, Liz Claiborne saw its stock tumble from a high of $53 a share to a low of $27. Buffett stepped into the market, buying nearly 9% of the company. In 1998, Liz Claiborne earned $2.57 a share against an asking price of $27, which equates to an initial return of 9.5%. By 2000 it was earning $3.43 a share, which equates to a 12.7% return on his initial investment. The longer you stay, the better it gets.
Price paid: $27 a share (Down from high of $53)
Earnings: $2.57 a share
Initial return: 9.5%
Per share earnings annual growth rate: 12.7%
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
GPU Inc: This is a utility holding company that distributes electricity to 2 million people in New Jersey and Pennsylvania. It was serves 1.4 million customers in Australia. This is a Berkshire holding.
We believe Buffett started buying this stock in February of 2000, for around $25 a share, against a book value of $28.46 a share, dividend payout of $2.18, and 1999 per share earnings of $3.25 a share. Buffett's buying opportunity came when the cost of creating energy increased to more than GPU could charge its customers, which caused it to lose $1.74 a share in the second quarter of 2000. To increase rates, the company has to apply to Pennsylavania regulators. If the regulators don't increase rates, GPU will go out of business and the good people of Pennsylvania will go without power. As of May 2001, First Energy, another utility holding company, had made a bid of $36 a share for the company, and the wise regulators of Pennsylvania are considering giving GPU a huge rate increase.
Price paid: $25 a share
Dividend: $2.18 a share
Earnings: $3.25 a share
Book value: $28.46 a share
H&R Block: This company prepares income tax returns. It is currently expanding its financial services group.
HRPT Properties Trust: This is a REIT that focuses on commercial real estate. Its earnings are solid and it pays a dividend every year between $0.88 and $1.51 a share. It is presently repurchasing its shares. We believe Buffett has been buying this stock at a price rumored to be $7 to $8 a share, where it traded for much of 2000. At that price he is getting an initial return of between 12.5% and 20%. We might add that at that price it was considerably below its book value of $11.60 a share - a Grahamian value play? As of May 2001 you could still buy it at $8.90 a share.
Price paid: $7 to $8 a share
Dividend: $0.88 to $1.51 a share
Book value: $11.60 a share
Initial return: 12.5% to 20%
JDN Realty: This is a REIT that develops, acquires, leases, and manages shopping centres in 18 states. It has a book value of $14.80 a share and pays a dividend of $1.20 a share. We believe Buffett started buying its stock at around $9 a share. The book value represents real estate that has been depreciated and is worth far more than it is carried on JDN's books. Buffett bought the stock at an initial return of 13% ($1.20 / $9 = 13%) and as an asset play.
Price paid: $9 a share
Dividend: $1.20 a share
Book value: $14.80 a share
Initial return: 13%
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Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
GPU Inc: This is a utility holding company that distributes electricity to 2 million people in New Jersey and Pennsylvania. It was serves 1.4 million customers in Australia. This is a Berkshire holding.
We believe Buffett started buying this stock in February of 2000, for around $25 a share, against a book value of $28.46 a share, dividend payout of $2.18, and 1999 per share earnings of $3.25 a share. Buffett's buying opportunity came when the cost of creating energy increased to more than GPU could charge its customers, which caused it to lose $1.74 a share in the second quarter of 2000. To increase rates, the company has to apply to Pennsylavania regulators. If the regulators don't increase rates, GPU will go out of business and the good people of Pennsylvania will go without power. As of May 2001, First Energy, another utility holding company, had made a bid of $36 a share for the company, and the wise regulators of Pennsylvania are considering giving GPU a huge rate increase.
Price paid: $25 a share
Dividend: $2.18 a share
Earnings: $3.25 a share
Book value: $28.46 a share
H&R Block: This company prepares income tax returns. It is currently expanding its financial services group.
HRPT Properties Trust: This is a REIT that focuses on commercial real estate. Its earnings are solid and it pays a dividend every year between $0.88 and $1.51 a share. It is presently repurchasing its shares. We believe Buffett has been buying this stock at a price rumored to be $7 to $8 a share, where it traded for much of 2000. At that price he is getting an initial return of between 12.5% and 20%. We might add that at that price it was considerably below its book value of $11.60 a share - a Grahamian value play? As of May 2001 you could still buy it at $8.90 a share.
Price paid: $7 to $8 a share
Dividend: $0.88 to $1.51 a share
Book value: $11.60 a share
Initial return: 12.5% to 20%
JDN Realty: This is a REIT that develops, acquires, leases, and manages shopping centres in 18 states. It has a book value of $14.80 a share and pays a dividend of $1.20 a share. We believe Buffett started buying its stock at around $9 a share. The book value represents real estate that has been depreciated and is worth far more than it is carried on JDN's books. Buffett bought the stock at an initial return of 13% ($1.20 / $9 = 13%) and as an asset play.
Price paid: $9 a share
Dividend: $1.20 a share
Book value: $14.80 a share
Initial return: 13%
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Aegis Realty: This is a real estate investment trust (REIT) that owns and manages three million square feet of shopping-center space. We believe Buffett was buying it in 2000 for around $8 to $9 a share. It pays a dividend of $0.96 a share and has a book value of $14.81 a share. This is an interest play that pays a 10% return and a Grahamian value play that's selling below book value.
Price paid: $8 to $9 a share
Dividend: $0.96 a share
Book value: $14.81 a share
Initial return: 10%
Dun & Bradstreet Corp: This sells business information about other businesses.. Buffett bought this in 1998 because it is a great company and it was about to spin off its lucrative Moody's Investors Services. In spin-offs, the market sometimes fails to fully appreciate the value of the whole divided into separate parts. This is a Berkshire holding, believed to have been purchased in 1999 before the spin-off for approximately $15 a share. As of May 2001, it trades at $27 a share. Moody's Investors Services was spun off on September 30, 2000, at $26 a share, and as of May 2001 it trades at $32 a share. On Buffett's original $15 investment in D&B he made $12 on the D&B side and $32 on the Moody's side for a total profit of $44, which equates to a 293% return on his original investment of $15. Where was the rest of Wall Street? Off chasing tech stocks, of course.
Price paid: $15 a share
First Data Corp: This company process those millions of credit card transactions. It's a fantastic business with which Buffett has long been fascinated. This is a Berkshire holding.
Buffett started buying it in 1998 during a fall contraction/panic sell-off that dropped its price down to $20 a share against earnings of $1.56 a share, which equates to an initial return of 7.8%. It's per share earnings had a 15% annual rate of growth. In May 2001 its stock was trading at $66 a share, which equates to a 48% compounding annual rate of return.
Price paid: $20 a share
Earnings: $1.56 a share
Initial return: 7.8%
Per share earnings annual growth rate: 15%
Furniture Brands International: Buffet probably saw this one in Value Line, did his scuttlebutt at the Nebraska Furniture Mart, and discovered that Furniture Brands International was the number one manufacturer of residential furniture in America. This is a Berkshire holding.
We believe that he started buying it in 2000 for around $14 a share against earnings of $1.92 a share, which equates to an initial return of 13.7%. Its per share earnings have been growing at an annual rate of 28%. This is a great business. Everyone buys furniture at some time or another, and FBI is there to sell it to them. It has been in business since 1921 and has strong earnings and great returns on equity and total capital. Over the years it has come to dominate its field. Buffett bought after the 1999 bubble burst. It didn't stay down long. By February 2001 it was trading at $25 a share, giving Buffett a quick 79% return on his money.
Price paid: $14 a share
Earnings: $1.92 a share
Initial return: 13.7%
Per share earnings annual growth rate: 28%
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Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Aegis Realty: This is a real estate investment trust (REIT) that owns and manages three million square feet of shopping-center space. We believe Buffett was buying it in 2000 for around $8 to $9 a share. It pays a dividend of $0.96 a share and has a book value of $14.81 a share. This is an interest play that pays a 10% return and a Grahamian value play that's selling below book value.
Price paid: $8 to $9 a share
Dividend: $0.96 a share
Book value: $14.81 a share
Initial return: 10%
Dun & Bradstreet Corp: This sells business information about other businesses.. Buffett bought this in 1998 because it is a great company and it was about to spin off its lucrative Moody's Investors Services. In spin-offs, the market sometimes fails to fully appreciate the value of the whole divided into separate parts. This is a Berkshire holding, believed to have been purchased in 1999 before the spin-off for approximately $15 a share. As of May 2001, it trades at $27 a share. Moody's Investors Services was spun off on September 30, 2000, at $26 a share, and as of May 2001 it trades at $32 a share. On Buffett's original $15 investment in D&B he made $12 on the D&B side and $32 on the Moody's side for a total profit of $44, which equates to a 293% return on his original investment of $15. Where was the rest of Wall Street? Off chasing tech stocks, of course.
Price paid: $15 a share
First Data Corp: This company process those millions of credit card transactions. It's a fantastic business with which Buffett has long been fascinated. This is a Berkshire holding.
Buffett started buying it in 1998 during a fall contraction/panic sell-off that dropped its price down to $20 a share against earnings of $1.56 a share, which equates to an initial return of 7.8%. It's per share earnings had a 15% annual rate of growth. In May 2001 its stock was trading at $66 a share, which equates to a 48% compounding annual rate of return.
Price paid: $20 a share
Earnings: $1.56 a share
Initial return: 7.8%
Per share earnings annual growth rate: 15%
Furniture Brands International: Buffet probably saw this one in Value Line, did his scuttlebutt at the Nebraska Furniture Mart, and discovered that Furniture Brands International was the number one manufacturer of residential furniture in America. This is a Berkshire holding.
We believe that he started buying it in 2000 for around $14 a share against earnings of $1.92 a share, which equates to an initial return of 13.7%. Its per share earnings have been growing at an annual rate of 28%. This is a great business. Everyone buys furniture at some time or another, and FBI is there to sell it to them. It has been in business since 1921 and has strong earnings and great returns on equity and total capital. Over the years it has come to dominate its field. Buffett bought after the 1999 bubble burst. It didn't stay down long. By February 2001 it was trading at $25 a share, giving Buffett a quick 79% return on his money.
Price paid: $14 a share
Earnings: $1.92 a share
Initial return: 13.7%
Per share earnings annual growth rate: 28%
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
These are companies Warren Buffett invested either personally, through his foundation, or through Berkshire Hathaway. Be aware that simply because Warren Buffett has made investments in these companies or they met his selective criteria doesn't mean he would buy them today. He bought when the price was right. Remember: You want to identify the company with a durable competitive advantage and then let the price of its shares determine when you pull the trigger. The right price may come tomorrow or it may come five years from now.
Also keep in mind that at times Mr. Market is wildly enthusiastic about some of these businesses and prices them high. On other days he will be very pessimistic about their prospects and price them low. You are interested in the days that Mr. Market is pessismistic, not the others.
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
These are companies Warren Buffett invested either personally, through his foundation, or through Berkshire Hathaway. Be aware that simply because Warren Buffett has made investments in these companies or they met his selective criteria doesn't mean he would buy them today. He bought when the price was right. Remember: You want to identify the company with a durable competitive advantage and then let the price of its shares determine when you pull the trigger. The right price may come tomorrow or it may come five years from now.
Also keep in mind that at times Mr. Market is wildly enthusiastic about some of these businesses and prices them high. On other days he will be very pessimistic about their prospects and price them low. You are interested in the days that Mr. Market is pessismistic, not the others.
Related articles:
Companies Warren Buffett invested between 1998 and 2001 (Part 1)
Companies Warren Buffett invested between 1998 and 2001 (Part 2)
Companies Warren Buffett invested between 1998 and 2001 (Part 3)
Companies Warren Buffett invested between 1998 and 2001 (Part 4)
Companies Warren Buffett invested between 1998 and 2001 (Part 5)
Friday, 5 June 2009
Return on Shareholders' Equity
Return on Shareholders' Equity
This measures profitability, specifically the percentage return that was delivered to a company's owners.
Why it is important
ROE is a fundamental indication of a company's ability to increase its earnings per share and thus the quality of its stocks, because it reveals how well a company is using its money to generate additional earnings.
- It is a relatively straightforward benchmark, easy to calculate, and is applicable to a majority of industries.
- ROE allows investors to compare a company's use of their equity with other investments, and to compare the performance of companies in the same industry.
- ROE can also help to evaluate trends in a business.
Businesses that generate high returns on equity are businesses that pay off their shareholders handsomely and create substantial assets for each dollar invested.
How it works in practice
To calculate ROE, divide the net income shown on the income statement (usually of the past year) by shareholders' equity, which appears on the balance sheet:
ROE
= net income/owner's equity
TRICKS OF THE TRADE
- Because new variations of the ROE ratio do appear, it is important to know how the figure is calculated.
- ROE for most companies certainly should be in double figures; investors often look for 15% or higher, while a return of 20% or more is considered excellent.
- Seasoned investors also review 5-year average ROE, to gauge consistency.
- A word of caution: financial statements usually report assets at book value, which is the purchase price minus depreciation; they do not show replacement costs. A business with older assets should show higher rates of ROE than a business with newer assets.
- Examining ROE with ROA (return on assets) can indicate if a company is debt-heavy. If a company owes very little debt, then it is reasonable to assume that its management is earning high profits and/or using assets effectively.
- A high ROE also could be due to leverage (a method of corporate fudning in which a higher proportion of funds is raised through borrowing than share issue). If liabilities are high the balance sheet will reveal it, hence the need to review it.
Return on Investment
Return on Investment (ROI)
This measures the overall profit or loss on an invesment expressed as a percentage of the total amount invested or total funds appearing on a company's balance sheet.
Why it is important
Like ROA or ROE, ROI measures a company's profitability and its management's ability to generate profits from the funds investors have placed at their disposal.
One opinion holds that if a company's operations cannot generate net earnings at a rate that exceeds the cost of borrowing funds from financial markets, the future of that company is grim.
How it works in practice
The most basic expressio of ROI is:
ROI = net profit / total investment
A more complex variatio of ROI is an equation known as the Du Pont formula:
ROI (Du Pont formula )
= (net profit after taxes/total assets)
= (net profit after taxes/sales) x (sales/total assets)
Champions of this formula, which was developed by the Du Pont Company in the 1920s, say that it helps to reveal how a company has both deployed its assets and controlled its costs, and how it can achieve the same percentage return in different ways.
For shareholders, the variation of the basic ROI formula used by investors is:
ROI
= [net income + (current value - original value) / original value ] x 100
For example, somebody invests $5,000 in a company and a year later has earned $100 in dividends, while the value of the shares is $5,200, the return on investment would be:
ROI
= [100 + (5,200 - 5,000) / 5,000 ] x 100
= [(100+200)/5,000] x 100
= 6%
TRICKS OF THE TRADE
This measures the overall profit or loss on an invesment expressed as a percentage of the total amount invested or total funds appearing on a company's balance sheet.
Why it is important
Like ROA or ROE, ROI measures a company's profitability and its management's ability to generate profits from the funds investors have placed at their disposal.
One opinion holds that if a company's operations cannot generate net earnings at a rate that exceeds the cost of borrowing funds from financial markets, the future of that company is grim.
How it works in practice
The most basic expressio of ROI is:
ROI = net profit / total investment
A more complex variatio of ROI is an equation known as the Du Pont formula:
ROI (Du Pont formula )
= (net profit after taxes/total assets)
= (net profit after taxes/sales) x (sales/total assets)
Champions of this formula, which was developed by the Du Pont Company in the 1920s, say that it helps to reveal how a company has both deployed its assets and controlled its costs, and how it can achieve the same percentage return in different ways.
For shareholders, the variation of the basic ROI formula used by investors is:
ROI
= [net income + (current value - original value) / original value ] x 100
For example, somebody invests $5,000 in a company and a year later has earned $100 in dividends, while the value of the shares is $5,200, the return on investment would be:
ROI
= [100 + (5,200 - 5,000) / 5,000 ] x 100
= [(100+200)/5,000] x 100
= 6%
TRICKS OF THE TRADE
- Securities investors can use yet another ROI formula: net income divided by shares and preference share equity plus long-term debt.
- It is vital to understand exactly what a ROI measures, for example assets, equity, or sales. Without this understanding, comparisons may be misleading or suspect. A search for "return on investment" on the web, for example, harvests everything from staff training to e-commerce to advertising and promotions!
- Be sure to establish whether the net profit figure used is before or after provision for taxes. This is important for making ROI comparisons accurate.
Return on Assets
This measures the company's profitability, expressed as a percentage of its total assets.
Why it is important
Return on assets (ROE) measures how effectively a company has used the total assets at its disposal to generate earnings. Because the ROA formula reflects total revenue, total cost, and assets deployed, the ratio itself reflects a management's ability to generate income during the course of a given period, usually a year.
The higher the return the better the profit performance. ROA is a convenient way of comparing a company's performance with that of its competitors, although the items on which the comparison is based may not always be identical.
ROA = net income / total asset
Variation of this formula
A variation of this formula can be used to calculate return on net asset (RONA)
RONA = net income/(fixed assets + working capital)
And, on occasion, the formula will separate after-tax interest expense from net income:
ROA = (net income + interest expense) / total assets
It is therefore important to understand what each components of the formula actually represents.
TRICKS OF THE TRADE
- Some experts recommend using the net income value at the end of the given period, and the assets value from beginning of the period or an average value taken over the complete period, rather than an end-of-the-period value; otherwise, the calculation will include assets that have accumulated during the year, which can be misleading.
- While a high ratio indicates a greater return, it must still be balanced against such factors as risk, sustainability, and reinvestment in the business through development costs. Some managements will sacrifice the long-term intersts of investors in order to achieve an impressive ROA in the short term.
- A climbing return on assets usually indicates a climbing stock price, because it tells investors that a management is skilled at generating profits from the resources that a business owns.
- Acceptable ROAs vary by sector. In banking, for example, a ROA of 1% or better is considered to be the standard benchmark of superior performance.
- ROA is an effective way of measuring the efficiency of manufacturers, but can be suspect when measuring service companies, or companies whose primary assets are people.
- Other variations of the ROA formula do exist.
Thursday, 4 June 2009
Retained Earnings and the Market Value of the Company
Does the value added by Retained Earnings increase the Market Value of the Company?
Warren Buffett believes that if you can purchase a company with a durable competitive advantage at the right price, the retained earnings of the business will continuously increase the underlying value of the business and the market will continuously ratchet up the price of the company's stock. The key lies in the company's ability to properly allocate capital and keep adding to the company's net worth.
A perfect example, of this is his own Berkshire Hathaway, which in 1983 had a book value of $975 a share and was trading at around $1,000 a share. Eighteen years later, in 2001, it has a book value of approximately $40,000 a share and is tradinga t approximately $68,000. This means that Berkshire's book value has increased approximately 4,002% and the price of its shares by 6,874%. Warren grew the company's net worth by using the company's retained earnings to purchase whole or partial interests of other businesses with durable competitive advantages. As the net worth of the company grew, so did the market's valuation of the company, thus the rise in the price of the stock.
This is not true with the price-competitive business. It can retain earnings for years and still never show a real increase in the value of the company's stock. In 1983, General Motors had a book value of $32.44 a share and was trading at approximately $34. In 2001, General Motors' book value stood at approximately $36 a share and the price of its shares at around $55. All General Motors has to show for those eighteen years in business is a 10% increase in its book value and a 52% increase int he price of its stock.
All you have to do is review a company's historical increase or decrease in the price of its shares and the historical increase or decerease in the company's per share book value. Use at least a 10 year spread. A company with a durable competitive advantage will have an increasing share price and an increasing book value.
Remember, the ultimate goal is to buy on of these businesses at a time that it is suffering from some bad news situation that has caused the shortsighted stock market to send its stock price down. You are looking for a RECENT downturn in the price of a company's stock, not for a company whose stock price has done nothing over 10 years.
Warren Buffett believes that if you can purchase a company with a durable competitive advantage at the right price, the retained earnings of the business will continuously increase the underlying value of the business and the market will continuously ratchet up the price of the company's stock. The key lies in the company's ability to properly allocate capital and keep adding to the company's net worth.
A perfect example, of this is his own Berkshire Hathaway, which in 1983 had a book value of $975 a share and was trading at around $1,000 a share. Eighteen years later, in 2001, it has a book value of approximately $40,000 a share and is tradinga t approximately $68,000. This means that Berkshire's book value has increased approximately 4,002% and the price of its shares by 6,874%. Warren grew the company's net worth by using the company's retained earnings to purchase whole or partial interests of other businesses with durable competitive advantages. As the net worth of the company grew, so did the market's valuation of the company, thus the rise in the price of the stock.
This is not true with the price-competitive business. It can retain earnings for years and still never show a real increase in the value of the company's stock. In 1983, General Motors had a book value of $32.44 a share and was trading at approximately $34. In 2001, General Motors' book value stood at approximately $36 a share and the price of its shares at around $55. All General Motors has to show for those eighteen years in business is a 10% increase in its book value and a 52% increase int he price of its stock.
All you have to do is review a company's historical increase or decrease in the price of its shares and the historical increase or decerease in the company's per share book value. Use at least a 10 year spread. A company with a durable competitive advantage will have an increasing share price and an increasing book value.
Remember, the ultimate goal is to buy on of these businesses at a time that it is suffering from some bad news situation that has caused the shortsighted stock market to send its stock price down. You are looking for a RECENT downturn in the price of a company's stock, not for a company whose stock price has done nothing over 10 years.
RORC provides a fast method of determining durable-competitive-advantage business
Return on Retained Capital, RORC is not perfect.
Be careful that the per share earnings figures you employ for this test are not aberrations, but rather are indicative of the company's earning power.
The advantage to this test is that it gives you, the investor, a fast method of determining
Summary
Durable-competitive-advantage companies wield a one-two punch when it comes to allocating resources. They can better take advantage of retained earnings than price-competitive businesses, which over the long term will make their shareholders a lot richer than those who own stock in price-competitive businesses.
Price-competitive businesses are able to retain earnings, but because of the high costs of maintaining their businesses, they are unable to utilize them in a manner that will cause a significant increase in future earnings. This means that their stock prices end up doing little or nothing.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
Be careful that the per share earnings figures you employ for this test are not aberrations, but rather are indicative of the company's earning power.
The advantage to this test is that it gives you, the investor, a fast method of determining
- whether it is a durable-competitive-advantage business that lets its management utilize retained earnings to increase shareholders' riches or
- whether it's a price-competitive business that is stuck allocating its retained earnings to maintain its current business.
Summary
Durable-competitive-advantage companies wield a one-two punch when it comes to allocating resources. They can better take advantage of retained earnings than price-competitive businesses, which over the long term will make their shareholders a lot richer than those who own stock in price-competitive businesses.
Price-competitive businesses are able to retain earnings, but because of the high costs of maintaining their businesses, they are unable to utilize them in a manner that will cause a significant increase in future earnings. This means that their stock prices end up doing little or nothing.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
Companies that can't profitably deploy retained earnings make lousy investments
By calculating the Return of Retained Capital RORC (click here: Return on Retained Capital Illustrated by Various Companies ), you can tell that H&R Block and Wrigley do an infinitely better job of allocating retained earnings than General Motors or Bethlehem Steel does.
So which stocks would you rather have owned from 1990 to 2000? The price-competitive businesses General Motors and Bethlehem Steel, or the durable-competitive-advantage businesses Wrigley's and H&R Block? It's not a tough choice.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
- In fact, if you had invested $100,000 in General Motors stock in 1990 and sold it at its high in 2000, you would have had a net profit of $141,025, which equates to an annual compounding return of approximately 9.1%.
- If you had done the same with Bethlehem Steel, you would have had a loss of approximately $40,000.
- If you had invested $100,000 in Wrigley's in 1990 and sold out at its high in 2000, you would have had a net profit of $566,666, which equates to an annual compounding return of approximately 20%.
- With H&R Block you would have earned a net profit of $299,960, which equates to an annual compounding return of 14.8%.
So which stocks would you rather have owned from 1990 to 2000? The price-competitive businesses General Motors and Bethlehem Steel, or the durable-competitive-advantage businesses Wrigley's and H&R Block? It's not a tough choice.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
Resorts World Bhd
Business Summary
Resorts World Bhd engages in tourist resort business in Malaysia. It offers various leisure and hospitality services, which comprise gaming, hotel, entertainment, and amusement. The company's activities also include land and property development; time share ownership; renting of its apartment and part of its leasehold land; sale and letting of completed apartment units, and land and property; ownership and operation of aircrafts; the condotel, hotel, karaoke, leisure and entertainment, and show agent businesses; and golf resort and property development. In addition, it provides tours and travel related, training, property upkeep, cable car and electricity supply, offshore captive insurance, and water services. The company is based in Kuala Lumpur, Malaysia.
Resorts World Bhd engages in tourist resort business in Malaysia. It offers various leisure and hospitality services, which comprise gaming, hotel, entertainment, and amusement. The company's activities also include land and property development; time share ownership; renting of its apartment and part of its leasehold land; sale and letting of completed apartment units, and land and property; ownership and operation of aircrafts; the condotel, hotel, karaoke, leisure and entertainment, and show agent businesses; and golf resort and property development. In addition, it provides tours and travel related, training, property upkeep, cable car and electricity supply, offshore captive insurance, and water services. The company is based in Kuala Lumpur, Malaysia.
Fundamentals
* in millions
Company Basics
Exchange
Bursa Malaysia
Company Name
Resorts World Bhd
Stock Code
4715
Sectors
Consumer Discretionary
Paid Up Capital *
MYR 590.20
Par Value
- (as at 2008-12-31)
Market Cap *
MYR 16,643.50 (based on value of 2.8200 per share)
Performance (as at 2008-12-31) *
Total Assets:
MYR 9,422.90
Intangible Assets:
MYR 94.40
Revenue:
MYR 4,886.70
Earnings Before Interest and Taxes:
MYR 1,754.30
EPS (Basic) Inc. Extraordinary Items:
MYR 0.11
PE Inc. Extraordinary Items:
25.49
EPS (Basic) Exc. Extraordinary Items:
MYR 0.11
PE Exc. Extraordinary Items:
25.49
Net Income:
MYR 634.40 (2007: 1555m)
Dividends - Common/Ordinary:
MYR 299.45
Dividends - Total:
MYR 299.45
Goodwill:
-
Minority Interest:
MYR 7.30
Reserves:
-
Return On Assets:
6.73%
Return On Equity:
7.63% (2007: 18.97%)
Shareholder's Equity:
MYR 8,317.80
MYR 9,422.90
Intangible Assets:
MYR 94.40
Revenue:
MYR 4,886.70
Earnings Before Interest and Taxes:
MYR 1,754.30
EPS (Basic) Inc. Extraordinary Items:
MYR 0.11
PE Inc. Extraordinary Items:
25.49
EPS (Basic) Exc. Extraordinary Items:
MYR 0.11
PE Exc. Extraordinary Items:
25.49
Net Income:
MYR 634.40 (2007: 1555m)
Dividends - Common/Ordinary:
MYR 299.45
Dividends - Total:
MYR 299.45
Goodwill:
-
Minority Interest:
MYR 7.30
Reserves:
-
Return On Assets:
6.73%
Return On Equity:
7.63% (2007: 18.97%)
Shareholder's Equity:
MYR 8,317.80
----
Historical 5 Yr PE 12.1 to 18.4 (EY 8.26% to 5.44%)
Historical 10 Yr PE 12.6 to 22.9 (EY 7.94% to 4.37%)
Present PE based on MR2.82 = 25.49
Earnings Yield = 3.92%
DY = 1.8% (MYR 299.45/MYR 16,643.50 )
ROTC = 634.40/( OE 8691.09 + LTL 90.56 + STL 0) = 7.22% (2007: 18.90%)
Between the end of 1998 and the end of 2007:
- total earnings were $1.177 a share,
- total dividends were $0.283 a share and
- retained earnings were $0.894 per share ($1.177 - $0.283) to add to its equity base.
- the company's per share earnings increased from 8.9c a share to 19.2c, the difference was 10.3c a share.
- return on retained capital/earnings RORC was 10.3/89.4 = 11.52%
Return on Retained Capital Illustrated by Various Companies
Company A:
In 1989, earned $1.16 per share.
Between the end of 1989 and the end of 1999:
In 1989, earned $1.16 per share.
Between the end of 1989 and the end of 1999:
- total earnings were $17.14 a share,
- total dividends were $9.34 a share and
- retained earnings were $7.80 per share ($17.14 - $9.34 = $7.80) to add to its equity base.
- company's per share earnings increased from $1.16 to $2.56.
Interpretations:
- We can attribute the 1989 earnings of $1.16 per share to all the capital invested and retained in the company up to the end of 1989.
- We can also argue that the increase in earnings from $1.16 a share in 1989 to $2.56 a share in 2000 was due to the company's durable competitive advantage and management's doing an excellent job of investing the $7.80 a share in earnings that the company retained between 1989 and 1999.
- If we subtract the 1989 per share earnings of $1.16 from the 1999 per share earnings of $2.56, the difference is $1.40 a share.
- Thus, we can argue that the $7.80 a share retained between 1989 and 1999 produced $1.40 a share in additional income from 1999, for a total return of retained capital of 17.9% ($1.40 / $7.80 = 17.9%).
Company B
In 1990, earned $1 per share.
Between the end of 1990 and the end of 2000:
- total earnings were $20.12 a share,
- total dividends were $10.57 a share and
- retained earnings were $9.55 per share ($20.12 - $10.57 = $9.55) to add to its equity base.
- the company's per share earnings increased from $1 a share to $2.90.
Interpretations:
- We can attribute the 1990 earnings of $1 per share to all the capital invested and retained in the company up to the end of 1990.
- We can also argue that the increase in earnings from $1 a share in 1990 to $2.90 a share in 2000 was due to the company's durable competitive advantage and management's doing an excellent job of investing the $9.55 a share in earnings that the company retained between 1990 and 2000.
- If we subtract the 1990 per share earnings of $1 from the 2000 per share earnings of $2.90, the difference is $1.90 a share.
- Thus, we can argue that the $9.55 a share retained between 1990 and 2000 produced $1.90 a share in additional income from 1990, for a total return on retained capital of 19.9% ($1.90 / $9.55 = 19.9%).
Company C
In 1990, earned $42.96 per share.
Between the end of 1990 and the end of 2000:
- total earnings were $42.96 a share,
- total dividends were $10.30 a share and
- retained earnings were $32.66 per share ($42.96 - $10.30 = $32.66) to add to its equity base.
- the company's per share earnings increased from $6.33 a share to $8.50.
Interpretations:
- This company kept $32.66 per shae of shareholders' earnings and allocated it so that per share earnings increased by $2.17.
- This equates to a return on retained capital of 6.6% ($2.17 / $32.66 = 6.6%).
- This is about what you would have earned had you left it in the bank.
Company D
In 1990, earned $0.82 per share.
Between the end of 1990 and the end of 2000:
- total earnings were $4.93 a share,
- total dividends were $0.80 a share and
- retained earnings were $4.13 per share ($4.93 - $0.80 = $4.13) to add to its equity base.
- the company's per share earnings had total losses of $7.48 a share.
Interpretations:
- This means that management had to spend $7.48 a share in additional sums that they either borrowed or took from earnings retained during prior years.
- Since this $7.48 in shareholder capital was depleted, rather than paid out as a dividend, this is added to the $4.13 in retained earnings, giving a total of $11.61 a share that was kept from shareholders.
- Between 1990 and 2000, the company's per share earnings decreased from $0.82 a share to $0.25 a share. We can argue that the decrease in earnings was caused by the company being a price-competitive business that sucks up capital but does nothing to increase shareholders' wealth.
- If we subtract the 1990 per share earnings of $0.82 from the 2000 per share earnings of $0.25 , the difference is a negative $0.57 a share.
- Thus we can argue that the $4.13 a share retained between 1990 and 2000 and the $7.48 depleted during this period produced zero additional income.
- The company is in a tough business (steel) in which to develop a competitive advantage.
Company A: H&R BLOCK
Company B: WM. WRIGLEY JR. COMPANY
Company C: GENERAL MOTORS
Company D: BETHLEHEM STEEL
Also Read:
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
Return on Retained Capital
A simple mathematical formula measures the capital requirements of maintaining a company's competitive advantage and management's ability to utilize retained earnings to improve shareholders' wealth. In essense this calculation takes the amount of earnings retained by a business for a certain period and measures its effect on the earning capacity of the company.
With a durable competitive advantage the company will be able to use its retained earnings either to:
All three should have a positive effect on per share earnings.
On the other hand, a price-competitive business would need to spend its retained earnings to maintain its business to the face of fierce competition from other companies in the same line of business, leaving little or nothing to invest in new operations and/or buying back its shares.
Companies that have a durable competitive advantage usually don't have to spend a high percentage of their retained earnings to maintain their operations. The key word here is maintain. In theory, the more durable a competitive advantage, the less a business has to spend to maintain it. Warren Buffett's perfect business would be one that spends zero on maintaining its competitive advantage. That would free every dollar it earns to be paid out as a dividend or reinvested in the business, which should, in theory, make its shareholders even wealthier.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
With a durable competitive advantage the company will be able to use its retained earnings either to:
- expand its operations,
- invest in new businesses,
- and/or repurchase its shares.
All three should have a positive effect on per share earnings.
On the other hand, a price-competitive business would need to spend its retained earnings to maintain its business to the face of fierce competition from other companies in the same line of business, leaving little or nothing to invest in new operations and/or buying back its shares.
Companies that have a durable competitive advantage usually don't have to spend a high percentage of their retained earnings to maintain their operations. The key word here is maintain. In theory, the more durable a competitive advantage, the less a business has to spend to maintain it. Warren Buffett's perfect business would be one that spends zero on maintaining its competitive advantage. That would free every dollar it earns to be paid out as a dividend or reinvested in the business, which should, in theory, make its shareholders even wealthier.
Also Read:
Return on Retained Capital
Return on Retained Capital Illustrated by Various Companies
Companies that can't profitably deploy retained earnings make lousy investments
RORC provides a fast method of determining durable-competitive-advantage business
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
1. Warren Buffett has learned that a consistently high return on total capital is indicative of a durable competitive advantage. He is looking for a consistent ROTC of 12% or better.
2. With banks and finance companies he looks at the return of total assets ROA to determine if the company is benefitting from some kind of durable competitive advantage. Warren Buffett looks for a consistent return on assets ROA in excess of 1% (anything over 1% is good, anything over 1.5% is fantastic) and a consistent ROE in excess of 12%.
3. In situations where the entire net worth of the company is paid out, creating a negative net worth, Warren Buffett has only made investments in those companies that show a consistent ROTC of 20% or more. The high ROTC is indicative of a durable competitive advantage.
Also Read:
Wednesday, 3 June 2009
Using ROTC Where the Entire Net Worth of the Company has been taken out
This is rare and can only happen if the earning power of the company is exceptionally strong. On occasion, a company has such a strong durable competitive advantage that its earning power allows it to pay out a portion or all of its entire net worth to shareholders.
- In this situation shareholders' equity decreases, which in turn causes the ROE to increase dramatically - often to 50% or better.
- When the entire net worth is paid out, it creates a negative net worth, which means that the company will not report a return on shareholders' equity even if it is earning a fortune.
Advo is the nation's largest direct-mail marketing company. Think of it as an advertising company. Its competitive advantage is that it is the biggest, the best, and the most cost effective at the direct-mail game. Advo was originally founded in 1929. Talk about durable! Until 1996 it had seen a long and steady growth of its per share earnings and had produced consistent returns on shareholders' equity in the 18% to 20% range. From 1986 to 1996 it carried zero long-term debt. That's right, zero debt. Then in 1996 it added $161 million in debt and paid it out to sharehodlers via a $10-per-share dividend. This effectively wiped out the $130 million in shareholders' equity that it carried on its books and replaced it with debt. Advo can do this because the earning power of the business is so strong and consistent. Few companies can do this, and those than can, almost without exception, benefit from some kind of durable competitive advantage.
In situations like this in which there is no net worth, you need to look at the return on total capital (ROTC). In 2000, Advo posted a 35% ROTC.
Historically, in these situations, Warren has only made investments in companies that show a CONSISTENT ROTC of 20% or better.
Also Read:
Return on Total Capital (ROTC)
The Right Rate of Return on Total Capital (ROTC)
ROA of Banks, Investment Banks and Financial Companies
Using ROTC Where the Entire Net Worth of the Company has been taken out
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
ROA of Banks, Investment Banks and Financial Companies
Banks, investment banks and financial companies rely on borrowing large amounts of money that they hope to loan out at higher interest rates to businesses and consumers.
A company like Freddie Mac, which deals in residential mortgages, carries $175 billion in short-term debt and $185 billion in long-term debt. If your business is borrowing money at 6% and loaning it out at 7%, there is no way your return on total capital ROTC is going to even approach 12%.
In these instances, Warren Buffett likes to look at what the bank or finance company earned in relation to the total assets under its control. The rule here is, the higher the better. Anything over 1% is good and anything over 1.5% is fantastic.
Learning Point
With banks, investment banks, and financial companies, look for a consistent return on assets ROA in excess of 1% and a consistent return on shareholders' equity ROE in excess of 12%.
Also Read:
Return on Total Capital (ROTC)
The Right Rate of Return on Total Capital (ROTC)
ROA of Banks, Investment Banks and Financial Companies
Using ROTC Where the Entire Net Worth of the Company has been taken out
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
A company like Freddie Mac, which deals in residential mortgages, carries $175 billion in short-term debt and $185 billion in long-term debt. If your business is borrowing money at 6% and loaning it out at 7%, there is no way your return on total capital ROTC is going to even approach 12%.
In these instances, Warren Buffett likes to look at what the bank or finance company earned in relation to the total assets under its control. The rule here is, the higher the better. Anything over 1% is good and anything over 1.5% is fantastic.
Learning Point
With banks, investment banks, and financial companies, look for a consistent return on assets ROA in excess of 1% and a consistent return on shareholders' equity ROE in excess of 12%.
Also Read:
Return on Total Capital (ROTC)
The Right Rate of Return on Total Capital (ROTC)
ROA of Banks, Investment Banks and Financial Companies
Using ROTC Where the Entire Net Worth of the Company has been taken out
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
The Right Rate of Return on Total Capital (ROTC)
Problem with ROE
The problem with looking at high rates of return on shareholders' equity is that some businesses have purposely shrunk their equity base with large dividend payments or share repurchase programs. They do this because increasing the return on shareholders' equity makes the company's stock more enticing to investors. Thus, you will find companies in a price-competitive business, like General Motors, reporting high rates of return on shareholders' equity. To solve this problem, Warren Buffett looks at the return on total capital (ROTC) to help him screen out these types of companies.
ROTC
ROTC is defined as the net earnings of the business divided by the total capital in the business. (Total capital = Equity + Long-Term Debts + Short-Term Debts).
Warren Buffett is looking for a consistently high rate of ROTC, AND, a consistently high rate of ROE.
General Motors' return on equity for the 10-year period (1992 to 2001) was an average annual rate of 27.2%, which is very respectable but suspect because of the 0% return in 1992. Its total return on capital (ROTC) for the 10-year period shows a different story. Its 9.5% average is not enticing. Compare this to H&R Block, which logged in an average annual rate of ROE of 21.5% and an average annual total return on capital (ROTC) of 20.7%.
Take Home Message
The problem with looking at high rates of return on shareholders' equity is that some businesses have purposely shrunk their equity base with large dividend payments or share repurchase programs. They do this because increasing the return on shareholders' equity makes the company's stock more enticing to investors. Thus, you will find companies in a price-competitive business, like General Motors, reporting high rates of return on shareholders' equity. To solve this problem, Warren Buffett looks at the return on total capital (ROTC) to help him screen out these types of companies.
ROTC
ROTC is defined as the net earnings of the business divided by the total capital in the business. (Total capital = Equity + Long-Term Debts + Short-Term Debts).
Warren Buffett is looking for a consistently high rate of ROTC, AND, a consistently high rate of ROE.
General Motors' return on equity for the 10-year period (1992 to 2001) was an average annual rate of 27.2%, which is very respectable but suspect because of the 0% return in 1992. Its total return on capital (ROTC) for the 10-year period shows a different story. Its 9.5% average is not enticing. Compare this to H&R Block, which logged in an average annual rate of ROE of 21.5% and an average annual total return on capital (ROTC) of 20.7%.
Take Home Message
- Companies with a durable competitive advantage will consistently earn both a high rate of ROE and a high rate of return on toal capital (ROTC). Again, the key word is CONSISTENT.
- Companies in a price-competitive business, will typically earn a low rate of ROTC.
- Warren Buffett looks for a consistent ROTC of 12% or better.
Also Read:
Return on Total Capital (ROTC)
The Right Rate of Return on Total Capital (ROTC)
ROA of Banks, Investment Banks and Financial Companies
Using ROTC Where the Entire Net Worth of the Company has been taken out
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
Return on Total Capital (ROTC)
Return on Total Capital (ROTC)
Total Capital = Long-Term Debt + Short-Term Debt + Equity
Return on Total Capital = Net Earnings / Total Capital
The calculation of ROTC is illustrated here: http://files.shareholder.com/downloads/SYY/654431717x0x226567/EC4E58FF-E488-4CBB-A19B-570745E81387/Non-GAAP%20ROTC%20calculation.pdf
It is important to note the numerator and the denominator used in calculating ROTC by various other groups.
Total Capital = Long-Term Debt + Short-Term Debt + Equity
Return on Total Capital = Net Earnings / Total Capital
The calculation of ROTC is illustrated here: http://files.shareholder.com/downloads/SYY/654431717x0x226567/EC4E58FF-E488-4CBB-A19B-570745E81387/Non-GAAP%20ROTC%20calculation.pdf
It is important to note the numerator and the denominator used in calculating ROTC by various other groups.
- Value Line defines the return on total capital as "annual net profit plus 1/2 of annual long-term interest divided by the total of shareholders’s equity and long term debt." Shareholders’s equity is the net worth of the company.
- Some defines total capital as equity plus long-term debt.
Also Read:
Return on Total Capital (ROTC)
The Right Rate of Return on Total Capital (ROTC)
ROA of Banks, Investment Banks and Financial Companies
Using ROTC Where the Entire Net Worth of the Company has been taken out
ROTC, ROA, ROE and Buffett's Durable Competitive Advantage
Return of capital
Return of capital
A distribution of cash resulting from depreciation tax savings, the sale of a capital asset or securities, or any other transaction unrelated to retained earnings.
A distribution of cash resulting from depreciation tax savings, the sale of a capital asset or securities, or any other transaction unrelated to retained earnings.
Return on Total Assets
Return on Total Assets
Abbreviated as ROTA, refers to a measure of how effectively a firm uses its assets.
Calculated by (income before interest and tax) / (fixed assets + current assets).
Abbreviated as ROTA, refers to a measure of how effectively a firm uses its assets.
Calculated by (income before interest and tax) / (fixed assets + current assets).
Return on Assets
Return on Assets
Abbreviated as ROA, refers to a measure of a firm's profitability, equal to a fiscal year's earnings divided by its total assets, expressed as a percentage.
Abbreviated as ROA, refers to a measure of a firm's profitability, equal to a fiscal year's earnings divided by its total assets, expressed as a percentage.
Return on Investment
Return on Investment
Abbreviated as ROI, refers to a measure of a corporation's profitability, equal to a fiscal year's income divided by common stock and preferred stock equity plus long-term debt.
ROI measures how effectively the firm uses its capital to generate profit; the higher the ROI, the better.
Abbreviated as ROI, refers to a measure of a corporation's profitability, equal to a fiscal year's income divided by common stock and preferred stock equity plus long-term debt.
ROI measures how effectively the firm uses its capital to generate profit; the higher the ROI, the better.
Return on Equity
Return on Equity
Abbreviated as ROE, refers to a measure of how well a firm used reinvested earnings to generate additional earnings, equal to a fiscal year's after-tax income (after preferred stock dividends but before common stock dividends) divided by book value, expressed as a percentage.
It is used as a general indication of the firm's efficiency; in other words, how much profit it is able to generate given the resources provided by its stockholders. investors generally look for firms with returns on equity that are high and growing.
Abbreviated as ROE, refers to a measure of how well a firm used reinvested earnings to generate additional earnings, equal to a fiscal year's after-tax income (after preferred stock dividends but before common stock dividends) divided by book value, expressed as a percentage.
It is used as a general indication of the firm's efficiency; in other words, how much profit it is able to generate given the resources provided by its stockholders. investors generally look for firms with returns on equity that are high and growing.
Return on Invested Capital
Return on Invested Capital
ROIC is a calculation used to assess the profitability of a firm by determining how well capital is being allocated into its operations.
By comparing a firm's Return on Investment Capital with its Cost on Capital (WACC), it can be deduced whether or not capital is being used effectively.
The calculation for ROIC is as follows:
Return On Investment Capital - ROIC = (Net Income - Dividends) /(Total Invested Capital)
(typically expressed as a percentage)
A downside of the ROIC calculation is that it does not explain where returns from capital are generated from (i.e. whether they came from one source or from continuing operations). This can lead to misguiding figures that do not accurately explain the overall profitability of a firm.
ROIC is a calculation used to assess the profitability of a firm by determining how well capital is being allocated into its operations.
By comparing a firm's Return on Investment Capital with its Cost on Capital (WACC), it can be deduced whether or not capital is being used effectively.
The calculation for ROIC is as follows:
Return On Investment Capital - ROIC = (Net Income - Dividends) /(Total Invested Capital)
(typically expressed as a percentage)
A downside of the ROIC calculation is that it does not explain where returns from capital are generated from (i.e. whether they came from one source or from continuing operations). This can lead to misguiding figures that do not accurately explain the overall profitability of a firm.
Return on Capital Employed
Return on Capital Employed
Abbreviated as ROCE. A measure of the returns that a firm is realizing from its capital.
Calculated as profit before interest and tax divided by the difference between total assets and current liabilities.
The resulting ratio represents the efficiency with which capital is being utilized to generate revenue.
Abbreviated as ROCE. A measure of the returns that a firm is realizing from its capital.
Calculated as profit before interest and tax divided by the difference between total assets and current liabilities.
The resulting ratio represents the efficiency with which capital is being utilized to generate revenue.
Return on Capital
Return on Capital
Abbreviated as ROC, refers to a measure of how effectively a firm uses the money (borrowed or owned) invested in its operations.
Return on Invested Capital is equal to the following:
= net operating income after taxes / [total assets minus cash and investments (except in strategic alliances) minus non-interest-bearing liabilities].
Abbreviated as ROC, refers to a measure of how effectively a firm uses the money (borrowed or owned) invested in its operations.
Return on Invested Capital is equal to the following:
= net operating income after taxes / [total assets minus cash and investments (except in strategic alliances) minus non-interest-bearing liabilities].
- If the Return on Invested Capital of a firm exceeds its WACC, then the firm created value.
- If the Return on Invested Capital is less than the WACC, then the firm destroyed value.
Where Warren Buffett Discovers Companies with Hidden Wealth
Warren Buffett has discovered 4 basic types of businesses with durable competitive advantages:
1. Businesses that fulfill a repetitive consumer need with products that wear out fast or are used up quickly, that have brand-name appeal, and that merchants have to carry or use to stay in business. This is a huge world that includes every thing from cookies to panty hose.
2. Advertising businesses, which provide a service that manufacturers must continuously use to persuade the public to buy their products. This is a necessary and profitable segment of the business world. Whether you are selling brand-name products or basic services, you need to advertise. It's a fact of life.
3. Businesses that provide repetitive consumer services that people and businesses are consistently in need of. this is the world of tax preparers, cleaning services, security services, and pest control.
4. Low-cost producers and sellers of common products that most people have to buy at some time in their life. This encompasses many different kinds of businesses from jewelry to furniture to carpets to insurance.
1. Businesses that fulfill a repetitive consumer need with products that wear out fast or are used up quickly, that have brand-name appeal, and that merchants have to carry or use to stay in business. This is a huge world that includes every thing from cookies to panty hose.
2. Advertising businesses, which provide a service that manufacturers must continuously use to persuade the public to buy their products. This is a necessary and profitable segment of the business world. Whether you are selling brand-name products or basic services, you need to advertise. It's a fact of life.
3. Businesses that provide repetitive consumer services that people and businesses are consistently in need of. this is the world of tax preparers, cleaning services, security services, and pest control.
4. Low-cost producers and sellers of common products that most people have to buy at some time in their life. This encompasses many different kinds of businesses from jewelry to furniture to carpets to insurance.
PETRONAS Dagangan Berhad
Business Summary
PETRONAS Dagangan Berhad engages in the marketing of petroleum products and operation of service stations. The company markets a range of petroleum products, including motor gasoline, aviation fuel, kerosene, diesel, fuel oil, bunker fuel, lubricants, liquefied petroleum gas (LPG), and asphalt to motorists, households, airlines, shipping lines, transporters, plantations, processing and manufacturing plants, power stations, and commercial enterprises in Malaysia. It markets its products directly to customers, as well as through its network of service stations, LPG dealers, and industrial dealers. The company was incorporated in 1982 and is based in Kuala Lumpur, Malaysia. PETRONAS Dagangan Berhad is a subsidiary of Petroliam Nasional Berhad.
PETRONAS Dagangan Berhad engages in the marketing of petroleum products and operation of service stations. The company markets a range of petroleum products, including motor gasoline, aviation fuel, kerosene, diesel, fuel oil, bunker fuel, lubricants, liquefied petroleum gas (LPG), and asphalt to motorists, households, airlines, shipping lines, transporters, plantations, processing and manufacturing plants, power stations, and commercial enterprises in Malaysia. It markets its products directly to customers, as well as through its network of service stations, LPG dealers, and industrial dealers. The company was incorporated in 1982 and is based in Kuala Lumpur, Malaysia. PETRONAS Dagangan Berhad is a subsidiary of Petroliam Nasional Berhad.
Exchange
Bursa Malaysia
Company Name
Petronas Dagangan
Stock Code
5681
Sectors
Paid Up Capital *
MYR 993.45
Par Value
- (as at 2008-03-31)
Market Cap *
MYR 7,848.29 (based on value of 7.9000 per share)
Bursa Malaysia
Company Name
Petronas Dagangan
Stock Code
5681
Sectors
Paid Up Capital *
MYR 993.45
Par Value
- (as at 2008-03-31)
Market Cap *
MYR 7,848.29 (based on value of 7.9000 per share)
Performance (as at 2008-03-31) *
Total Assets:
MYR 8,609.61
Intangible Assets:
MYR 23.40
Revenue:
MYR 22,301.58
Earnings Before Interest and Taxes:
MYR 908.16
EPS (Basic) Inc. Extraordinary Items:
MYR 0.67
PE Inc. Extraordinary Items:
11.86
EPS (Basic) Exc. Extraordinary Items:
MYR 0.67
PE Exc. Extraordinary Items:
11.86
Net Income:
MYR 661.67
Dividends - Common/Ordinary:
MYR 332.91
Dividends - Total:
MYR 332.91
Goodwill:
MYR 23.40
Minority Interest:
MYR 46.73
Reserves:
-
Return On Assets:
7.69%
Return On Equity:
16.89%
Shareholder's Equity:
MYR 3,917.42
Total Assets:
MYR 8,609.61
Intangible Assets:
MYR 23.40
Revenue:
MYR 22,301.58
Earnings Before Interest and Taxes:
MYR 908.16
EPS (Basic) Inc. Extraordinary Items:
MYR 0.67
PE Inc. Extraordinary Items:
11.86
EPS (Basic) Exc. Extraordinary Items:
MYR 0.67
PE Exc. Extraordinary Items:
11.86
Net Income:
MYR 661.67
Dividends - Common/Ordinary:
MYR 332.91
Dividends - Total:
MYR 332.91
Goodwill:
MYR 23.40
Minority Interest:
MYR 46.73
Reserves:
-
Return On Assets:
7.69%
Return On Equity:
16.89%
Shareholder's Equity:
MYR 3,917.42
---
Historical 5 Yr PE 11.3 to 15.8
Historical 10 Yr PE 9.8 to 14.0
Present PE based on 7.90 = 11.9
Earnings Yield = 8.4%
DY = 4.24% (MYR 332.91/MYR 7,848.29 )
ROTC = 16.89%
Between the end of 1998 and the end of 2007:
- total earnings were $3.129 a share,
- total dividends were $1.09 a share and
- retained earnings were $2.039 per share ($3.129 - $1.09 = $2.039) to add to its equity base.
- the company's per share earnings increased from $0.216 a share to $0.645, the difference was $0.426 a share.
- return on retained capital/earnings RORC was 0.426/203.9 = 21%
---
I like this company. It is a company that I can relate to. Petronas service stations are sprouting all over the place. It has a virtual monopoly supplying energy to certain niche sectors. Its revenue has been good and profitable. It generates a lot of free cash flow. It has been reinvesting into its business regularly, and the return on the equity is a 16.89% which is one of the my investing criteria. Its ROTC is 16.89%, as this company has no borrowings. Its earnings yield is at least 2x that of the risk free FD interest rate. Its dividend has been increasing over the years and I do not anticipate any decrease in future dividend despite the poor economic environment. In fact, it is predicted that the future earnings should continue to show an uptrend, and growth is encouraging with new Petronas stations opening up in new locations funded by self generated profit. The company is debt free.
At 7.90, its PE of 11.86 is at the lower end of its historical 5 year and 10 year PEs. There is safety of capital with a reasonable potential for moderate return (low risk with moderate return) for those with a longer term investing horizon. Just loudly sharing my view, you will need to make your own investing decision based on your personal assessment.
Opportunities in Calamities
Bad-news situations come in 5 basic flavors:
The perfect buying situations is created when a stock market correction or panic is coupled with an industry recession or an individual business calamity or structural changes or a war.
- Stock market correction or panic
- Industry recession
- Individual business calamity
- Structural changes
- War
The perfect buying situations is created when a stock market correction or panic is coupled with an industry recession or an individual business calamity or structural changes or a war.
Company Recovery after a correction, panic or bubble-bursting situation.
1. Companies with durable competitive advantage
a) Correction or panic during a bull market: Any company with a durable competitive advantage will eventually recover after a market correction or panic during a bull market.
b) Bubble-bursting situation: But beware: In a bubble-bursting situation,during which stock prices trade in excess of 40 times earnings and then fall to single-digit PEs, it may take years for them to fully recover. After the crash of 1973-74, it took Capital Cities and Philip Morris until 1977 to match their 1972 bull market highs. It took Coca-Cola until 1985 to match its 1972 bull market high of $25 a share. On the other hand, if you bought during the crash, as Warren Buffett did, it didn't take you long to make a fortune.
2. Companies of the price-competitive type
Be warned: Companies of the price-competitive type may never again see their bull market highs, which means that investors can suffer real and permanent losses of capital if they buy them during a bubble.
Take Home Lessons
The bull/bear market cycle offers many buying opportunities for the selective contrarian investor.
The most important aspect of these buying opportunities is that they offer the investor the chance to buy into durable-competitive-advantage companies that have nothing wrong with them other than sinking stock prices.
The herd mentality of the shortsighted stock market creates buying opportunities for both you and Warren.
After the bubble bursts
After the bubble bursts, a couple of things can happen.
The first is that the country will slip into a recession. You will see reports of layoffs and falling corporate profits. The Fed will actively drop interest rates, which will, in a year or so, respark the economy. The immediate impact of lower interest rates will be an increase in car and house sales. Seeing this, investors will anticipate the revival of the economy and jump back into the market. This time, though, they will be investing in the big names -like GE and Hewlett-Packard - that have earnings. They won't chase after the once-hot bubble stocks. Those stocks are dead until they begin earning money.
If the Fed's dropping of interest rates doesn't revive the economy, the country will slip into a depression and stock prices will really go to hell. It happened in the early 1920s, and the ensuing crash made 1929 pale in comparison. If that happens, you are in a major recession/depression and the stock market will be giving companies away. Value investors, including Warren, dream of such an opportunity, while the rest of the world dreads it. That's because Warren is a selective contrarian investor with a ton of cash and a long-term perspective.
However, Warren Buffett does not buy or sell baseed on what he thinks the market will do. He is price-motivated. This means that he will only invest when the price of the company makes business sense.
The first is that the country will slip into a recession. You will see reports of layoffs and falling corporate profits. The Fed will actively drop interest rates, which will, in a year or so, respark the economy. The immediate impact of lower interest rates will be an increase in car and house sales. Seeing this, investors will anticipate the revival of the economy and jump back into the market. This time, though, they will be investing in the big names -like GE and Hewlett-Packard - that have earnings. They won't chase after the once-hot bubble stocks. Those stocks are dead until they begin earning money.
If the Fed's dropping of interest rates doesn't revive the economy, the country will slip into a depression and stock prices will really go to hell. It happened in the early 1920s, and the ensuing crash made 1929 pale in comparison. If that happens, you are in a major recession/depression and the stock market will be giving companies away. Value investors, including Warren, dream of such an opportunity, while the rest of the world dreads it. That's because Warren is a selective contrarian investor with a ton of cash and a long-term perspective.
However, Warren Buffett does not buy or sell baseed on what he thinks the market will do. He is price-motivated. This means that he will only invest when the price of the company makes business sense.
Tuesday, 2 June 2009
Why the Efficient Market Theory is Both Right and Wrong
Why the Efficient Market Theory is Both Right and Wrong
Once upon a time a couple of enterprising university professors got together and proclaimed that the stock market was efficient, meaning that on any given day a stock was accurately priced given the information available to the public. They also concluded that because of this efficiency, it would be impossible to develop an investment strategy that could do better than the market did as a whole. Because of the market's efficiency, they concluded, the most profitable approach to investing would be through index funds that go up and down with the rest of the market. (This type of fund buys a basket of stocks, without regard to price, representing the stock market as a whole.)
Warren Buffett recognizes that because 95% of all investors are hell-bent on trying to beat each other out of the quick buck, the stock market is very efficient. He sees that it is impossible to beat these people at their short-term game. He also realizes that the shortsighted investment mind-set that dominates the stock market is completely devoid of any true long-term investment strategy. You only have to look to the options market to see hard evidence of this.
Once upon a time a couple of enterprising university professors got together and proclaimed that the stock market was efficient, meaning that on any given day a stock was accurately priced given the information available to the public. They also concluded that because of this efficiency, it would be impossible to develop an investment strategy that could do better than the market did as a whole. Because of the market's efficiency, they concluded, the most profitable approach to investing would be through index funds that go up and down with the rest of the market. (This type of fund buys a basket of stocks, without regard to price, representing the stock market as a whole.)
Warren Buffett recognizes that because 95% of all investors are hell-bent on trying to beat each other out of the quick buck, the stock market is very efficient. He sees that it is impossible to beat these people at their short-term game. He also realizes that the shortsighted investment mind-set that dominates the stock market is completely devoid of any true long-term investment strategy. You only have to look to the options market to see hard evidence of this.
- Short-term options trading, up to 6 months out, is a fully developed market with multiple exchanges, writing tens of thousands of option contracts, on hundreds of different companies, each and every day the stock market is open.
- The so-called long-term options market, up to 2 years out, is tiny and deals in fewer than fifty stocks. From Warren's investment perspective, 2 years out is still short-term.
- No exchange has an active options market writing contracts 5 to 10 years out. It simply doesn't exist.
Warren's great discovery is that, from a short-term perspective, the stock market is very efficient, but from a long-term perspective, it is grossly inefficient. He had only to develop an investment strategy to exploit the shortsighted market's inefficient long-term pricing mistakes. To this end, he developed selective contrarian investing.
Are you Mr. Market or Mr. Buffett?
Benjamin Graham's teaching on the shortsightedness of the stock market
There are certainly many opinions in the blogs. Those who visit these for "tips" maybe disappointed.
Investing should be a lonely journey, through hard work guided by your own philosophy and strategy.
Nevertheless, some of the blogs information can be useful too. One can also learn and benefit from the emotions and thought processes driving these bloggers.
You should be aware of the "noises" which are temporarily good or bad news that many bloggers get excited with. For the long term investors, the news that matters are quite different yet again.
Perhaps, this point can be better illustrated by the parable of Mr. Market made famous by Benjamin Graham.
"When Benjamin Graham was teaching Warren Buffett about the shortsightedness of the stock market, he asked Warren to imagine that he owned and operated a wonderful and stable little business with an equal partner by the name of Mr. Market.
Mr. Market had an interesting personality trait that some days allowed him to see only the wonderful things about the business. This, of course, made him wildly enthusiastic about the world and the business's prospects. On other days, he couldn't see past the negative aspects of the business, which, of course, made him overly pessimistic about the world and the immediate future of the business.
Mr. Market also had another quirk. Every morning he tried to sell you his interest in the business. On days he was wildly enthusiastic about the immediate future of the business, he asked for a high selling price. On doom-and-gloom days, when he was overly pessimistic about the immediate future of the business, he quoted you a low selling price hoping that you would be foolish enough to take the troubled company off his hands.
One other thing. Mr. Market doesn't mind if you don't pay any attention to him. He shows up to work every day - rain, sleet, or snow - ready and willing to sell you his half of the business, the price depending entirely on his mood. You are free to ignore him or take him on his offer. Regardless of what you do, he will be back tomorrow with a new quote.
If you think that the long-term prospects for the business are good and would like to own the entire busines, when do you take Mr. Market up on his offer? When he is wildly enthusiastic and quoting you a really high price? Or when he feels pessimistic and quotes you a very low price? Obviously you buy when Mr. Market is feeling pessimistic about the immediate future of the business, because that's when you would get the best price.
Graham added one more twist. He taught Warren that Mr. Market was there to benefit him, not to guide him. You should be interested only in the price that Mr. Market is quoting you, not in his thoughts on what the business is worth. In fact, listening to his erratic thinking could be financially disastrous to you. Either you will become overly enthusiastic about the business and pay too much for it, or you become overly pessimistic and miss taking advantage of Mr. Market's insanely low selling price.
Warren says that, to this day, he still likes to imagine himself being in business with Mr. Market. To his delight he has found that Mr. Market still has his eye on the short term and is still manic-depressive about what businesses are worth."
Key point: In an investment world dictated by shortsighted investment goals, where the human emotions of optimism and pessimism control investors' buy and sell decisions, it is short-sighted pessismism that creates Warren's buying opportunity.
Are you Mr. Market or Mr. Buffett?
There are certainly many opinions in the blogs. Those who visit these for "tips" maybe disappointed.
Investing should be a lonely journey, through hard work guided by your own philosophy and strategy.
Nevertheless, some of the blogs information can be useful too. One can also learn and benefit from the emotions and thought processes driving these bloggers.
You should be aware of the "noises" which are temporarily good or bad news that many bloggers get excited with. For the long term investors, the news that matters are quite different yet again.
Perhaps, this point can be better illustrated by the parable of Mr. Market made famous by Benjamin Graham.
"When Benjamin Graham was teaching Warren Buffett about the shortsightedness of the stock market, he asked Warren to imagine that he owned and operated a wonderful and stable little business with an equal partner by the name of Mr. Market.
Mr. Market had an interesting personality trait that some days allowed him to see only the wonderful things about the business. This, of course, made him wildly enthusiastic about the world and the business's prospects. On other days, he couldn't see past the negative aspects of the business, which, of course, made him overly pessimistic about the world and the immediate future of the business.
Mr. Market also had another quirk. Every morning he tried to sell you his interest in the business. On days he was wildly enthusiastic about the immediate future of the business, he asked for a high selling price. On doom-and-gloom days, when he was overly pessimistic about the immediate future of the business, he quoted you a low selling price hoping that you would be foolish enough to take the troubled company off his hands.
One other thing. Mr. Market doesn't mind if you don't pay any attention to him. He shows up to work every day - rain, sleet, or snow - ready and willing to sell you his half of the business, the price depending entirely on his mood. You are free to ignore him or take him on his offer. Regardless of what you do, he will be back tomorrow with a new quote.
If you think that the long-term prospects for the business are good and would like to own the entire busines, when do you take Mr. Market up on his offer? When he is wildly enthusiastic and quoting you a really high price? Or when he feels pessimistic and quotes you a very low price? Obviously you buy when Mr. Market is feeling pessimistic about the immediate future of the business, because that's when you would get the best price.
Graham added one more twist. He taught Warren that Mr. Market was there to benefit him, not to guide him. You should be interested only in the price that Mr. Market is quoting you, not in his thoughts on what the business is worth. In fact, listening to his erratic thinking could be financially disastrous to you. Either you will become overly enthusiastic about the business and pay too much for it, or you become overly pessimistic and miss taking advantage of Mr. Market's insanely low selling price.
Warren says that, to this day, he still likes to imagine himself being in business with Mr. Market. To his delight he has found that Mr. Market still has his eye on the short term and is still manic-depressive about what businesses are worth."
Key point: In an investment world dictated by shortsighted investment goals, where the human emotions of optimism and pessimism control investors' buy and sell decisions, it is short-sighted pessismism that creates Warren's buying opportunity.
Are you Mr. Market or Mr. Buffett?
Geithner insists Chinese dollar assets are safe
Geithner insists Chinese dollar assets are safe
US Treasury Secretary Tim Geithner was laughed at by an audience of Chinese students after insisting that China's US assets are safe.
By Edmund Conway
Last Updated: 8:03PM BST 01 Jun 2009
In his first official visit to China since becoming Treasury Secretary, Mr Geithner told politicians and academics in Beijing that he still supports a strong US dollar, and insisted that the trillions of dollars of Chinese investments would not be unduly damaged by the economic crisis. Speaking at Peking University, Mr Geithner said: "Chinese assets are very safe."
The comment provoked loud laughter from the audience of students. There are growing fears over the size and sustainability of the US budget deficit, which is set to rise to almost 13pc of GDP this year as the world's biggest economy fights off recession. The US is reliant on China to buy many of the government bonds it is planning to issue but Beijing's policymakers have expressed concern about the strength of the dollar and the value of their investments.
Related Articles
US calls for China to have greater say in world economic affairs
We all want to get back to business but we need an election first
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Tim Geithner will put away the verbal grenades in China
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/5423650/Geithner-insists-Chinese-dollar-assets-are-safe.html
US Treasury Secretary Tim Geithner was laughed at by an audience of Chinese students after insisting that China's US assets are safe.
By Edmund Conway
Last Updated: 8:03PM BST 01 Jun 2009
In his first official visit to China since becoming Treasury Secretary, Mr Geithner told politicians and academics in Beijing that he still supports a strong US dollar, and insisted that the trillions of dollars of Chinese investments would not be unduly damaged by the economic crisis. Speaking at Peking University, Mr Geithner said: "Chinese assets are very safe."
The comment provoked loud laughter from the audience of students. There are growing fears over the size and sustainability of the US budget deficit, which is set to rise to almost 13pc of GDP this year as the world's biggest economy fights off recession. The US is reliant on China to buy many of the government bonds it is planning to issue but Beijing's policymakers have expressed concern about the strength of the dollar and the value of their investments.
Related Articles
US calls for China to have greater say in world economic affairs
We all want to get back to business but we need an election first
The trillion dollar question
Deficit will be tamed ? Geithner
Tim Geithner will put away the verbal grenades in China
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/5423650/Geithner-insists-Chinese-dollar-assets-are-safe.html
Wall Street shrugs off GM bankruptcy as world markets rally
Wall Street shrugs off GM bankruptcy as world markets rally
Wall Street shrugged off General Motor's long-expected bankruptcy filing as world share markets started June with a gain, lifted by manufacturing surveys suggesting a more upbeat picture of the global economy.
By Telegraph Staff
Last Updated: 10:19PM BST 01 Jun 2009
The Dow Jones closed up 221 points, or 2.6pc, at 8721 in New York. Other major indexes also advanced with the FTSE 100 closing up 2pc at 4506, Germany's DAX rising 4pc to 5142 and France's CAC gaining 3.1pc to 3379.
Earlier in Asia, Japan's Nikkei 225 stock average, which has surged 37pc since early March, closed up 155.25 points, or 1.6 pec, at 9,677.75, while Hong Kong's Hang Seng index shot up 4pc to 18,888.59.
US purchasing managers index — a broad gauge of business activity — from the Institute for Supply Management rose to a better-than-expected 42.8 in May from April's 40.1. It echoed two surveys in China which showed manufacturing expanding in May and one in the UK which indicated that the rate of decline in British economy was slowing.
The Dow Jones said it would drop GM as a component after the automaker filed for bankruptcy, as well as Citigroup, in which the government now owns a significant stake. GM and Citi will be replaced with Travelers and Cisco Systems next week.
Tim Hughes, head of sales trading at IG Index in London, said: "One of the main drivers today has been the ongoing increase in commodity prices, helping to register some impressive gains for mining stocks."
Xstrata and Vedanta were both up more than 9pc in London.
Mr Hughes said the action in commodity markets continues to suggest that the end is in sight for the global slowdown, with gold at its highest for more than three months and oil back to where it was in early November.
"Stock investors seem happy to keep pushing the price of the mining shares higher – this is a sector that has outperformed the wider market for much of this year and at the moment it seems to have plenty of positive momentum behind it."
Investors have been worried of late that the rally in world markets since early March had run out of steam.
Brent crude settled at nearly $68 a barrel and the pound rose more than 3 cents against the dollar to a seven-month high of $1.6428.
http://www.telegraph.co.uk/finance/financetopics/recession/5423078/Wall-Street-shrugs-off-GM-bankruptcy-as-world-markets-rally.html
Wall Street shrugged off General Motor's long-expected bankruptcy filing as world share markets started June with a gain, lifted by manufacturing surveys suggesting a more upbeat picture of the global economy.
By Telegraph Staff
Last Updated: 10:19PM BST 01 Jun 2009
The Dow Jones closed up 221 points, or 2.6pc, at 8721 in New York. Other major indexes also advanced with the FTSE 100 closing up 2pc at 4506, Germany's DAX rising 4pc to 5142 and France's CAC gaining 3.1pc to 3379.
Earlier in Asia, Japan's Nikkei 225 stock average, which has surged 37pc since early March, closed up 155.25 points, or 1.6 pec, at 9,677.75, while Hong Kong's Hang Seng index shot up 4pc to 18,888.59.
US purchasing managers index — a broad gauge of business activity — from the Institute for Supply Management rose to a better-than-expected 42.8 in May from April's 40.1. It echoed two surveys in China which showed manufacturing expanding in May and one in the UK which indicated that the rate of decline in British economy was slowing.
The Dow Jones said it would drop GM as a component after the automaker filed for bankruptcy, as well as Citigroup, in which the government now owns a significant stake. GM and Citi will be replaced with Travelers and Cisco Systems next week.
Tim Hughes, head of sales trading at IG Index in London, said: "One of the main drivers today has been the ongoing increase in commodity prices, helping to register some impressive gains for mining stocks."
Xstrata and Vedanta were both up more than 9pc in London.
Mr Hughes said the action in commodity markets continues to suggest that the end is in sight for the global slowdown, with gold at its highest for more than three months and oil back to where it was in early November.
"Stock investors seem happy to keep pushing the price of the mining shares higher – this is a sector that has outperformed the wider market for much of this year and at the moment it seems to have plenty of positive momentum behind it."
Investors have been worried of late that the rally in world markets since early March had run out of steam.
Brent crude settled at nearly $68 a barrel and the pound rose more than 3 cents against the dollar to a seven-month high of $1.6428.
http://www.telegraph.co.uk/finance/financetopics/recession/5423078/Wall-Street-shrugs-off-GM-bankruptcy-as-world-markets-rally.html
Western economies poised to account for less than 50pc of world GDP
Western economies poised to account for less than 50pc of world GDP
Western world economies will account for less than 50pc of global gross domestic product (GDP) this year, six years earlier than expected, a think-tank has warned.
By Angela Monaghan
Last Updated: 9:18PM BST 01 Jun 2009
The Centre for Economics and Business Research (CEBR) is forecasting that because of the downturn and China's economic resilience, the combined contribution from the US, Canada and Europe to world GDP will be 49.4pc in 2009, down from 52pc in 2008.
CEBR said prior to the financial crisis Western world GDP was not expected to fall below 50pc until 2015. The West's contribution to global GDP has been steadily falling since 2004, when it was about 60pc, but the recession has accelerated that process, CEBR said.
The recession has brought forward the time when the non-Western economies produce more than half of world GDP, for the first time since the middle of the 19th century. We had expected this to happen, but not quite so soon. The West will have to start to get to grips with the fact that we are no longer dominant and cannot expect to have things our own way," said Douglas McWilliams, CEBR's chief executive.
The think-tank predicts the West will account for just 45pc of the world economy by 2012, and expects global GDP to fall by 1.4pc this year, the first decline since 1946. The global economy will start to grow again in the second half of 2009 but will moderate in 2010 as governments embark on "fiscal retrenchment," according to the CEBR.
China will overtake Japan in 2009 to become the world's second largest economy in dollar terms, it said.
"One of the factors causing the shift in shares of world GDP is the fact that the Chinese economy has bounced back rapidly," said Jörg Radeke, economist at CEBR. "This will have knock on effects on oil and commodity prices and is one reason why we are forecasting a price of oil of $80 a barrel in 2012," he added.
http://www.telegraph.co.uk/finance/economics/5424031/Western-economies-poised-to-account-for-less-than-50pc-of--world-GDP.html
Western world economies will account for less than 50pc of global gross domestic product (GDP) this year, six years earlier than expected, a think-tank has warned.
By Angela Monaghan
Last Updated: 9:18PM BST 01 Jun 2009
The Centre for Economics and Business Research (CEBR) is forecasting that because of the downturn and China's economic resilience, the combined contribution from the US, Canada and Europe to world GDP will be 49.4pc in 2009, down from 52pc in 2008.
CEBR said prior to the financial crisis Western world GDP was not expected to fall below 50pc until 2015. The West's contribution to global GDP has been steadily falling since 2004, when it was about 60pc, but the recession has accelerated that process, CEBR said.
The recession has brought forward the time when the non-Western economies produce more than half of world GDP, for the first time since the middle of the 19th century. We had expected this to happen, but not quite so soon. The West will have to start to get to grips with the fact that we are no longer dominant and cannot expect to have things our own way," said Douglas McWilliams, CEBR's chief executive.
The think-tank predicts the West will account for just 45pc of the world economy by 2012, and expects global GDP to fall by 1.4pc this year, the first decline since 1946. The global economy will start to grow again in the second half of 2009 but will moderate in 2010 as governments embark on "fiscal retrenchment," according to the CEBR.
China will overtake Japan in 2009 to become the world's second largest economy in dollar terms, it said.
"One of the factors causing the shift in shares of world GDP is the fact that the Chinese economy has bounced back rapidly," said Jörg Radeke, economist at CEBR. "This will have knock on effects on oil and commodity prices and is one reason why we are forecasting a price of oil of $80 a barrel in 2012," he added.
http://www.telegraph.co.uk/finance/economics/5424031/Western-economies-poised-to-account-for-less-than-50pc-of--world-GDP.html
Monday, 1 June 2009
Starting a Small Business
Starting a Small Business
The statistics are mind numbing. In North America, 80% of all small businesses started this year will be gone in 5 years. Of the lucky 20% to have survived, another 80% will be gone in 10 years. That's a whopping 96% failure rate over ten years.
Would you start a small business if you were told that you have a 96% chance of failure? Not many people would. But every day, hundreds of people think they will beat the odds. They may be former employees, students, housewives, or others who have never had any business training but are sure that their product or service is so fantastic, so completely unique, that they are destined to succeed.
The hairdressers think that because they are good at cutting hair, they can own and manage a salon. Lawyers think that because they are good at putting together a brief, they can run a ten-lawyer law practice.
Small business is the engine of the world economy. Even Mircrosoft and Ford started in someone's basement or garage. However, people all over the world have an idealized and unrealistic view of how to operate a business, and most discount the importance of the basics, including basic accounting skills.
The small-business owner will need to base the business on sound financial and management principles. Business management is a separate skill from doing whatever it is that their business does.
What is their business plan?
What is their break-even point?
How about their plans for book-keeping for the business?
How about analysing and tracking financial information?
How about understanding and handling the complexities of starting, growing and exiting a business?
How to work with the accountant to strengthen the business and make it more profitable and risk proof?
Therefore, learn and be familiar with some of the basic essential knowledge before starting a small business.
The statistics are mind numbing. In North America, 80% of all small businesses started this year will be gone in 5 years. Of the lucky 20% to have survived, another 80% will be gone in 10 years. That's a whopping 96% failure rate over ten years.
Would you start a small business if you were told that you have a 96% chance of failure? Not many people would. But every day, hundreds of people think they will beat the odds. They may be former employees, students, housewives, or others who have never had any business training but are sure that their product or service is so fantastic, so completely unique, that they are destined to succeed.
The hairdressers think that because they are good at cutting hair, they can own and manage a salon. Lawyers think that because they are good at putting together a brief, they can run a ten-lawyer law practice.
Small business is the engine of the world economy. Even Mircrosoft and Ford started in someone's basement or garage. However, people all over the world have an idealized and unrealistic view of how to operate a business, and most discount the importance of the basics, including basic accounting skills.
The small-business owner will need to base the business on sound financial and management principles. Business management is a separate skill from doing whatever it is that their business does.
What is their business plan?
What is their break-even point?
How about their plans for book-keeping for the business?
How about analysing and tracking financial information?
How about understanding and handling the complexities of starting, growing and exiting a business?
How to work with the accountant to strengthen the business and make it more profitable and risk proof?
Therefore, learn and be familiar with some of the basic essential knowledge before starting a small business.
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