Enterprise Value and Acquirer’s Multiple. Using Total Enterprise Value / EBIT as the primary tool to evaluate and compare the earnings power of a company.

Investors should make the ratio of a company’s TEV/EBIT a primary tool to evaluate its earnings power and to compare it to other companies instead of PE ratio.

Buffett has said that he will generally pay 7x EV/EBIT for a good business that is growing 8-10% per year.



Enterprise Value

Total Enterprise Value

The simplistic PE ratio is useful as crude screening tool but it has a serious limitation of ignoring the balance sheet items. This can materially misrepresent the earnings yield of a business.

One way to look at it is considering the total enterprise value (TEV) of two companies, A and B and see which one is cheaper to buy the whole business as explained in Investopedia as below:

[Think of enterprise value as the theoretical takeover price. In the event of a buyout, an acquirer would have to take on the company's debt, but would pocket its cash. EV differs significantly from simple market capitalization in several ways, and many consider it to be a more accurate representation of a firm's value. The value of a firm's debt, for example, would need to be paid by the buyer when taking over a company, thus TEV provides a much more accurate takeover valuation because it includes debt in its value calculation.]

TEV = Market Capitalization + Debt + Minority Interest - Cash – other non-operating assets

• The market capitalization is the market value of the common shareholders’ equity equals to number of shares multiply by share price.
• The debts is the market value of interest bearing bank loans, bonds, commercial papers etc. In financial solid businesses the market value of debt corresponds to its book value.
• Minority interest is the result of the consolidation of the subsidiary company’s account and it doesn’t belong to the common shareholders of the company. The market value of MI is obtained by multiplying its book value by an appropriate price-to-book value.
• Cash and cash equivalents are deducted from the enterprise value as they lower the purchase price. They can be distributed or used for the reduction of debts in an acquisition.
• The other non-operating assets are treated in a similar way, as they can be sold without impacting the cash flow situation, for example properties, investments in associates etc.

Acquirer’s Multiple (TEV/Ebit)

So why is the Acquirer’s Multiple so important? For a couple of reasons. First, it allows us to see how cheap a stock currently is. Unlike a discounted cash flow analysis, calculating a stock’s current TEV/Ebit requires no estimates into the future.

Secondly, I often use TEV/Ebit as my main valuation tool to compare the relative price-value relationship of companies in the same industry to see which one is a better buy.

For individual cases, I will be happy to invest in a company with normal growth rate of say 8% with TEV/Ebit < 7, following Warren Buffett's metric.  Flip it over, we get an earnings yield for the enterprise of 14%, or an after tax earnings yield of 11%., which I am satisfied of.

Conclusions

Investors should make the ratio of a company’s TEV/EBIT a primary tool to evaluate its earnings power and to compare it to other companies instead of PE ratio. This is the ratio that Joel Greenblatt uses for his Magic Formula by flipping it over and that Buffett uses when evaluating a business. Buffett has said that he will generally pay 7x EV/EBIT for a good business that is growing 8-10% per year.

Balance sheet is also a very important part of our analysis, not only to avoid liquidity and bankruptcy risks in times of economic downturn and financial crisis, but also for a price Vs value investing decision.

Reference:

Enterprise Value and Acquirer’s Multiple kcchongnz

http://klse.i3investor.com/blogs/kcchongnz/84689.jsp

Investing and The Eighth Wonder of the World kcchongnz

http://klse.i3investor.com/blogs/kcchongnz/92412.jsp

Quick and Steady return

Figure 1 below shows the typical 10-year return of a “Quick” speculator and a “Steady” long-term investor, both starting with RM100000.

Quick aims for fast gain, getting in and out of the market, buys and sells based on what the charts tell him to, and always looking for “the next big thing”. It has a higher average return over the 10 years of 15% a year, higher than the average, and more steady return of the long-term investor, Steady, of 10%. Table 1 in the Appendix shows the hypothetical annual return of both the market players.

At the end of 10 years, Figure 1 shows that the RM100000 invested by Steady has accumulated to RM253000, 37% more than what Quick has accumulated in the amount of only RM106000. The compounded annual rate (CAR) of Steady is 9.7%, whereas Quick could only achieve a CAR of just 0.6%, although it has a much higher average return.

Who is better here; the rabbit of the turtle? A sprinter of a marathon runner in a 10km race?

Appendix

Table 2: 10-year return of some stocks in Bursa

Table 3: 10-year Return of lemons

Negative interest rates are radical measures. What are negative interest rates? Why do banks impose negative interest rates? Does it work?

When interest rates are negative, this usual relationship is reversed, and lenders have to pay to lend money or to invest.

The general idea of imposing negative rates is to discourage people or organisations from certain investments.

Why do banks impose negative interest rates?

In short, for different reasons, but usually to try to stabilise the economy in some way:

• The Swiss National Bank brought in a negative rate to try to lower the value of the Swiss franc, which has been rising as people look for safer investments.
• The European Central Bank (ECB) imposed a negative interest rate to try to stop banks from depositing money with it, and instead lend to eurozone businesses.

Does it work?

Negative interest rates are rarely brought in, and are seen as quite a radical measure.

While negative interest rates are normally aimed at institutional investors, in the long term they can have a detrimental effect on savers, if investors decide to recoup the costs of the rate by levying charges on consumers.

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What are negative interest rates?

Tom EspinerBusiness reporter18 December 2014

• rom the sectionBusiness

Switzerland's National Bank (SNB) is to impose an interest rate of minus 0.25% on large amounts of money deposited in the country.

The negative rate will apply to "sight deposits" - a type of instant access account for banks and large companies - of more than 10m Swiss francs (£6.5m).

But why would a bank want to cut the value of deposits it holds, or charge depositors?

Image captionSwiss National Bank wanted to lower the value of the Swiss franc

What are negative interest rates?

Normally borrowers pay lenders a rate, typically as an annual percentage, on the amount borrowed.

So, for example, when people deposit money in a bank, they normally expect to get back some form of interest on the account.

However, when interest rates are negative, this relationship is reversed, and lenders have to pay to lend money or to invest.

The general idea of imposing negative rates is to discourage people or organisations from certain investments.

Image captionRussians have seen the value of the rouble fall by around a half since the beginning of the year

Why do banks impose negative interest rates?

In short, for different reasons, but usually to try to stabilise the economy in some way.

The Swiss National Bank brought in a negative rate to try to lower the value of the Swiss franc, which has been rising as people look for safer investments.

Factors such as a sharp drop in the value of the Russian rouble and steeply falling oil prices have spooked investors.

Switzerland normally sees money flowing into its coffers in difficult economic times.

However, if the currency is too strong, this can hit exports, as products become more expensive.

In June, the European Central Bank (ECB) imposed a negative interest rate, but for different reasons.

It wanted to try to stop banks from depositing money with it, and instead lend to eurozone businesses.

Image captionThe ECB remains under pressure to act to kick-start the eurozone economy

Does it work?

How effective negative rates are depends on many different variables.

In the case of Switzerland, the immediate impact was a temporary fall in the franc against the euro, but the currency was trading slightly higher by late morning.

Its longer-term impact remains to be seen.

The ECB's negative interest rate was announced as part of a raft of measures designed to stimulate the eurozone economy, which continues to stagnate.

Are we going to see more of it?

It very much depends on what banks want to achieve, and whether they think it's going to work.

Negative interest rates are rarely brought in, and are seen as quite a radical measure.

While negative interest rates are normally aimed at institutional investors, in the long term they can have a detrimental effect on savers, if investors decide to recoup the costs of the rate by levying charges on consumers.

Besides, central banks have a range of other measures available to them to stimulate the economy.

For example, since the global financial crisis, both the Bank of England and the Federal Reserve have used so-called "quantitative easing" - buying assets to boost the supply of money - as an economic stimulus.

The Bank of England considered imposing a negative bank rate in February 2013, but decided against it in May of that year.

However, it said at the time that negative interest rates remained an option.

With the global economy still fragile, negative rates remain a tool that banks could use.

http://www.bbc.com/news/world-europe-30530534

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https://www.techimo.com/forum/imo-community/313590-negative-interest-rates-today-boj.html

The Bank of Japan surprised markets Jan. 29 by adopting a negative interest-rate strategy. The move came 1 1/2 years after the European Central Bank became the first major central bank to venture below zero. With the fallout limited so far, policy makers are more willing to accept sub-zero rates. The ECB cut a key rate further into negative territory Dec. 3, even though President Mario Draghi earlier said it had hit the “lower bound.” It now charges banks 0.3 percent to hold their cash overnight. Sweden also has negative rates, Denmark used them to protect its currency’s peg to the euro and Switzerland moved its deposit rate below zero for the first time since the 1970s. 

Since central banks provide a benchmark for all borrowing costs, negative rates spread to a range of fixed-income securities. By the end of 2015, about a third of the debt issued by euro zone governments had negative yields. That means investors holding to maturity won’t get all their money back. Banks have been reluctant to pass on negative rates for fear of losing customers, though Julius Baer began to charge large depositors.

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https://www.techimo.com/forum/imo-community/313590-negative-interest-rates-today-boj.html

TOKYO — The Bank of Japan said Friday that it would adopt a negative interest rate policy for the first time, as a sputtering economy, stubbornly low inflation and turbulent global financial markets threaten to undermine Prime Minister Shinzo Abe’s economic-revival plan.

The central bank said it cut the deposit rate it pays on cash parked at the BOJ by commercial banks in excess of legally required reserves, to minus 0.1% from the previous plus 0.1%. The goal was to push down borrowing costs across a broad time spectrum to stimulate inflation, the bank said.

The bank decided to introduce negative rates to “pre-empt the manifestation of [downside] risk and to maintain momentum to achieve the price stability target of 2%,” the BOJ said in a statement released after a two-day policy meeting.
“We will cut the interest further into negative territory if judged as necessary,” the central bank said.
The vote count was 5-4 in favor of negative interest rates.

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How to win the lose's game

The Best Video to comprehend how the Economic Machine Works.

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3 Big Risks Investors Must Know About A Real Estate Investment Trust

By Stanley Lim Peir Shenq, CFA

The Singapore stock market is home to some of the largest real estate investment trusts in the region. REITs such as Ascendas Real Estate Investment Trust (SGX: A17U), CapitaLand Mall Trust (SGX: C38U), Mapletree Logistics Trust (SGX: M44U)and Mapletree Industrial Trust (SGX: ME8U) all have a market capitalisation of over S$2 billion each.

Land is a very valuable commodity in Singapore given that it is a tiny island nation. Moreover, REITs in Singapore tend to offer high yields as well, relative to the broader market.

But, REITs are far from being a risk-free investment. Investors need to understand how REITs are structured in order to gain better awareness of the risks involved. Here are three big risks that I’m watching with REITs.

Lack of a safety net

REITs are required by regulation to distribute 90% of their taxable income each year as distributions to enjoy tax-exemption. That would explain why most REITs tend to have high dividend yields.

But, this means that REITs are not able to build up a cash reserve to strengthen their balance sheets and protect themselves against any adverse economic conditions. The need to distribute most of their income would also mean that REITs lack the cash reserves to invest in more properties to grow their distribution.

Therefore, it is common to see REITs issue rights or conduct private placements as a way to raise more capital from time to time. For an investor, there’s a risk that your investment in a REIT may get diluted when it conducts such corporate exercises.

Interest rate risk

The aforementioned inability of REITs to conserve cash would also mean that they’d have to depend on debt for financing. REITs with significant debt on their balance sheets may be facing interest rate risk.

In the event that interest rates rise, this may cause a hike in a REIT’s interest expenses. In turn, the amount of distributable income that the REIT can generate might drop significantly, thus negatively impacitng the distribution yield of a REIT. When this happens, the unit price of a REIT may be affected as REIT-investors may dispose of it in search of higher yields.

Use of short-term debt

Generally speaking, the bulk of a REIT’s assets are properties that can last for decades or even centuries. In other words, a REIT’s assets are mainly long-term in nature. But, the borrowings of most REITs are relatively short-term, with typically less than 10 years to maturity.

As such, this creates a type of asset and liability mismatch, in the sense that REITs are using short-term liabilities (debt) to finance long-term assets (properties). In fact, REITs have a constant need to refinance their borrowings while holding onto the same assets.

In the event of liquidity drying up, such as during the Global Financial Crisis of 2008-09, a REIT may be caught in a dangerous position of being unable to find any refinancing options when its debt comes due. If that happens, the REIT would most likely have to undertake a huge rights issue or private placement – at a deeply discounted unit price to boot.

In this scenario, an investor in the REIT may see his or her stake diluted sharply (from a large private placement) and/or be required to fork out a large sum of money (from a rights issue) to reinvest in the REIT and save it from financial difficulties.

Foolish Summary

REITs can be great investments. But, investors should be aware that a great investment opportunity does not mean that it is risk-free. Understanding the key risks of REITs would give an investor an edge when it comes to managing his or her investment portfolio.

https://www.fool.sg/2016/02/01/3-big-risks-investors-must-know-about-a-real-estate-investment-trust/?source=facebook