Are you drowning in a sea of complexity?
I don’t know if you have noticed but some of my recent posts and comments have been getting a little technical. I am sorry about that, I get a bit carried away sometimes.
Of course on this blog, I am not alone. Joab’s brilliant heads-up on the forthcoming changes to the treatment of leases and the impact on the financial statements is exactly the sort of thing that excites those of us who make investing a full time occupation.
In this field it’s easy to want to prove how much detail one can accumulate about a company or what one knows about valuations or credit analysis. Then of course debates and polite but pointed arguments begin about whose mousetrap is better.
Yet for most of us, it’s a storm in a tea cup, and meanwhile someone has made a million dollars quietly accumulating a few shares in the recently listed company XYZ Ltd.
In most cases there is one pearl that counts and the rest is noise. Our job is to find the pearls. Of course with so much rubbish to sift through it can be challenging to pluck up the enthusiasm to even start searching. For many investors, time is of the essence and short cuts are needed.
Well, I am here to deliver. But this not a post about buying the next hot uranium or gold explorer – tips I do receive and some I even regret missing sometimes. Today’s post is about a shortlist of A1 companies, their proximity to intrinsic value, my expected change in those intrinsic values and the associated net debt to equity ratios.
Why? It’s about getting back to basics.
Investing is simple. Not easy, but simple. Much work went into the classification process to come up with my A1, A2, C5, etc Montgomery Quality Ratings using, for example, industry specific KPI’s to ensure that future sweat was reduced.
And recently one Value.able Graduate Ken, reinforced my resolve to keep it all very simple. Ken D wrote:
Hi again Roger,
Out of curiosity, last week I constructed 2 hypothetical portfolios: 1) with your A1 stocks in equal proportion; and 2) the same with your A2 stocks. I have attached some numbers. I was impressed by the average past performance (i.e. investment performance) from both portfolios and also noted quite a difference between the A1 and A2 portfolios (attached). I doubt whether the result is fortuitous. Without asking you to outline your ranking process, I was wondering whether the strong past performance might be expected as a direct result of criteria used in the A1, A2 classification process – e.g. reference to historical earnings growth for instance, or perhaps more interestingly, a product of the inherent quality of the business as measured by current performance measures.
Ken
In answer to Ken’s question and for everyone’s benefit, remember Ben Graham’s quote about short-term voting machines and long-term weighing machine? Over longer periods of time, price follows intrinsic value and because my Value.able method of calculating intrinsic value is related to the performance of the business, one should expect price to follow performance. Over time A1 businesses should do better and a portfolio filled with just A1s purchased at big discounts to intrinsic value, should, in theory, do best.
Ken looked at all the A1s that I had mentioned on the blog and went backwards (I’ll ignore survivor bias for now) to have a look at the annual returns a portfolio of A1s would have produced.
While there is more refinement required, the early results are impressive. Over the last ten years Ken’s portfolio of 16 A1 company stocks returned 24 per cent, per annum. The same 24 per cent per annum result was produced with a portfolio of 23 stocks over five years and there were 31 A1 stocks in the last year that combined, returned 31 per cent.
Thanks for putting in the time Ken.
With all that in mind, here is my latest list of A1 companies, their proximities to intrinsic values and a few other salient stats.
What I would like to see as comments here are your thoughts or insights about any of these companies. Go right ahead and share whatever you know or think. But only about the companies in the list. Keep the comments to the topic set and we will build a useful library of insights. Just click the Leave a Comment link below.
Posted by Roger Montgomery, 3 November 2010.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
les
:
hi room &Ashley Little.
Have been using ROE and data from Comsec,but you disagree,where do you recomend??
Bob
:
Interested to see that PTM is on your list. Had stock in this. Very volatile price I thought. Good dividend but couldn’t see how its intrinsic value could increase, given that its major capital is intellectual and goes home every night.
Your comments are valued.
Roger Montgomery
:
Put the right incentives in place Bob and the staff keep coming back up the lift each morning.
James M
:
Hi Roger,
I only just found your website – it looks good – thanks.
I am amazed at the drop in price of JBH – I see it still as being undervalued, but then I thought that two weeks ago, and two weeks before that – but it keeps tumbling. I can only assume the fears around consumer spending are sending the price down.
Peter
:
Have read the book with interest and have done a trawl of some mining companies (I know you don’t necessarily like them), but would welcome your thoughts on MML. It seems to tick many of the boxes, especially the discount to intrinsic value.
Peter
Chris W
:
MIN – too young
PTM – too young
MTU – a lot of people like it. I think its bold going for a telco, but if any are to go for its this one
WTF – very different from carsales, seek, realestate. This is not an A1 stock. This site has far less barriers to entry. Competition will come to town one rainy night and they won’t know what hit them. It happened in USA I beleive. I need to look into it more though.
ARB – possibly the best company in Aus
NCK – I don’t think they deserve an A1
GUD – they are good not great.
Roger Montgomery
:
Hi Chris W,
Thanks for those thoughts. Have a quick read of past comments about what the A1 means – lowest relatively chance of a ‘liquidity’ event.
Paul Audcent
:
Roger, I went though the listing of these A top companies and sifted out those without a dividend re-investment plan, I couldn’t pick one that stood out, they were all good. So I bought more Westpac as that also had a A1 rating. Guess I’m a conservative punter and I hold shares for a long time being a cautious pensioner. But I enjoyed the book, and your blogs and the TV appearances. And yes I do now use your common sense selection process. But I limit my purchases to ten stocks. So thanks for your help.
Roger Montgomery
:
Hi Paul, And I trust you followed my advice/insistence to seek and take personal professional advice too. Remember the stock market could crash tomorrow, Westpac could halve and there is little way to predict that. An advisor will understand your financial circumstances and needs and give appropriate advice. We cannot do that here or in the book or on TV. Having said that, thank you for your supportive and encouraging comments and I hope that all the information has got you thinking.
George
:
Hi Roger,
How do you go about calculating the future equity per share when a company has a DRP? For example MTU. I know you posted a while back how to calculate future equity per share, but it didnt take into account DRP. Can you please give me some advice on how to tackle this?
Regards,
George
Roger Montgomery
:
You have to estimate it George. Thats about all you can do.
Hannah
:
What is the value everyone is getting for EQN?
AJS
:
Dear Roger and value investors,
I was looking at the Comsec data for COH and couldn’t work out how you are arriving at the Debt/Equity ratios in your table.
For FY2010, total debt = 156.745, equity = 438.3, Debt/Equity = 35.8%
Comsec has forecast FY2011 equity =484.6 and your 25.99% gives debt of 125.9m, so how I calculate this forecasted the level of debt from 156m to 126m for next year?
Thanks
AJS
Roger Montgomery
:
Hi AJS (please use your name here in future posts),
You will a lot of discussion here on the blog and in the associated comments discussing the merits or otherwise of Comsec data. Please go back to previous posts like THIS ONE and have a read through the comments below it. Thanks for asking the question.
Andrew
:
Hi All,
I know this is a bit late but couldn’t find a better post to put this on.
I have seen that during this discussion people have been touching on technology and technology stocks which of course had a dramatic rise and fall in the early 90’s during comments about companies such as REA and Carsales.com.au.
I think that we need to be careful not to pigeonhole certain companies into categories. Buffet (as well as Roger and most of us) have strong feelings about airlines as an investment but he sees no problem about buying an airline leasing company. The two businesses are similar in that they revolve around people flying in planes. But yet they are different.
It is the same i feel with internet list companies and technology stocks. Yes they are internet based stocks and there are risks in pure play internet based companies (low barriers to entry being one) but i would not go as far to classify Seek, REA and carsales.com.au as technology stocks.
They are i feel, non-store based service providers or retailers. Instead of having a tangible shopfront in a shopping centre or street, their store is online.
The services they provide are different to technology stocks. Where as their might not be much need for certain types of computers and related equipment in the future, people will still be looking for houses to buy, cars to buy/sell or jobs to help them get to the point to buy such things. A change of technology is not going to make people stop doing these things.
Instead quite the opposite, as they have established businesses and contacts they are well placed to take advantage on any new technology to help entrench their services and competitive advantage (a realestate.com.au phone app as one example). As people know this brand and know that they have the most comprehensive listing of houses, they will gladly jump on board and any users they may lose due to people stopping their use of the internet should be matched by an increased use in technology. I see opportunities rather than risks when it comes to technology and these companies.
The biggest risk to these companies i feel, is that people no longer wish to look for houses, cars, hotels, and jobs which would be very unlikely to happen rather than an increase in technology.
Roger Montgomery
:
Great clarity Andrew,
Just remember Buffett’s aircraft leasing business has had very mixed results. Its no Sees Candy!
Rodger Brook
:
What is the column expected change in IV
Roger Montgomery
:
Hi Rodger,
It lists my expected change in IV. I am not sure what else to say about it other than it represents a high risk forecast. Seek and take personal professional advice BEFORE trading or investing in anything. Nothing here on the blog represents advice.
Mike Hall
:
I believe the ‘Expected change in IV’ is the forecast percentage change, per year, for the next three years.
LukeS
:
DWS thoughts
Already familiar with company as having good fundamentals. Time to find out what they really do and how they make their money.
They are in a wide open marketplace with little barrier to entry. Are they likely to continue to prosper?
Extent of research.
I went to every page of their website and read every word. Shoot me please.
I read their 2010 Annual report. Easy enough to digest.
First impressions
Website was a magnificent example of focussing on your target market.Their market covers Fed and State Govt plus ASX top 50. Lots of talk about quality control. They have even created their own Quality Assurance system and have many pages explaining and promoting the system. The website says little about anything but says it in just the way govt purchasing decision makers want to hear it. It is so beautiful I am sure many of them cut and paste large portions of the website to put into their internal documents. The whole site is there to show that if you buy from us your backside is covered. The saying is “No one ever got sacked buying Microsoft”. This means although a free system like linux will probably do the job well, if something goes wrong and it is microsoft I can tell the board of directors that we went with the biggest and most stable company we could find. Sorry it didn’t work but hey – you can’t blame me.
No money wasted on their website. Simple text and image site. Their client portal somewhere that would probably show some of their skills but they did not demonstrate their capabilities for the public or potential customers.
I can see they have absolutely no skills in search engine optimisation. This means they are not taking full advantage of the potential customers Google can freely provide for them. This probably doesn’t matter for a company with a clearly defined list of target customers.
However it is like giving me a proposal full of typos. You either don’t know or don’t care. You just gave away a lot of easy points with me and now you are going to have to try to claw them back. I don’t care so much if you are a plumber, a sandalwood company or rogermontgomery.com – it is a shame you don’t know how to do it but it is understandable. But if you are an IT company….
This also means they probably don’t know how to do it for their customers. Wisely they do not list their customers. If I was still in
that industry and found their poor customers websites I would politely point out their flaws to seed doubt about their current provider’s skills. Over coffee and a Tim Tam or 2 I would probably walk out with some business and begin to erode their hold on that customer.
This fact alone make me less able to believe in what they are saying about quality control and their vast skillset. They say they have 535 IT experts working for them. Can you seriously tell me not one of these experts has notice this fundamental flaw in their own website. I do understand that a plumber’s tap is the one most likely to be leaking but this is web design 101.
It took me less than 2 second to see their first major error. There were many more.
Anyway people I respect talk highly of this company and the numbers stack up. Fess up – I already own some shares. Let’s keep going.
Let’s find their latest annual report. Ah c’mon fellas. This is not supposed to be a puzzle.
You will not find the Latest Annual Report under “Financial Reports”. What you will find is a sad mess. Sorry – just lost more points.
To save you pain it is under “Asx Announcements”. It is poorly titled dws ar10 final. How hard can it be to just say DWS Annual Report 2010.
Sources of money?
They do not appear to have anything you could call a product. If they do have suite of software products they are not talking about it.
From what I can tell they sell people at hourly rate. They have “in excess of 535 employees”. I guess that mean they have 536. Their
stated goal is to have 1000 by 2014.
It is a shame there is no detail about the source of revenue. It would be good to know how much revenue is earned without effort.
Revenue from things like data hosting and sales of in-house, already written software are an IT company’s cream. Good fat calories.
So their products are people. They mainly employ coders. Nerds of the highest order. Thankfully they are spread out in offices all over Australia. 535 nerds in one physical location in almost too much to contemplate.
Average profit per person varies from state to state.
18 million profit generated by 535 people is average $33600 profit per person. It doesn’t sound a lot to me. Must be lots of people not
maximising their billable hours. Or maybe they employ lots of people part time.
Doubling your workforce to 1000 will cause some pain and you would have to expect the average per person to drop. To be able to profitably manage 500 coders is something to be very proud of. DWS shows they have the skill to manage the current workforce so can probably handle it.
I do like DWS and they are consistent good performers. You could buy it all today for 207 million and probably earn about 20 mill after tax in 2011. If the future follows the past things will keep growing with good ROE. It doesn’t sound expensive. Maybe current price is not a huge bargain but it certainly sounds fair and I can sleep at night feeling comfortable they have no debt and the management seems to be working in my interest.
LukeS
:
Just a thought or 2 after sleeping on DWS.
Would be great to have more insight to how they work. I can’t help feeling a business that sells people is essentially a commodity business. They are price takers. Selling hourly rate will certainly keep a lid on your margins.
Other thing bothering me most is I bought a few this week. I am relatively new to this so promised myself I would be cautious. I had guaranteed myself I would not invest until I really understood the business and had read and made notes on their last 3 annual reports.
I let myself down. I am a weak, weak man. Mum, Roger made me do it.
Roger, Switzer, this site, other people I am involved with have all been talking about DWS. The clincher was the latest super portfolio piece between Roger and Peter. DWS have been on my to do list for a while. So instead of doing the correct research I just went ahead and bought some. Not many – just enough to relieve the itch.
I am happy with the purchase. I am unhappy with me being influenced by other people. Instead of doing the correct research and asking questions before investing I really did little more than bet on black. I cannot say the decision was rational or logical. It was mainly emotional. what kind of fool would say they are an investor when decisions are made in this way.
The hard part of all this is not the maths of IV – it is the emotional heave ho as you go from genius to idiot in one fell swoop.
Roger Montgomery
:
Hi Luke,
you must research and you must try to really understand a business before investing. Finally you must seek and take personal professional advice rather than taking your queue from the TV. I have previously written a post about investing on the back of conversations about stocks on the TV.
Ian
:
Roger,
your comment regarding doing research interested me as I have concerns with the quality of the information generally available to the public.
I have been looking at all the information available to the public regarding the company that I currently work for. Although I am not in a particularly senior position, the company is not so big that I cannot compare the available information with reality (or at least my version of it).
What is the most disappointing is that the brokers that cover the stock do not appear to check their facts. Some of the comments made by the brokers were not factual and a quick check on the Commsec website would have confirmed this. As a number of the brokers published identical graphs and charts, they were obviously the ones provided by the company.
And lastly, the future earnings listed on Commsec were about 50% of the earnings that the brokers included in their private client advice.
So, (and there is a question here), how much faith should I be putting into the information available on sites like Commsec? So far, I have found the annual report a good place to start, but as this is a lagging indicator, it does not help with forecasting the future.
Roger Montgomery
:
Hi Ian,
Thats is very useful and helpful for everyone reading the blog. Thank you indeed. As we have all agreed here and I have said before, don’t rely on the aggregated data.
justin
:
I have two observations I hope may help.
First, when i asked my 13 year old son what he and his friends use pc’s or laptops for, he said that, apart from violent war games, it was twitter, facebook and email. Those are all things you can do on the phone. The only reason, it seems, to use a computer (and it’s usually mine) is to save phone credit. This bodes well for retailers i think, as the turnover of handsets and the increasing competition will lead to more sales.
Secondly, when CEO’s (or other directors) sell shareholdings it can be for a large number of reasons. The timing is, to a large extent, determined by legal restrictions on selling within certain periods before and after announcements etc. It may also be impacted by the terms of share incentive schemes. I am only guessing, but I suspect that this was behind the sale of shares by directors of Forge after Clough bought 30% in April. It could be that options granted to them could only be exercised after a “change of ownership” event. The result of this is that you have to understand the possibility of these underlying factors before panicking. Ms Mcdonald holds many more shares and, I suspect, after the AGM next month will hold many more.
Thirdly (I know I only said two points), speaking of Oroton, I noticed with interest the appointment of an Asia based director in May or June. This will be explained, no doubt, in greater detail at the AGM, but if it means hands on experience in the push into Asia then it can only be a good thing.
harley antill
:
what is happening to Centerbet
I cannot find any unsavoury news
Sean Trewartha
:
Hi Roger,
Would you consider ERA an A1 company… ?
No debt, Assets outweigh liabilities,
Consistent yearly share capital, raising of 214.60
Growing retained profits,
Increasing sales revenue
Increasing book value
Increasing net profits,
net gearing % -26
ROA 29% ROE 28%
Increasing receipts from customers $803.00
and operational costs of $248
Neg investing, -37 Neg. financing – 67
Thanks
Roger Montgomery
:
Recent performance makes it not an A1. Uranium however is on the rise again because opposition to uranium mining has constrained supply while demand continue to rise.
Lachlam
:
Hi Rodger and fellow Valuable graduates,
I have been dissecting Maca Ltd’s prospectus recently and must say i like what i have seen so far. Just wondering if anyone has any insights into the competitor advantages they have as i have a limites knowledge of the mining services industry.
Thank you
Roger Montgomery
:
Hi Lachlam,
Here is an excerpt on the subject of MACA’s competitive advantages for a Eureka Report Article I wrote a few weeks ago. Note, the conclusion was to participate in the float; “Pick and shovel suppliers generally have few competitive advantages and fewer barriers to imitation. Relationships and reputation are what it’s all about, unless there is some patented technique, which is not the case here.
Competition for mining services is price-driven, with quality the other important consideration. The only barrier to entry is capital and while the prospectus refers to large-scale plant and equipment requirements, a deep pocket is really your only hurdle. The presence of other players in the sector is testament to the lack of any great moat.
High commodity prices and demand ensure contract mining services are also in demand and there will be room to accommodate plenty of players. This landscape disguises the high operating leverage experienced by these companies.
A drop in commodity prices and falling demand for contract mining services inevitably results in many expansive contractors companies left with high fixed costs and spare capacity, which in turn can produce substantial and unpleasant swings in profit.
The best competitive advantage is one that allows a company to raise prices for its goods or services even when spare capacity exists. That is not generally the case in contract mining. Under-utilisation of operating equipment produces irrational pricing amid competition to employ it.”
jeremy
:
Greetings all,
I have done a few more IV calculations and am wondering if anyone gets roughly the same?
CBA – $50.51
WPL – $45.84
QBE – $20.88
Thanks heaps
Jeremy
Jens Lichtenberger
:
Dear Roger,
Does the fact that Sally McDonald sold 47,000 shares on 8 October 2010 at $7.70 for a total of $361,900 cause you to look at ORL again?
Roger Montgomery
:
Hi Jens,
Thats a question that has been hotly debated here at Montgomery Inc. I have seen CEO sell shares and then watched them promptly double. I have also seen them subsequently halve. I have also seen some stats that suggest more than half the time a CEO buying is a positive but the stats aren’t so strong when they sell. Happy to see some contributions on this front. Has anyone seen credible statistics about directors buying and selling? My guess is you will find its not high enough to make it a formal part of your investments strategy but I am open to the numbers proving otherwise.
Andrew
:
My thoughts,
For me it doesn’t really have much of an impact, you could see it as an eyebrow raising event and could quite well be so but no-one here knows the reasons why she has cashed in some shares nor are we likely too.
We have to rely on the facts that we do know and use the skills we have acquired through our experience and of course Rogers fantastic book (on sale now in all good Roger Montgomery Blog pages) to come up with a picture of the business as it currently stands and how it is going to look in the future.
There are lots of reasons why she would have cashed in some shares (some which has been discussed here from time to time in blog posts)
This is why taking time to understand the business and the future prospects of the business is so important rather than just calculating valuations. It is one of the reasons i shy away from resource companies.
Ann
:
Too much downside exposure for Oroton and Blackmores. Both are weak against smarter, cheaper, faster competition.
Roger Montgomery
:
Thanks for those insights Ann. Would you like to elaborate? Who do you believe is Blackmore’s smarter and faster competition?
Ken Milhinch
:
I have been having a look at DWS, and I must say I have mixed feelings about it.
Pros: Zero debt, Good ROE, Increasing revenues.
Cons: Declining operating Margin, Declining ROE, Flat NPAT, Increasing Staff costs.
Despite revenues increasing by 51% over the last 4 years, NPAT has only increased 12% and in that time operating margin has decreased 25% and ROE has decreased 24%.
In the last 12 months, revenues increased by 8.4% and staff costs (salaries & wages) increased 7.6%.
Asset position is strong with $13.5M cash and no debt, but it looks to me like this business is having trouble growing in a meaningful way. Their costs also appear to be rising at a rate which is out of step with their margins/profits.
My conclusion is that I will keep my powder dry on this one.
My opinion for what it is worth.
Roger Montgomery
:
Good thoughts Ken. Arguably a bigger factor when safety margin is smaller than it has been too.
Tony Ryburn
:
Hi Roger
I have a table showing the performance of the companies in your latest A1 company list over the last 5 years.
It assumes that $1000 was invested in each company 5 years ago or on listing date if that was less than 5 years ago. You will see that the overall performance is an amazing 60.27% per annum comprising a capital gain of 48.39% and dividend return of 11.88%.
The portfolio return over the 2008 calendar year was -42.10%. This highlights how you can lose of lot of money investing in excellent companies if you take a short term perspective!
Roger Montgomery
:
Thanks for that Tony,
..or if you pay too much. Thanks for the stats and look forward to many more of your insights and reflections.
Leanne
:
Hi Roger
Went to see you at the Sydney Exhibition Centre, great seminar, nice and easy to understand.
I just wonder why Wotif is A1 business when it has that much debt?
Leanne
Roger Montgomery
:
Hi Leanne,
A1 doesn’t mean ‘no debt’ but little chance of defaulting on it.
Craig M
:
Hi Leanne
Wotif doesn’t have debt it is net cash. The liabilities on it’s balance sheet are what it owes the owners of the rooms it sells. When you purchase a room on wotif.com you pay up front but WTF doesn’t pay the provider until you have used the room, maybe weeks ahead. Wotif is actually able to invest that money and earn interest til it has to pay, so they cash in 3 times. Once from the booking fees it charges you, twice from the % cut it takes from the accommodation provider and thirdly by investing the proceeds in the short term money markets.
Terrific little business model, all that cash rolling in and very liitle in the way of overheads running a website, no wonder the ROE is so high.
Roger Montgomery
:
Thanks Craig, Much nicer coming from fellow Value.able graduates.
Ken Milhinch
:
Leanne,
What do you mean by “that much debt” ? Its total debt is only $146,000 and it had $103M in cash in the bank at balance date.
Looks pretty good to me, at least from the debt point of view.
Regards, Ken
Roger Montgomery
:
Hi Ken,
I suspect Leanne may have taken liabilities to mean borrowings. Its not uncommon to reach that conclusion and I am sure we have all done it at times.
Hi Leanne, analysts differentiate interest bearing borrowings (which they refer to as debt) from everything else (liabilities). I hope that helps and I see Ashley or Craig may have already made the distinction for you. Sometimes words on a page lose their tone a little so apologies to anyone reading here for whom that distinction has not been made clear previously.
Dugald Cameron
:
Dear Roger,
Having purchased your book and read it, I feel that I should compliment you on it. I have been a fan of Warren Buffer for a long time and his approach to share trading. and your efforts to crystallise the process he uses and come up with intrinsic values is a great step forward. Have now ordered another book from you for my son.
I have set up a model on my computer and think that it is working reasonably well.
The data I have been using appears to vary from the data you posted on your page on 17.8.2010 somewhat, and perhaps alters the outcomes more than should happen. The data I am using is from a reputable source, as I am sure yours is also. The table below will demonstrate what I mean.
RM’s Data Morningstar Data
Share WOW
EQPS 06/09 $5.57 $5.57
Payout 64% 70%
ROE 30.6 26.7
ROE Selected 30 27.5
RR 10 10
Intrinsic Value $25.4 $20.73
I note that your payout figure is calculated by dividing the total dividend by NPAT, whereas M’star calculation is EPS/DPS, however I thought that they should give the same result. I am also aware that the intrinsic Value is not meant to be a precise number, but rather a guide to a purchase price.
Are the differences I am finding enough to worry about, should I source different data or can your give me some further direction.
Best Wishes
Dugald Cameron
Roger Montgomery
:
Hi Dugald,
Thank you for your encouraging words and also for your support. There has been a great deal of discussion in the comments under previous posts about the source of data and the different results its produces. You will find that EPS/DPS and Total Divs/NPAT will give very different results. My suggestion is to avoid short cuts and use the data from the annual reports. of course this takes time but the data is accurate. You should also find some discussion here about the various results that occur depending on what you use within the annual report. For example should you use dividends paid or dividends paid and declared. T=You can see why people who think they have nailed the formula are barking up the wrong tree. Take some time and go through the comments under previous posts. Keep in mind that the intrinsic values are not even “a guide to a purchase price” they are guide to intrinsic value and the purchase price needs to be substantially less. All the answers you are looking for are on this site in the posts and in the subsequent comments.
George
:
Hi Roger,
Great blog!!! Thanks
Saw you on the business channel where a question was raised about JB Hifi. The other person on the panel played down the company’s future prospects.
Should I still hold JB?
Thanks again
George
Roger Montgomery
:
George,
I cannot offer you any personal advice but you have come to the right place. Reading through previous comments you will find a range of views about the company. The next two months are very important for the company and its intrinsic values going forward.
Darren
:
Hi Roger
Your latest list of A1 companies seems to me to be dominated by retailers, service providers, online lists and niche manufacturers, these are the kind of stocks i like to avoid as they don’t really own anything, the online business are very vulnerable to competition as are the service providers, while the niche manufacturers have issues with the dollar and export growth.
Also most of these stocks look to have very mature share prices as in the really good entry points for most of them is gone, good to hold if you got em cheap but clearly now is not an ideal time to enter most of them, in fact some of them look to be topping out.
I know your not into commodity’s and mining but every well rounded portfolio needs exposure to these sectors, your list has no direct exposure to Gold, Silver, Oil, Gas, Sugar or in fact any of the assets that Australia has, I like assets.
PTM is the only stock in the topic list that we have in common and probably the only stock in your list that’s arguably at a near ideal entry point.
Roger Montgomery
:
Thanks for your insights Darren. I really appreciate your thoughts. This is not the forum but I do have long term positions in Rubber, Tin, Palladium, Silver, Oil and Rice. As I have said previously on TV I generally prefer direct exposure to a commodity rather than through a company. I appreciate the leverage available from a company thanks to the impact of a fixed extraction cost and rising commodity price but buying the commodity directly does not expose me to company risk, execution risk, production risk, board room risk or stock market risk.
Steve
:
I think the reason people have been focusing on IV’s so much is because it can be hard for someone that is not a full time investor to spend the required amount of time on a company to get your head around every detail of its operations and every potential competitor etc. Perhaps this means it is not so easy for an average person to become a really successful value investor? On the other hand I guess if a company has a history of good performance with high ROE’s then it might suggest that a competitive advantage currently exists?
In regards to MACA, can someone please share the figures used to arrive at an estimated IV? I tried to work my way through the prospectus but had trouble finding the required info. I think I must have some of the figures wrong as my IV’s seemed to be unrealistically high.
Thanks!
Roger Montgomery
:
Hi Steve,
I think its vital to turn off the spreadsheet and head out into the stores or to go online and read industry journals and just ask whether there are going to be more of their stuff sold in 5-15 years and if so will there be more people selling that stuff or fewer. The first question goes to product or service longevity and prospects and the second to competitive landscape. Thats a start.
Sav
:
Hi Steve,
these were my own amateurish calculations on the MACA float, and if you dig through the prospectus ( past the flashy pictures and onto the hard data on balance sheets etc. ).
Equity post float $62.4 million. 150 million shares on issue = $0.41 Book Value per share.
2011 expected EPS $0.148. DPS $0.06. POR therefore 41%. I used a RR of 15 for safety.
ROE = EPS/BV = 0.148/0.41 = 36%
Value of distributed part of company:
0.41(BV) X 0.41(POR) X 2.4 (ROE of 36/RR of 15 ) = $0.40
Value of reinvested part of company:
0.41(BV) X 0.59(1-POR) X 4.7 = $1.14
Total value $1.54
Depending on your inputs this could vary by 20% either way. Whatever, at a list price of 35% below my IV this was cheap. So I jumped on it. As did everybody else. So I got ZERO shares! Never mind.
Will MACA continue to be a great company? I have no idea. I am guided heavily by people like Roger and others on this forum who know when a business is good or not so good. Just because it’s cheap doesn’t mean it’s a good business going into the future.
That’s where the real skill lies. Otherwise we could just set up a computer program to plug in the figures and buy and sell companies that are below IV and expect to retire in a few years. Sadly not so easy. Everyone focuses on working out the IV of a business when really, the real skill lies in working out whether a business is good now and good going into the future.
Steve
:
Great… thanks for your help and thoughts on MACA Sav
Deb
:
Thank-you for your post Roger and all for the subsequent discussion.
Noting the comments on retailers and how easy it is to take a “temperature”. Walking around inner-city today, FLT had 5 attendants (1 customer) and the CCV “finance-only” store had 3 attendants (5 customers).
Of course JBH was chaos and makes me think you could open another one right next door and both would still do well. If only there was a 4×4 store in the city to wander past…
To disclose, I do own JBH.
Roger Montgomery
:
Thanks Deb for taking the pulse. Which ‘inner city’?
deb
:
BrisVegas. By the way, there’s some excellent restaurants and presentation centres up this way ;)
Ken D
:
Couldn’t agree more Deb!
Ken D
:
I was at Indooroopilly Shopping Town a couple of weeks ago and ended up with a ‘divide by zero’ error when calculating staff to customer ratio at Flight Centre.
Roger Montgomery
:
Thanks for the observation Ken.
Ken D
:
Last night I thought I would attempt to start writing a synopsis of ARB to help get my thoughts focused and elicit further insights from this blog. Surpisingly it wasn’t too hard to get as far as I did below, with access to some historical figures and company reports. I’ve made sure I haven’t referred to or indeed plagiarised analyst’s reports but just brought out things that have managed to stick in my head or that I have managed to refresh from company reports. No guarantees that I’ve got it all correct though and I would welcome any corrections and comments! I’m sure that others here could add other thoughts either under the exisitng or new headings – a cashflow analysis for instance? Is this something we might do collectively as a Value.able graduates for all A1s and post here??? Ken D
ARB Corporation (ARP)
ARB is a designer, manufacturer, distributor and retailer of 4WD accessories with manufacturing facilities in Australia and Thailand. ARB has warehousing and sales centres in every Australian state as well as in Rayong Thailand and Seattle USA. Australia is ARB’s primary market (75% of sales) and ARB sells both to the 4WD aftermarket (65% of sales) and original equipment manufacturers (10% of sales). ARB has distributors in 80 countries with its major secondary market being the US through it subsidiary Air Locker Inc.
Sustainable Competitive Advantage
As far as I can see, ARB’s competitive advantage lies in the company’s:
• commitment to product development;
• design ability allowing it to rapidly respond to unique requirements of each new 4WD model;
• strong reputation for quality – kind of important to true off-roaders;
• strong brands around the world (ARB, Thule, Air Locker etc);
• long term patents (e.g. air locker technology);
• extremely capable management which has largely been in place since 1987; and
• knowledgeable staff
ARBs sustainable competitive advantage has been well demonstrated in an historical sense. Despite being heavily exposed to increasing steel prices in recent years, ARB maintained its track record of being able to preserve margins through both reducing cost of manufacture and increasing prices, whilst still being able to consistently grow sales.
As a demonstration of its growing competitive advantage, ARB’s return on equity grew linearly during the 1990s from approximately 13% (same year) in 1994 (the earliest figures I have looked at) to approximately 20% in 2000. During the last decade ROE has continued to rise from 20% to almost 30%, although dipping mid-decade to the low end of that range given headwinds of strong steel prices, Australian dollar appreciation, labour and manufacturing constraints. Underlying this increase in ROE was an increase in operating and net profit margins through the 1990s. During the last decade operating margins have remained consistently high (18-22%) and net profit margins, although dipping in 2006, have continued to grow (from 6.1% in 1994 to 14.2% in 2010).
Having stable management with a focused strategy has clearly been critical to sustaining ARB’s competitive advantage (compare above figures with CMI manufacturer of TJM products). ARB’s management has been able to address manufacturing constraints in Australia (e.g. skilled labour shortages) and reduce costs by expanding its manufacturing facilities to Thailand in recent years. However I also like to hear endorsements on management from professional funds managers (e.g. Smart Investor article ‘People Power’ Sept 2010, Montgomery ValueLine Oct 13 2010).
Organic Growth Profile
Although ARB has made small acquisitions, the company’s growth has largely been organic. ARB is particularly levered to growth in 4WD sales in Australia and, in turn, to growth in mining operations. According to ARB’s recent annual report , ARB’s product range is the clear market leader in Australia, and almost 1 in 3 vehicles sold in Australia is a 4WD and the proportion of total new vehicle sales continues to grow. Demand for ARB’s products has remained high and its manufacturing facilities continue to operate at near-capacity. Whilst ARB can temporarily adjust to demand increases by, for example, increasing shifts, ARB has the ‘balance sheet strength’ to continue to more permanently increase manufacturing and warehousing capacity without necessarily relying on debt or capital raisings (apart from special dividends ARB tends to retain 40-60% of earnings). Long term debt peaked in 2000 (debt to equity ratio 28%) being steadily paid off by 2007 and since then ARB had been debt free.
ARB continues to expand its stores network in Australia and to tap into international markets (export sales increased 12% pa compound over last 10 years). ARB also has plans to expand its low cost manufacturing and warehousing facilities in Thailand and increase sales through its Thai subsidiary ORA. As ARB continues to expand its distribution and stores network, sales continue to rise in an exponential fashion. For example, from 1994-2010 I fit the equation: revenue/share = 0.4262e0.1195yr (r2 = 0.997!!!) which includes a 29% underlying increase in shares on issue. With consistent returns on growing equity and a consistent level of 40-60% profit retention, earnings per share have also increased exponentially since 1994. I fit the equation: EPS = 2.4975e0.171yr (r2 = 0.983!!!).
Future Growth Potential
ARB has the capacity to expand its low cost manufacturing facilities in Thailand, to continue to tap into global markets and to remain a market leader in Australia. I see no reason why ARB’s long term pattern of organic growth should break in the near future.
Attraction
The company proved it could continue to perform well (and much better than the market gave it credit for) in recent trying times. Passing that sort of test, combined with the company’s long term track record of stable (if not expanding) ROE, stable management, and clear potential for future organic growth, means that ARB is the sort of company I can have some confidence to invest in for the longer term. Whilst ARB will no doubt have its bad years and may not have the highest ROE in the market, the company has the demonstrated ability to sustain a high ROE year-in, year-out and, as a result, maintain a strong earnings growth profile. ARB is not alone in this regard but nonetheless provides a reasonable benchmark by which to compare other companies. One thing I am wondering is whether circa 30% ROE (same year) as recently achieved, might prove the ‘norm’ for this decade as a result of adjusting to pressures during the last decade? Something to think about and monitor.
Ken D
:
I should add – ARB’s company reports are brief, no nonsense affairs making the above synopsis particularly easy!
Roger Montgomery
:
Ken D! You are amazingly generous. On behalf of all who read my Insights Blog; thank you for your insights! I have edited elicit. I doubt you were referring to anything illegal. If anyone has anything further to add to KenDs thoughts about ARB (ASX:ARP) this is the place and time.
Matthew R
:
Excellent outline Ken D
Can I add that management have significant personal shareholdings….
R.G. Brown (executive)…………….9,550,994
A.H. Brown (executive)……………..9,550,994
J.R. Forsyth (executive)…………….2,814,667
Leigh
:
Nice work Ken, appreciate the time you spent on the synopsis.
Impressive results, from an impressive business even considering the impact that the rising Aussie dollar had on US profits. (declining 12%).
Ashley Little
:
Hi Ken,
Great Stuff Mate,
Great Track record in good and bad times,
So the current pirce weakness due to the Strenghts of the $A may hopefilly lead to a big discoubt to IV and a Buying opportunity,
Thanks Again Ken
Ken D
:
Ken, without double checking all recent company reports, I believe exchange rate per se is becoming less of factor for ARB with some natural hedging in terms of their increasing international operations. However, I believe a year or so ago the company indicated it would prefer ‘a more stable’ exchange rate environment. In the October Chairman’s address, which I have just checked, it was pointed out that the current exchange rate was making exporting difficult – impacting margins for sales both ex-Australia and ex-USA (as an aside I think I provided 2009 figures for export sales in the above – the 2010 figures are lower at 9% over 10 years). Also the exchange rate was making competitor’s products cheaper as they mainly rely on imports from Asia. On the flip side the high Australian dollar improved local margins. Check out the reports though –
Some information I missed in the above – there are currently 39 ARB branded stores in Australia and I have seen a report which indicates that, at a previous AGM, comment was made that 50 was about the aim. I will try to confirm this though.
..and by the way thanks for the encouraging comments. It has helped me to write this stuff down (I should make it a discipline) and will give me a basis for review as I do hold ARP. I am sure to benefit from Roger’s and everyone else’s insights in turn e.g. it was very handy for me that Roger revealed here that he has classified ARB ‘A1’ in most years. Browsing through Value.able last night I think Ch 2 provides a good run down of things to look for in an excellent business. So my next plan is to develop my own check list on that basis and confirm that ARB ticks all the boxes – one assumes it will, given it has an A1 MQR. Also, if I was to do this again, I would use that checklist to structure the synopsis. ….and what would be the point of putting that in the drawer when Roger has provided the opportunity here for review and comment???????
cheers Ken D.
Ken Milhinch
:
Well done Ken. You may have found an ongoing role here.
Luke
:
Wow, thanks Ken D, what a great, insightful “article” (it was more than just a comment).
I have never owned a 4WD and don’t ever intend to so I had never heard of the brand before. Since people on this blog have been talking about it, I have noticed that little ARB logo on a lot of bull bars as I am driving around. If I were a shareholder, I would be quite happy knowing that ARB customers advertise the brand that way.
Seeing as the share price has taken a little bit of a hiding, I may want to buy in soon. Of course, you have helped me with a lot of the research already!
Thanks again, Ken.
Peter
:
Hi Ken,
Just wanted to add my thanks and appreciation to you for sharing your insightful commentary on ARB. Pure quality to say the least.
Peter
Ken Milhinch
:
Michael,
They are trading at $1.74 as I write this, and I have an IV of $1.99 for 2010 and $1.97 for 2011. In my opinion, they are a good little business, but I am not sure there is a sufficient margin of safety there, nor is there sufficient growth in the future. My opinion for what it is worth.
Regards, Ken
Peter
:
I similarly have a valuation of around $2 for TGA. I bought them a couple of months ago at 1.33, so will continue to hold them for the moment, but I don’t think margin of safety is enough at the moment to warrant buying more. Their announcement of a month or two ago indicates that their pilot one-man branch in Batemans Bay has worked well.
On the margin of safety question, my read of Ben Graham is that he recommends buying when the price is at least 33% less than the IV. I am trying to stick to that philosophy, although it obviously limits options and means patience is required.
Scott T
:
Hi Michael and Room,
I have been looking at TGA, and have an IV of $1.86, obviously a bit higher than Rogers. So with Rogers expected growth in IV of 11.5% and zero debt it looks attractive.
My concern is the new plan to build kiosk style outlets in major centres and 1 man stores in small regional areas. (Go to announcements and check out the 19/10/10 announcement.) I have seen other companies burn a lot of money on stands and people for these sort of “outposts” and receive very little in return.
On that basis I am going to be cautious, and see how this new plan, a complete change from what they have been doing, pans out.
michael predojevic
:
Hello Valuable Alumni
Any thoughts on TGA, i have an IV above share price at 10%, just wondering what interest rate rises will do for consumer habits, maybe more people will dodge the credit card and rent.
As i was driving to work (in a small city in Tasmania) the RR truck drove past, so i thought to myself that business was going great.
They are also looking at moving into higher density areas, your thoughts appreciated
LukeS
:
Internet Businesses and short memories.
Ignore value for just a minute and consider the risks associated with internet businesses.
Remember Netscape? Lycos? Altavista? Remember when Yahoo had it all?
Remember when MySpace was going to take over the world?
Does anyone remember IBM?
Where will the internet be in 5 years? Where will the internet be in 5 months?
Don’t try to answer that question. You would need to be psychic. That is not the question to ask.
The basic underlying question is…
Am I better to put my hard earned into a business like JB Hi Fi where I can have some reasonable expectation of it being around in 5 years
or
Invest in areas of rapid change where the future can’t be quite as clear.
Seek, carsales, wotif, realestate.com.au are all great internet businesses.
News limited thought Myspace was a great investment at $US580 million. There is no point in going back and working out whether they bought it for a discount to intrinsic value. It is ailing with little chance of regaining good health.
Forget that Google say “Do no evil” The fact that I can list my house for free on Google maps has to be a concern for those people making a living from listings.
Have you looked at Google TV? It is Iphone apps from your television set. What does that mean for all of us? Who knows.
Roger Montgomery
:
Hi LukeS,
May I thank you for making those comments and echoing Buffett’s warnings about fast changing businesses. Investing for twenty years in such ventures may just be riskier than you think. While they display moats (through the network effect) it has paid to be interested. But just as Buffett’s sale of Moody’s shares revealed, moats don’t last forever. Given that LukeS is a successful internet entrepreneur, its worth heeding his ideas.
Lloyd Taylor
:
LukeS,
Another compelling reason as to why “buy and hold” is yesterday’s strategy.
Even the most cursory examination of Buffet’s recent transaction record shows that he has has abandoned it. If the greatest value investor of all time no longer buys and holds, you have to wonder why this mantra is still sung by most financial advisors?
The hold only works as long as the business is at the front of the pack. That is becoming a very tough position to maintain for any more than a few years.
Most of the characteristics of any business that I see popularly described as a competitive advantage, or strength, are short-term position related, frequently arising from nothing more than serendipity and more often than not transitory, if not illusory.
Globalization, modern communication and rapid technological advance have served to really challenge the “sustainable” in sustainable competitive advantage, to the point that I struggle to objectively identify a “sustainable” competitive advantage anywhere, in any business. By sustainable, I mean assured and sleep easy at night that a serious competitor won’t rapidly emerge. If you find one then please let me know!
Regards
Lloyd
Roger Montgomery
:
Thanks Lloyd,
Great to hear from you. And one of the other reasons is that popularity pushes shares prices way up above intrinsic values that holdings on for years waiting for intrinsic value to catch up makes no sense.
Sin G
:
Is it “buy and hold” forever or until things change?
Buffets recent record may be disposal of those that have changed but he still owns the likes of Coke and Am Ex which have been held for decades. A strategy of hold while your confidence remains high in the company and the attributes we seek are honoured.
In Australia we have seen many examples of that buy and hold strategy rewarding handsomely the patient investor – CSL if purchased at the float in ’95 has increased by nearly 50 times in price + divs and IV has followed quite smartly. The excess returns take into account the past 3 and 1/2 years of flat performance.
Roger Montgomery
:
Hi SinG,
Buy with the intention to hold forever- buy extraordinary businesses at rational prices and hold until they cease to be either.
Matthew R
:
Lloyd, I always enjoy your bluntly worded posts, keep up the great work
I believe that Cochlear and Coca-Cola are two businesses that are exceptions to your comments. They are two businesses that as long as they continue to pour money in to defending their moats will probably continue to function very well for a very long time.
Warren Buffett made a comment about how Coca-Cola was moving into new markets at a significant loss because it knows that in 10 to 20 years from now it will make that loss up and then a lot more. Not many businesses can do that like coca-cola can.
Excepting an absurdly priced takeover, I bet they will both outlive all of us, and at a satisfactory rate of return!
Joab Soh
:
I share the similar concern with Luke.
Thinking about ‘sustainable’ competitive advantage, IT related companies (e.g. DWS and Data#3) also worries me. Technology are changing so rapidly that you never know what’s going to happen next. Big words such as ‘cloud computing’ which I recently came across tells me that unless companies are constantly trying to reinvent their product or service offering, its just a matter of time before they become obsolete.
Happy to be corrected as I am not working in this industry.
Roger Montgomery
:
Hi Joab,
Another way to look at is that because technology is changing so quickly large corporates focused in other areas need IT servicing business to ensure they stay abreast of those changes.
Joab
:
Thanks Roger.
Considering Data#3 announced a forecast profit upgrade today. They must be doing the right thing.
And like what Andrew said, as long as RR is adjusted to consider low barriers to entry. It’s definitely worth buying if the price is right.
AndyC
:
Sorry for another verbose response, I find this topic interesting…
I agree with you Roger. IT consultants are going to become more important not less as the pace of technology change hots up.
Take cloud computing for example. This has serious IT architecture implications for most businesses, especially those who are facing more stringent regulations about how they manage their operations.
Security is a very big focus these days. Cloud computing at a basic level is a security question mark. Do you trust Amazon with your data? Maybe CBA could put your data into the cloud? I don’t think so. The question is *how* do we leverage these new capabilities. How do we best leverage virtualisation, mobile computing, cloud, service orientation, blah, blah, blah the list goes on.
Overarching this is a trend to offer customers more self-service and much more adaptive and user-centred experiences. I.e. a system that really knows what I want to achieve and let’s me do almost anything online.
There is a lot of money in this for businesses, and spending money on IT companies to come and make your money making machine a little bit more efficient is a no-brainer for most organisations. In fact, ‘IT transformation’ has become part of the furniture these days. It’s absolutely mandatory to continue investing in IT, because your competitors are doing it and if you don’t, eventually, they’ll get more market share or greater profitability (usually both).
CBA is an interesting one to watch. They have done a bulk of their transformation, I take my hat off to them for taking the bull by the horns. The other banks are a long way behind. There are questions as to how important this factor is. In my view, if CBA can be more flexible when dealing with customers it’s an advantage. It’s not a simple thing to analyse though.
I have always asked myself if I should buy the contractors or buy their customers. E.g. Monadelphous vs BHP, DWS vs Commonwealth bank? Maybe both will do well. I can’t help but think that companies leveraging technology are much better placed competitively than the service providers. I think this is due to the fact that the CBA’s of this world have the sticky relationship with the customer. CBA can chose from a bunch of different contractors.
Another facet to this question is to think about what can, and can not, be substituted by technology (or outsourcing to India for that matter). Higher end consulting is much harder to outsource than is system engineering (use cloud/virtualisation) or programming (send to Bangalore). In basic terms, is the service provider providing anything special or unique? This reminds me of a question Philip Fisher asked every company he visited “What are you doing that your competitors aren’t?”. MCE might fit into this category.
I hope this makes a modicum of sense!
Roger Montgomery
:
Hi AndyC,
Amazing post thank you. The only response to your questions are that sometimes MND and DWS are available at 50% safety margin while the companies they service are not.
Ashley Little
:
Nice work Andy C
Gavin
:
Hi Joab
Have a look at today’s AGM presentation by Data 3 (DTL). An excellent summary of risks faced and the companies view on how it addresses them.
Particular interesting in relation to cloud computing.
I was going to post some arguments in favour of DTL, but I think I will just let the presentation I refer to talk for itself.
AndrewF
:
Hi Joab,
I have worked in IT for 13 years and IT companies with a sustainable business model adapt to changing techology. 6-7 years ago I would not have gone near virtualization. Now it is a neccessity to reduce costs of hardware, rack space, cooling, electricity, hardware maintenance, and support. It is also essential experience to have to get an IT job in any mid-sized business. Good IT companies and professionals invest a lot of time and money in training to keep up with new technology.
Right now I would not go near cloud computing as I am not comfortable with the security and location of my data. That does not mean I will not be using it in 5 years or learning a lot more about it in the next year or 2. I hope this gives some insight into how a good IT business such as Data#3 stay ahead of the game.
Ashley Little
:
Thanks Andrew
Good to Know this mate,
Just wish DTL was cheaper thats all
Matthew R
:
As one of the younger contributors to this blog I really appreciate the insights of all the contributors. I learn a tremendous amount.
I recall back in 2001 a family friend mentioning the bright prospects for DTL. He had started up and by then sold a very successful business that fitted out offices with IT equipment and knew the company well. I was much younger then and with the blinkers of the tech crash I didn’t ask the “why” question. I interpreted it as a “hot tip” and treated it the same.
Like many in their early investing years, I was looking at those now forbidden share attributes like P/E and dividend yield. If only I had been a little LESS interested in shares I might well have taken him up on that hot tip. What a result that would have been!
But I might have also sold at 60c….
A brief glance at the 2001 annual report and AGM presentation shows the improving second half but even with that information a value.able graduate may not have invested in DTL. The 2001 loss would have seen to that. However, this is just one example of how intimate understanding of an industry can make a big difference to one’s assessment of a companies future prospects and hence possible value. DTL has never looked back since that AGM report.
Keep the insights coming!
Roger Montgomery
:
Thankfully Matthew there have been plenty of years in between!
Andrew
:
I agree with what you are saying. I am a big fan of some of the websites listed. I put all my websites on a 12% RR due to the nature of the industry where it is constantly changing and very low barriers to entry.
I consider carsales, realestate and Seek to all have competitive moats but i think that the moats are nowhere near as large as some other businesses and can be breached by someone who can build a big enough bridge.
Also, there is a big lack of sharks, crocodiles, piranhas, hippos, lions and other scary things swimming in the moats to make potential people second guess trying to build the said bridge.
Indeed there always seem to be something new coming up to overtake the latest big thing. Myspace being a great example, this is basically irrelevant these days and has had to try and re-invent itself more than i would like if i was an owner. I dare say it won’t be long till something replaces facebook and twitter.
david k
:
Roger
Recently I noticed this downgrade (see below) by JP Morgan on MCE which you may already be aware of. I receive these reviews in NAME WITHHELD which collates a range of analysts reports. I would be interested to hear comments on the analysts review. Reading the MCE report I see they in fact are diversifying products. If true, the lack of orders since 2008 may not matter if their current orders are large and still in the pipeline? As always enjoy your appearances on Switzer and Sky.
Regards
David
MATRIX COMPOSITES & ENGINEERING LIMITED Energy Overnight Price:
$4.70 JP Morgan rates MCE as Downgrade to Underweight from Overweight (5) – Matrix shares are up 80% in three months and 400% since the IPO a year ago, the broker notes. This reflects excitement over deepwater drilling upside, yet no new orders have been placed since 2008. This means that by early FY13 everything will come to a grinding halt unless MCE can diversify into other products, the broker suggests.
Downgrade straight from Overweight to Underweight.
Target price is $3.73 Current Price is $4.70 Difference: minus $0.97
(current price is over target). If MCE meets the JP Morgan target it will return approximately minus 21% (excluding dividends, fees and charges – negative figures indicate an
expected loss).
The company’s fiscal year ends in June. JP Morgan forecasts a full year FY11 dividend of 10.00 cents and EPS of 36.80 cents. At the last closing share price the estimated dividend yield is 2.13%.
At the last closing share price the stock’s estimated Price to Earnings
Ratio (PER) is 12.77.
Market Sentiment: -1.0
Roger Montgomery
:
Hi David,
Two things; 1) Should we speculate that there will be no new orders between now and 2013? 2) no new orders for two years (since 2008) might look like a problem to the analyst but (I am speculating here) it may also be a function of the fact that MCE told its customers it was at full capacity and couldn’t take any more orders unless they wait for more capacity. As a result customers went elsewhere. If you were running the business and were turning away orders all the time because you had no capacity, you might consider raising capital, floating on the ASX and building a new and much bigger facility… Maybe thats just what they did!
ron shamgar
:
wow roger, that’s a great idea! maybe you should tell them that :-)
Lloyd Taylor
:
LOL. Nicely and politely put Roger. I’ll be a little less polite….
The statement in the JP Morgan analysts report is very telling …”yet no new orders have been placed since 2008.”
My definition of an analyst is…. someone who can yell you what happened, but has no idea why it happened (nor what it means for the future).
This is a prime example of the problem with analysts recommendations.
For those like Roger who genuinely understand the business this provides opportunity.
Disclosure – I own MCE stock and I will be more than happy to take some off any of those JP Morgan clients that feel compelled to sell today at a discount to yesterday’s close.
Scott T
:
Hi Lloyd,
I simply make 3 points:
1) Roger has clearly been well brought up, he is incredibly polite to even the most interesting posts.
2) According to Eureka Report JP Morgan currently have QAN AS OVERWEIGHT, for crying out loud. So clearly their advice is sell MCE and pile into QAN. GENUISES
3) Roger is right.
All the best
Scott T
Craig M
:
Brilliant Roger, absolutely brilliant.
Got to love those very smart analysts without them us value investors would have fewer opportunities.
Gavin
:
“I am speculating here”
Surely Not!!
Roger Montgomery speculating in relation to earnings risk!!!!
Surely speculation is a swear jar word here. Must have been a typo or maybe the grammar checker erroneously converted “based on my Research” to ………
Peter
:
Whilst i hear what you say about MCE, it occurs to me that MCE may experience some difficulty in regaining these lost customers especially if the value proposition and performance of the competitors to whom they have been pushed is of a high standard. To do so, MCE may have to offer an even more compelling value proposition with the potential to adversely impact margins and profitability. Regaining lost customers can be quite a challenge. It certainly is from a business interruption insurance perspective and therefore an important consideration in determining the maximum indemity period under the policy. Reinstating a business is one thing, regaining sales/turnover from the loss of customers following a protracted period of interruption is another. In the case of MCE, regaining business from these customers may prove to be a greater challenge than recapitalising the business and building a new facility.
Roger Montgomery
:
Thanks Peter,
You may well be right but jeeez thats a big speculative bet (Henderson) if you are right.
Ashley Little
:
Hi Room
Just goes to show how hard it is to good advice.
Seeking and taking prefessional advice is easy to so but hard to do
Ashley Little
:
Sorry typos galore there
should be
get good advice
and east to say
sorry
Ashley Little
:
sorry again
easy to say
Sav
:
Hi David,
interesting thoughts. You might be right, you might be wrong. Who knows? Probably nobody. There are a lot of “what if’s?” with regards to MCE. Which is why I apply a RR of 14% to it when working out an IV. Having factored risk into my calculations it still seems cheap. Will it go bust? Maybe, but at least I am compensating for that in my investment by demanding a higher rate of return than say on WOW or CBA.
Duncan
:
How Did You Hear: Roger Montgomery Insights blog
Register Interest – Book: [ This information was not entered ]
Message: Struggling
Hi Roger i don’t understand the figures you use in the compare valuations test.
Taking WOW -following the jb hifi steps and looking at commsec. payout
ratio on commsec is 69% you have 64%. 69% follow the EPS and DPS stated.
Roe is 27% you have 30.6%
i get a value of $24.01 you have $25
i know these are estimates of value but a dollar+ difference make a big
difference when buying share. NPAT isn’t part in the book? why is it in the test table how do you use it?
Roger Montgomery
:
Hi Duncan,
Thanks for positing this comment again. I have answered it in the other thread.
Nik
:
Why are there no multipliers for ROE over 60%.
Scott T
:
Hi Nik,
I think Roger has said previously that there are so few companies with ROE’s over 60% that that would be the extent of the tables.
They have to finish somewhere and the 60% mark covers 99.9% of all stocks.
All the best
Scott T
Roger Montgomery
:
Hi Scott T and Nik,
Think normal distributions curves.
Sav
:
Hi mate,
The reality is that few companies can sustain an ROE greater than 60%. The only company I have used that for is ORL, and even then I was sweating it beccause I just couldn’t see it continuing for the next 5 to 10 years.
My personal opinion is that IV’s vary markedly according to what RR you are willing to accept. A lot of people seem to use 10% on here, which is far too low for most companies. The RR you choose will affect your IV much more than slight variations in your other inputs.
Just my humble thoughts.
Sav
Roger Montgomery
:
Thanks Sav,
Sav is right. As I have stated here on many occasions now, 10% is NOT appropriate for all companies and arguably a little high for some others. Thanks for the post. I would be delighted to see more discussion about competitive advantages than getting IVs matching to a few cents.
Frank
:
Roger,
Would you have any thoughts on the Spark restructure and its impact on IV or future IV?
Roger Montgomery
:
Hi Frank,
Not yet, but give me a few minutes…
Ray
:
JBH is an interesting one. There is no doubt that it is an extraordinary company with compelling past performance, however it is now approaching a more mature phase and questions need to be asked about the sustainability of their business model.
I recently heard an interview with Gerry Harvey in which he discussed the fact that Computers and Electrical are currently facing the highest deflationary pricing pressures and margin contraction of any of the Harvey Norman divisions. He also pointed out that retail music and software are increasingly moving from a retail store sales item to an online download delivery business. It was noted that these are two of JBH’s primary revenue drivers. I appreciate that Gerry is not exactly impartial in his judgement, however you cannot question his reasoning.
So, is the JBH model sustainable? Can the past ROE be maintained in the future? Food for thought.
Roger Montgomery
:
Hi Ray,
Great points. In Australia the simple fact is that sustainable competitive advantages that produce very high rates of returns on retained earnings just don’t exist like they do in the US and China and elsewhere. JBH will not be immune to the laws set by a population of just 22 million people.
Greg Mc
:
I hear what you are saying about deflationary pricing pressures on computers and such, but this is hardly new development. Computers have been getting cheaper for years. I can remember when at uni my parents bought a new desktop computer – whiz bang thing it was with 32MB RAM, 200MHz processor, Windows 95, you name it. Price? Over 3 grand (you had to pay a bit more to get the really whiz bang 64MG RAM). You can get two pretty flash new computers for that now, which I am actually going to have installed at my little business today.
JBH may face its challenges but I think that saturation is going to be the biggest one and earliest to face, rather than price deflation and online competition.
glenn matheson
:
HI christian and all.
Re Oroton IV.
My info comes from the 2010 annual report.
Useing 10%RR (I would use 11%)
My Equity (2010 +2009 )ave =27.464 mill
shares =40.880 mill
NPAT =22.705
BV= .7
DIV =19.214
PO =84.75
ROE = 82.551
1.1=10% @ 60%roe =6
1.2=10% @ 60%roe=25.158
.7*6=4.20
.7*25.158 = 17.610
4.20 * 85%= 3.570
17.610 * 15%=2.641
IV = $6.21
(11% RR =$5.47)
Hope this helps christian ( we are all in varying degrees in the same boat.)
REGARDS
Glenn
Vasek
:
Just to correct post above.
MCE have an LVR 40% on Etrade.
Brad
:
I’m off to Miranda Fair to check out the new La Senza store – hopefully don’t get thrown out by security, will advise…..
Roger Montgomery
:
Looking forward to your report Brad. Thanks indeed.
Brad
:
Hartley’s were 10x over before the MACA propectus was even released, no hope for an allocation there…
william gill
:
Hi Roger
It worries me that a few bloggers tend to be looking at IV only.
I have heard no mention of competitors in the industries, moats, etc
eg. Where MCE looks terrific for the next 12 months nobody has mentioned the big competitor Trelleborg Sweden a 30 billion revenue competitor.
Oroton, originally pulling out of USA and Hong Kong in 1998.
New competitor USANA pushing into the vitamin supplements business.
I hope everyone is perusing all angles not just price
Roger Montgomery
:
Finally!!!! Thank you Will. I have previously voiced my concerns about the overwhelming focus on Chapter 11 to the detriment of long term performance.
Matt
:
Good call William. This is exactly why I am holding off on NCK despite it looking great on paper. I asked a few friends to name furniture stores. Not one said NCK. On the other hand I say “where to buy a LCD tv?” and everyone says JBH. Let the short term market movers take it down, it doesn’t phase me.
For those bemoaning the MACA float. Stress less. The market will pitch up many more opportunities.
Ken Milhinch
:
William,
That would be a $3.6B competitor, and I am not so sure they are a direct competitor, and USANA seem to only go the direct selling route, which has rarely been sustainable in Australia. Nevertheless your overall point of looking for moats and threats to competitive advantage is well taken.
JohnC
:
The business model for Usana is also very different to Blackmore’s. I would not say that customers can easily switch between Usana and Blackmore’s as Usana’s price for one thing is much higher, being pitched at the premium market or the “home” agent niche.
fred
:
Hi Roger,
Your list on what increasers and reduces Intrinsic value is fantastic to me page 210, 211
Example, I had a company doing a share buy back, where in the past I would give it a dumb look now I check if the company was buy the share above or below it Intrinsic value.
Fantastic list Roger thanks
2 weeks to go and my aussie watch list should be done.
Roger Montgomery
:
Thats great Fred. I am delighted to hear you have benefitted from my insights in my book. I look forward to your list as does everyone else hear. I will be very interested in how different our valuations will be.
David C
:
Hi Roger
Thanks for the list. Is a company currently priced at IV but with a forecast high IV growth rate a better investment than a company priced at a substantial discount to IV but a forecast low IV growth rate?
I am comparing MCE and MIN in the above table.
Thanks DC
Roger Montgomery
:
Hi David C,
First prize is a big discount and a high IV growth rate. The two scenarios you describe are 2nd and third prize respectively.
Craig M
:
MCE IV growth stalls next year because of the increase in the pay out ratio but this occurs along side an over 60% increase in eps. Now mr market rarely looks at IVs in the short term but takes big notice of those sort of eps lifts. The very large discount to IV more than makes up for IV growth stall in the short term.
When comparing MCE and MIN I really think there isn’t any think to compare, MCE has a very strong competitive advantage in the market it operates and is commisioning a plant that will lower costs and increase production.
MIN is part miner part processor, I can’t see the advantages but maybe a true believer can enlighten us.
Roger Montgomery
:
Hi Craig,
I know some smart managers that have MIN as their largest position.
Sin G
:
Hi Roger
Do you know any smart managers that have MCE as their largest position?
Roger Montgomery
:
Second biggest SinG.
Greg Mc
:
Can’t imagine who that might be!
Ashley Little
:
Hi Craig,
I have no MIN and one or 2(or possibly more) MCE so I know which one I prefer.
Craig M
:
Hi Ashley
yes I think there is a few here with more than one or 2 MCEs tucked away. We already know your a “smart manager” after all you gave us the answer to 2 + 2…,,hehe
Did any of the value.able community happen to get to the MCE AGM a couple of weeks ago? Would love to here a synopsis if anyone was lucky enough to have made it there.
Ashley Little
:
Hi Craig
They have a preso on stock exchange announcements
Makes good reading
Craig M
:
Thanks Ashley
I have viewed it but was hoping for a first hand account from the WA contigent of the Value.able community.
The preso was very positive,as they normally are but no hint of a stalling in orders. If anything I got the opinion growth in orders accelerates post 2012(pg 22,23) just in time for Henderson
Ashley Little
:
Hi Craig,
Yes mate,
If the forward estimates for the subsea market are accurate then they may need another Henderson like facility as soon as they complete the current project.
If management deem this neccessary they are welcome to keep my share of the profits to fund it.
vito
:
Hi Roger,
Please excuse this question if it appears naive.
In general terms, what is the relative benefit of current safety margins over expected changes in intrinsic value?
For instance, MCE with a SM of 46% appears attractive now but may never realise its IV price because it looks not to be growing too much in the future. MIN on the other hand is trading close to present IV; but it appears to have strong prospects for growth in IV. Therefore which of these appears to be the “better buy” for the medium to long term?
Roger Montgomery
:
Lets not get too technical. For my portfolio, the biggest weightings are reserved for big discounts AND big growth in IV.
James
:
Hi Roger, Thanks for your insights, great article as always. I felt compelled to share my personal experience of Nick Scali and why I continue to give it a wide berth as an investment. Firstly, when I go in to a store with wife in tow, which I have several times, I quickly depart empty handed as we find nothing strikningly “value-able”. Nor do we find the quality very high. We do find competitors selling either better product or at lower pricing and invariably with better service. I follow Peter Lynch’s theory here that you should buy into the product before buying the share.
There is one share on your list that I have been circling recently and can’t for the life of me figure out why it is so cheap. I have re-appraised the financials several times to make sure I’m not missing something, but nope, it offers exceptional value now in my humble opinion, and I am quite confident that it will be taken over within the next twelve months, can’t say too much more for fear of pushing the price higher.
Roger Montgomery
:
Hi James,
Thanks for sharing your in-store experience regarding Nick Scali. I also have mentioned previously that selling furniture is a tough business unless you are the low cost provider. Remember Buffett’s praise of Nebraska Furniture Mart (now the biggest furniture retailer in the country with buying power that gives it a major cost advanatge. Here is an excerpt from the company’s history: “Nebraska Furniture reached a major turning point in 1950 when the outbreak of the Korean War led to a sudden drop in business, leaving Rose with a lot of excessive inventory but not enough cash to meet her loan payments and other bills. A local banker offered her a $50,000 loan for 90 days, relying on the merchandise as collateral. Rose took the loan and used it to rent an auditorium and to place an ad in the local newspaper announcing a major sale. In a matter of three days she sold $250,000 worth of merchandise, allowing her to pay off all of her debts including the short-term loan. From that day forward she would never have to borrow money again, and as a result of minimal overhead Nebraska Furniture was able to keep charging lower prices and maintain a competitive advantage” …in the face of competition from Best Buy Co., Inc.; Circuit City Stores, Inc. and Ethan Allen Interiors Inc.
Martin R
:
Hi Roger
I notice that your latest list of A1’s excludes a couple of companies earlier listed as such in your Part III post on 7th September. KCN being an example. Has it slipped in your ratings of late?
Also, with regard to calculating intrinsic values, figuring out how to get this right is proving to be a real challenge but I am making progress (I think) I assume that revising these estimates every 3 months would be suffice based on information supplied in quarterly reports. Should I be doing this more often where possible or is quarterly suffice?
Roger Montgomery
:
Hi MArtin,
How often you update your IVs is up to you. I am updating every listed company’s IV on a daily basis. The list provided is not exhaustive.
Craig
:
Hi Roger,
You say you are “updating every listed company’s IV on a daily basis”. For the vast majority of companies does this actually mean you are just verifying on a daily basis that nothing has been announced that would change the IV? Or is “fine tuning” being applied to the IV of every stock every day?
Regards,
Craig.
Roger Montgomery
:
Announcements Craig. On days when no announcement; updated that there was no change.
Manny
:
No, not drowning in complexity, anyone that follows this blog should have finished or be in the process of reading your book. I have read 5 Buffet books, 2 Peter Lynch books and Ben Grahams Intelligent Investor, all were excellent books. None though gave me the ability to calculate an approximate intrinsic value as did ValueAble. I have calculated the Return on investment from your book, you will be happy to know it has paid itself off many times over with dividends and capital gains from buying a few of your A1s under IV. I can see clearly now that “cheap price compensates risk” doesn’t work when you haven’t calculated Intrinsic value. If a company is on a PE of 8 and its ROE has been 5 for the last few years, its not cheap people!. I have seen so many of these type of recommendations from “value investor experts” turn sour. Using the method in book to calculate IV and sticking to A1-A3 companies will save us all a lot of losses.
Roger Montgomery
:
Thanks Manny! Really appreciate you providing such a clear assessment of the benefits of Value.able.
Greg Mc
:
I agree with all of that Manny. Value.able shows you how to easily avoid those lemons (often masquerading as ‘blue chips’) that can drag down an otherwise good portfolio.
Eamon
:
Did anyone here managed to get their hands on some maca float before it listed? It would have been a great purchase!!
Matt
:
Roger,
Congratulations and thankyou for producing Value.able. It will no doubt be regarded as the definitive work for value investing in the future. I have created a speadsheet to quickly calculate IVs and have been very pleased to get values quite close to yours.
I am intrigued though by your valuation of TGA in the above table. Even with a required return of 12 I get TGA at a discount to IV – about $1.93. This brings me to a question: if the companies your MQR system rates as A1 are considered to be the “safest” in terms of likelihood of substantial losses, bankruptcy, etc, is it reasonable to assume a lower required return for all them in comparison to, say B1 companies? Or is required return more a reflection on the likelihood of short-to-medium term share price volatility which is a function of company equity (size) and market liquidity, as well as competitive advantage and other less tangible factors? If I assume a required return of 10 for all A1 companies am I in danger of over-estimating the values some of them? It would be great if you could give us your required returns for a couple of these A1s and a brief reason why you chose them.
Thanks again
Roger Montgomery
:
Hi Matt,
There are many factors to take into consideration such that an A1 is not a proxy for the RR. Different processes for each so you can’t just say A1s get 10% and A2s get 11%. I don’t do that. You will find my valuations are going to differ markedly from the outputs you will see from other readers of Value.able. Thank you for your very encouraging words about my book.
bert
:
Thnaks Roger
My question is how do you go about weighting a portfolio.
Using your latest A! eg and $1m how would it look
Regards
Bert
Andrew
:
Hi Roger,
What’s happened to Finbar Group and Forge Group?
Why aren’t they A1’s anymore?
Love to hear anyones thoughts.
Roger Montgomery
:
Hi ANdrew,
DOn’t expect any list to be exhaustive. There are many more A1s than in this list.
Joab Soh
:
On margin of safety, I found myself going down the route of setting a required margin of safety so that I can tick the box of buying at a big discount to intrinsic value. I started with a required margin of safety of 10%, but I begin to realise that there should be some adjustment (e.g. more margin of safety is required for stocks that are less liquidity/ low volume and vice versa)
The benefit with this approach is that it allows me to set an entry price and avoid being influenced by what ‘Mr Market’ is saying everyday. And if I do miss an opportunity, at least I can tell myself that I have already set the price I am willing to pay at the start.
Let me know if anyone is doing something similar or am I over complicating things.
Joab
Greg Mc
:
G’day Joab,
Opinions on how much of a margin of safety is required are going to differ.
One issue with using a MOS of 10% is that you’d need to be pretty sure that your IV is either pretty conservative or absolutely correct (the latter might be a challenge) as 10% doesn’t give you much room for error. One other big issue is that a fair slab of your total return comes from Mr Market hopefully eventually making up the difference between your purchase price and the IV. If you are buying around or at a small discount then you are really relying almost solely on the performance of the company being recognised by the market to generate your returns. Buying only when there is a larger MOS gives you greater protection as well as an increased return on the stocks you do end up buying.
You might also want a higher MOS for smaller companies with a short track record than a company like CSL or COH which have a track record as long as your arm.
Ken Milhinch
:
Joab,
I agree with you completely. Personally, I set a margin of safety around 20% and adjust down for someone like CBA or COH. Same approach from different direction.
Ashley Little
:
Hi Room,
Can i use one of my buffet quotes
•Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results
geoff blake
:
Roger,
I thought the IV of MCE was around the $6 bracket, so with the current price around $5, I cannot see how you have a margin of safety in excess of 46%? Am I confused, incompetent or what?
Roger Montgomery
:
Hi Geoff,
Go back to some of my very early posts and comments and you will find some discussion about valuation ranges. I hope that helps.
Ray
:
Hi Geoff
Have a look at the first quarter results which I believe were mentioned in a report a short time ago. If they can continue that performance they will be up over 80% next year. I agree with you IV for this year but next year based on these early figures should be much higher.
They have also announced a large order book for the coming year which should contunue the performance that they had in the opening quarter. There appears to be another benefit in that there were some hedging losses last year but this year so far has produced hedging gains.
David V
:
Hi Roger,
Will you be doing an updated lists with all your A1s?
Kind Regards,
David V
Roger Montgomery
:
Hi David,
I might do.
ron shamgar
:
regarding online lists carsales realestate and wotif;
my first choice is carsales, they have the networking effect working perfectly for them. whether times are good or bad people will buy and sell used cars. there is no competition from an international company and it seems that having a threat of Google or anyone else coming in and offering free ads wont work as these dealers don’t have the time to use several databases.
i think the same applies to realestate.com, though here Fairfax does have a good website i often use. (domain)
lastly wotif, to me is my least favorite. from experience i preferred using other websites such as expedia to do all my hotel bookings. i think their website is much better to use and in some cases cheaper. in addition other international comapnies can compete with wotif and wotif to my opinion is more susceptible to economic cycles, remember this business has not seen a recession yet! (GFC never hit these shores!)
anyway these are my thoughts. though i don’t think we’ll get a chance to buy these business at big discounts to IV unless the market tanks!
good luck.
Roger Montgomery
:
Thanks Ron. Great thoughts and appreciate hearing your views.
Andrew
:
I have found it interesting to see Domain.com.au starting to advertise a lot more on TV. Looks like they are trying to take the fight to realestate.com.au. It will be interesting to see how this plays out and what if any share they can take away from REA.
My thoughts are that i don’t think there is much of a difference however realestate.com.au is probably the better site and the address itself is an advantage as when you think about purchasing a property you think of real estate, i don’t really think domain and i think most others will just due to the title realestate.com.au go there instinctivley. Don’t know if i would go as far to call that a competitive advantage however.
My experience with Wotif is that for most people it is the first place people go to book hotels. But i agree that the competitive advantage here isn’t as entrenched as CRZ and REA and there appears to be a lot more competitors.
Phil
:
I wish I could share in your delight at MACA’s first day performance. All over-subscriptions were rejected apparently. My application went in on time but is now on it’s way back. They couldn’t be fair and issue an adjusted portion to all?? And/ or increase the offer?? I’m sure those that got theirs are happy but many of us are not. That’s thousands I didn’t make. First come, first serve was it?
Sorry, venting over. I have a question:
I was wondering about this while looking at a 2010 annual report:
NPAT = basic EPS x weighted avg. # shares
EqPS = end equity / # of shares on issue
Should the # of shares in the EqPS calculation also be the weighted avg or should it be the total number of shares on issue at the end of the year?
Many thanks.
Roger Montgomery
:
Hi Phil,
Are you a client of the broker or friend of the company? More concerning is that the vendors were advised to sell at $1.
Rob Walker
:
Hi Room,
What a shame the owners had not read value-able, imagine how much they have lost on the deal. it would appear the advisors got it wrong, I wonder if they purchased any shares, perhaps they recieved my share :)
Rob W
Phil
:
Uh, no. Why would you think that? Anyway, after reading several other posts here I see I guessed right that many others missed out. Oh well, them’s the breaks I guess. Still disappointing.
Roger/ Fellow Bloggers-
As to my question in my original post- should I be using the total number of shares at the EOFY to calculate Equity Per Share or the weighted average of shares during the year?
Thanks!
Roger Montgomery
:
Hi Phil I think which you use matters less than the consistency with which you use it.
Greg Mc
:
G’day Phil,
If you were a friend of the company or client of the broker you might have been in luck. As you weren’t and you weren’t, you weren’t.
Mick
:
G’day Phil
RE your equity query, try the JBH worked eg in Value.able p187-190.
Phil
:
Thanks Roger and thanks Mick. I’ll check that out.
Martin
:
Hi Roger,
With regard to PTM, I think the broker forecasts may be too upbeat and that is leading to you (and me) calculating rather optimistic IVs for 2011 and 2012.
From the 2010 accounts I see that PTM gets three kinds of fees
– management fees
– performance fees
– administration fees
In 2010 management fees comprised > 90% of fee income. The accounts say “management fee income is calculated as a percentage of FUM”. To date, FUM is showing only modest growth. So one would expect management fees to grow at the same modest rate.
One joker in the pack is performance fees. These can be material, but depend on the relevant fund outperforming benchmarks. Hence low fees in 2010, and 2011 so far is nothing to write home about. Furthermore, I understand recognition in PTM’s accounts of performance fees lags good performance by one year.
Another joker is the $A. if it remains high, the value of PTM’s existing FUM expressed in $A remains static.
In summary, it looks like PTM profits will be unexceptional in 2011 AND 2012 unless the $A collapses and/or PTM can make some great bets.
Are you also a PTM sceptic?
Roger Montgomery
:
Hi Martin,
The easy (they are never really easy in business) gains have been made (that doesn’t preclude further gains) and I am cognisant of vendor selling on the first day of listing.
Mark
:
Hi Roger,
Can you point me to some places where you can get International company
data for the purpose of doing research to value shares as per your methods.
I have an international trading account, but no means to find worthwhile
companies.
Roger Montgomery
:
Start with Google finance, Yahoo finance and I have been given a link to a university site that may have good data but I haven’t vetted it yet.
Christian
:
Hello Roger and all,
I’m getting a little confused with the whole intrinsic value thing.
Using Oroton, and the data from eTrade
Step A – Calculating Equity Per Share
Book value: 0.7
Step B – Payout Ratio
DPS / EPS = 48 / 56.1 = 85.561%
Step C – ROE
80%
Step D – Rate of return
To keep it simple, 10%
Step 1 – Table 11.1
Only goes up to 60%, so lets use that: 6
Step 2 – Table 11.2
Only goes up to 60%, so lets use that: 25.158
Step 3a – Step 1 * Step A
0.7 * 6 = 4.2
Step 3b – Step 1 * Step B
0.7 * 25.158 = 17.6106
Step 4a – Payout Ratio * Step 3A
86% * 4.2 = 3.612
Step 4b – Step 3B * (1-Payout Ratio)
17.6106 * (1 – 86%) = 2.465484
Intrinsic Value = Step 4a + Step 4b
3.612 + 2.46 = 6.072???
I’m sure I’m doing something wrong.
Can anyone suggest where?
Even if you account the rounding used in Step 1 & Step 2, I expected a different (ie much higher) number. Thanks!
Roger Montgomery
:
Hi Christian,
The adoption of 60% of course will have an impact here. I will let the community use their fine tooth comb.
Andrew
:
Hi Christian,
Feel free to have a look at my calculation earlier. I got $6.41 and used a 60% ROE and 10% RR as well.
The difference between mine and yours comes down to pay out ratio. I had 83.64% compared to your 85.561%. Using yours in my claculator i got $6.09 which would be down to rounding. Most other i think have extended their tables to include ROE’s over 60%.
As i tend to creep on the conservative side i am happy to leave it at 60% especially as i have ROE going down to about that level in 2012 based on figures derived from comsec, which i think are backed up by my own feelings that ORL are going to find it harder to grow the profit at levels needed to sustain the high ROE when compared to an expanded capital base.
As roger says, please seek your own advice, the above is just my theory and i have been wrong about things before.
So you will be pleased to know Christian that you are doing everything fine. The differences just come down to different inputs and this can be down to what broker you use (i use comsec), whether you get the info from the annual report (which is where i always go first). You will quite often find here that peoples IV will vary, but the method is right so i wouldn’t worry too much. Especially when the margin of safety required would more than likley cover any difference and it is better to be approximatley right than precisley wrong.
Ken Milhinch
:
Christian,
Your POR would appear to be including a 3 cent special dividend. Further, you should take your numbers from the annual report, not try to calculate using DPS & EPS numbers. NPAT was $22.972 and dividends paid (excluding the special dividend) were $17.988 which will give you a POR of 78.3%. The rest of your “difference” is probably down to using 60% as Roger said.
Luke
:
Hi Christian,
As Roger said, the problem is that you are assuming a 60% ROE when then company is really getting an ROE of 80% (20% ROE would be impressive on its own for most companies).
As Roger has alluded to, the problem with this model (especially if you extrapolate it) is that it is linear. Table 11.2 uses the entire ROE, not just the retained profits (as you would expect). The formula itself (as far as I understand it, and I could be wrong) compensates for this within the range of the table.
Having said that, the IV method works very well for lower ROEs. Oroton is an extreme case.
Ashley Little
:
Hi Christian,
The difference betweens compounding at 60% and 80% is alot.
I think Roger is working on a solution to this.
Also when this is revealed I would sugest your RR is a bit too low
Hope this helps
Duncan
:
Hi Christian.
you are having the same trouble as me!! have you found where the NPAT comes into the equation? With Woolworths, following the same system you use for OLR, i got an iv of $24 and Roger has $25. we used the same RR etc, i got my data from commsec it looked easy to obtain the information until i looked at rogers workings and, for example, he has a Roe of 30% commsec has 27% even adveraged out i could make 30%. it maybe that you have to use the previous years end results and calculate the roe yourself. but other info i can didn’t match Rogers either with made it a bit complicated. reading the book again my help!!!
Cheer Dunc
Andrew
:
Hi Duncan,
The ROE used to work out the IV can be quite subjective. I am sure Roger has his reasons for choosing 30 just as i have reasons for choosing the 27.5% ROE figures to calculate it.
With regards to the latest reporting year it is always best to use the Annual Report to get your figures of which the NPAT can be found on the P&L.
If it helps i got a ROE figure for 2010 for WOW of 27.17%. I used the 27.5% multipliers at a 10%RR. To work this out i had a NPAT of 2020.8.
My EQPS was $6.35 and a POR of 66.77%. I got a 2010 IV of $24.70.
There will always be slight differences and this can be put down to differences is variables, the main seems to happen about the POR but it could come down to another reasons. It doesn’t make anyone more right or less wrong and you need to just find which information your comfortable in using and sticking to that, stay consistent. The margin of safety will reduce the impact of differences in IV.
The fact that you got so close to Roger who is a seasoned pro should be a good indicator that you are on the right path.
Christian
:
Hi Roger, Andrew, Ken, Luke, Ashley & Ducnan,
Thank you all for your help.
I expected my calculation would not be exact. I just felt the end result was WAY out. (Obviously not.)
I am happy with anything within +/- 10%. This is better than what I was doing previously.
Thanks again,
Christian
Ashley Little
:
Hello Room,
Please do not use the Return on equity figure listed on Etrade or Comsec.
Put simply they or wrong
Amongst other things they use ending equity to calculated return on equity which is silly.
If you start with $100 in a bank account and dont add anymore equity and 12 months later you have $130 by my maths you say this is a return of 30%.
You don’t say it is a 23%(30/130) which are the figures used by comsec and etrade.
Hope this helps
Craig M
:
Carsales, recently a 17 year old lad did work experience at my office and in his words “all my mates use carsales, we don’t look at any other sites” He also stated that the young crowd just go there to look at the cars also, I thought thats not generating revenue but it is entrenching culture. When they want a car where do they go?
My opinion is REA sells houses and SEEK will get you a job but carsales will sell cars boats bikes and probably most other classifieds.
The business has enormous future potential but once again i am overly optimistic and need to be brought down to earth
Disclosure got in at the float and can’t let go
Roger Montgomery
:
Hi Craig,
Find my post about the best internet businesses being ‘lists’. Lists of jobs, lists of cars, lists of websites and lists of people.
Ken Milhinch
:
As a bit of an experiment, I went to Carsales.com and entered “Used Car – Holden” as my search selection. It returned about 13,000 entries. I then went to Drive.com and entered the same. It returned about 19,000. It seems to me that Drive may have more business.
For what it is worth.
Craig M
:
OK went to both sites and only carsales will let you search for all vehicles on the site and the no. is 197866 vehicles. On drive the search turns up 4020+ new and 4020+ used.
Have a look at CRZ latest pressy and you will quickly realize who has the “more business”
Ken Milhinch
:
Craig,
CarSales presentation is just that – a promotional presentation – and not necessarily 100% correct, but I accept that my little “test” was unscientific in the extreme, and may have given a false reading. I also should have chosen my words more carefully and said that “It seems to me that Drive is a worthy competitor”.
Disclosure: I don’t own shares in any of the “internet lists” and never will.
Regards, Ken
Roger Montgomery
:
Hi Ken and others,
Here’s an excerpt from my piece on Carsales for Alan Kohler’s Eureka Report.
“Today Carsales (CRZ) is Australia’s largest online list of cars, with about 205,000 units available for sale as of June this year.
For the year to June 2010, Carsales reported a profit of $43.2 million, which was $16.8 million less than listed car dealership Automotive Holdings (AHE). Automotive Holdings reported a profit of $60 million but required $1 billion of assets and $376 million of equity to produce it.
By way of comparison, Carsales required just $114 million of assets and $89 million of equity. Automotive Holdings generated a return on assets of 6.5%; Carsales’ figure was 39%.
If they were your assets, which return would you prefer?
For every dollar of sales, Automotive Holdings generates earnings before interest, tax, depreciation and amortisation (EBITDA) of 3.8¢. Carsales generates EBITDA of 52¢ from every dollar of sales.
If you could own one of these businesses, which would you prefer?
Carsales dominates Australia’s online lists of cars, capturing roughly half the market. Its next nearest competitor is the Newscorp-owned Carsguide with 93,000 cars for sale at mid-August, followed by the Trading Post with 69,000 cars. “
Ken Milhinch
:
My head is bowed and I am suitably chastened. CarSales is clearly the number one in this space and I should never have doubted it. They still don’t appeal to me as an investment, but that’s probably because I saw so many people burning their money on internet stocks back in the 90’s. An illogical prejudice probably, but one I am happy to live with.
I still doubt the figures quoted by the way, because a check of Drive.com for used Holden, Ford, Toyota & Mitsubishi returned 62,648 entries. Add in all the other brands and they would be well over 70,000. I would be curious about the mix of new/used on each of these sites, as I suspect used car listings might be more lucrative on a per car basis.
Anyway, apologies to Craig M for ever doubting you, and thank you to Roger for the clarification.
Regards, Ken
Craig M
:
Hi Ken
I said in my most “I need to be brought down to earth” Opposing views are very welcome.
Drive does have up around 70k vehicles listed but CRZ has around 3 times that number.
I too watched from the sidelines in the late 90’s as the internet stocks flew than fell, was a firm Grahamitte back then picking up cheap disregarded industrials. I did own units in what was called the FX trust a Packer vehicle housing their Fairfax shares. The units were available at a large discount to NTA. Fairfax was building it’s websites (Drive and Domain) and making available content from newspapers. They looked to have it all sewn up, content gets the eyeballs there and the “rivers of gold” classified migrates online and the monopoly is maintained. Hasn’t happened, the likes of CRZ, REA and SEEK by concetrating on their respective niches have dominated the segment, canabalizing Fairfax’s business. These companies are run by entrepreneurs with real passion for the business. CRZ was set up by people from the industry and seed capital came from dealerships. Part of the reason for listing was so the dealers had an easy outlet to cash out. Private equity is still there as the largest shareholder and this is a potential stock overhang in the future, possibly cheapening the stock.
Having people from the industry running the business as opposed to Fairfax’s Drive gives CRZ the advantage. There is a lot more information about prospective vehicles available on CRZ than other sites. Also the process of hunting for a vehicle is so much easier, remember searching through the paper then all the caryards spending hours and days, boring. Recently we bought a car, we notice a nice vehicle at the local dealership (I live in south east SA, rural). Went to CRZ found similar cars in Melb and Adel, sent messages to dealers and started to negotiate. We were able to get the local dealer to drop the price close to the city prices, unheard of 10 years ago. CRZ got revenue from each one of the dealers contacted, they get payed for “leads”. I think that is the real beauty of their model, they have the dealers locked in, no.1 site so they have to go were the eyeballs are and then payup everytime for a query.
General public classifieds are a smaller part of the business, still luctrative. All this in a very low cost structure, so big fat margins for shareholders.
Tech was a wreck in 2000 but now we have these high ROE business’s that are real and very rewarding to owners.
Ashley Little
:
Hi Craig
Well said mate
Very true
Phil P.
:
I would be delighted too that MACA is up 43% if they hadn’t rejected outright all over-subscriptions. My application is on my way back apparently. They couldn’t give a reduced percentage to all applicants? Or increase the offer? Or something, anything but outright rejection?! My app got there in time! I’m sure anyone lucky enough to get theirs is happy enough but I’m surely not. Missed out on thousands in profit in a single day.
Oh, the humanity….
Sorry, venting over, I have a tech question:
I was wondering about this while looking at a 2010 annual report:
NPAT = basic EPS x weighted avg. # shares
EqPS = end equity / # of shares on issue
Should the # of shares in the EqPS calculation also be the weighted avg or should it be the total number of shares on issue at the end of the year?
Many thanks!
Matthew R
:
Hey Phil,
Use the NPAT straight from the Income Statement, no need to calculate it.
To calculate the EqPS figure take the ending equity (from the balance sheet) and divide it by the shares on issue at balance date (you will find this number in the notes to the financial statements).
Regards,
Matt R
Craig M
:
Matrix – what do I like other than the great discount to IV?
1 Family business, father started the company in ’82 and now the son is CEO. There aren’t to many listed firms in this country with management this intimately entwined in the business
2 A product manufactured very close to it’s markets. A large amount of oil and gas infrastructure being constructed on our west coast and they are there without a local competitor.
3 Building ‘Henderson’ which doubles manufactoring capabilities and entrenches competetive advantage(state of the art)
4 I’ll let some one else add, maybe I am to positive and need to be brought down to earth
Disclosure 1st bought at 2.90 recently more at 4.66 ave 3.44
Roger Montgomery
:
Hi Craig,
My only thought is that the Henderson facility does not entrench a competitive advantage. Competitors are international giants.
David B.
:
Hi Roger
Thanks for your continuing comments and blogs.
I am finding them hugely helpful. Roger MCE is priced at around
$5 which gives it an I.V. over $9 using the 46% margin of safety.
Am I assuming rightly or have I lost the plot?
Regards
David B.
Roger Montgomery
:
Hi David,
That seems high but I can see how you arrive at that number.
Pat Fitzgerald
:
Hi David B.
$5 * 1.46 = $7.30
Roger Gibson
:
I like you took the margin of safety to be the discount to IV
0.46 * $9.00 = $4.14. Price = 9 – 4.14 = $4.86 = about current price?
or for a $5 price an IV of 5/(1-0.46) = $9.26.
Lloyd Taylor
:
David,
Notice that in the table its called a “Safety Margin” rather than a “Margin of Safety”. Mathematically each is expressed differently: (IV-P)/P = Safety Margin versus (IV-P)/IV = Margin of Safety where IV = Intrinsic Value and and P = Share Price.
I think Roger enjoys playing mind games with us mere mortals!
Regards
Lloyd
Roger Montgomery
:
I do. I am literally giggling right now! Having confessed that, you must understand that my primary objective here is to educate investors new to value investing – the Value.able undergraduates. For the Value.able PHDs we can have a bit of fun.
Matt C
:
I’m wondering whether it really matters which way you perform the calculation as long as you are consistent, both with the calculation for your saftey margin (or margin of safety) and the margin you need before buying. Either method, if consistent (and understood) should highlight which companies are at a large discount and which are not. For the record i’ve been using the formula (1- P/IV) which gives similar results to the Margin of safety formula. At the moment i use a margin of safety of 30%, but i also tend to use conservative RR (min 12%)
Scott T
:
I am glad you said things had been getting a bit technical lately. I was worried I was a lot dumber than everyone else here.
Scott T
Ashley Little
:
Hi Scott,
Dont worry about that stuff,
Just reread the buffet quote below the first chapter “start Now” in Rogers book
Will put it all in prespective i think
Gavin
:
Were the 16 A1 companies in the exercise A1 ten years ago?
If they were then the results have some substance, otherwise the results include hindsight bias.
Roger Montgomery
:
Happy to report that I have MQRs going back more than a decade for every company (that has been around that long). I assume you mean ‘survivor bias’ because I cannot see how a contemporaneous score using contemporaneous data has hindsight bias.
Gavin
:
I would call it hindsight bias, survivor bias to me is staying in business – not staying A1.
We know you rank them as A1 now – did they rank A1 ten years ago?
Looking backwards at the return that a now A1 company has returned is different than looking forward 10 years from a then current A1 ranking.
What I’m trying to get at is that perhaps some of the return is attributable to a business lifting itself to an A1 Rating now from something lower 10 years ago
Roger Montgomery
:
Ahhh, the ‘S’ curve. Thanks for the clarification Gavin. I would rather put the whole list up on the post (which I will try and do) but for now here are a few (in order of appearance): MCE – only listed in late 2009 but an A4 in 2007; NCK A1/A2 since 2002; JBH A1 since 2008; ORL A1 since 2006; ARP A1 almost every year. Hope that helps and all the best.
Gavin
:
Hi Roger
Yes the S curve exactly. I see MTU has now made it onto your list, I have been invested in this company for a few years and would probably guess that it didn’t receive a Montgomery A1 for the first time until fairly recently.
Another comment I made regarding MQR’s seems to have disappeared – I’m wondering if that’s Gremlins, moved to another post or did you find it objectionable and delete it?
Gavin
Roger Montgomery
:
Hi Gavin,
I had an issue a few days ago with the blog and Montgomery IT have fixed it. You should notice that the comments all align and ‘nest’ properly now. Its entirely possible a few comments were lost. Of course I still retain a dictatorial level of control here too.
ron shamgar
:
hi,
in regards to the list, i assume the IVs are for Fy11. also i have matrix IV increasing by more than 3% for FY12. im assuming 61cents earnings for FY12. whats ur assumptions?
thanks.
David V
:
Hi Roger,
Thank you for sharing your list. Is the column ‘expected change in IV’ for the Calendar year 2011? Interesting to see many retailers at the top of this list and 3 of the top 4 companies are companies that you have been praising for some time, which are still trading under your IV.
I have read previous comments asking whether the IV approach has been saturated, but clearly this is an indicator that this hasn’t occured. Maybe this perception is more a result of investors trying to pick the winning lottery numbers while stepping over the $10- note stuck to the pavement.
On MCE, the expected IV change for next year is set at only 3%. What forecast do you have for 2012 in lieu of its book orders increasing substantially that year?
Again many thanks for bringing this community together and demistifying investing.
Kind Regards,
David V
Roger Montgomery
:
Hi David,
Just keep in mind I am running live valuations each day so the possibility of change is ever present. The discount or premium to intrinsic value must be driven by the business performance and remember we are receiving that data after the fact. Thats why I use a variety of inputs to assist with forecasts.
David Sinclair
:
Hi Roger and others,
I had a quick look at some past data for Blackmores recently. While their ROE has been fairly steady over the last few years, their return on capital has been declining and debt has been increasing. It appears that they are using increasing borrowings to prop up their ROE, which can’t be sustained forever. That alone was enough to stop me from looking any further for now. Does anyone else share my concerns?
David S
Roger Montgomery
:
Hi David,
Good question about Blackmores. The debt has been to fund the new facility on Sydney’s Northern Beaches. It has been flagged for some years. It will come back down one suspects with time.
David Sinclair
:
So presumably the drop in ROC is because the new facility is not productive yet and ROC should start to come back up once it is?
David S
Roger Montgomery
:
That would certainly be the company’s expectation David.
Pat Fitzgerald
:
Hi Roger
I do not think that Centrebet (CIL) has a competitive advantage. There are numerous online gambling websites and most serious punters would have accounts with more than one and they would place their bets with the one that offers the best odds. I do not think that CIL’s website is any easier to use than the others. There is also regulatory risk, online casino/poker stocks crashed (yes I did own some) when the USA banned online casino’s etc a couple of years ago. But the USA did not ban ‘bricks and mortar’ casinos. Governments make very strange decisions when it comes to different types of gambling.
The favourite not winning the Melbourne Cup will help most bookmakers this year.
As for MACA I missed out, because of an ‘overwhelming response to the float’. Good luck to those that got some shares.
Roger Montgomery
:
Great thoughts Pat. As I discuss in my book, sustainable competitive advantages are key. A1 does not mean the company automatically has those. Sorry to hear you missed out on MACA in the float but do you think all the gains have been made and what to make of the absence of any competitive advantages?
Pat Fitzgerald
:
Hi Roger
Maca is trading below my IV but Forge is trading at a greater margin of safety, so I may add to my holdings in Forge. Having no competitive advantage makes the investment a higher risk and a high margin of safety should be sought and it should only be a small percentage of a portfolio (if any).
Andrew
:
REA is one i currently have as above my IV ($8.85 on 12%RR and 42.5% ROE). It appears to be a cash machine with my company cashflow for 2010 of +50174 and Free cashflow of +43632. Even in the 09 financial year when they appeared to have some write offs and made none to little profit they still generated a large deal of cash and this result appeared to be a one off. ROE seems to be forecast to remain high as well.
Oroton is a company i am currently looking into and as mentioned in previous posts i am getting stuck interpreting the cashflow which i am continuing to look into. My worries with this company is that i have the gearing levels increasing and albeit still very high, declining ROE’s. I worry that Oroton is quickly getting to its saturation point and not sure exactly where it would go once it reaches the maturity or decline stage.
I think overseas expansion could be very risky and although certain markets might be receptive they also have extremley large amounts of competition and will be going far more head to head with entrenched fashion brands. In Australia it is saved i feel by the fact that luxury brands like Chanel and LVMH etc aside where bags cost well over $1k, there are no other companies really doing similar quality products at the prices ORL have them on sale for. I have heard this directly from people who know far more about handbags than i do as well.
My thoughts are that an Oroton branded clothing line in Australia could be a better avenue to follow as the brand already has a following.
Still as mentioned ROE’s are high and seem to be staying high. My valuation seems to be pretty low compared to others ($6.41) as i have it on a 11%RR and 60% where as i think others have worked it out for 10% and perhaps some have worked out the calculations for ROE’s above 60%. I have entrenched conservatism into my model and there for am happy to keep it at 60%.
Also interesting article i read a while ago in the AFR of someone at Carsales.com.au saying they expect some fight back from other people in the industry against its charges and maybe setting up as competition. Nothing like a good old compeitive advantage test.
Andrew
:
Sorry everyone, my ORL calculation was with a 10% RR. I got mixed up as i have been considering lowering this to 11 due to the increase in debt and my concerns about the future prospects.
2010 EQPS $0.70
ROE 83.64%
ROE Used 60%
Payout ratio 83.64%
Retained 16.36%
Required Return 10.00%
POR X 6.000
RETAIN X 25.158
Intrinsic Value $6.41
Any thoughts? I have the same gearing level as Roger
Roger Montgomery
:
Hi ANdrew,
Thats a terrific post. Thanks for sharing your insights. Regarding Carsales; I also have heard rumours of a mutiny but they have been a round for a long time (the rumours that is). Regarding ORL’s O/S expansion, thus far the expense has been low. I agree that like all retailers in Australia, a small population means saturation eventually.
Duncan
:
Hi Andrew
For me the big difference with Oroton over most other quality retail businesses is that they have not needed to discount to increase sale and thus been able to keep a strong profit margin. The lack of discounting obviously hasn’t frightened off any customers who must just love the products they sell. I couldn’t understand the cashflow on the first look either. I’ll try again!!
Cheers for now
Dunc
Simon
:
I’ve noticed that all this talk about debt is related to companies… but what about the other side of the coin? That’s right I’m talking about Margin Loans, LVRs and A1 companies. If we take Commsec trading account as an example. Oroton has a LVR of 45% meaning that a Value investor with $1000 can in effect buy up to $1800 worth of stock with their equity. However MCE has a LVR of 0% so the same $1000 can only buy $1000 worth of shares. The question is if the margin of safety is >20% for a A1 company should an investor take advantage of its LVR and borrow to buy more shares? Take JBH with a LVR of 55% (60% using Etrade!) and its Margin of Safety circa 17.1 % if JBH share price drops so that it becomes >20% why shouldn’t you take advantage? I would appreciate other Value.able graduates to discuss whether they use margin loans or why/why not ?
Roger Montgomery
:
Hi Simon,
This is a great topic to get started. For mine, I think you can do very well without any borrowings. But of course my conservative bias doesn’t suit everyone.
Ashley Little
:
Hi Simon,
I have seen margin lending do some horrible things in my time,
Just say no to debt
WB on debt says something like if you smart you don’t need it and if you not then you have no place using it.
Ken Milhinch
:
Simon,
The road to financial ruin is littered with the carcasses of margin loan “investors”. For my money, the risk far outweighs the rewards. It’s a personal decision, of course and one which you should take advice on.
Brad
:
get technical – I like it
Roger Montgomery
:
Let me help everyone catch up. Delighted to see MACA list at a 43% premium this morning. Intrinsic value is higher. See my column on the company in last week’s Eureka Report. Don’t expect the same from QR national.
Jarrad Stuart
:
Roger,
Thanks very much for the insights into MACA. I have just purchased some shares after seeking personal financial advice.
I would like to confirm that when you calculate the ‘safety margin’ for shares, it is with respect to the intrinsic value. eg. If XYZ is valued at $1.00 and the safety margin is +30%, then the price is $0.70.
Is this correct or is the ‘safety margin’ calculated with respect to the price?
Thanks for passing on your knowledge and the enthusiasm you deliver it with!
Roger Montgomery
:
Hi Jarrad,
Thanks for the feedback. You will need to think about whether there are any other options. Hopefully that helps you find the answer!
Pat Fitzgerald
:
Hi Jarrad
If your margin of safety is 30% then just divide your IV by 1.3.
Pat Fitzgerald
:
Hi Jarrad
I am not sure if my first comment misinterpreted your question.
If you are calculating the ‘margin of safety’ then:
if the IV is $1.00 and the share price is $0.70 then the ‘margin of safety’ is 42.86% [(30/70)*100].
Jarrad Stuart
:
Pat and Roger,
Thanks for the clarification.
Grant
:
Unfortunately, and admittadly expectedly, I did not receive any allocation of the listing.
So despite jumping on the offer – recognising the potential – I have missed out :(
Roger Montgomery
:
Hi Grant,
Sorry to hear that. You are not alone. Even some of my friends in funds management land were scaled back by 2/3rds or more.
ron shamgar
:
Hi Roger,
i wonder at what premium Maca would have listed were you not to mention it on eureka report???? i have a feeling Maca shareholders owe you a bit of money… :-)
Good Call!
Roger Montgomery
:
Thanks Ron, …but in reality this was oversubscribed by many who don’t read the Eureka Report.
Graeme
:
I must admit I was very disappointed when I received my chq back with a letter saying the MACA was over subscribed, and then to is list at $1.40.
Oh well patience is a virtue.
Ken Milhinch
:
Roger,
Is there some reason why your columns in the Eureka Report can’t be reproduced here ? I am unable to read them at the Eureka Report without subscribing and I have no wish to do that, as I find most of the stuff there pretty boring.
(I valued MLD at $1.58 so there’s not much breathing room there)
Roger Montgomery
:
Hi Ken,
You have to pay for some things mate. Alan charges for his Eureka report and I think it is excellent. BTW do you know the name of the mouse in Shawshank redemption?
Matthew R
:
Do you mean the bird? (Jake)
Or maybe you are thinking of the The Green Mile, the mouse there was called Mr Jingles
Roger Montgomery
:
Jingles or jangles…Yes the Green Mile it is. Hmmmmmm
Ken Milhinch
:
Roger,
Don’t watch tear jerker movies like that, but I believe it was “Mr Jingles”. Is there a point to that question ?
Regards, Ken
Roger Montgomery
:
Answered Ken. Thank You.
Craig M
:
maybe Rogers point in asking the question was “off topic” Cryptic but pertinent
Ashley Little
:
Hi Ken,
Jingles may be a possible reference to the coin the Rogers pocket after cashing out.
Just a guess though
Paul
:
Hi Roger,
I am interested to know if anyone actually got in on the MACA float? I sent my money in for an allocation, my cheque was returned in full with an apology. Thanks for the heads up on this company, I did manage work out the IV for it (thx to Value-able) and even at a 43% premium decided to get what I wanted on the market today.
Keep up the education.
Paul.
Roger Montgomery
:
Great Paul. Remember to seek and take personal professional advice.
Curtis Taylor
:
From what I know about stocks I can understand the A1 ratings for all except GUD which really stuck out. I had a view that while a well managed company they operate in reasonably competitive markets and their product range doesnt have strong pricing power vis a vis the major retailers and that in the absence of acquisitions were a relatively low growth stock (not that that means they cannot be a good investment at the right price).
As an irrelevant aside how do you calculate a value for a stock like AUN which has negative shareholder funds according to their latest balance sheet
Roger Montgomery
:
Hi Curtis,
While I won’t be revealing my MQR process any time soon, I am more than happy to share the results, provide the rankings and continue to discuss the factors that go into the construction. WIth regards to negative equity, there are some simple adjustments. Austar is a regional monopoly so its important to look forward rather than backwards. Sorry to be so cryptic but thats about it.
Luke
:
Hi Roger,
Thanks for the list – on Ken’s comments, perhaps there should be a “MQR A1” ETF?
Just to double check, I was surprised to see that ARP has a dividend yield of 8.3% but isn’t it closer to 2.7%? The other yields before ARP look right to me though.
On another point, I am glad to see that MCE is down 2c today even after you have posted this. It shows that there is still plenty of room for value investing!
Roger Montgomery
:
Hi Luke,
Thanks Luke. It should be 3.50%. I meant to use forecast not historical that includes the November special.
ron shamgar
:
hi Luke,
don’t worry about matrix going anywhere for now. its had its run and based upon Mr market’s valuation its priced on a PE of about 18 times this years earnings (FY10) and about 11 times next years. this is about the average of its industry peer group so i don’t think its going anywhere until half year results. of course this is not to say that its value is a lot higher than today’s price…
Roger Montgomery
:
Hi Ron,
We don’t use foul words like ‘price earnings ratio’ here Ron.
Ashley Little
:
Hi Ron
Thats why it is so attractive mate
People who use swear words like PE ratios have no clue about the real value of the business
no advice of course
ron shamgar
:
I’m not sure if i was understood…. what i meant is that when i value a business i use ROE but when Mr market values a business they use PE. and since Mr market sets the price of a business you want to keep that in mind in the short term and not rush in to buy, thinking you will miss out.
if you look at it this way it explains the short term market movement of the price.
Roger Montgomery
:
Hi Ron,
Oh I knew exactly what you meant we just hadn’t heard that kind of language (P/E) here for a while! I do think there is merit in the way you have suggested trying to understand how the rest of the market is thinking, its just that I am not particularly happy with my own results from doing it (often missing out on gains)
Ken D
:
Thanks Luke – an MQR ETF – I found that idea rather thought provoking! Wouldn’t it be great if it was that straight forward? However following Roger’s recent rerating of CSL from A1 to A2, I guess our ETF would have sold CSL at perhaps only a slight premium to intrinsic value. The ETF would not only have to pay out at tax time but perhaps miss an opportunity to buy back in should CSL fall well below intrinsic value before regaining A1 status! Then again – the CSL forced offload might free up some dollars to invest in a flotation device manufacturer currently trading at a 46.3% discount to intrinsic value (was Roger hinting at something by placing that flotation device at the top of the page?). Perhaps the ETF should ditch Cochlear instead – it’s a bit expensive at the moment? Yes but that’s an A1 company and the ETF can’t ditch that one. So many decisions!
Whilst the steps outlined in Value.able (244-245) are straightforward, putting them into practice remains a challenge that I look forward to! I found Value.able whilst researching how to improve my quality benchmarks – I sort of hit the jackpot. Anyway my mission at this point has been to consider how to improve the quality of my own portfolio. My decisions at the moment aren’t as difficult as I imagine they might be if I owned a heavily benchmarked A1 portfolio.
The A1 and A2 ‘portfolios’ Roger referred to in this latest blog post I constructed in name withheld as an initial step toward researching A1 and A2 stocks and with an aim to gain some insight into the differences between them. Whilst there are all sorts of issues with such a retrospective analysis I was keen to compare the A1 and A2 ‘portfolios’ as well as my currently ‘MQR unaware’ portfolio on certain metrics. Reading Value.able and investigating Roger’s MQRs in this way has reaffirmed my resolve to improve my quality thresholds and apply them more rigorously. I’m happy to summarise some differences between the portfolios if there is interest out there. To address Roger’s challenge to us, I also intend to share some thoughts on ARB – for me it has always been a ‘quality benchmark’ of sorts
cheers Ken D
Graham Fisher
:
Hi Ken
As a novice, I would like to know your insight of differences between A1 and A2 portfolios that you have researched. You are putting a lot of work into the process and your thoughts may help me look in the right direction.
Thx Graham
Roger Montgomery
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Hi Graham,
The difference between A1 and A2 is purely a function of the outputs. I can’t be any more specific than that.
Ken D
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Hi Graham – thanks for your interest and sorry for taking some time to respond. The concepts Roger put forward in Value.Able in relation to portfolio management have had a profound effect on the way I now think about my own portfolio. In particular the statements on page 241 and 243:
“Following the approach to stock selection outlined in Value.able will result in a portfolio that itself becomes a benchmark of quality”
“… as I mentioned a moment ago, the great thing about the way Value.able has taught you to select businesses – using return on equity, equity per share, prospects, cashflow and competitive advantage – is that it not only creates a list of candidates worthy of inclusion in your portfolio, but once they are in, the portfolio itself becomes a benchmark”
In comparing Roger’s A1 and A2 porfolios, I was looking for ‘validation’ of these concepts. Because I was looking for relativities, I was not too concerned about doing a ‘proper job’ (see Gavin’s and Tony’s posts) of analysing portfolio returns – so long as the same analysis was applied to both portfolios. Using the same ‘relative’ approach I also did some self assessment by comparing my own ‘MQR unaware’ portfolio with Roger’s A1s and A2s.
Some results over prior 5 and 10-year periods are as follows:
Previous 5 years:
Portfolio #stocks roe* av ann earnings
return** growth**
current A1 22 32% 21% 23%
current A2 25 23% 5% 11%
MQR unaware 17 13% 6% 0%
*current year (2010) profit and equity
** over last 5 years
10 year analysis:
Portfolio #stocks roe* av ann earnings
return** growth**
current A1 15 28% 25% 20%
current A2 17 20% 9% 16%
MQR unaware 14 15% 8% 11%
*current year (2010) profit and equity
** over last 10 years
For me, the above figures were an initial ‘proof of concept’. I emailed Roger in relation to the A1 and A2 results asking whether the historical performance may have been a factor in his choice of A1s or an ’emergent property’ so to speak, Roger simply replied “It all comes down to quality. Thats why I spend so much time talking about it. Generally though I expect a strong correlation over longer periods of time”.
Rather than trying to guess what Roger’s specific A1 & A2 benchmarks are, I have elected to choose the highest quality stocks (mostly current A1s) in my “MQR unaware” portfolio to draw my portfolio’s own quality ‘line in the sand’ or ‘barricade’ (Value.able p 243) and just take it from there using concepts in Value.able as a point of reference. Hence my revisiting ARB for instance (it stays by the way!).
cheers
Ken D
Ken D
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correction … highest quality ‘companies’ in my portfolio (remember principle #1 Ken D – you own a share of a company, not a ‘piece of paper’!)
Ken D
:
The above table headings didn’t translate well:
Column 1: portfolio name
Column 2: number of companies included
Column 3: return on equity based on same year (2010) profit and equity)
Column 4: average return (%) over last 5 years (table 1) and 10 years (table 2) (i.e. if all companies held for that period)
Column 5: earnings growth (%) over last 5 years (table 1) and 10 years (table 2)
Roger Montgomery
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Thanks Ken for making it a little clearer.
Adam
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Hi Roger,
The other day I was thinking out of every business in the world, I think Google may have one of the greatest competetive advantages and moats around it.. If it wanted to, i’m sure it could trump companies such as Wotif.com and Realestate.com etc and price them out of the market whil’st still acheiving very high ROE.. Plus I believe they have one of the most recognised brands in the world – You don’t “search” for something, you “google” it…
Do you have a current intrinsic value in either US or $AU? (Given the strong $AU I thought this could be a buying oppurtunity..)
PS What dates were the above A1 company valuation’s as at?
Adam
Roger Montgomery
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Hi Adam,
I agree with you about Google. They are entrenching their competitive advantages too. Yes I have intrinsic values for lots and lots of US companies so I will put a list of those up next.
Marcel
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Hi Roger.
I would be most appreciative if you could put up a list of US companies and other international stocks who you rate as A1 businesses. Narrowing down the list of what to research more thoroughly would be most helpful in my time-poor existence.
Pat Fitzgerald
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Hi Adam
I search the internet but do not use Google and I do not need it. Google has got a lot of free advertising from many including the ABC. Hopefully Baidu, Bing etc can grow their market share and ensure consumers have a choice.
Craig
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The issue I have with Google is that its competitive advantage goes the moment somebody comes along and builds a “better mousetrap”. Further, Google’s growth curve appears to have flattened as the company has matured. There was a story the other day about one of the Australian software engineers that developed the application that became Google Maps switching to Facebook because Google has become subject to greater bureaucracy than ever before.
I’m no good at picking the future trends, but I think that Google’s biggest competitive threat now in existence is Facebook. Facebook is collecting a veritable treasure trove of information about the individual likes and dislikes of every single member of Facebook who, to a greater or lesser extent, share that information with all their “friends”. Having the informational database is half the job done. Building a scaleable search engine that returns results more or less instantly is the next challenge for Facebook, if Facebook wants to take on Google at its own game.
But the big differentiating factor between Facebook and Google is that Google’s search algorithms are driven by mathematical formula based on ranking how popular a particular web-page is linked to by other web-pages. Facebook, on the other hand, could give rankings based on how many people say they like something or dislike something on their Facebook profiles.
Google also seems to be casting about looking for something to spend its money on. Google spent a motza on Youtube without really seeing much return on its investment. Many of the other applications that Google have released have either bombed or simply failed to excite users like the original search engine and other applications like Google Maps excited users. Further, the opposition to censorship by the Chinese government is laudable in terms of standing up for Western values of free speech, etc., but unless Google can find other ways of harnessing the eyeballs of a billion people, it can find itself locked out of the search engine market in China.
AndyC
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This is an interesting question. I thought I may as well share some thoughts.
One key competitive advantage enjoyed by REA, Seek, and to a lesser extent Wotif is that they have developed a network effect based around both consumers (house hunters, job seekers, and travellers) and importantly, the service providers (real estate agents, recruiters, and hotels).
Ask any real estate agent in Australia a couple of questions. A) would they ever try to advertise a property without listing on realestate.com.au? B) (and this is the kicker) how expensive is it to list in comparison with other costs etc? You’ll find that the answer to A is, no. The answer to B is “very little, oh and by the way, we sign up for a yearly licence anyways”.
Google will come into the market with a price of FREE. However, everybody knows that REA has practically every home for sale listed. This can take some effort to break down, but if anyone can do it, Google can!
Getting back to the pricing question, each listing costs advertisers very little. They have the dominant market-place and google can’t break this down simply by offering FREE. In fact, in conversations I have had with some industry folk, they may even have a fair bit of head-room with regards to pricing – even with Google in the market.
Google needs to beat these specialist search tools by offering a better, more compelling, experience to both advertisers and consumers. There are numerous factors that make an advertiser want to stick with an existing product vs using a new tool. Often the existing players are integrated into their own systems, often they don’t like using new (possibly better) tools. This reply is to short to go into all the details. Consumer behaviour also changes slowly. I’m not so sure that users will prefer to search for homes via google maps (for instance).
It’s a very interesting question though. I think the most important factor to focus on when it comes to online businesses is the big structural shifts occurring. Investors should focus on the fact that print advertising is WAY more expensive and is a less efficient marketplace. This trend will continue.
Online is a FAR more scaleable business model at a number of levels. 10 smart developers can completely change the game, operational costs are trivial. The biggest costs to most of these businesses is staff. Good people are hard to find, trust me, I’m trying pretty hard to find them.
My own opinion, is that the internet is just getting started. The next space to watch is mobile. Traffic to mobile sites is rising (as a proportion of total traffic) at insane rates. Some are predicting that mobile traffic will surpass desktop web browser based traffic sometime in the next year or two. That’s worth pondering.
Roger Montgomery
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Thanks for those very investable insights. …and in countries like India and China the internet is bypassing desktop computing altogether – note Facebooks new application called Places set to harness this trend.
AndyC
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Africa is another striking example of this phenomenon. They are completely skipping the desktop and laptops and going straight to internet+mobile phones because they are so much more accessible.
I know this is a separate topic, but most investors ignore Africa. I think they’ll surprise us.
Roger Montgomery
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And CHina and India’s interest in acquiring assets there is more than just a passing one.
Paul
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Interesting how 4 of the top 5 can be related to the TFS cashflow post a few days a go.
These companies thrive when people have spare cash but can suffer when the reverse happens.
With interest rates up yesterday with more reported to be on the way short term sentiment could give way to some great opportunities. Personally JBH is the one the I would be most happy to invest in but who know how the market will react.
Roger Montgomery
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Thanks for the thought Paul. Great to have your comments and insights.
Brent
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Roger,
Firstly, thanks for the time and effort that you put into answering questions & sharing insights on your blog. I am in the process of applying your share valuation framework and I am trying to come to grips with how the value of franking is taken into account when valuing a company.
Using a hypothetical example…..
ABC company Equity – $10 million
NPAT – $1.5 million
Dividends – $1 million franked @ 30%
If we ignore the benefit of franking then our ROE is 15% (1.5/10) and the payout ratio is 66% (1/1.5).
However, clearly a company that pays franked dividends is more valuable than one that does not.
My thoughts are that you would alter the reported NPAT to account for the franking credits attached to dividends. So in this case, gross dividends paid were actually = $1.42 million (1/0.7). So if we add this $0.42 million franking credit to the net profit we get an adjusted NPAT of $1.92 million. ROE subsequently rises to 19.2% (1.92/10).
The difference in calculated ROE has the potential to substantially alter the valuation. Not only would the ROE change, but so to would the payout ratio (going from 66% up to 74%).
Would love to hear how others handle franking in valuation?
Cheers,
Brent
Michael Vanarey
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Hello Brent.
Great question! However I don’t think this is the right thread to ask.
Roger said at the end regarding the topic of leaving comments below was to keep it “about the companies in the list. Keep the comments to the topic set and we will build a useful library of insights.”
He might answer your question if it was posted on another thread (fingures crossed).
Ashley Little
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Hi Room,
Roger is doing a fantastic job
My only sugestion is that we could have a suttlebutt button and a need to ask button
This may solve the problems memntioned above
Also it may keep the blogs pure to the topic.
Just a thought Roger
keep up the good work
Brent
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No worries, I didn’t see where else to post but I’ll have another look.
Cheers,
Brent
Nathan
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Nick Scali looks good after reviewing the financial numbers. What concerns me however was a story I saw on Today Tonight (horrible show I know). The story showed some of the shonky furniture they were selling.
For a company that you’d expect quality stuff from, this concerns me quite a bit, and has so far stopped me from purchasing equity in this company!
Roger Montgomery
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Hi Nathan,
Thats good scuttlebutt.
Shuo yang
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MACA opens at $1.40. 40% premium to IPO price.
Shuo yang
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Sorry Roger. I didn’t see the note about ‘only discussing companies listed above’.
costas
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thx for your post roger.i like the internet companies u have in your chart and waiting for them to drop in price.sticking with jbh and mce atm.
Roger Montgomery
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Hi COstas,
Be sure to seek and take personal professional advice first.
Mike King
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GUD’s Dividend Yied looks wrong. Based on current price, dividend yield is 5.9%.
Cheers
mike
Roger Montgomery
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Hi again Mike,
I hope it has been fixed now. Typos in the rush to get the list out.
Mike King
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Hi Roger,
When you say “here’s my latest list of A1s”. I assume these are not all your A1s, given Decmil & Lycopodium are just 2 that you’ve mentioned are A1s, but aren’t on your list? Or have your ratings changed for DCG & LYL?
Cheers
mike
Roger Montgomery
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Hi Mike,
Thanks for the note. No list that appears here is exhaustive.