tag:blogger.com,1999:blog-22190318655342608702024-03-13T14:26:17.225-07:00Value Investing in Graham-and-BuffettvilleThe purpose of this blog is to share as well as keep track of the changes in my equity investment philosophy. All the postings on this blog are personal opinions.Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.comBlogger78125tag:blogger.com,1999:blog-2219031865534260870.post-931488097959982662014-02-12T11:25:00.002-08:002014-02-12T11:25:21.171-08:00Ray Dalio Explains How Economy Works http://www.bwater.com/home/research--press.aspxNinghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com10tag:blogger.com,1999:blog-2219031865534260870.post-68695376975459155042014-02-08T10:42:00.004-08:002014-02-08T10:42:57.097-08:00Points of Interestshttp://csinvesting.org/wp-content/uploads/2012/09/placing-ebitda-into-perspective.pdf<br />
http://csinvesting.org/wp-content/uploads/2012/05/dempster_mills_manufacturing_case_study_bpls.pdf<br />
https://www.aar.org/keyissues/Pages/Background-Papers.aspx#.Ut_pL2Qo7-Z<br />
https://www.aar.org/keyissues/Documents/Background-Papers/Rail-Intermodal.pdf<br />
https://www.aar.org/keyissues/Documents/Background-Papers/Mergers-US-Freight-RR.pdf<br />
http://www.sec.gov/Archives/edgar/data/934612/000119312506034572/d10k.htm<br />
http://www.sec.gov/Archives/edgar/data/934612/000119312504023301/d10k.htm<br />
http://www.sec.gov/Archives/edgar/data/934612/000119312505030538/d10k.htm<br />
<br />Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-85810747967336673682014-01-21T16:25:00.001-08:002014-01-21T16:25:22.645-08:00Warren Buffett On The Stock Market From Fortune http://money.cnn.com/magazines/fortune/fortune_archive/2001/12/10/314691/Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com3tag:blogger.com,1999:blog-2219031865534260870.post-63687038543307926762014-01-15T02:24:00.000-08:002014-01-15T02:24:31.569-08:00Buffett CNBC Interview Transcript Compilationhttp://www.scribd.com/collections/2645024/Warren-Buffett-CNBC-Interview-Transcripts<br />
http://www.grahamanddoddsville.net/wordpress/Files/Gurus/Warren%20Buffett/WEB%20on%20Charlie%20Rose%20-%2011-2009.pdfNinghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com4tag:blogger.com,1999:blog-2219031865534260870.post-12593090976765395832014-01-08T16:58:00.004-08:002014-01-08T16:58:45.100-08:00De-dopaminize Your Investment ProcessDuring 2013 I’ve had the honor and luck to meet a few great investors and one of the questions I always ask is “how do you suppress your urge to act?”<br />
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The reason I ask that question is because my experiences have taught me that fewer but wiser bets will likely to lead better performance. All of us have heard of Buffett’s “20 punch cards” advice to investors but how many of us have acted accordingly? Human nature pushes us to get active, not inactive. When our brain recognizes an opportunity for financial reward, it releases dopamine, which tells the rest of the brain to pay attention to that opportunity and get our greedy little hands on it before we miss it. Worse yet, our rewards system gets much more excited about a possible big win so it will motivate us to do whatever provides the chance to win.<br />
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In this article I want to share with the readers the answers I got from 3 great investors and how I have used their strategies to pass on ideas that initially got me excited.<br />
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1. Mohnish Pabrai - It is widely known that Mohnish Pabrai uses a checklist to minimize the number of mistakes he will make. While the checklist is a powerful approach, Mohnish said most of his ideas won’t even get to the checklist step before they are killed. Among the strategies he uses to kill an idea, discussing the ideas with his friends such as Guy Spier and seeking contrarian information will often make him less excited about the idea.<br />
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Case in point – Chinese banks: during 2013, I paid a lot of attention to a few large Chinese Banks because they were trading below tangible book value. I read the Annual Reports of China Construction Bank and Bank of Communication. My initial analysis made me feel that they were much undervalued. Before acting on the idea, I sent it to a friend who knows a lot about Asian banks and asked for his feedback. He responded to me with his detailed analysis of the Chinese banks, along with the comparison to banks in other parts of Asia. After reading his response, I did a lot more research and eventually I came to the conclusion that while the valuation is low, the risk level is too high to justify a position.<br />
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2.Arnold Van Den Berg – Van Den Berg has an amazing track record. Since Century Management’s inception in 1974, it only has 4 down years compared to 11 of S&P. Furthermore, the losses were below 10% except for 2008. The most remarkable characteristic in Century Management’s portfolio since 1974 is the relative rarity of losers, compared to other asset managers. Century Management’s publications – The CM Value Investors are one of the best value investing publications I have ever read, you can find them on the following link <a data-cke-saved-href="http://centman.com/insights/category/cm-value-investor/" href="http://centman.com/insights/category/cm-value-investor/">http://centman.com/insights/category/cm-value-investor/</a>. If you read the CM Value Investors, you will find that their discipline is phenomenal. If the downside risk is too big, they will most likely pass on the idea even if the upside is appealing. By looking at downside closely and establishing a purchase price as close to bear case as possible, Century Management has been able to outperform the market consistently.<br />
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Case in point – Weight Watchers International: During November last year, I wrote an article on Weight Watchers International. Through my research and analysis, it looked like Weight Watchers International has had an inherently favorable business model and although the moat was narrowing, valuation looked attractive. Some big name investors such as Joel Greenblatt and Jeff Auxier took positions in WTW as well during Q2 and Q3 of 2013. What eventually prevented me from looking further is the downside scenario, which was 36% below where WTW was traded in late November.The downside was too high to justify a position in WTW. I told myself to take a look at WTW if it ever drops to mid 20s, which is much closer to the worst case scenario.<br />
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3. Stephen Yacktman – In my interview with the Yacktman Funds, Stephen told me one of the best ways to suppress your excitement with an idea is to force yourself to look for WTCGs (what can go wrong). Each WTCG will make you feel less excited about the idea and very often, before you list out all the WTCGs you can think of, the idea is not that appealing any more.<br />
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Case in point – Corinthian Colleges: I was looking for ideas in the for-profit education industry and there was an interesting article on Corinthian College (COCO) on gurufocus submitted as a value investing contest. The case for COCO looked compelling. It is an established institution with high margins and lots of cash flows. The stock was cheap at merely above $2.5 per share. The upside looked really good. My brain was telling me “don’t miss this, you gotta act.” I passed on the idea once I started compiling the WTCGs. One of the WTCGs I found is management’s lack of integrity may lead to eventual scrutiny by regulators. There was a public article on Corinthian Colleges' officials' engagement in a no-holds-barred campaign to drive down their schools' rates by pushing former students to obtain temporary forbearance and deferments on their loans. Another WTCG that really threw me off was COCO’s horrible cohort default rates, which are so bad compared to Strayer Education that regulatory non-compliance was a real concern.<br />
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Conclusion: Most of us are born to be frequent batters. Although we know that the future is unknowable and there is a downside risk related to every investment, our reward system often pushes us to act on the ideas that promise the highest rewards, no matter how big the downside risks are. Worse yet, we are often temped to buy stocks simply to avoid missing out on the action, especially during a bull market. Designing a personalized strategy to suppress your urge to act will benefit one investor in many ways. But most importantly, doing so will force you to pay more attention to the downside and it has been repeatedly said by many renowned investors, if you take care of the downside, the upside will take care of itself.Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com3tag:blogger.com,1999:blog-2219031865534260870.post-32390380097068519242013-12-28T21:47:00.001-08:002013-12-28T21:47:15.979-08:002013 Year End ReflectionsAs the year 2013 draws to a close, it is time to sit down and reflect upon the investment mistakes that I’ve committed during the year. In doing so, I am immediately reminded of an excerpt from Warren Buffett’s 1989 letter to shareholders.<br />
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<em>“To quote Robert Benchley, ‘Having a dog teaches a boy fidelity, perseverance, and to turn around three times before lying down.’ Such are the shortcomings of experience. Nevertheless, it's a good idea to review past mistakes before committing new ones.”</em><br />
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Alas, how I wish I had a magic dog to teach myself to avoid soggy cigar butts on the street. The biggest mistake I made this year unmistakably falls under this “cigar butt” category. In a year where S&P advanced more than 30%, I’ve brilliantly managed to invest in a company whose share price has sunk over 50% since the beginning of the year. It is certainly not fun to slip up but getting up and learn from the fall has proved to be extremely rewarding. Heck, in fact, I consider this the best investing lesson that I have ever learned because as a result of the mistake, I now have a much better understanding of the shortcomings of the cigar butts approach to investment.<br />
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This cigar butt is called JC Penney. The mistake I made is a multifaceted one that involves analytical errors, human psychological biases, and a horrible purchase price.<br />
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To be clear, I don’t think buying JC Penney is a mistake per se. I’ve bought JC Penney in 4 tranches, the lowest at $8 and the highest at $17.Whether it is a mistake depends on the price paid. As Howard Marks has said before:<br />
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<em>“In investing there is no such thing as a good or bad idea. Only a good idea at a price. Anything can be a good idea at one price and time, and a bad one at another. There is no investment idea so good that it can not be ruined by a too-high entry price. And there are few things that can not be attractive investments if bought at a low-enough price.</em><br />
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<em>It has been demonstrated time and time again that no asset is so good that it can’t become a bad investment if bought at too high a price. And there are few assets so bad that they can’t be a good investment when bought cheap enough. No asset class or investment has the birthright of a high return. It’s only attractive if it’s priced right.”</em><br />
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I have certainly paid too much for JC Penney and that was a huge mistake that has cost me dearly. At the time I bought the first tranche of JC Penney, it was around $17 per share. In an article I wrote called “JC Penney – Maximum Pessimism,” I laid out my thesis based on JCP was trading around the liquidation value estimated to be between $13 to $16 per share. One of the readers made the following great comment: <em>Liquidation value is one of those things with a big range of possibilities IMO. In a bankruptcy preceding, I doubt current shareholders will get even $9 per share or even $5 for that matter. </em>Although I don’t know this member personally, I can tell he is without a doubt a much better investor than I am.<br />
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I’ve learned the hard way that liquidation value is as real as a mirage. First of all, the liquidation value is very likely to evaporate like liquid left in the sun if the business is not improving. JC Penney’s book value dropped almost by half within a relative short period of time. Therefore, using the present liquidation value was very foolish. Had I extrapolated the liquidation value for JC Penney based on the speed at which the business was deteriorating, I would have come up with very different scenarios. Secondly, as I have learned through studying Buffett’s partnership letters, liquidation value itself provides very limited downside protection unless you can accumulate a controlling position and even if you can end up controlling the business, the liquidating process is likely to be very painful.<br />
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Given the inadequacy of liquidating value, it is not surprising that my worst case scenario was way too optimistic, which leads to another lesson – risk means worst case scenario can happen more often and can be more severely than you think. Frankly, I did not think JC Penney was going to drop to merely $6 per share. Mark Twin said “a man who carries a cat by the tail learns something he can learn in no other way.” My experience with JC Penney has certainly proved his point. Almost everything that could go wrong did go wrong. Sales dropped precipitously; the board room was full of dramas; drastic leadership turnovers; solvency issues; liquidity crunch; massive equity dilution. Even when sales are improving, no one seems to care because everyone is now concerned that margin will stay low forever. I would be lying if I tell you that all the negativity did not bother me one bit. It was unpleasant mentally to go through the turmoil but I am also fully aware that I deserve such agitation. However, without such agitation, I probably won’t be able to fully appreciate the beauty of “<em>it's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” </em> <br />
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I wish I could stop right here and tell everyone that’s all the mistakes I’ve made about JC Penney. Unfortunately, the dimension of this flub extends beyond sheer analytical flounder. I also failed utterly to recognize the human psychological forces that were in play.<br />
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At the time I made my purchase decision, JC Penney had a very promotional CEO and a promotional activist, Bill Ackman, who I actually admire a lot. Looking back, my analysis was heavily influenced by the way Ron Johnson and Bill Ackman presented information (framing bias) and the ease at which the information can be recalled (availability bias). What initially got me really interested in JC Penney were a few articles on gurufocus and Bill Ackman’s presentation. Unfortunately, the presentation served as my initial anchor. Below are the slides that got the neurons in the nucleus accumbens part of my brain fired like wild.<br />
<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/841801179.jpg" src="http://userupload.gurufocus.com/841801179.jpg" style="height: 363px; width: 550px;" /><br />
<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/359891984.jpg" src="http://userupload.gurufocus.com/359891984.jpg" style="height: 358px; width: 550px;" /><img alt="" data-cke-saved-src="http://userupload.gurufocus.com/710538460.jpg" src="http://userupload.gurufocus.com/710538460.jpg" style="height: 366px; width: 550px;" /><img alt="" data-cke-saved-src="http://userupload.gurufocus.com/56966288.jpg" src="http://userupload.gurufocus.com/56966288.jpg" style="height: 387px; width: 550px;" /><br />
<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/625529555.jpg" src="http://userupload.gurufocus.com/625529555.jpg" style="height: 404px; width: 550px;" /><br />
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<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/778595265.jpg" src="http://userupload.gurufocus.com/778595265.jpg" style="height: 333px; width: 550px;" /><img alt="" data-cke-saved-src="http://userupload.gurufocus.com/1112742322.jpg" src="http://userupload.gurufocus.com/1112742322.jpg" style="height: 298px; width: 550px;" /><br />
<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/1599238339.jpg" src="http://userupload.gurufocus.com/1599238339.jpg" style="height: 367px; width: 550px;" /><br />
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<img alt="" data-cke-saved-src="http://userupload.gurufocus.com/2110018412.jpg" src="http://userupload.gurufocus.com/2110018412.jpg" style="height: 380px; width: 550px;" /><br />
Upon deep reflection, I think the root of my mistake lies in the part of my brain that handles anticipation for rewards. In Chapter 3 of the great book “Your Money or Your Brain” by Jason Zweig, the author noted that “<em>Making money feels good, all right; it just doesn’t feel as good as expecting to make money. In a cruel irony that has enormous implications for financial behavior, your investing brain comes equipped with a biological mechanism that is more aroused when you anticipate a profit than when you actually get one. The arousal piece is actually the main component of euphoria, and it’s expectation- not satisfaction – that causes most of that arousal. When rewards are near, the brain hates to wait. Neurons in the caudate nucleus, a region in the center of the primate brain, become active even before the predictive cue is presented.”</em> Now I can imagine that the neurons in the caudate nucleus must have been fired up when I saw Mr.Ackman’s base case offered a 6.5 times upside when JC Penney was trading at $17 per share.<br />
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Fixating on the upside made me overlook the magnitude of the downside. Under influence, my calculated risk reward ratio seemed favorable: using 20 year low of $10 as worst case and $39 - only half of Mr. Ackman’s base case, at $17 per share, the downside was $7 and upside was $22 with. For every dollar of risk, I thought I was getting 3 dollars of rewards. The odds were favorable.<br />
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The reward seemed so real and the anticipation was so exciting. There was only one little problem – in reality, it doesn’t work that way. The rewards are imaginary while the risks are real.<br />
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I had the fortune to talk about JC Penney with a few renowned investors including Arnold Van Den Berg, Stephen Yacktman and Michael Shearn. All of them have considered investing in JC Penney yet all passed. Among the reasons they ultimately did not invest are promotional management, too hard to figure out and too much downside. None of them even mentioned the upside during our conversations. This is the difference between a wise man and a fool when it comes to investing. The wise man knows that if you take care of the downside, the upside will take care of itself. Now I realize that even though the risk reward was favorable, the downside of 40% was too much and because the uncertainty was so high, one should pay a lot less for taking on the risks, not more.<br />
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The above may all seem very obvious to most of the readers but I had to learn it the hard way over and over.The confluence of the framing bias, the availability bias and the anchoring has been skewed my reasoning in the past to the more euphoric side of the pendulum. It was not until the second half of this year did I recognize the power of the lollapalooza effect, which Charlie Munger has warned us. But better late than never. The JC Penney experience will definitely serve me as a reminder going forward.<br />
The last mistake I made with the JC Penney investment is related to portfolio sizing. It had been a 15% position in my portfolio. I am still debating whether this is as huge as a mistake as the analytical error and the lollapalooza effect. After all, I resonate with the idea of concentration unless everything gets cheap like the experience of 2008. Nevertheless, a 15% position in a struggling retailer does seem too high with the benefit of hindsight.<br />
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Now that I have finally listed out all the mistakes I’ve made with JC Penney, I feel obligated to apologize for having rambled so much on an investment that has been discussed very extensively on gurufocus. Of all the mistakes I have made and believe me, there are a lot, the JC Penney blunder is by far my favorite because I have learned tremendously from a multidisciplinary approach.<br />
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Charlie Munger once said “<em>I like people admitting they were complete stupid horses’ asses. I know I’ll perform better if I rub my nose in my mistakes. This is a wonderful trick to learn.</em>”<br />
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Therefore, at the end of 2013, I’d like to admit that I was a complete stupid horse’s ass but I’ve learned to rub my nose in my mistakes.<br />
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Thanks for reading and happy new year!Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com7tag:blogger.com,1999:blog-2219031865534260870.post-35193603972812328262013-12-22T06:59:00.001-08:002013-12-22T06:59:18.310-08:00Good Read For The Day<a href="http://www.farnamstreetblog.com/2013/12/margin-of-safety/?utm_source=twitterfeed&utm_medium=twitter&utm_campaign=Feed%3A+68131+%28Farnam+Street%29&utm_content=FaceBook">http://www.farnamstreetblog.com/2013/12/margin-of-safety/?utm_source=twitterfeed&utm_medium=twitter&utm_campaign=Feed%3A+68131+%28Farnam+Street%29&utm_content=FaceBook</a><br />
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<a href="http://www.farnamstreetblog.com/mental-models/">http://www.farnamstreetblog.com/mental-models/</a><br />
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<a href="http://www.valueinvestingworld.com/2013/12/a-checklist-for-investors-by-jason-zweig.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+ValueInvestingWorld+%28Value+Investing+World%29&utm_content=FaceBook">http://www.valueinvestingworld.com/2013/12/a-checklist-for-investors-by-jason-zweig.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+ValueInvestingWorld+%28Value+Investing+World%29&utm_content=FaceBook</a><br />
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<a href="http://www.valuewalk.com/2011/10/exclusive-interview-famous-investor-tom-russo/">http://www.valuewalk.com/2011/10/exclusive-interview-famous-investor-tom-russo/</a>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com2tag:blogger.com,1999:blog-2219031865534260870.post-79277277070721534722013-12-19T21:24:00.000-08:002013-12-19T21:24:49.379-08:00A Great Lesson From Todd CombsI was reading the notes I took from this year’s Berkshire meeting today. One of the things that stood out was an article on Todd Combs from the World Herald.<br />
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<a href="http://www.omaha.com/article/20130428/MONEY/704289987">http://www.omaha.com/article/20130428/MONEY/704289987</a><br />
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This article came out on the Monday of the Berkshire Hathaway Shareholder Meeting. I remember reading it right before I went to the shareholder meeting. It was certainly not the fanciest article but absolutely one of my all-time favorites. I want to share with the readers the part I enjoy the most because I found it extremely inspiring and illuminating. Below is an excerpt from the article:<br />
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<i>“One of the students asked what he could do now to prepare for an investing career. Buffett thought for a few seconds and then reached for the stack of reports, trade publications and other papers he had brought with him."</i><br />
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<i>“Read 500 pages like this every day,” said Buffett, or words to that effect. “That's how knowledge works. It builds up, like compound interest. All of you can do it, but I guarantee not many of you will do it.”</i><br />
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<i>"Remarkably, Combs began doing just that, keeping track of how many pages and what he read each day. Eventually finding and reading productive material became second nature, a habit. As he began his investing career, he would read even more, hitting 600, 750, even 1,000 pages a day.Combs discovered that Buffett's formula worked, giving him more knowledge that helped him with what became his primary job — seeking the truth about potential investments.”</i><br />
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Let’s do a simple math here. Assuming the average number of words per page is 250, then 500 pages means 125,000 words. The amount of time it takes to read 100,000 words depends on your reading speed. I don’t know how fast <a href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett">Warren Buffett</a> reads but if I have to guess, I would say at least 1,000 words per minute, compared to the average of say 300 words per minutes. At 1,000 words per minute, it takes Buffett a little over 2 hours to read 500 pages whereas at 300 words per minute, it takes an average adult almost 7 hours to read 500 pages. This is based on the assumption that one actually reads 500 pages per day. Like Buffet said, all of us can do it, but not many of us will do it. Out of all the students Buffett talked to in Combs’ class, he is probably the only one who listened to Buffett’s advice and practiced the daily 500 pages drill. This is truly remarkable! No wonder Buffett eventually hired him as one of Berkshire’s investment managers.<br />
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I have been keeping track of the number of pages and what I read consistently since I got back from Omaha this year. With a very busy full time work schedule, I can only manage to read between 200-300 pages per day. This mostly includes books, annual reports, magazines, periodicals, articles, and industry surveys. Although 200-300 pages are nothing compared Combs and Buffett’s 1000 pages per day, I am starting to feel the power of compounding knowledge. The first time I read an annual report of a crude oil shipper, I have to spend so much time understanding the terms. I may still spend a good amount of time refreshing my memories on the shipping terms the second time I read it. By the time I read it for the third time, it may take me 70% less time and the knowledge applies to all other crude oil shippers. I know I am not a prodigy like Buffett so the process of repetition is inevitable. I think the key is to be consistent and persistent. My goal is to reach 500 pages per day in the next year or two.<br />
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Of course reading 500 pages every day almost sounds brutal. But as Albert Gray shrewdly observed in book The Common Denominator of Success, “The common denominator of success – the secret of success of every man who has ever been successful – lies in the fact that he formed the habit of doing things that failures don’t like to do.”<br />
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Combs did just that. As such, he rightly deserved the job offer from <a href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett">Warren Buffett</a>.Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com3tag:blogger.com,1999:blog-2219031865534260870.post-66882371660555314652013-12-17T19:13:00.001-08:002013-12-17T19:13:02.160-08:001998 - When Buy And Hold The Greatest Business Did Not Work<span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Here is a question: If you had bought equity ownership interests in the Coca-Cola Company on July 15th 1998, what would your return be for the next 13 years excluding dividends?</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Many readers may have guessed the answer: not much. In fact, the return from price appreciation is almost negligible if you bought KO at the high point in July 1998.</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">This is a discovery I was lucky enough to stumble on when speaking to Stephen Yacktman and Jason Subotky from Yacktman Asset Management.</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><a data-cke-saved-href="http://www.gurufocus.com/news/237005/yacktman-funds-interview--great-answers-from-great-investors" href="http://www.gurufocus.com/news/237005/yacktman-funds-interview--great-answers-from-great-investors" style="color: #0782c1; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">http://www.gurufocus.com/news/237005/yacktman-funds-interview--great-answers-from-great-investors</a><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Although I am not surprised by the fact that an investor could lose money in a wonderful business like Coca Cola, I have been pondering the implication of stagnant KO’s share price during that 13 year period. After all, Coca Cola probably has the widest moat among all wonderful businesses. We all know that </span><a data-cke-saved-href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett" href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett" style="color: #0782c1; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Warren Buffett</a><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> has repeatedly said “buying a wonderful business at a fair price is far better than a fair business at a wonderful price.” However, the Oracle did not disclose what his definition of fair price is. Obviously in this case, the market was not offering Coca Cola at a fair price during July 1998. And no one knows for sure what the exact fair price for Coca Cola was in 1997, but that’s probably out of my current circle of competence anyway. Instead, to practice reverse thinking advocated by Charlie Munger, I would like to analyze the reasons why one should not buy Coca Cola during July 1998.</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Let’s look at the reported numbers first. Here is the 5 year summary up until 1997. These are numbers from audited financial statements.</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><img data-cke-saved-src="http://userupload.gurufocus.com/392944255.jpg" src="http://userupload.gurufocus.com/392944255.jpg" style="color: #333333; cursor: default; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">The average closing price for Coca Cola during July 1998 is about $85 per share. Assuming an investor purchased KO at the average closing price, he or she was paying a hefty 51 times unadjusted earnings. And if we refresh our memories from the Yachtman Asset Management interview, Jason and Stephen had said that the earnings in 1997 were of lower quality compared to previous years. Shrewd readers may have already observed from the above table, 1996 and 1997 earnings include unusually large other incomes. A careful read of the 1997 annual form 10k shows that these are mostly made up of gain on sales of non-core assets and gain on issuance of stock by equity investees, both non-recurring in nature. The details are disclosed in the footnotes:</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><img data-cke-saved-src="http://userupload.gurufocus.com/300282206.jpg" src="http://userupload.gurufocus.com/300282206.jpg" style="color: #333333; cursor: default; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><img data-cke-saved-src="http://userupload.gurufocus.com/1637035390.jpg" src="http://userupload.gurufocus.com/1637035390.jpg" style="color: #333333; cursor: default; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Furthermore, the 1996 income tax rate includes a one-off settlement benefit that lowered the tax rate to 24% for 1996 only. Without this benefit, Coke’s 1996 income tax rate should have been 31%. This is also disclosed in the footnote:</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><img data-cke-saved-src="http://userupload.gurufocus.com/1343664280.jpg" src="http://userupload.gurufocus.com/1343664280.jpg" style="color: #333333; cursor: default; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">After adjusting for the non-recurring items and tax rates, Coca Cola’s earnings in 1996 and 1997 are much worse than they appear to be. The following table summarizes the result of the adjustments.</span><br />
<table class=" cke_show_border" style="border: 1px dotted rgb(211, 211, 211); color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"><tbody>
<tr><td style="border: 1px dotted rgb(211, 211, 211);"><br /></td><td style="border: 1px dotted rgb(211, 211, 211);">1996</td><td style="border: 1px dotted rgb(211, 211, 211);">1997</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Reported Pre Tax Income</td><td style="border: 1px dotted rgb(211, 211, 211);">$ 4,596.00</td><td style="border: 1px dotted rgb(211, 211, 211);">$ 6,055.00</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjustments for Non-Recurring Item -<br />Gain on Sales of Non-Core Assets</td><td style="border: 1px dotted rgb(211, 211, 211);"><br /></td><td style="border: 1px dotted rgb(211, 211, 211);"> (508.00)</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjustments for Non-Recurring Item -<br />Gain on Issuance of Stock by Equity Investee</td><td style="border: 1px dotted rgb(211, 211, 211);"> (413.00)</td><td style="border: 1px dotted rgb(211, 211, 211);"> (343.00)</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjusted Pre Tax Income</td><td style="border: 1px dotted rgb(211, 211, 211);"> 4,183.00</td><td style="border: 1px dotted rgb(211, 211, 211);"> 5,204.00</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjusted Tax Rate</td><td style="border: 1px dotted rgb(211, 211, 211);"> 31%</td><td style="border: 1px dotted rgb(211, 211, 211);"> 31.80%</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjusted Net Income</td><td style="border: 1px dotted rgb(211, 211, 211);">$ 2,886.27</td><td style="border: 1px dotted rgb(211, 211, 211);">$ 3,549.13</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Shares Outstanding- Diluted</td><td style="border: 1px dotted rgb(211, 211, 211);"> 2,523</td><td style="border: 1px dotted rgb(211, 211, 211);"> 2,515</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Adjusted Diluted EPS</td><td style="border: 1px dotted rgb(211, 211, 211);"> $ 1.14</td><td style="border: 1px dotted rgb(211, 211, 211);"> $ 1.41</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Reported Diluted EPS</td><td style="border: 1px dotted rgb(211, 211, 211);"> $ 1.40</td><td style="border: 1px dotted rgb(211, 211, 211);"> $ 1.67</td></tr>
<tr><td style="border: 1px dotted rgb(211, 211, 211);">Difference%</td><td style="border: 1px dotted rgb(211, 211, 211);"> -18%</td><td style="border: 1px dotted rgb(211, 211, 211);"> -15%</td></tr>
</tbody></table>
<span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">If we use the adjusted EPS for 1997, Coca Cola was trading at more than 60 times trailing 12 months' earnings at $85 per share. This is almost priced into perfection. </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Out of curiosity, I pulled a few sell side analyst reports on Coca Cola from June 1998 to July 1998. Not surprisingly, almost all the analyst reports have buy ratings on KO:</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><em style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">“Our 12-month target price range is of $88-90. We feel that it is important to note that our confidence and conviction in The Coca-Cola business model and its long-term growth opportunities have never been stronger.”</em><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> -July 1998 Donaldson, Lufkin & Jenrette Analyst Report</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><em style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">“The long-term story for Coke remains a very strong one. Coke appears capable of achieving a high-teens rate of EPS growth longer term, driven by 8-10% annual volume growth overseas, a 5% increase in weighted concentrate price overseas, a 2-3 percentage point increase in volume driven unit profitability, and continued share repurchase (another 1-2 percentage points). Our 12-month target price for Coke is $90. Coke’s P/E multiple is at approximately 47x this year’s earnings, and holding that multiple would result in a $90 price by next year.” </em><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">–June 1998 Paine Webber Analyst Report</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><em style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">"We continue to believe KO shares could trade to the $85–86 level over that next 12–18 months, or at roughly 46–47 times our 1999 EPS estimate of $1.84."</em><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> - June Morgan Stanley Analyst Report</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">None of the analyst report I read adjusted 1997’s earnings for the non-recurring items, let along the 1996 earnings for the tax rate effect. Interestingly enough, almost all the analyst whose reports I read did a good job compiling the fundamental information and business updates of Coca Cola. It is the almost-ridiculous multiples they used and the EPS figure that left unadjusted that reflect poor and shallow thinking, albeit likely caused by institutional imperative.</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Now I have a much better understanding of the situation of Coke in 1998. Low quality earnings combined with a high multiple and human euphoria created a classic example of “don’t just buy a wonderful business and hold it.” </span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">The lesson is pretty clear. History rhymes. There are a few times in Coca Cola’s history where an investor can get stuck with a stagnant stock price for an extended period of time. Human nature guarantees that this will be a repeating theme in the future as well. How to avoid the mistake of paying too much for a wonderful business? Fortunately, </span><a data-cke-saved-href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett" href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett" style="color: #0782c1; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">Warren Buffett</a><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;"> has laid out the ground rule for us:</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful.”</span><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><br style="color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;" /><span style="background-color: white; color: #333333; font-family: sans-serif, Arial, Verdana, 'Trebuchet MS'; font-size: 13px; line-height: 20.796875px;">And I have nothing to add.</span>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-20034132283298399022013-12-12T07:59:00.000-08:002013-12-12T07:59:36.291-08:00Revisit The Buffett Partnership In 1957, 1960, 1962 And 1966 - After ThoughtsAlthough I have read Buffett’s early partnership letters a few times, I had never really done the “behind the scene” research prior to embarking on this journey. After all, the Oracle has certainly made it look like it was not that hard to beat the Dow. By now, it is safe to say that his writings have vastly understated the amount of effort he spent on each investment, either intentionally or by accident.<br /><br />Now, I have a confession to make: I had originally started writing this article series a few months ago. I was not expecting this to be an easy task but certainly did not think it would be too hard either. However, after hours and hours of frustration, I was still stuck with the very first part because neither could I find the definitive evidence why Buffett thought the market was “priced above its intrinsic” value in 1956 nor did I have the slightest idea on how did he achieved the results in 1957. Therefore, the project was put on hold and almost obliterated. I was going to miss out on some great learning opportunity just because it might also be too hard.<br /><br />Fortunately, I decided to carry on, and this was without a doubt one of the best investment decisions I have ever made.<br /><br />Although it is clear to me that his record running the partnership is almost impossible to replicate, I have learned tremendously just by doing the research and reverse engineering his decision making. In this epilogue, I want to share with the readers my personal favorites. As a relatively inexperienced value investor, I had thought Buffett bought cigar butts type of investments in his early career and passively waited until they reached their fair value. This has been proved to be a ridiculously naïve and ignorant assessment. Buffett was not a passive investor when it comes to cigar butts. He would keep buying the stock as long as it continued to be a cigar butt. If the price rose, he would sell out for a profit. But if the price did not rise, he would accumulate enough shares to gain control of the company so he could liquidate its assets. He was essentially a liquidator-type of activist. This approach has worked out well with him, although it did come with a lot of pain, especially in the case of Dempster Mills.<br /><br />I see many amateur investors enamored by the cigar butts approach by buying companies on a purely quantitative basis. This could work out well and there is a sound logic behind it:<br /><br /><i>“By buying assets at a bargain price, we don't need to pull any rabbits out of a hat to get extremely good percentage gains. This is the cornerstone of our investment philosophy: ‘Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results. The better sales will be the frosting on the cake.’”</i> - 1962 Letter <br /><br />This may be a very controversial opinion, but I think for small investors, a pure cigar butts approach will likely to yield unsatisfactory results. There are two main reasons for this. First of all, the value of the cigar butt business is often decreasing day by day, week by week. Such is the case for Dempster Mill and Berkshire Hathaway. Without dramatic changes, both businesses were facing the possibility of going bankruptcy. Secondly, when you invest in a cigar butt, you never know how long will your money be tied up for. Such is the case for Sanborn Map and National American. National American was dirt cheap, yet the farmers who held the shares had seen their shares stagnant for more than 10 years. Sanborn Map was even cheaper. However, had Buffett not gained a controlling position, those directors may keep smoking cigars at the board meeting and leave the shareholders helplessly disgruntled. Buffett’s cigar butt approach is different in that he can actually liquidate the assets to realize value, something a small investor is not able to do.<br /><br />The above discussion leads to my next favorite part of this article series:<br /><br /><i> “Interestingly enough, although I consider myself to be primarily in the quantitative school (and as I write this no one has come back from recess - I may be the only one left in the class), the really sensational ideas I have had over the years have been heavily weighted toward the qualitative side where I have had a "high-probability insight". This is what causes the cash register to really sing. However, it is an infrequent occurrence, as insights usually are, and, of course, no insight is required on the quantitative side - the figures should hit you over the head with a baseball bat. So the really big money tends to be made by investors who are right on qualitative decisions but, at least in my opinion, the more sure money tends to be made on the obvious quantitative decisions.</i>” – 1967 Letter<br /><br />The big money is made by buying wonderful businesses at wonderful prices. The investments that made Buffett big fortunes — GEICO, American Express, Coke Cola, Washington Post and See’s Candy — all fall under this category.<br /><br />This approach sounds too good and too obvious to be true. In theory it may be easy, but in practice it is hard. The easy part is to diligently build up the knowledge base of as many wonderful businesses as one can. This takes time and effort but will prepare an investor when opportunities come. The hard part, which arguably cannot be learned, is to have the right temperament. Buying on the way down when temporary problems happen so fast and furious is almost against human nature. One need both the knowledge-based conviction and the innate fortitude.<br /><br />My own experiences have reinforced the merits of this approach. At least I have never lost any money buying wonderful businesses, and my biggest winners were mostly wonderful businesses bought at wonderful prices.<br /><br /><div>
In the end, I want to thank Mr. Buffett for the wonderful lessons he has imparted through his ageless writings. I hope the readers find this article series somewhat helpful.<div class="MsoNormal">
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Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-60599580611810269102013-12-12T07:54:00.002-08:002013-12-12T07:54:14.249-08:00 Revisit The Buffett Partnership In 1957, 1960, 1962 And 1966 - Part IV<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The Buffett Partnership had its 10th anniversary in 1966, a year during which the Dow had declined 15.6% whereas the partnership gained 20.4% and the limited partners gained 16.8%. This year also set the record relative performance for the Buffett Partnership since its inception with an astounding 36% outperformance for the partnership and a 32.4% outperformance for the limited partners.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Let’s take another look at Buffett’s spectacular performance from 1957 to 1966:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><img class="ad160" src="http://userupload.gurufocus.com/704487572.jpg" style="background-color: white; border: 0px; font-family: Arial, Helletica, sans-serif; font-size: 14px; height: auto; line-height: 21px; max-width: 600px; text-align: center; width: auto;" /><a class="article_img_link date" href="http://userupload.gurufocus.com/704487572.jpg" imgsrc="http://userupload.gurufocus.com/704487572.jpg" style="background-color: white; color: grey; display: block; font-family: Arial, Helletica, sans-serif; font-size: 0.8em; line-height: 21px; text-align: center; text-decoration: none;" target="_blank">[ Enlarge Image ]</a><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The Dow, since the 1962 decline, had advanced significantly by the end of 1965. Accompanying the advance in the market is the diminished number of undervalued securities. Furthermore, by the end of 1965, the Buffett Partnership has reached a size that the Sanborn Maps and the Dempster Mills would not have that much of an impact on the returns. Buffett admitted that he had a harder time finding bargains through the mid-1960s in his 1966 letter:</span><br />
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<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Although the amount of opportunities have shrunk over time, Buffett did not sit on cash. Instead, the partnership was again very concentrated with a few positions making up of about more than half of the portfolio. One was disclosed in the 1966 first half letter - Hochschild Kohn. Here is what Buffett wrote in the first half 1966 letter.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“During the first half (of 1966) we, and two 10% partners, purchased all of the stock of Hochschild, Kohn & Co., a privately owned Baltimore department store. This is the first time in the history of the Partnership that an entire business has been purchased by negotiation, although we have, from time to time, negotiated purchase of specific important blocks of marketable securities. However, no new principles are involved. The quantitative and qualitative aspects of the business are evaluated and weighed against price, both on an absolute basis and relative to other investment opportunities. HK (learn to call it that - I didn't find out how to pronounce it until the deal was concluded) stacks up fine in all respects.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">We have topnotch people (both from a personal and business standpoint) handling the operation. Despite the edge that my extensive 75 cents an hour experience at the Penney's store in Omaha some years back gives us (I became an authority on the Minimum Wage Act), they will continue to run the business as in the past. Even if the price had been cheaper but the management had been run-of-the-mill, we would not have bought the business.”</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">From the above language, it appears that HK was more like a cigar butt-type investment, but it was not as cheap as Dempster Mills because at the time of the purchase, “both quantitative and qualitative aspects of the business were evaluated and weighted against price.” HK was, to quote Buffett, a "second class department store at a third class price.” So this seems like a fair business at a wonderful price. He ended up roughly breaking even for this investment three years later.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Another large position in Buffett’s portfolio was Berkshire Hathaway. He took control of Berkshire in 1965, and it was also a fair business at a wonderful price. As the textile business kept deteriorating, so did Berkshire’s business value. Although Buffett may have paid a wonderful price for Berkshire, the return on investment was likely not satisfactory. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">At this point we may wonder if Berkshire Hathaway and Hochschild Kohn were mediocre investments to say the best, how did Buffett achieve the superior return in 1966? Buffett analysis of 1966 results gave me some clue.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><img class="ad160" src="http://userupload.gurufocus.com/1695663563.jpg" style="background-color: white; border: 0px; font-family: Arial, Helletica, sans-serif; font-size: 14px; height: auto; line-height: 21px; max-width: 600px; text-align: center; width: auto;" /><a class="article_img_link date" href="http://userupload.gurufocus.com/1695663563.jpg" imgsrc="http://userupload.gurufocus.com/1695663563.jpg" style="background-color: white; color: grey; display: block; font-family: Arial, Helletica, sans-serif; font-size: 0.8em; line-height: 21px; text-align: center; text-decoration: none;" target="_blank">[ Enlarge Image ]</a><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The controls category (mostly Berkshire and HK) and the workouts category had a decent year, but the big gain was made in the generals – Generals - Relatively Undervalued. This comes as a surprise as in 1957, 1960 and 1962, it was the controls or the workout category that contributed the most to Buffett’s outperformance. The Generals - Relatively Undervalued category tends to correlate with the market performance.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Buffett did not disclose the investments in the Generals - Relatively Undervalued category in the letter, so a little guess work is required. Here is what he wrote:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“Our relative performance in this category was the best we have ever had - due to <strong>one holding</strong>which was our largest investment at yearend 1965 and also yearend 1966. This investment has substantially out-performed the general market for us during each year (1964, 1965, 1966) that we have held it. While any single year's performance can be quite erratic, we think the probabilities are highly favorable for superior future performance over a three or four year period. The attractiveness and relative certainty of this particular security are what caused me to introduce Ground Rule 7 in November, 1965 to allow individual holdings of up to 40% of our net assets. We spend considerable effort continuously evaluating every facet of the company and constantly testing our hypothesis that this security is superior to alternative investment choices. Such constant evaluation and comparison at shifting prices is absolutely essential to our investment operation.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">It would be much more pleasant (and indicate a more favorable future) to report that our results in the Generals -Relatively Undervalued category represented fifteen securities in ten industries, practically all of which outperformed the market. We simply don't have that many good ideas. As mentioned above, new ideas are continually measured against present ideas and we will not make shifts if the effect is to downgrade expectable performance. This policy has resulted in limited activity in recent years when we have felt so strongly about the relative merits of our largest holding. Such a condition has meant that realized gains have been a much smaller portion of total performance than in earlier years when the flow of good ideas was more substantial.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The sort of concentration we have in this category is bound to produce wide swings in short term performance –some, most certainly, unpleasant. There have already been some of these applicable to shorter time spans than I use in reporting to partners. This is one reason I think frequent reporting to be foolish and potentially misleading in a long term oriented business such as ours.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Personally, within the limits expressed in last year's letter on diversification, I am willing to trade the pains (forget about the pleasures) of substantial short term variance in exchange for maximization of long term performance. However, I am not willing to incur risk of substantial permanent capital loss in seeking to better long term performance. To be perfectly clear - under our policy of concentration of holdings, partners should be completely prepared for periods of substantial underperformance (far more likely in sharply rising markets) to offset the occasional over performance such as we have experienced in 1965 and 1966, and as a price we pay for hoped-for good long term performance.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">All this talk about the long pull has caused one partner to observe that “even five minutes is a long time if one's head is being held under water." This is the reason, of course, that we use borrowed money very sparingly in our operation. Average bank borrowings during 1966 were well under 10% of average net worth.</i><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"> </i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">One final word about the Generals - Relatively Undervalued category. In this section we also had an experience which helped results in 1966 but hurt our long term prospects. We had just one really important new idea in this category in 1966. Our purchasing started in late spring but had only come to about $1.6 million (it could be bought steadily but at only a moderate pace) when outside conditions drove the stock price up to a point where it was not relatively attractive. Though our overall gain was $728,141 on an average holding period of six and a half months in 1966, it would have been much more desirable had the stock done nothing for a long period of time while we accumulated a really substantial position.”</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">A little extra research reveals that this one holding is American Express (</span><a href="http://www.gurufocus.com/stock/AXP" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">AXP</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">). I will spare the readersthe excruciating details of the American Express story as many of us should be very familiar with what happened in 1964. Buffett loaded up American Express for the partnership at the depressed price and eventually made a $13 million bet which more than doubled in three years.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The other idea in 1966 that falls into the Generals – Relatively Undervalued category was the Walt Disney Company (</span><a href="http://www.gurufocus.com/stock/DIS" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">DIS</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">). Here is what Buffett told the Notre Dame students about the Walt Disney investment:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“We bought 5% of the Walt Disney Company in 1966. It cost us $4 million dollars. $80 million bucks was the valuation of the whole thing. 300 and some acres in Anaheim. The Pirate’s ride had just been put in. It cost $17 million bucks. The whole company was selling for $80 million. Mary Poppins had just come out. Mary Poppins made about $30 million that year, and seven years later you’re going to show it to kids the same age. It’s like having an oil well where all the oil seeps back in....in 1966 they had 220 pictures of one sort or another. They wrote them all down to zero – there were no residual values placed on the value of any Disney picture up through the ‘60s. So (you got all of this) for $80 million bucks, and you got Walt Disney to work for you. It was incredible. You didn’t have to be a genius to know that the Walt Disney company was worth more than $80 million. $17 million for the Pirate’s Ride. It’s unbelievable. But there it was. And the reason was, in 1966 people said, ‘Well, Mary Poppins is terrific this year, but they’re not going to have another Mary Poppins next year, so the earnings will be down.’ I don’t care if the earnings are down like that. You know you’ve still got Mary Poppins to throw out in seven more years…I mean there’s no better system than to have something where, essentially, you get a new crop every seven years and you get to charge more each time…I went out to see Walt Disney (he’d never heard of me; I was 35 years old). We sat down and he told me the whole plan for the company – he couldn’t have been a nicer guy. It was a joke. If he’d privately gone to some huge venture capitalist, or some major American corporation, if he’d been a private company, and said ‘I want you to buy into this’...they would have bought in based on a valuation of $300 or $400 million dollars. The very fact that it was just sitting there in the market every day convinced (people that $80 million was an appropriate valuation). Essentially, they ignored it because it was so familiar. But that happens periodically on Wall Street.”</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Buffett’s initial investment on Disney was 31 cents and he sold it for 48 cents for a quick gain.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Now it is clear that the big bucks in 1966 were made from buying two wonderful businesses at wonderful prices. Instead of going through the painful exercises as he did with Sanborn Map and Dempster Mill, Buffett just picked up American Express and Disney’s shares and decided to “sit on his ass” with equally satisfactory results. This is absolutely a much more enjoyable experience. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Buffett would later write to the partners that buying </span><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“the right company (with the right prospects, inherent industry conditions, management, etc.)” </i><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">means</span><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"> “the price will take care of itself…. This is what causes the cash register to really sing. However, it is an infrequent occurrence, as insights usually are, and of course, no insight is required on the quantitative side—the figures should hit you over the head with a baseball bat. So the really big money tends to be made by investors who are right on qualitative decisions.”</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Here goes the lesson from 1966: It is far better to buy a wonderful business at a fair price than to buy a fair business at a wonderful price. However, the best is to buy a wonderful business at a wonderful price!</span><br />
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Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-86706319366624110832013-12-12T07:52:00.004-08:002013-12-12T07:52:55.607-08:00Revisit Whe Buffett Partnership In 1957, 1960, 1962 And 1966 - Part III<div style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">
The year of 1962 marked another spectacular outperformance of the Buffett Partnership. The Dow was down 7.6% and the partnership was up 11.9%, resulting in a 19.5% out-performance.</div>
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If we recall from the prior articles, before the 1957 market decline, Buffett stated that the market was expensive:</div>
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<i>"My view of the general market level is that it is priced above intrinsic value. This view relates to blue-chip securities. This view, if accurate, carries with it the possibility of a substantial decline in all stock prices, both undervalued and other wise. In any event I think the probability is very slight that current market level will be thought of as cheap five years from now. Even a full-scale bear market, however, should not hurt the market value of our work-out substantially.”</i></div>
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Before the 1960 decline, he observed the divergence in the stock market:</div>
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<i>“The Dow-Jones Industrial Average, undoubtedly the most widely used index of stock market behavior, presented a somewhat <strong>faulty picture</strong> in 1959. This index recorded an advance from 583 to 679, or 16.4% for the year. When the dividends which would have been received through ownership of the average are added, an overall gain of 19.9% indicated for 1959.</i></div>
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<i>Despite this indication of a robust market, <strong>more stocks declined than advanced on the New York Stock Exchange during the year by a margin of 710 to 628</strong>. Both the Dow-Jones Railroad Average and Utility Average registered declines.”</i></div>
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However, in his 1961 letter, the Oracle did not make similar statements about the general market as he did in 1956 and 1959. Instead, he laid out his expectation in terms of annual returns of the Dow for the long term:</div>
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<i>“I think you can be quite sure that over the next ten years there are going to be a few years when the general market is plus 20% or 25%, a few when it is minus on the same order, and a majority when it is in between. I haven't any notion as to the sequence in which these will occur. Nor do I think it is of any great importance for the long-term investor.</i></div>
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<i>Over any long period of years, I think it likely that the Dow will probably produce something like 5% to 7% per year compounded from a combination of dividends and market value gain. Despite the experience of recent years, anyone expecting substantially better than that from the general market probably faces disappointment.”</i></div>
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If we use a 3% dividend rate for the Dow and strip that out from the 5% to 7% Buffett expected, his price return for the Dow in the long run was 2% to 4% per year, which was conservatively pessimistic. If we repeat the Shiller P/E exercise we did for 1957, we can see that the market was mildly expensive at the end of 1961 based on the Shiller P/E. Below is the table of the Shiller P/E of the S&P for 1960 and 1961:</div>
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</div>
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<table class="at" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); line-height: 14px; margin: 0px; vertical-align: middle;"><tbody>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Dec-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">22.04</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Nov-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">21.86</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Oct-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.92</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Sep-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.71</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Aug-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.94</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jul-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.15</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jun-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.33</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-May-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.6</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Apr-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">20.38</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Mar-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">19.84</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Feb-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">19.23</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jan-61</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">18.47</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Dec-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.56</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Nov-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.15</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Oct-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">16.61</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Sep-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.05</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Aug-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.58</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jul-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.38</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jun-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.82</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-May-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.26</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Apr-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.43</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Mar-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.29</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Feb-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">17.55</td></tr>
<tr><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">1-Jan-60</td><td class="positive" style="border-collapse: collapse; border: 1px solid rgb(153, 153, 153); font-size: 12px; padding: 3px; text-align: center; vertical-align: text-bottom;">18.34</td></tr>
</tbody></table>
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The decline in 1960 brought the Shiller P/E down to as low as 16.61. As the market advanced significantly in 1961, the Shiller P/E rose to 22 at the end of 1961, much higher than the historical average of 14.5 up to 1961.</div>
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Another indication that Buffett thinks that the market was not cheap comes from this video:</div>
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<iframe allowfullscreen="" frameborder="0" height="315" src="http://www.youtube.com/embed/REhg_bv7srM" width="420"></iframe></div>
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In this video, Buffett said although the stock market had been rising at a rather rapid rate for some time, corporate earnings and dividends had not been increasing. Therefore, a correction was expected.</div>
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Buffett’s portfolio, incidentally, included a position that was usually large just as it did in 1956 and 1959. This time, it was Dempster Mill, a windmills and water irrigation systems maker in Beatrice, Neb. To be clear, Buffett started purchasing the stocks of Dempster Mill back in 1958. It was a classic Graham-style cheap the stock had book value of $72 per share and price of $18 per share. Over the next few years, Buffett continued to accumulate shares at prices significantly below book value and eventually he owned 70% of the stock with another 10% held by a few associates by August 1961. At the end of 1961, Dempster Mill represented more than 20% of the Buffett Partnership’s portfolio. In his letter dated November 1962, Buffett mentioned that the outperformance up until Oct. 31 was about 40% due to Dempster Mill if valued at $50 per share. Although we can’t tell how much Dempster Mill contributed to 1962 full year’s outperformance, an educated guess would suggest a 40% to 50% range.</div>
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What happened next to Dempster Mill was very interesting. First of all, in the 1962 annual report, the Dempster Mill position was not valued using quoted prices. Instead, it was valued using Buffett’s own intrinsic value estimate, which is based on liquidation value. In today’s accounting lingo, this investment would be classified as a Level III asset, which means the value of the assets are estimated using unobservable inputs. Although $35 per share does look like a very conservative estimate of liquidation value, for a declining business, I doubt that Dempster Mill could be traded at $50 per share if it were listed on NYSE in today’s market environment.</div>
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The second interesting point about the Dempster Mill investment was that Buffett was in serious trouble with this investment at one point in 1962. This was skillfully depicted by Alice Schroeder in "Snowball":</div>
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<i>“Since Dempster was just another cigar butt, Warren applied his cigar-butt technique, which was to keep buying a stock as long as it continued to sell below book value. If the price rose for any reason, he could sell out at a profit. If it didn’t, and he ended up buying until he owned so much stock that he controlled the company, he could sell off—that is, liquidate—its assets at a profit.</i></div>
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<i>Buffett was looking at only a few months before it all caved in and he would have to report to the partners that a business into which he had sunk a million dollars of their money was broke. He tried to recruit his old Columbia friend Bob Dunn to leave his job at U.S. Steel, move to Beatrice, and run Dempster. Dunn actually made a trip out to Beatrice but in the end wasn’t interested. Buffett rarely asked advice, but finally that April he took the situation up with his friend Munger while he and Susie were visiting Los Angeles.</i></div>
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<i>‘We were going to dinner with the Grahams and the Mungers, Susie and I. We met them at the Captain’s Table on El Segundo in L.A. During the dinner, I’m telling Charlie, ‘I’m in this mess with this company; I’ve got this jerk running Dempster, and the inventories keep going up and up.’”</i></div>
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So the situation at Dempster Mill was awful and if the current manager kept messing up the company, it was likely that Dempster Mill would go bankruptcy eventually. Buffett had to talk to Munger and then hired a best turnaround expert to get out this mess at a very nice profit. The investment made a lot of money for his investors but it also got ugly in the end when everyone in Beatrice hated him</div>
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I don’t think small investors can replicate what Buffett did at Dempster Mill. Today we may call situations like this value traps and unless an investor can unlock the value by taking a controlled position, he is very unlikely to get the return Buffett got for Dempster Mill. But if there is one lesson we can learn from the Dempster Mill case, I think it is this:</div>
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<strong>By buying assets at a bargain price, we don't need to pull any rabbits out of a hat to get extremely good percentage gains. This is the cornerstone of our investment philosophy: “Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results. The better sales will be the frosting on the cake.”</strong></div>
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The last point I noted in the 1962 letter was a short position. It may not be material to Buffett’s outstanding relative performance against the Dow, but he had a short position about 4% to 5% of the beginning assets under management. Most of this occurred in conjunction with a work-out situation. In his words, “The short sales eliminated the general market risk related to that situation.”</div>
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To be continued…</div>
Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-19710299065817043682013-12-12T07:51:00.000-08:002013-12-12T07:51:07.520-08:00Revisit The Buffett Partnership In 1957, 1960, 1962 And 1966 - Part II<div style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">
In my previous article, I analyzed how <a href="http://www.gurufocus.com/StockBuy.php?GuruName=Warren+Buffett" style="color: #005790; text-decoration: none;">Warren Buffett</a> managed to outperform the Dow by 17.7% in 1957 when the Dow was down 8.4%. In this article, I will move on to the year of 1960. Here is the table of outperformance for reference purposes:</div>
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In 1960, the Dow declined 6.2% whereas the Buffett Partnership advanced 18.6%. The outperformance was a whopping 24.8%. Having been skeptical of the market’s advance in 1959, the Oracle wrote the following to his investors in the 1959 letter.</div>
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<i>“The Dow-Jones Industrial Average, undoubtedly the most widely used index of stock market behavior, presented a somewhat <strong>faulty picture</strong> in 1959. This index recorded an advance from 583 to 679, or 16.4% for the year. When the dividends which would have been received through ownership of the average are added, an overall gain of 19.9% indicated for 1959.</i></div>
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<i>Despite this indication of a robust market, <strong>more stocks declined than advanced on the New York Stock Exchange during the year by a margin of 710 to 628</strong>. Both the Dow-Jones Railroad Average and Utility Average registered declines.</i></div>
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<i>Most investment trusts had a difficult time in comparison with the Industrial Average. Tri-Continental Corp. the nation's largest closed-end investment company (total asset $400 million) had an overall gain of about 5.7% for the year.</i></div>
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<i>……</i></div>
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<i>Massachusetts Investors Trust, the country's largest mutual fund with assets of $1.5 billion showed an overall gain of about 9% for the year.</i></div>
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<i>Most of you know I have been very apprehensive about general stock market levels for several years. To date, this caution has been unnecessary. <strong>By previous standards, the present level of ‘blue chip’ security prices contains a substantial speculative component with a corresponding risk of loss</strong>. Perhaps other standards of valuation are evolving which will permanently replace the old standard. I don't think so. I may very well be wrong; however, I would rather sustain the penalties resulting from over-conservatism than face the consequences of error, perhaps with permanent capital loss, resulting from the adoption of a "New Era" philosophy where trees really do grow to the sky.</i></div>
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<i>To the extent possible, I continue to attempt to invest in situations at least partially insulated from the behavior of the general market.”</i></div>
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In this letter, Buffett shrewdly pointed out the divergence he observed: The Dow advanced 16.4% while more stocks declined than advanced on the NYSE during 1959. This divergence suggested that the advance was probably led by a small group of stocks, or in this case, very likely the “blue chip” securities. This divergence suggests another way that Buffett looks at the general market. It is widely known that one of his favorite metrics to use to value the general market is total cap as a percentage of GNP. However, by looking at the components that make up the exchange, we can also get a good sense of the market condition. In the case of 1959, the divergence observed by Buffett should serve as a cautious sign for investors.</div>
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I don’t know whether the portfolio allocation decision Buffett made leading up to 1960 was due to anticipation of a decline in the general market or not but at the end of 1959, there was a particularly large position that made up 35% of the portfolio. This is a workout that should be uncorrelated to the market movement.</div>
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<i>“Last year, I mentioned a new commitment which involved about 25% of assets of the various partnerships. Presently this investment is about 35% of assets. This is an unusually large percentage, but has been made for strong reasons. In effect, this company is partially an investment trust owing some thirty or forty other securities of high quality. Our investment was made and is carried at a substantial discount from asset value based on market value of their securities and a conservative appraisal of the operating business.”</i></div>
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<i><br /></i></div>
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As some of the readers know, this investment was Sanborn Map. The readers can get the details in the 1960 letter. Essentially, Sanborn Map is a stock that was trading around $45 per share and had an investment portfolio worth about $65 per share. Sanborn Map also had a declining, yet still profitable map business that was earning less than $100,000 or less than $1 per share (Sanborn had 105,000 shares outstanding).</div>
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To unlock the value of Sanborn Map, Buffett practiced what nowadays called activism, joined by his friends Walter Schloss, Fred Stanback and Henry Brandt. In the end, he purchased enough shares to effective take control of the company and Sanborn Map exchanged a portion of the investment portfolio for company shares. As part of the deal, the Buffett partnership tendered all their shares.</div>
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It is worth noting that the Sanborn Map investment is different from National American in that Sanborn Map’s business quality and earnings power were much worse than those of National American. However, Sanborn’s asset value provides better protection as the investment portfolio could be readily liquidated.</div>
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Although in both cases, Buffett made a lot of money for his investors, often overlooked was the amount of effort he put into both Sanborn Map and National American. In the case of National American, he and his partner Dan had to go to the countryside to first find out who may own the shares and then to ask every possible shareholder to sell them their shares. In the case of Sanborn Map, he almost went on a proxy fight in order to unlock the value.</div>
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<br /></div>
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Neither investment would turn out as good as they were if not for the tremendous amount of hard work Buffett put in. Many Buffett followers know that his early career involved buying cigar-butt type of companies, but I wonder how many of us think about the fact that he went extra miles by doing whatever he needed to do in order to take control of the companies he invested in so he could unlock the value. The classic Ben Graham approach, combined with his determination and persistence, contributed to his early successes.</div>
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To be continued.</div>
Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com4tag:blogger.com,1999:blog-2219031865534260870.post-49480934519258548562013-12-06T14:38:00.001-08:002013-12-06T14:38:27.252-08:00A Good Summary of Snowball<a href="http://valueprax.wordpress.com/2012/06/24/notes-the-snowball-by-alice-schroeder-part-iii-chap-20-33/">http://valueprax.wordpress.com/2012/06/24/notes-the-snowball-by-alice-schroeder-part-iii-chap-20-33/</a>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-34386335677785929082013-12-02T19:10:00.002-08:002013-12-02T19:38:26.462-08:00Revisit Buffett Partnership in 1957,1960,1962 and 1966 - Part I<i>"Rule No.1: Never lose money. Rule No.2 : Never forget rule No.1."</i><br />
<i> Warren E. Buffett</i><br />
<br />
<i></i>Every serious value investor is aware of the above famous rules from the Oracle of Omaha. These two seemingly simple rules require considerably more than mere memorization. In practice, never lose money is almost impractical, especially in a full-blown bear market. No one does a better job than the rule setter himself in achieving the above goals. So when reading through Warren Buffett's letters to partners from 1957 to 1969 again, I set up the goal to analyze how did Mr. Buffett generate gains during the down years in 1957,1960,1962 and 1966.<br />
<br />
First of all, let's take a look at the performances of the Buffett Partnership during the down years against the Dow. Below is the performance of the Dow Jones and the Buffett Partnership during the aforementioned periods:<br />
<br />
Dow BP Out-performance<br />
1957: -8.4% 9.3% 17.7%<br />
1960: -6.2% 18.6% 24.8%<br />
1962:-7.6% 11.9% 19.5%<br />
1966:-15.6% 16.8% 32.4%<br />
<br />
In all 4 years, the Dow suffered from mild to severe declines while the Buffett Partnership generated gains. The out-performance is nothing short of spectacular. In order to analyze how Mr. Buffett achieved the above results, I read the annual letters of these 4 years, the preceding years if available(1956, 1959,1961 and 1965) as well as the succeeding years (1958, 1961, 1963 and 1967). I also read <i>Snowball </i>by Alice Schroeder for supplemental information if needed.<br />
<br />
This article series will start with the year of 1957. Here is an excerpt from the 1956 letter that explains his view of the general market of 1957:<br />
<br />
"My view of the general market level is that it is priced above intrinsic value. This view relates to blue-chip securities. This view, if accurate, carries with it the possibility of a substantial decline in all stock prices, both undervalued and other wise. In any event I think the probability is very slight that current market level will be thought of as cheap five years from now. Even a full-scale bear market, however, should not hurt the market value of our work-out substantially."<br />
<br />
With this view that the market is priced above intrinsic value, Buffett's adjusted the ratio of general issues and work-outs to 70-30, meaning that 30% of his portfolio should not be impacted by market moves. Naturally one may ponder how did Buffett come to the view that the market is priced above intrinsic value. In order to answer that question, ideally one should find the market cap as a percentage of GNP for the year 1956 because that is Buffett's favorite metric to use when valuing the overall market. However, I was not able to find such data for 1956. As an alternative, I gathered the Shiller P/E information for the S&P index until 1956. Assuming the data I gathered is correct, the pre-1956 average Shiller P/E for the S&P is just over 14 times. Here is the monthly Shiller P/E ratio for 1956:<br />
<br />
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<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Dec-56<o:p></o:p></span></div>
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<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">17.2<o:p></o:p></span></div>
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<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Nov-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">17.1<o:p></o:p></span></div>
</td>
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<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Oct-56<o:p></o:p></span></div>
</td>
<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">17.4<o:p></o:p></span></div>
</td>
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<tr style="height: 15.0pt; mso-yfti-irow: 3;">
<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Sep-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">17.8<o:p></o:p></span></div>
</td>
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<tr style="height: 15.0pt; mso-yfti-irow: 4;">
<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Aug-56<o:p></o:p></span></div>
</td>
<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.7<o:p></o:p></span></div>
</td>
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<tr style="height: 15.0pt; mso-yfti-irow: 5;">
<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Jul-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.9<o:p></o:p></span></div>
</td>
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<tr style="height: 15.0pt; mso-yfti-irow: 6;">
<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Jun-56<o:p></o:p></span></div>
</td>
<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.2<o:p></o:p></span></div>
</td>
</tr>
<tr style="height: 15.0pt; mso-yfti-irow: 7;">
<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-May-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.5<o:p></o:p></span></div>
</td>
</tr>
<tr style="height: 15.0pt; mso-yfti-irow: 8;">
<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Apr-56<o:p></o:p></span></div>
</td>
<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">19.4<o:p></o:p></span></div>
</td>
</tr>
<tr style="height: 15.0pt; mso-yfti-irow: 9;">
<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Mar-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">19.4<o:p></o:p></span></div>
</td>
</tr>
<tr style="height: 15.0pt; mso-yfti-irow: 10;">
<td style="background: white; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Feb-56<o:p></o:p></span></div>
</td>
<td style="background: white; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.3<o:p></o:p></span></div>
</td>
</tr>
<tr style="height: 15.0pt; mso-yfti-irow: 11; mso-yfti-lastrow: yes;">
<td style="background: #F4F4F4; border-bottom: none; border-left: solid #D7D7D7 1.0pt; border-right: solid white 1.0pt; border-top: none; height: 15.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 101.0pt;" width="135"><div align="right" class="MsoNormal" style="margin-bottom: 0.0001pt; text-align: right; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">1-Jan-56<o:p></o:p></span></div>
</td>
<td style="background: #F4F4F4; border-right: solid #D7D7D7 1.0pt; border: none; height: 15.0pt; mso-border-left-alt: solid #EAEAEA 1.0pt; padding: 0in 5.4pt 0in 5.4pt; width: 48.0pt;" width="64"><div class="MsoNormal" style="margin-bottom: 0.0001pt; text-indent: 12pt;">
<span style="color: #111111; font-family: "Inherit","serif"; font-size: 12.0pt; mso-bidi-font-family: Calibri; mso-fareast-font-family: "Times New Roman";">18.3<o:p></o:p></span></div>
</td>
</tr>
</tbody></table>
<br />
On average, S&P had a Shiller P/E of 18.3 during 1956. Although based on the ratio itself, the market was not terribly expensive, the ratio was still much higher than the pre-1956 historical average of a little over 14 times.<br />
<br />
Now that we know the market was expensive, what stocks did Mr.Buffett buy during 1956 and 1957? I could not find the answer I wanted in the 1957 letter to partners. However, a careful read of Chapter 22 of the <i>Snowball </i>by Alice Schroeder reveals that at least one of the stocks he bought was National American.<br />
According to Ms. Schroeder, this is the story between the Oracle and National American.<br />
<br />
<div class="MsoNormal" style="margin-bottom: 0.0001pt;">
<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>"Monen had
joined Warren on a personal side project that he had been pursuing for some time:
buying the stock of an Omaha-based insurer, National American Fire Insurance.
This company’s worthless stock had been sold to farmers all over Nebraska in
1919 by unscrupulous promoters in exchange for the Liberty Bonds issued during
World War I. Since then, its certificates had lain crumbling in drawers, while
their owners gradually lost hope of ever seeing their money again.<o:p></o:p></i></span></div>
<div class="MsoNormal" style="margin-bottom: 0.0001pt;">
<br /></div>
<div class="MsoNormal" style="margin-bottom: 0.0001pt;">
<i><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">Warren had
discovered National American while working at Buffett-Falk, flipping through
the </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">Moody’s Manual.</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><o:p></o:p></span></i></div>
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<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>The
company was headquartered only a block away from his father’s office. William
Ahmanson, a prominent Omaha insurance agent, had originally been sucked into it
unawares, set up as a local front man for what had started out as a fraud. But
the Ahmanson family had gradually turned it into a legitimate company. Now,
Howard Ahmanson, William’s son, was feeding top-drawer insurance business into
National </i></span><i style="font-family: TTE18FEBE0t00; font-size: 11.5pt;">American
through Home Savings of America, a company he had founded in California, which
was becoming one of the largest and most successful savings-and-loan companies
in the United States?</i></div>
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<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>The
defrauded farmers had no idea that their moldering paper was now worth
something. Howard had been quietly buying the stock back from them on the cheap
for years through his younger brother Hayden, who ran National American. By now
the Ahmansons owned seventy percent of the company.<o:p></o:p></i></span></div>
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<i><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">Warren
admired Howard Ahmanson.'</span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">Nobody else was quite as audacious at
managing capital as Howard Ahmanson. He was very shrewd in a lot of ways.
Formerly, a lot of people came in to Home Savings and paid their mortgages in
person. Howard put the mortgage at the farthest branch away from where you
lived so that you paid by mail and didn’t spend half an hour of one of his guys’
time telling them about your kids. Everybody else had been to see It’s a
Wonderful Life and felt that you should do this Jimmy Stewart stuff, but Howard
didn’t want to see his customers. His operating costs were way under anybody
else’s.'<o:p></o:p></span></i></div>
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<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>National
American was earning $29 per share, and Howard’s brother Hayden was buying its
stock for around $30 per share. Thus, as with the rarest and most attractive of
the cheap stocks that Warren stalked, the Ahmansons could pay virtually the
entire cost of buying a share of stock out of one year’s profits from that single
share. National American was the cheapest stock Warren had ever seen—except for
Western Insurance. And it was a nice little company, too, not a soggy cigar
butt.<o:p></o:p></i></span></div>
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<span style="font-family: TTE1705910t00;"><i><span style="font-size: 11.5pt;">'I tried
to buy the stock for a long time. But none of it was getting to me, because
there was a security dealer in town and Hayden had given this guy the
shareholders list. This stockbroker—he regarded me as a punk kid. But he had
the list. And I </span><span style="font-size: 15px;">didn't</span><span style="font-size: 11.5pt;"> have the list. So he was buying the stock at thirty for
Hayden’s account.'<o:p></o:p></span></i></span></div>
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<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>Cash on
the barrel from Hayden Ahmanson sounded good to some of the farmers compared to
their worthless certificates. Though they had paid around $100 per share many
years before and were only receiving $30, many of them had gradually convinced
themselves that they were better off without the stock.<o:p></o:p></i></span></div>
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<i><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">Warren was
determined. '</span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">I looked it up in some insurance book or
something. If you went back to the twenties you could see who were the
directors. They made some of these bigger stockholders the directors from the
towns they worked the hardest for sales. There was a town called Ewing,
Nebraska, which has got no population at all. But somebody sold a lot of stock
out there. And that’s how they probably got the local banker on the board
thirty-five years earlier.'<o:p></o:p></span></i></div>
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<i><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">So Dan
Monen, Warren’s partner and proxy, went off to the countryside carrying wads of
Warren’s money and some of his own. He cruised around the state in a
red-and-white Chevrolet, showing up in rural county courthouses and banks,
casually asking who might own shares of National American.</span><span style="font-family: TTE18FEBE0t00; font-size: 9.5pt; mso-bidi-font-family: TTE18FEBE0t00;">26
</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">He sat on front porches, drinking iced tea, eating pie with
farmers and their wives, and offering cash for their stock certificates.</span><span style="font-family: TTE18FEBE0t00; font-size: 9.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><o:p></o:p></span></i></div>
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<span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;"><i>'I didn’t
want Howard to know because I was topping his price. He had been picking it off
at thirty bucks, and I’d had to raise the price some. The shareholders had been
listening for probably ten years at thirty bucks, so it was the first time the
price moved.'<o:p></o:p></i></span></div>
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<span style="font-family: TTE18FEBE0t00;"><i><span style="font-size: 11.5pt;">The first
year Warren paid $35 each for five shares of the stock. The farmers’ ears
pricked up. Now they realized that buyers were competing for the stock; they
began to think maybe they </span><span style="font-size: 15px;">weren't</span><span style="font-size: 11.5pt;"> better off without it. The price had to keep
moving up.<o:p></o:p></span></i></span></div>
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<i><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">'Finally,
toward the end, I paid a hundred. That was the magic</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">
</span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">number, because it was what they’d paid in the first place. A
hundred bucks, I knew, would bring out all the</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"> </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">stock.
And sure enough, one guy came in when Dan Monen was doing this and he said, ‘We
bought this like</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"> </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">sheep, and we’re
selling it like sheep.’</span></i></div>
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<i><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;">That they
were. Many had sold at less than three times the $29 a year the company was
earning. Monen eventually accumulated two thousand shares, ten percent of
National American’s stock. Warren kept it in the original shareholders’ names,
with a power of attorney attached that gave him control, rather than transferring
it into his name. '</span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">That would have tipped Howard off to the
fact that I was out there competing</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"> </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">with
him. He didn’t know. Or, if he did, he had insufficient information. I just
kept collecting shares. Then,</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"> </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">the
day I walked into Hayden’s office, I plopped them all down and said I wanted to
transfer them to my</span><span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"> </span><span style="font-family: TTE1705910t00; font-size: 11.5pt; mso-bidi-font-family: TTE1705910t00;">name. And he
said, ‘My brother’s going to kill me.’ But in the end, he transferred the
stock.'</span></i></div>
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<span style="font-family: TTE18FEBE0t00; font-size: 11.5pt; mso-bidi-font-family: TTE18FEBE0t00;"><i>The
brainstorm behind Warren’s National American coup had been more than just the
price. He had learned the value of gathering as much as possible of something
scarce."</i></span><o:p></o:p></div>
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<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Here we have a high quality insurance company whose stocks are very illiquid. The stock price has basically not moved in 10 years. We have a manager who is very shrewd at capital allocation. We also have some hidden assets value that requires more than sheer intelligence to discover. At first, Buffett tried buying around $35 a share, or a little more than 1 times earning and less than 30% of the book value. Eventually, he offered $100 a share or, 3.5 times earning per share and 75% of book value per share for a premium insurance company. I don't know the rate of return Mr. Buffett achieved for this investment but all the information above shapes up pretty well for a great investment. </span><br />
<br />
To be continued...Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-37059451897529034772013-11-19T15:30:00.002-08:002013-11-19T15:30:47.707-08:00Case Studies Of The Peter Cundill Investment Approach<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">I have not heard much about Peter Cundill before reading this wonderful book titled “There’s Always Something to Do,” masterfully written by Christopher Risso-Gill. However, after reading the book, I certainly wish I had known more about Mr. Cundill a lot earlier. The book offers a fantastic summary of “The Peter Cundill Investment Approach” and plenty of great examples to illustrate this approach. Peter Cundill excelled at finding bargains using the classic Benjamin Graham approach – a business is cheap if a careful analysis of a company's balance sheet reveals that the market price of the business is meaningfully lower than its intrinsic value. To better appreciate the beauty of Cundill’s approach to investing, I have compiled the following cases. It is my hope that the readers will find these cases informative and helpful. </span><br />
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<strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Case I- Credit Foncier Franco Canadien.</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">This is one of Cundill’s early investments that he sold for a multiple of his cost. Credit Foncier was, as he described it, “a treasure trove of wonderful assets.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Credit Foncier was founded by what is known today as Paribas, for the purpose of entering into the mortgage lending market in Quebec. It had become a major player in the Prairie Provinces (Alberta, Saskatchewan, Manitoba) as the area was being converted into one of the world’s greatest grain-producing expanses. Credit Foncier had been providing substantial financing to farmers and enterprises, and the profit it earned enabled it to acquire a significant commercial real estate portfolio in Eastern Canada. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Furthermore, during the crisis from the late 1920s to early 1930s, Credit Foncier foreclosed on many of the farmers but allowed them to remain tenants on very favorable rental terms. Therefore, Credit Foncier had become the owner of swathes of farmland, including the underlying mineral rights, and whenever the land had been sold, Credit Foncier was able to keep those mineral rights. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cundill also noted that “the accounting policies at Credit Foncier had remained ultra conservative, with the entire real estate portfolio carried on the balance sheet at book cost with no attempt to put a realistic value on the mineral rights.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">In Cundill’s assessment, neither the cash nor the real value of the assets was even remotely adequately reflected in the share price. Furthermore, Credit Foncier </span><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">had been consistently profitable and paying dividends for many years. </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"></span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cundill’s estimate of liquidation value appeared to be in excess of $150 value per share while Credit Foncier’s stock was trading at around $43 per share. Cundill loaded up on Credit Foncier’s shares after his analysis. Credit Foncier turned out to be a multi-bagger. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways: </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Balance sheet vastly underestimated the true value of assets. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Market price was significantly lower than the reasonably estimated liquidation value. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· The company had been consistently profitable and paying dividends for many years. </span><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><br /><br /><u>Case II – J. Walter Thompson</u><br /></i></strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">J.Walter Thompson (JWT) is a household name in the advertising industry. During the recession of the 1970s, the advertising industry was hit hard more than most other industries with “sharply falling revenues, much publicized redundancies, and gloomy predictions that the market would never fully recover and margins would be squeezed for years to come. “</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">JWT went public in 1972 at more than $20 per share. As the result of both the recession and the added negativity that H.R.Haldeman, President Nixon’s ex-chief of staff, who had been previously head of JWT’s LA office, had recently been imprisoned for his part in the Watergate Conspiracy, JWT’s stock sank to around $4.00 per share. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cundill scrutinizes JWT’s 10-K and discovered that the company “had a hard book value of $18 per share, not including its freehold building in Paris and Tokyo, and had a long-term lease in Berkeley Square at the heart of London’s Mayfair.” Furthermore, JWT was </span><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">still profitable and was paying a dividend. </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"></span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cundill started accumulating JWT’s shares until it reached to 10% of the assets of the fund with the average cost of just over $8 per share. A year later, he sold his position at well over $20 per share.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways: </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Great business franchise hit hard by recession and temporary negativity.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Hidden assets value not reflected on balance sheet. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Market price was significantly lower than the reasonably estimated liquidation value. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· The company had been consistently profitable and paying dividends.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Case III - Tiffany and Co</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Tiffany and Co is the iconic luxury jeweler and silversmith. In the 1970s, the perception of Tiffany turned negative for two reasons. “First, because Tiffany had lost money for several years in the 1930s, when luxury goods had been neither fashionable nor generally affordable, there was a consensus that the 1970s were likely to see a repeat of this so luxury brands were definitely out of favor. Second, Tiffany’s equity was controlled by Walter Hoving, its CEO, who, although recognized as a talented and energetic manager with real creative flair, had roundly declared in public that he would never ever sell."</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Tiffany’s revenue and profits had also grown steadily through the recession period with net income crossing over the $1 million mark for the first time ever in 1974. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“For Peter, </span><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">the clincher in making an investment decision would always be the value of the net assets and in Tiffany’s case there were plenty to choose from. </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The most obvious and high profile one was a massive 128.5 carat canary-coloured Tiffany Diamond carried on the books for $1.00 although it was widely known that the company had recently turned down an offer of $2 million for it. Furthermore, Tiffany’s freehold of the Fifth Avenue store was sitting on the book at $1 million since 1940. On top of this, there was a factory of 120,000 square feet in Newark and a very conservative valuation placed on the inventory of the retail stock.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Tiffany’s shares were trading below book value of $10.5 per share and in Cundill’s judgment well below the company’s realistic liquidation value. Cundill accumulated Tiffany’s share at an average of $8.00 per share. Within a year, he sold his entire position at $19.00. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· An iconic luxury brand with growing revenues and profits suffered from negative perceptions. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Value of prestigious hard assets underestimated on the balance sheet.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Market price well below realistic liquidation value. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Case IV – Cleveland Cliffs</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cleveland Cliffs was the largest supplier of iron ore pellets in North America. The periods following the recessions of 1981-83 were harsh ones for the iron ore industry. In response Cleveland-Cliffs shrank its operations. It had a series of joint venture investments that could not be regarded as liquid assets. Book value had declined from $30 to $22 while stock price had declined from $40 to $18. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Upon examination, Cundill found out about a power plant in Michigan that was carried on the balance sheet at a negligible value. He was not sure how much this power plan was worth so he called two of his friends to visit the plants. Both friends reported back to Peter that the plant was worth “a lot of money.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">What’s interesting about the Cleveland Cliffs case is that after Cundill’s initial purchase at $15 per share, Cleveland Cliffs’ shares slid relentless to $6 per share. Cundill bought the shares on the way down at an average cost of $9.75 per share. In two years, the shares hit $20. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">This is not the end of the story. During the market crash in October, Cleveland Cliffs’ shares plummeted again and Cundill bought back all the shares he had sold. The fund exited the position in 1991 with an annual compounded rate of over 30%. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways: </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· A neglected security selling below book value with hidden assets not reflected on balance sheet. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· Using Cundill’s own words, “There is almost always a major blip for whatever reason and we have learnt to expect it and not to panic.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Case V – Angelo American</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">As Cundill has written a great investment analysis for Angelo American in his journal, here I will let the guru himself help us navigate through his thought process: </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“</span><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Angelo American is a South African holding and management company providing a complete range of technical and administrative services to 285 companies worldwide. In addition they hold significant equity interest in a group of international mining, industrial, and investment companies including De Beers, Engelhard, Charter Consolidated, Hudson’s Bay Mining and Smelting, Amax, and Anglo American Gold.</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">De Beer controls over 80% of the world’s diamond output and Anglo’s investment has a market value of over $200 million. Anglo’s mining interests last year produced 29% of the Free World’s gold production and substantial quantities of coal, uranium, copper, iron ore, platinum, nickel, and zinc. They have invested in a number of successful petroleum consortia in the UK and Dutch sectors of the North Sea, including the Forties and Argyll fields. Through Charter Consolidated they have a sizeable interest in Rio Tinto Zinc. Anglo American of Canada owns 38.5% of Hudson Bay Mining and Smelting. There are smaller, but still not insignificant, investment in timber, real estate, asbestos, potash, and citrus fruit groves. </i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Anglo is holding cash and equivalents of $235 million. Their investment portfolio is carried at a cost of $600 million against a value for the quoted securities alone of $1.1 billion. The shares at $2.50 are selling at a ten year low with a capitalization of a mere $313 million, <strong>the company is profitable (will earn about 60 cents this year), and the dividend yield is 10% </strong>and more than twice covered. The numbers are solid but the share price is clearly signaling a problem or problems – <strong>precisely what we like to see. </strong></i><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"></span><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">As I see it, first of all there is the gold price, which has recently sunk back from $170 and is now teetering on the brink of $100, and I take this to be a psychologically important resistance point which may or may not hold. At the same time mining costs have risen sharply, so it would be sensible to assume that Anglo’s dividend stream from its gold-producing subsidiary will be substantially reduced for the next little while. In a worst case scenario this could lop about 20% off the earnings, but still leave the dividend twice covered – a considerable margin of safety in itself and the debt/equity ratio at 0.7 is more than satisfactory. <strong>As the direction of the gold price – who can tell, but this is an unsettled and inflationary era and it is not hard to imagine a further rush of financial assets to safe heaven, one of which is gold. </strong></i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The other problem is clearly the politics, which the harbingers of doom predicting a collapse of order as black South Africans press more violently for equality, the demise of white supremacy, and a fair share of their birthright. The risks of labour unrest are undoubtedly realand might include sabotage and the spectre of expropriation if things really got out of hand. My instinct is that the worst case scenario is highly unlikely and even if it were to happen, Anglo’s internationally acknowledged expertise is in mine-management and someone would still have to manage and expropriated mines. However <strong>the true margin of safety lies in the diversified portfolio of assets outside South Africa. </strong>”</i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Cundill bought Anglo America in 1977 and sold it in 1979 with over 100% realized gain. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Case VI. Tokyo Broadcasting System.</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Tokyo Broadcasting System is a classic Peter Cundill play in the Japanese market. It was the third largest television broadcaster in Japan. As a result of the stagnant Japanese economy through the 1990s, broadcasting companies in Japan suffered from severe revenue and profit decline. TBS owned valuable property, a lot of cash and a competent management team. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">TBS’s share was trading at 1,500 yen per share at the time with the value of real estate per share of 1,000 yen per share and cash and investment per share of another 500 yen. At 1,500 yen per share, you were buying the business for nothing and Peter valued the business excluding cash, real estate and investment portfolio at 2,000 yen. Adding this 2,000 yen to cash, real estate and investment portfolio, Peter arrived at a “fair value” of 3,500 yen. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Peter began buying in 1998 and accumulated the majority of his position through 2001 and 2002 at prices below 1,500 yen. Most of the position was sold at between 2,500 yen and 3,500 yen. Incidentally, TBS’s share eventually reached Peter’s fair value of 3,500 yen. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· A leading Japanese broadcaster suffered from stagnant macro environment. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· At 1,500 yen per share, you can buy the cash, real estate and investment portfolio and get the rest of the business for free. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><br /><strong><u>Case VII - Sibir Energy</u></strong></i><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Sibir Energy is a Russian Oil Company and the largest company listed on London Stock Exchange’s Alternative Investment Market (AIM). It was founded in 1996 and obtained an AIM listing on the London Stock Exchange in 1997.The opportunity came after the Russian debt crisis when Sibir’s share price plummeted along with every other Russian Stock. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“Sibir owned a UK operating that was cash flow positive and worth approximately half the company’s market capitalization. It had a rag bag of assets in Italy, whose value probably represented another quarter, which left a collection of assets in Russia, including one mature oilfield that was also cash flow positive and worth between 25% and 50% of the market cap. The rest of the assets were thrown in for free. But most important elements of the package were 50% interest in two oil fields, both in Siberia, one in partnership with Sibneft, controlled by Roman Abramovih, and the other a rather loosely constructed joint venture with Shell. ”</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Peter’s friend James Morton, who was helping Peter with the Sibir Energy investment, calculated that from the sum of parts standpoint, “you were paying mere 10 cents per barrel in the ground for the Russian reserves, well below the value of any other listed Russian Oil Company.” Peter, however, “remained to be convinced as he believed that nothing in Russia was ever straightforward.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Peter’s cautionary notes proved to be prescient. “Everything that could go wrong did.” “Shell tried to squeeze Sibir out of the Salyn oil field by accelerating the cash requirements to bring it on stream to a level that it believed Sibir would be unable to support.” Sibir had to take a loan from its largest shareholder and sell off its UK and Italian assets to fend off Shell’s tactics. Next, Sibir had to fight the battle against LukOil and Sibneft (the other partner in Siber’s 50% interest in one of the two oilfields) to gain control of a strategic refinery. Although Sibir won the battle, Sibneft retaliated and diluted Sibir’s interest in the Siberian Joint Venture with Sibneft from 50% to 1%. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">All the turmoil made Sibir’s shares extremely volatile. In 2008, Sibir’s largest shareholder, Tchigirinski, who helped Sibir during the Shell fight-off, asked Sibir’s EO Henry Cameron to lend him $500 million because he was running out of cash. The board refused to authorize the transaction but it happened anyway. When the news broke, Sibir was suspended from AIM market and Cameron was fired.</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Throughout the Sibir drama, Peter and James remained rational by “running and rerunning the ‘sum of the parts’ calculations to reassure themselves that the margin of safety is still intact.” In the end, the Sibir investment turned into a “ten bagger.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Key takeaways from Christopher Risso-Gill:</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· “What was required was an asset-based margin of safety significantly greater than would be considered adequate in the more developed markets.” </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">· It was also fairly obvious that in these less developed markets tangible fixed assets were superior to cash, which had a nasty habit of evaporating.”</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"><i><u>Conclusion</u></i></strong><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">If there is one common theme in all the cases above, it is the built-in margin of safety provided by assets value. The Peter Cundill approach will require an in-depth analysis of the balance sheet and even on-site visits to identify undervalued and hidden assets. Not surprisingly, some of Peter’s best investments involved purchasing great businesses trading below reasonably estimated liquidating value due to temporary fixable problems as demonstrated by his investments in Credit Foncier and Tiffany and Co. Also important to the Peter Cundill approach is the ability to stay patient and convinced during adverse periods as we see from the Cleveland Cliffs case and the Sibir case. Peter’s writings and experiences again remind us that combining a margin of safety mindset with the right temperament is likely to result in more than satisfactory investment returns over the long term. </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Let us end this article with three fabulous quotes: </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">"There's always something to do. You just have to look harder, be creative and a little flexible." - Ivan Kahn</span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“We always look at the margin of safety in the balance sheet and then worry about the business.” - Peter Cundill </span><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" /><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">“Patience, patience and more patience. Graham said it, but it is true to all investment disciplines, not only value investing, although it is indispensable to that.” -Peter Cundill</span>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com2tag:blogger.com,1999:blog-2219031865534260870.post-13255934094071281122013-11-12T14:16:00.000-08:002013-11-12T14:16:01.251-08:00Two great articles<a href="http://www.businessinsider.com/warren-buffett-on-high-quality-stocks-2013-3">http://www.businessinsider.com/warren-buffett-on-high-quality-stocks-2013-3</a><br />
<a href="http://www.businessinsider.com/best-advice-worlds-greatest-investors-2012-7?op=1">http://www.businessinsider.com/best-advice-worlds-greatest-investors-2012-7?op=1</a>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-6216416116662677942013-10-15T18:57:00.000-07:002013-10-15T19:15:09.278-07:00Patience and Capacity to Suffer - Lessons From a Legendary Value Investor<xml>Here is the return information for a fund manager:</xml><br />
<br />
<br />
<table border="0" cellpadding="0" cellspacing="0" style="width: 355px;"><colgroup><col style="mso-width-alt: 2998; mso-width-source: userset; width: 62pt;" width="82"></col>
<col style="mso-width-alt: 4790; mso-width-source: userset; width: 98pt;" width="131"></col>
<col style="mso-width-alt: 5193; mso-width-source: userset; width: 107pt;" width="142"></col>
</colgroup><tbody>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="height: 15.0pt; width: 62pt;" width="82">Year</td>
<td class="xl65" style="border-left: none; width: 98pt;" width="131">Fund Manager</td>
<td class="xl65" style="border-left: none; width: 107pt;" width="142">S&P With
Dividends</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="border-top: none; height: 15.0pt;">1</td>
<td class="xl66" style="border-left: none; border-top: none;">7.91%</td>
<td class="xl66" style="border-left: none; border-top: none;">37.60%</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="border-top: none; height: 15.0pt;">2</td>
<td class="xl66" style="border-left: none; border-top: none;">22.51%</td>
<td class="xl66" style="border-left: none; border-top: none;">23.00%</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="border-top: none; height: 15.0pt;">3</td>
<td class="xl66" style="border-left: none; border-top: none;">27.04%</td>
<td class="xl66" style="border-left: none; border-top: none;">33.40%</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="border-top: none; height: 15.0pt;">4</td>
<td class="xl66" style="border-left: none; border-top: none;">-16.30%</td>
<td class="xl66" style="border-left: none; border-top: none;">28.60%</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl65" height="20" style="border-top: none; height: 15.0pt;">5</td>
<td class="xl66" style="border-left: none; border-top: none;">8.29%</td>
<td class="xl66" style="border-left: none; border-top: none;">21.00%</td>
</tr>
<tr height="20" style="height: 15.0pt;">
<td class="xl67" height="20" style="border-top: none; height: 15.0pt; width: 62pt;" width="82">Cumulative</td>
<td class="xl68" style="border-left: none; border-top: none;">49.45%</td>
<td class="xl68" style="border-left: none; border-top: none;">143.60%</td>
</tr>
<tr height="21" style="height: 15.75pt;">
<td class="xl69" height="21" style="height: 15.75pt; width: 62pt;" width="82">Annualized</td>
<td class="xl70" style="border-left: none;">8.77%</td>
<td class="xl70" style="border-left: none;">28.57%</td>
</tr>
</tbody></table>
<br />
<xml>Question: Given the above returns, would you give your money to this fund manager?<br />
<br />
I doubt many people will say yes. After all, this manager has seemingly vastly underperformed the market during this specific 5 year period.<br />
<br />
Probably a surprise to many of us, the preceding returns were produced by one of the greatest investors of all time - Seth Klarman. And most likely not a surprise to many of us, this 5-year period represents the technology bubble years from 1995 to 1999. I want to clarify that Baupost Group had a year-end of October 31st during this time period. Therefore, the comparison in the table above does not represent the exact degree of under-performance. However, it is close enough to draw conclusions thereof. <br />
<br />
During the tech bubble, even some renowned value investors eventually capitulated to the runaway bull market in growth and technology stocks. It takes a tremendous amount of patience and capacity to suffer in order to maintain the value investing discipline in a soaring market. How did Seth Klarman stick to the value proposition and margin of safety principle during the bubble years and how did he construct his portfolios in a raging bull market? I found the answers in Klarman's letters to investors. <br />
<br />
<u><b>1995:</b></u><br />
<br />
"The primary reason for our underper-formance, of course, is that the Fund has relatively little exposure to the U.S. stock market."<br />
<br />
"The Baupost Fund is managed with the intention of earning good absolute returns regardless of how <br />
any particular financial market performs. This philosophy is implemented with a bottom-up value <br />
investment strategy whereby we hold only those securities that are significantly undervalued, and <br />
hold cash when we cannot find better alternatives. Further, we prefer investments, when we can find <br />
them at attractive prices, that involve a catalyst for the realization of underlying value. This serves to <br />
reduce the volatility of our results and de-emphasizes market movements as the source of our in-<br />
vestment returns. <b>Positions with catalysts tend to lag a rapidly rising stock market (like this past year's) and outperform a lackluster or declining one</b> (like we used to have every few years!)."<br />
<br />
"<b>We firmly believe that one of Baupost's biggest risks, and, needless to say, that of other investors, is that we will buy too soon on the way down.</b> Sometimes cheap stocks become a whole lot cheaper; it simply hasn't happened lately. (And when that happens, expensive stocks will fare far worse.) "<br />
<br />
<u><b>1996</b></u><br />
<br />
"In making tradeoffs among competing alternatives, we have distinguished ourselves from other professional investors in several ways: our willingness to hold cash balances, sometimes substantial, awaiting opportunities; our preference for investments with a catalyst for the realization of underlying value; our willingness to accept varying degrees of illiquidity in exchange for incremental return; and our flexibility in pursuing opportunities in new areas."<br />
<br />
"Baupost has long enjoyed a very flexible investment charter, one that has permitted us to depart con-<br />
siderably from our initial conception as US equity and high quality debt investors. This flexibility <br />
has been, we believe, at the core of our investment success over the years." <br />
<br />
"Investors who find an overly narrow niche to inhabit prosper for a time but then usually stagnate. Those who move on when the world changes at least have the chance to adapt successfully."<br />
<br />
"The same flexibility that led us into a heavy concentration in thrift conversions in the mid 1980's and distressed corporate debt in the mid-late 1980's, and a smaller hedging bet on Japanese stock market puts in the late 1980s, has led us into a moderate investment in Russian stocks earlier this year, and an important position in European holding companies in 1995-1996." <br />
<br />
"Risk is also mitigated by both our constant emphasis on investment fundamentals and on knowing <br />
why each investment we make is available at a seeming bargain price. We regard investing as an arrogant act; an investor who buys is effectively saying that he or she knows more than the seller and <br />
the same or more than other prospective buyers. We counter this necessary arrogance (for indeed, a <br />
good investor must pull confidently on the trigger) with an offsetting dose of humility, always asking <br />
whether we have an apparent advantage over other market participants in any potential investment. <br />
If the answer is negative, we do not invest."<br />
<br />
<u><b>1997</b></u><br />
<br />
"The most favorable position going into a sudden downdraft (if you could correctly anticipate one) is <br />
to hold market hedges and/or cash (or better still, short positions, but short sellers have been aging <br />
in dog years for a long time). We hold both, although never enough in a downturn, because both are <br />
costly. Hedges, like any insurance, involve paying a premium. Premiums have skyrocketed in lock-<br />
step with the market's surge over the past two years, and have risen even more in the current volatile <br />
environment. "<br />
<br />
"Cash provides protection in a storm and ammunition to take advantage of newly created opportunities, but holding cash involves the considerable opportunity cost of foregoing presently attractive investments. Given the choice between holding mostly cash awaiting the periodic market tumble or finding compelling investments which earn good returns over time but fluctuate to a certain extent with the market amidst turbulence, we choose the latter. Obviously, we could not have earned the returns we have from investing, without investing."<br />
<br />
"If the financial markets remain turbulent and retrace some of their decade-long gains, I believe we <br />
will be in a strong position. Despite delivering good investment performance over the Fund's first <br />
seven years of operations, I must remind you that<b> value investing is not designed to outperform in a <br />bull market</b>. In a bull market, anyone, with any investment strategy or none at all, can do well, often <br />
better than value investors.<b> It is only in a bear market that the value investing discipline becomes <br />especially important because value investing, virtually alone among strategies, gives you exposure to the upside with limited downside risk.</b>"<br />
<br />
"In a stormy market, the value investing discipline becomes crucial, because it helps you find your bearings when reassuring landmarks are no longer visible. <b>In a market downturn, momentum investors cannot find momentum, growth investors worry about a slowdown, and technical analysts don't like their charts. But the value investing discipline tells you exactly what to analyze, price versus value, and then what to do, buy at a considerable discount and sell near full value. And, because you cannot tell what the market is going to do, a value investment discipline is important because it is the only approach that produces consistently good investment results over a complete market cycle. </b>"<br />
<br />
"The most important investment decision we have made over the past several years is the one to in-<br />
crease our international efforts. This decision resulted in part from a realization that opportunities in <br />
the U.S. were considerably less attractive than they had been, and that the situation would not necessarily improve."<br />
<br />
"Value investors should <b>buy assets at a discount, not because a business trading below its obvious liquidation value will actually be liquidated, but because if you have limited downside risk</b> from your purchase price, you have what is effectively a free option on the recovery of that business and/or the restoration of that stock to investor favor."<br />
<br />
"In investing, nothing is certain. The best investments we have ever made, that in retrospect seem like <br />
free money, seemed not at all that way when we made them. <b>When the markets are dropping hard <br />(as they are right now in Asia) and an investment you believe is attractive, even compelling, keeps <br />falling in price, you aren't human if you aren't scared that you have made a gigantic mistake.</b> The <br />
challenge is to perform the fundamental analysis, understand the downside as well as the upside, remain rational when others become emotional, and don't take advice from Mr. Market, who again and <br />
again is a wonderful creator of opportunities but whose advice should never, ever be followed." <br />
<br />
<u><b>1998</b></u><br />
<br />
"Like the Everest climbers, the problem with reaching the summit is that from there every way you go is down. Not wanting to overuse the metaphor, I won't go on to recount the sudden storm which seemed to come out of nowhere that brought peril to a number of the climbers." <br />
<br />
"What is clear to us, and relatively few others, is how disappointing those long-term returns will actually be from today's market levels. Future returns have increasingly been accelerated into the present and recent past. We have entered greater fool territory, and decent market returns from here, while still a distinct possibility, will depend on an even greater sucker showing up. No one should be surprised if one does; however, no one should base their investment program on his or her existence."<br />
<br />
"Persuading budding analysts to postpone the immediate gratification of a momentum or growth stock career for a long-term value investment philosophy is a formidable challenge indeed. Leaving this extraordinary party early, or contemplating not even going, isn't very appealing if all your friends will be there having a great time while it lasts, which appears to be well into the night. To many, the really bad hangover will have been worth it."<br />
<br />
"Many of our most promising new ideas are in Western and Eastern European equities. As we started to see in 1996 and 1997, corporate restructuring has accelerated in many Western European countries. We <br />
have identified numerous companies in the midst of asset sales, spin-offs, and share repurchases, and <br />
others actively exploring such transactions. " <br />
<br />
"We intend to persevere in our search for value, and remain confident that our cash balances (17% of Fund assets at April 30) are likely to be most valuable just as fewer and fewer investors choose to hold any."<br />
<br />
<u><b>1999</b></u><br />
<br />
"Sentiment, existing only in the minds of investors, is subject to change quickly and without notice."<br />
<br />
"Real value, of bricks and mortar, finished goods inventories, accounts receivable, operating factories and businesses, and even brand names, is hard, although far from impossible, to destroy. If you don't overpay for it, your downside is protected. If you purchase it at a discount, you have a real margin of safety."<br />
<br />
"Our concern is that we cannot know when the current love affair with large capitalization growth stocks will end, and what sort of havoc this will wreak on smaller stocks, however inexpensive. As we have explained before, the only logical way to hedge against this risk is to protect an investment in these undervalued smaller stocks with a put option on or short sale of more expensive stocks. We have ruled out short selling for a number of reasons, including the unlimited downside risk that short selling poses. With puts, at least, your cost is limited to the up-front premium. Such a hedge, however, is historically quite expensive and, as we learned last year, far from perfect." <br />
<br />
"Our resolution to this dilemma is to position the Fund's portfolio in three parts. A major compo-<br />
nent is cash (held in U.S. Treasury bills and/or in a U.S. Government securities money market fund), at around 42% of the Fund's portfolio at April 30. This asset is available to take advantage of bargains, <br />
but represents important dry powder until some of today's market extremes resolve themselves. "<br />
<br />
"Another segment, about 25% of the Fund's portfolio, involves numerous public and private investments with catalysts for the partial or complete realization of underlying value. This includes corporate bankruptcies, restructurings and workouts, liquidations, breakups, asset sales and the like. These situations are generally purchased at expected annual returns of 15% to 20% or more. The success of these investments depends primarily on the outcome of each situation rather than on the level of the stock market. There can, however, be month by month fluctuations in the market prices of these positions." <br />
<br />
"A number of these positions are former spinoffs, ignored and abandoned in a market not oriented toward smaller companies. Most of these situations involve partial catalysts for value realization such as ongoing share repurchase programs and/or insider buying, but these limited catalysts offer only modest protection <br />
from the short-term volatility of the financial markets." <br />
<br />
<b>"We underperformed in 1999 not because we abandoned our strict investment criteria but because we adhered to them, not because we ignored fundamental analysis but because we practiced it, not because we shunned value but because we sought it, and not because we speculated but because we refused to do so. In sum, and very ironically, we got hurt not speculating in the U.S. stock market. "</b><br />
<br />
"Occasionally we are asked whether it would make sense to modify our investment strategy to <br />
perform better in today's financial climate. Our answer, as you might guess, is: No! It would be easy <br />
for us to capitulate to the runaway bull market in growth and technology stocks. And foolhardy. And <br />
irresponsible. And unconscionable. It is always easiest to run with the herd; at times, it can take a <br />
deep reservoir of courage and conviction to stand apart from it. Yet distancing yourself from the <br />
crowd is an essential component of long-term investment success."<br />
<br />
"Most companies in our portfolio, in addition to compelling undervaluation, have strong market positions, significant barriers to entry, substantial free cash flow, and catalysts in place to assist in the realization of underlying value. Almost all have managements who own significant amounts of stock personally."<br />
<br />
"Given the competitiveness of the investment business, we believe it is important in every investment to have an edge, an advantage over the herd. This edge could be a willingness to take a long-term perspective in a short-term-oriented market, a tolerance of complexity when others crave simplicity, or the absence of constraints which either impede the ability of others to act or force them to act in uneconomic ways."<br />
<br />
<u><b>Conclusion:</b></u><br />
<u><b><br /></b></u>
Reading Klarman's letters to investors has been an illuminating experience. His wisdom seems especially relevant in a market environment that we are presently faced with. Although we are not in a bubble territory yet, certain segments of the market have certainly exhibited bubble characteristics. Market leaders in this year's rally include Facebook, Tesla, Linkedin, Netflix and etc. Facebook's market cap is almost 75% of that of Coke Cola and Tesla's market cap is almost 40% of the market cap of GM with revenue only a fraction of that of GM. Neither Facebook nor Tesla has sufficient tangible asset value to serve as down-side protection yet investors seem to care little. <br />
<br />
My expectation is that many famous value investor will under-perform this year, just like they have been during the past bull markets. Patience and capacity to suffer is again extremely vital in today's market condition. However, having the right temperament itself is not likely to be enough. The following lessons from Klarman may be beneficial:<br />
<br />
1. Always hold cash, which "provides protection in a storm and ammunition to take advantage of newly created opportunities.<br />
<br />
2. Adapt flexibility in your portfolio. Try not to limit yourself in an overly narrow niche (such as high quality U.S large cap stocks). Spend some time analyzing spin-offs, merger-arbitrage (such as the recent BBRY deal) situations, bank recapitalization, mutual conversions, or emerging markets. This flexibility will allow you to move into "areas of temporary and compelling opportunities and away from areas of full or excessive valuation, thereby enhancing return while simultaneously reducing risk.<br />
<br />
3.Maintain sufficient but not excessive diversification. To quote Klarman, "owning a diverse portfolio in one market may greatly reduce the risk associated with a single company hitting a bump in the road but will not at all reduce the risk of being in that market. If that market runs into a pothole, its components could all break down at once. This is particularly true if that market is trading at record levels of valuation, supported more by money flows than by fundamentals, as happens sometimes. "<br />
<br />
4. Last but certainly not least, never forget "MARGIN OF SAFETY." Real tangible value, such as real estates, cash, inventories is hard to destroy, while "a promising future" can quickly turn into a "sour land of disappointment." <br />
<br />
<br />
<br />
<br />
<br />
</xml>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com1tag:blogger.com,1999:blog-2219031865534260870.post-64500298047442664812013-10-07T15:30:00.000-07:002013-10-07T15:30:32.924-07:00A Great Jim Chanos Interviewhttp://www.valuewalk.com/2013/10/jim-chanos-wsj-conference-full-speech-video/Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-87020427267772607652013-10-04T14:48:00.001-07:002013-10-04T14:48:15.279-07:00SAIC Spin-Off Quick Analysis During August last year, SAIC announced its plan to split into two public companies. One company would focus on technical services and another on information technology<span class="itxtrst itxtrstspan itxtnowrap" id="itxthook0p"><span class="itxtrst itxtrstspan itxtnowrap itxtnewhookspan" id="itxthook0w" style="background-color: transparent; border-color: transparent transparent rgb(0, 204, 0); border-style: none none solid; border-width: 0px 0px 1px; color: #009900; font-size: 100%; font-weight: normal; padding: 0px 0px 1px ! important;"></span></span>
products, including surveillance and intelligence programs. The spinoff
is an effort to prevent conflict of interest, said John Jumper,
chairman and chief executive officer. He also thinks it will "unleash
growth and value." The technical services business will focus on “on government technical
services and enterprise IT businesses,” and become one of the “largest,
pure-play government services companies in the market.” This unit has
pro forma FYE Jan 31, 2013 revenues of $4b. The solutions-focused
business will focus on “delivering science and technology solutions in
three high-growth markets that reflect high priority, long-term global
needs – national security, engineering and health.” This unit has pro
forma FYE Jan 31, 2013 revenues of $7b.<br />
<br />
"In this next step of our strategic plan we configure ourselves for the
future. Our two new companies will be designed so that their businesses<a class="itxtnewhook itxthook" href="http://www.streetinsider.com/#" id="itxthook1" rel="nofollow" style="background-color: transparent; background-image: none; border: 0px none transparent; display: inline; font-size: 100%; font-style: normal; font-weight: normal; padding: 0px; text-decoration: none;"><span class="itxtrst itxtrstspan itxtnowrap" id="itxthook1p"><span class="itxtrst itxtrstspan itxtnowrap itxtnewhookspan" id="itxthook1w" style="background-color: transparent; border-color: transparent transparent rgb(0, 204, 0); border-style: none none solid; border-width: 0px 0px 1px; color: #009900; font-size: 100%; font-weight: normal; padding: 0px 0px 1px ! important; text-decoration: underline ! important;"></span></span></a> can be more differentiated and more competitive in their own space.
More importantly, that addressable space will expand for each as we
eliminate the burden of organizational conflicts of interest (OCI),"
said Jumper.<br />
<br />
The spin-off has been completed last month. The purpose of this article is to analyze both the parent company (Leidos Holdings) and the spin-off company (SAIC) after the spin-off. In performing my analysis, I used Joel Greenblatt's framework specified in his book "<i>You Can Be a Stock Market Genius."</i><br />
<br />
<h2>
<i> </i><u><b>SAIC</b></u><i> </i></h2>
<i><u><b>Reasons for Spin-Off</b></u></i><br />
<br />
<div align="left">
According to the 10-12B filing from SAIC, there are four major reasons for the spin-off:<span style="font-family: ARIAL; font-size: x-small;"><i> </i></span></div>
<div align="left">
<br /></div>
<div align="left">
<span style="font-family: ARIAL; font-size: x-small;"><i>1. Reduce Regulatory Constraints in the Pursuit of Business Opportunities.</i>
Under the Federal Acquisition Regulations (FAR), when a company has
provided SETA (System Engineering and Technical Assistance)
<b>services</b> for a particular U.S. Government program, it may be prohibited
from selling <b>products</b> to the U.S. Government under the same program due
to an organizational conflict of interest. The spin-off will allow us to
expand the addressable market
for our offerings that were previously constrained by OCI (</span><span style="font-family: ARIAL; font-size: x-small;"><span style="font-family: ARIAL; font-size: x-small;">organizational conflicts of interest) </span>regulations.
For example, a contractor that performs on a contract with a U.S.
Government customer to provide system requirements for a military
weapons system cannot also compete on a
contract with the government customer to deliver the weapons system to
meet those requirements. Similarly, the contractor that performs on a
contract with a U.S. Government customer to deliver a weapons system may
not also perform on a contract with
the U.S. Government customer to conduct the test and evaluation on the
weapons system to verify its performance and satisfaction of the system
requirements. Both of these examples pose an actual or potential OCI not
allowable under the FAR. </span></div>
<div align="left">
<br /></div>
<div align="left">
<span style="font-family: ARIAL; font-size: x-small;">2.</span><span style="font-family: ARIAL; font-size: x-small;"><i>Strategic Focus of Management’s Efforts.</i>
Our business represents a discrete portion of Parent’s overall
business. It has historically had
different financial and operational requirements than Parent’s other
businesses. The separation will allow us to better focus management’s
attention on New SAIC’s business. </span></div>
<div align="left">
<br /></div>
<div align="left">
<span style="font-family: ARIAL; font-size: x-small;">3.</span><span style="font-family: ARIAL; font-size: x-small;"><span style="font-family: ARIAL; font-size: x-small;"><i>Investment Focus</i>. While operating as a part of Parent, the internal investments of the company were directed according to Parent’s strategic
interests as a whole. The separation allows us to focus our investments on projects that generate returns for our business. </span> </span></div>
<div align="left">
<br /></div>
<div align="left">
<span style="font-family: ARIAL; font-size: x-small;">4.</span><span style="font-family: ARIAL; font-size: x-small;"><span style="font-family: ARIAL; font-size: x-small;"><i>Improved Management Incentive Tools</i>. As an independent company, we will be able to better structure and incentivize our current and future employees
through direct participation in the performance of the company through new equity compensation plans. </span> </span></div>
<br />
It seems like SAIC's main motivation is similar to what L-3 did with its
spinoff: separating the slow growth, and headwinds-facing parts of its
business and removing internal conflicts, which could possibly bring in new business. <br />
<br />
<i><u><b>2. Insider Ownership and Compensation Structure:</b></u></i><br />
<br />
<div style="margin-bottom: 0px; margin-top: 18px;">
<span style="color: #2b4c9b; font-family: ARIAL; font-size: x-small;"><b><i>Long-Term Incentive Awards </i></b></span></div>
<div style="margin-bottom: 0px; margin-top: 6px;">
<span style="color: #2b4c9b; font-family: ARIAL; font-size: x-small;"><i>Historically </i></span></div>
<div style="margin-bottom: 0px; margin-top: 6px;">
<span style="font-family: ARIAL; font-size: x-small;">The amounts of these awards granted under Parent’s 2006 Equity Incentive
Plan are determined based on market data and vary based upon an executive officer’s position and responsibilities. </span></div>
<div style="margin-bottom: 0px; margin-top: 12px;">
<span style="color: #2b4c9b; font-family: ARIAL; font-size: x-small;"><i>Stock Options.</i></span><span style="font-family: ARIAL; font-size: x-small;">
Approximately 25% of the targeted total value of equity awards granted
to New SAIC named executive officers in fiscal 2013 was
comprised of stock options. These options vest 20% of the shares at the
end of each of the first three years and 40% of the shares at the end of
the fourth year and expire at the end of the seventh year. The
objective of these awards is to link
rewards to the creation of stockholder value over a longer term and aid
in employee retention with a vesting schedule weighted toward the end of
the option term. Parent believes that stock options motivate Parent
executives to build stockholder
value because they may realize value only if Parent’s stock appreciates
over the option term. </span></div>
<div style="margin-bottom: 0px; margin-top: 12px;">
<span style="color: #2b4c9b; font-family: ARIAL; font-size: x-small;"><i>Restricted Stock Units. </i></span><span style="font-family: ARIAL; font-size: x-small;">Approximately
25% of the targeted total value of equity awards granted to New SAIC
named executive officers in fiscal
2013 was in the form of restricted stock units (RSUs). These RSUs vest
20% of the shares at the end of each of the first three years and 40% of
the shares at the end of the fourth year. RSUs are intended to provide a
strong incentive for employee
retention and promote the building of stockholder value. </span></div>
<div style="margin-bottom: 0px; margin-top: 12px;">
<span style="color: #2b4c9b; font-family: ARIAL; font-size: x-small;"><i>Performance Share
Awards.</i></span><span style="font-family: ARIAL; font-size: x-small;">
Approximately 50% of the targeted total value of equity awards granted
to New SAIC named executive officers in fiscal 2013 was in the form of
performance share awards that may result in
shares being issued depending on the company’s achievement of specific
financial performance goals for each fiscal year over the three-year
performance period covering fiscal 2013 through fiscal 2015. In the
first quarter of fiscal 2013, the
Parent Committee set the performance goals for fiscal 2013 and approved
the threshold, target and maximum performance share award amount for the
entire three-year period, one-third of which is allocated to each of
the respective three year
performance periods and is set forth in the “Grants of Plan-Based
Awards” table. </span></div>
<div style="margin-bottom: 0px; margin-top: 12px;">
<span style="font-family: ARIAL; font-size: x-small;">The
following table sets forth the target
number of shares and corresponding target value for performance shares
awarded in fiscal 2013 for the three-year performance period covering
fiscal 2013 through fiscal 2015, with the target number of shares based
on the closing sales price of
Parent’s common stock on the NYSE on the trading day before the grant
date. The target grant date values were between 50% and 120% of base
salary. </span></div>
<div style="font-size: 12px; margin-bottom: 0px; margin-top: 0px;">
<br /></div>
<table align="center" border="0" cellpadding="0" cellspacing="0" style="border-collapse: COLLAPSE; width: 84%px;">
<tbody>
<tr>
<td width="73%"><br /></td>
<td valign="bottom" width="6%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="6%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td></tr>
<tr>
<td style="border-bottom: 1px solid #2b4c9b;" valign="bottom"> <span style="font-size: xx-small;"> </span></td>
<td style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td align="center" colspan="2" style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-family: ARIAL; font-size: xx-small;">Target Shares</span></td>
<td style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td align="center" colspan="2" style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-family: ARIAL; font-size: xx-small;">Target Value</span></td>
<td style="border-bottom: 1px solid #2b4c9b;" valign="bottom"><span style="font-size: xx-small;"> </span></td></tr>
<tr bgcolor="#cceeff">
<td valign="top"> <div style="margin-left: 1.00em; text-indent: -1.00em;">
<span style="font-family: ARIAL; font-size: x-small;"> Anthony J. Moraco</span></div>
</td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">45,421</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">$</span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">600,000</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td></tr>
<tr>
<td valign="top"> <div style="margin-left: 1.00em; text-indent: -1.00em;">
<span style="font-family: ARIAL; font-size: x-small;"> John R. Hartley</span></div>
</td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">15,141</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">$</span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">200,000</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td></tr>
<tr bgcolor="#cceeff">
<td valign="top"> <div style="margin-left: 1.00em; text-indent: -1.00em;">
<span style="font-family: ARIAL; font-size: x-small;"> Thomas G. Baybrook</span></div>
</td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">26,496</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">$</span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">350,000</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td></tr>
<tr>
<td valign="top"> <div style="margin-left: 1.00em; text-indent: -1.00em;">
<span style="font-family: ARIAL; font-size: x-small;"> Brian F. Keenan</span></div>
</td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">22,711</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">$</span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">300,000</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td></tr>
<tr bgcolor="#cceeff">
<td valign="top"> <div style="margin-left: 1.00em; text-indent: -1.00em;">
<span style="font-family: ARIAL; font-size: x-small;"> Nazzic S. Keene</span></div>
</td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">31,546</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td>
<td valign="bottom"><span style="font-size: xx-small;"> </span></td>
<td valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">$</span></td>
<td align="right" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;">400,000</span></td>
<td nowrap="nowrap" valign="bottom"><span style="font-family: ARIAL; font-size: x-small;"> </span></td></tr>
</tbody></table>
<br />
<br />
The employee incentive plan sounds standard, with options, RSUs and other performance-based equity compensation making up the majority of compensation. Both options and RSUs have a 3-5 years vesting period so long term value creation is encouraged. Executives also have to give back their compensations if financial statements are restated. <br />
<br />
<i><u><b>3. Comparable Company Analysis:</b></u></i><br />
<br />
Comparable Companies: EGL (L3 spin-off) and NOC.<br />
<br />
I. Using Operating Earnings<br />
<br />
<u>NOC</u>: 52 weeks trading between $13 billion to $21.4 billion, 2012 operating Income $3.13 billion. Price/Operating income ranges from 4.2-7.<br />
<br />
<u>EGL</u>: 52 week trading between $300 million and $600 million, 2012 operating Income (excluding goodwill impairment charge) $97 million. Price/Operating Income ranges from 3-6.<br />
<br />
Average of NOC and EGL - Price/Operating Income of 5x. Apply that to SAIC's $281 million operating income, we will get a market cap of about $1.4 billion, or<b><span style="color: red;"> $28.6 per share. </span></b><br />
<br />
<br /><h2>
Leidos Holdings</h2>
Comparable Companies:<br />
<div class="appbar-snippet-secondary">
<span>1. Verint Systems Inc (VRNT).</span></div>
<div class="appbar-snippet-secondary">
<span>2.</span><span></span><span>L-3 Communications Holdings, Inc.</span><span> (LLL)</span></div>
<div class="appbar-snippet-secondary">
<span>3. Honeywell Internationl (HON) </span></div>
<div class="appbar-snippet-secondary">
<span> </span></div>
<div class="appbar-snippet-secondary">
I. Using Forward P/E<br />
<br />
<u>VRNT</u>: 12.70<br />
<br />
<u>LLL</u>:11.37<br />
<u>HON</u>:14.84<br />
<br />
Average: 13<br />
<br />
<b>13*3.64= <span style="color: red;">$47.32 per share</span></b><span style="color: red;"></span><br />
<br />
<u>Appendix:</u><br />
<br />
<br />
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>LEIDOS HOLDINGS, INC. </b></div>
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>UNAUDITED PRO FORMA </b></div>
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>CONDENSED CONSOLIDATED STATEMENT OF INCOME </b></div>
<div style="font-size: 12pt; margin-bottom: 0pt; margin-top: 0pt;">
<br /></div>
<table align="center" border="0" cellpadding="0" cellspacing="0" style="border-collapse: COLLAPSE; font-family: Times New Roman; font-size: 10pt; width: 100%px;"><tbody>
<tr>
<td width="71%"><br /></td>
<td valign="bottom" width="4%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="4%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="4%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="4%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="14" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Year Ended January 31, 2013</td>
<td valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td colspan="2" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="6" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Pro Forma Adjustments</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td colspan="2" valign="bottom"> </td>
<td valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td nowrap="nowrap" valign="bottom"> <div style="border-bottom: 1.00pt solid #000000; font-family: Times New Roman; font-size: 8pt; width: 127.10pt;">
<i>(in millions, except per share amounts) </i></div>
</td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Historical Leidos<br />Holdings, Inc.</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">New SAIC<br />[A]</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Other</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Pro Forma</td>
<td valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Revenues</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">11,165</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">(4,690</td>
<td nowrap="nowrap" valign="bottom">)</td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">6,475</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Costs and expenses:</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Cost of revenues</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">9,814</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(4,237</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">5,577</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Selling, general and administrative expenses</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">572</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(68</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">504</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Separation transaction and restructuring expenses</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">38</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(28</td>
<td nowrap="nowrap" valign="bottom">)</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(10</td>
<td nowrap="nowrap" valign="bottom">) [B] </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Operating income</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">741</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(357</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">394</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Non-operating income (expense):</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Interest income</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">9</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">9</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Interest expense</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(93</td>
<td nowrap="nowrap" valign="bottom">)</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(93</td>
<td nowrap="nowrap" valign="bottom">) </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Other income, net</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">8</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">8</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Income from continuing operations before income taxes</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">665</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(357</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">318</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Provision for income taxes</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(137</td>
<td nowrap="nowrap" valign="bottom">)</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">126</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(4</td>
<td nowrap="nowrap" valign="bottom">) [B] </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(15</td>
<td nowrap="nowrap" valign="bottom">) </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Income from continuing operations</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">528</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">(231</td>
<td nowrap="nowrap" valign="bottom">)</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">6</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">303</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr>
<td height="8"><br /></td>
<td colspan="4" height="8"><br /></td>
<td colspan="4" height="8"><br /></td>
<td colspan="4" height="8"><br /></td>
<td colspan="4" height="8"><br /></td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Basic earnings per share from continuing operations</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">3.64 </td>
<td nowrap="nowrap" valign="bottom">[C] </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Diluted earnings per share from continuing operations</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">3.64 </td>
<td nowrap="nowrap" valign="bottom">[C] </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Weighted average number of shares outstanding:</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Basic</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">83 </td>
<td nowrap="nowrap" valign="bottom">[C] </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Diluted</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">83 </td>
<td nowrap="nowrap" valign="bottom">[C]</td></tr>
</tbody></table>
<br />
<br />
<span> </span><span></span><span></span><span> </span></div>
<br />
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>LEIDOS, INC. </b></div>
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>UNAUDITED PRO FORMA </b></div>
<div align="center" style="font-family: Times New Roman; font-size: 10pt; margin-bottom: 0pt; margin-top: 0pt;">
<b>CONDENSED CONSOLIDATED STATEMENT OF INCOME </b></div>
<div style="font-size: 12pt; margin-bottom: 0pt; margin-top: 0pt;">
<br /></div>
<table align="center" border="0" cellpadding="0" cellspacing="0" style="border-collapse: COLLAPSE; font-family: Times New Roman; font-size: 10pt; width: 100%px;"><tbody>
<tr>
<td width="73%"><br /></td>
<td valign="bottom" width="3%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="3%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="3%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td>
<td valign="bottom" width="3%"><br /></td>
<td><br /></td>
<td><br /></td>
<td><br /></td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="14" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Year Ended January 31, 2013</td>
<td valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td colspan="2" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="6" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Pro Forma Adjustments</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td colspan="2" valign="bottom"> </td>
<td valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 8pt;">
<td nowrap="nowrap" valign="bottom"> <div style="border-bottom: 1.00pt solid #000000; font-family: Times New Roman; font-size: 8pt; width: 41.20pt;">
<i>(in millions) </i></div>
</td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Historical<br />Leidos, Inc.</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">New SAIC<br />[A]</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Other</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="center" colspan="2" style="border-bottom: 1.00pt solid #000000;" valign="bottom">Pro Forma</td>
<td valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Revenues</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">11,165</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">(4,690</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">6,475</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Costs and expenses:</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Cost of revenues</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">9,814</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(4,237</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">5,577</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Selling, general and administrative expenses</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">572</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(68</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">504</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Separation transaction and restructuring expenses</div>
</td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">38</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(28</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(10</td>
<td nowrap="nowrap" valign="bottom">) [B] </td>
<td valign="bottom"> </td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Operating income</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">741</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(357</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">394</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Non-operating income (expense):</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td>
<td valign="bottom"><br /></td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Interest income</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Interest expense</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(93</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(93</td>
<td nowrap="nowrap" valign="bottom">) </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 3.00em; text-indent: -1.00em;">
Other income, net</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">8</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">— </td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">8</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Income from continuing operations before income taxes</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">666</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(357</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">10</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">319</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
<tr style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Provision for income taxes</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(137</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">126</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(4</td>
<td nowrap="nowrap" valign="bottom">) [B] </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom"> </td>
<td align="right" valign="bottom">(15</td>
<td nowrap="nowrap" valign="bottom">) </td></tr>
<tr style="font-size: 1px;">
<td valign="bottom"><br /></td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td>
<td valign="bottom"> </td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td valign="bottom"> <div style="border-top: 1.00px solid #000000;">
<br /></div>
</td>
<td> </td></tr>
<tr bgcolor="#cceeff" style="font-family: Times New Roman; font-size: 10pt;">
<td valign="top"> <div style="font-family: Times New Roman; font-size: 10pt; margin-left: 1.00em; text-indent: -1.00em;">
Income from continuing operations</div>
</td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">529</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">(231</td>
<td nowrap="nowrap" valign="bottom">) </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">6</td>
<td nowrap="nowrap" valign="bottom"> </td>
<td valign="bottom"><span style="font-size: 8pt;"> </span></td>
<td valign="bottom">$</td>
<td align="right" valign="bottom">304</td>
<td nowrap="nowrap" valign="bottom"> </td></tr>
</tbody></table>
<table border="0" cellpadding="0" cellspacing="0" style="border-collapse: COLLAPSE; width: 100%px;"><tbody>
<tr><td width="5%"></td></tr>
</tbody></table>
<br />
<table border="0" cellpadding="0" cellspacing="0" style="border-collapse: COLLAPSE; width: 100%px;"><tbody>
<tr><td width="5%"><br /></td><td width="5%"><br /></td><td width="5%"><br /></td><td width="5%"><br /></td><td width="5%"><br /></td><td align="left" valign="top" width="2%"><br /></td><td valign="top" width="1%"><br /></td><td align="left" valign="top"><br /></td></tr>
</tbody></table>
Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-21872986205952950322013-10-03T20:25:00.002-07:002013-10-03T20:25:50.915-07:00Terrific Article From Mungerism<a href="http://mungerisms.blogspot.com/2010/04/charlie-munger-turning-2-million-into-2.html">http://mungerisms.blogspot.com/2010/04/charlie-munger-turning-2-million-into-2.html</a>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-47180623110202986392013-10-03T18:12:00.001-07:002013-10-03T20:21:54.138-07:00My Investment Checklist<b><u>Understanding the Business</u></b><br />
1. Can I describe how the business operates in my own words?<br />
2. How does the business make money?<br />
3. How has the business evolved over time?<br />
4. What are the costs that the business have to incur?<br />
5. Is the business affected by commodity prices? If so, what commodities and what factors affect the commodity prices? Where are these commodities in their respective commodities cycle?<br />
6. What factors contributed to historical booms and busts?<br />
7. What is the proportion of revenue and profit from foreign operations?<br />
8. Who is the core customers of the business and are customers purchasing decision affected by economic conditions?<br />
9. Is the customer base concentrated or diversified?<br />
10. Is it easy or difficult to convince customers to buy the products or services? How high is the switching cost?<br />
11. What pain does the business alleviate for the customer?<br />
12. How are the business's products/services differentiated from those offered by competitors?<br />
13. Does the business have sustainable moats and what is the source?<br />
14. Does the business have pricing power, can it pass along inflation impact to customers?<br />
15. What type of relationship does the business have with its suppliers?<br />
16. What risks does the business face?<br />
17. Is the business subject to the competition of foreign cheap labor? (Dexter shoes, Berkshire textile)<br />
<br />
<b><u>Industry Analysis</u></b><br />
1. How has the industry evolved over time?<br />
2. How does the industry operate?<br />
3. Who are the big players in the industry? How did they become so successful?<br />
4. How intense is the competition within the industry?<br />
5. Is the industry concentrated or fragmented?<br />
6. What are some key indicators/statistics relevant to this industry?<br />
7. Historically, how does the industry perform in different phases of the business cycle and stock market cycle? Does it perform well during bull market or bear market? Does if fall more than the market in a falling market?<br />
8. Is there a long term trend benefiting the business?<br />
9. Is the industry subject to rapid changes?<br />
10. Is the industry subject to strict regulations?<br />
<br />
<b><u>Financial Analysis</u></b><br />
1. What are the operating metrics that need to be monitored?<br />
2. What are the best valuation metrics to use?<br />
3. What types of assets does the business have and how easier can they be converted to cash?<br />
4. What is the return on invested capital for this business?<br />
5. What is the level of operating leverage?<br />
6. Does the business generate revenues that are recurring or from one-off transactions?<br />
7. How does working capital impact the cash flow of the business?<br />
8. Does the business have high or low capital expenditures?<br />
9. Is the business subject to huge pension liabilities?<br />
10. What is their derivative exposure as a % of operating income?<br />
11. Is ROA or ROE a better measurement for returns?<br />
12. What is the proportion of intangible and goodwill as a percentage of total assets?<br />
13. What is the asset/equity, debt/equity and interest coverage ratio?<br />
14. When are the debt due?<br />
15. What are off-balance sheet commitments and obligations?<br />
16. Have operating cash flows moved consistently with net income?<br />
17. During the past 3, 5 and 10 years, did the business have to spend all its earnings in capex and acquisitions?<br />
<br />
<b><u>Management Team</u></b><br />
1. What type of manager is leading the company?<br />
2. How did the CEO rise to lead the business?<br />
3. Is the compensation structure aligned with the interest of shareholders?<br />
4. What is the stock ownership percentage of the business?<br />
5. Have the leaders been buying or selling stocks?<br />
6. Are the CEO and CFO disciplined in making capital allocation decisions?<br />
7. Do the CEO and CFO buy back stock opportunistically?<br />
8. Does management buy back shares to satisfy RSU issuance? i.e Did share count shrink as the company buys back shares?<br />
9. Is the letter to shareholders meaningful to read?<br />
10. Are managers clear and consistent in their communications and actions with stakeholders?<br />
11. Do the option grant and RSU grants policies encourage management to manipulate earnings so they can exercise options?<br />
<br />
<b><u>Evaluating Growth</u></b><br />
1. Does the business grow from M&A or does it grow organically?<br />
2. What is the management team's motivation to grow the business?<br />
3. How much is future growth subject to the law of diminishing returns? i.e What stage in business cycle is the business in?<br />
4. Is the management team growing the business too quickly or at a steady pace?<br />
5. Has the growth in business attracted more competitors?<br />
6. How does management make M&A decisions?<br />
7. How much did management pay for past acquisitions and have they been successful in achieving synergies and expanding market?<br />
<br />
<b><u>Additional Items from Past Mistakes of Other Investors and Myself:</u></b><br />
1. Are recent earnings peak earnings? (Berkshire bought Cort, Pabrai bought Delta Financial).<br />
2. Are recent earnings reflective of any bubbles ( First Solar)?<br />
3. Is overcapacity building up? Pay special attention to industry such as shipping and drilling where it can take years for overcapacity to become obvious.<br />
4. If dramatic changes are made rapidly, did management test new strategies before full implementation? Such as Ron Johnson's change at JC Penney.<br />
5. What psychological biases are managers subject to?<br />
6. Does the change ignore human psychological biases? Ron Johnson's termination of promotion at JC Penney.<br />
7. Are gross margin and net margin contracting?<br />
8. Is the business deteriorating due to new entrants or new products from existing rivals? If so, is management too arrogant to acknowledge the need to change? Think about what iPhone did to Nokia and Blackberry and what Nokia and Blackberry's management said about iPhone. Also think about what iPad is doing to Dell and HPQ.<br />
9. What structural factors and long term mega trends are negatively affecting the business? Think about what internet did to Radioshack and newspapers.<br />
10. If short, is there a long term trend benefiting the business? Is it a valuation only based short?<br />
11. Reverse engineer: How many products does the company need to sell at a normal industry margin in 5 years, 10 years to justify its current valuation.<br />
12. Is the upside at least 2X current prices in 2-3 years, or 5x in 5 years?<br />
<br />
<b><u>Psychological Biases Checklist:</u></b><br />
<ul style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; margin: 5px 0px; padding: 0px; vertical-align: top;">
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">Look for disconfirming evidence – killing your own ideas.</li>
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">Emphasize factors that don’t produce lots of easily available numbers.</li>
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">Under-weigh extra vivid experience and overweigh less vivid experience. Same with recent events, i.e. cool off.</li>
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">Remember the lesson: One idea or fact is not worth more merely because it is easily available to you.</li>
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">There’s no logical answer in some cases except to wring the money out and go elsewhere.</li>
<li style="list-style: disc; margin: 0px 0px 5px 30px; padding: 3px 0px 0px;">Don't make any investment decision under euphoria or extreme depression. </li>
</ul>
<br />
<br />
Below is from an article from gurufocus:<br />
<a href="http://www.gurufocus.com/news/171556/avoiding-value-traps-a-four-question-test">http://www.gurufocus.com/news/171556/avoiding-value-traps-a-four-question-test</a><br />
<strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">1) What are the odds that this company will not be around ten years from today? – </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">As I noted in my previous article “</span><a href="http://www.gurufocus.com/news/171067/kill-the-company" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">Kill the Company</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">,” this is the first question Buffett will always ask: Is there any chance that a significant amount of my capital could be subject to catastrophe risk? As Alice Schroeder noted, if the answer is yes, he just stops thinking; this is a good example to follow.</span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">2) What is the company’s sustainable competitive advantage</strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">? – In my mind, this is essentially the same thing as No. 1: What does this company do that all but guarantees its existence 10, 20 and 50 years from now? For Coca-Cola (</span><a href="http://www.gurufocus.com/stock/KO" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">KO</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">), it delivers a product with unmatched brand equity (partly due to significant economies of scale) via an unrivaled distribution network; in addition, it has levered this success to enter new categories (juices, teas, sports drinks, etc.) in order to all but guarantee its continued growth even if the shift away from CSDs experienced in the U.S. continues in the future. </span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">3) Does the company have the financial strength to ride out a rough patch? </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">This is overwhelmingly important, and has been captured as of late in two high profile examples: </span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">The first is Diamond Foods (</span><a href="http://www.gurufocus.com/stock/DMND" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">DMND</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">), which has been plagued with an accounting scandal: The company was itching to grow a bit too quickly, and now holds $530 million in debt (compared to a market cap of $470 million) compared to marginal profitability. As a result, the company has had to explore strategic alternatives, and will likely need to dilute the current shares outstanding or sell the company as a whole (they are in talks with KKR according to a recent Barron’s article). </span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">Even when adjusting the prior year’s financial statements to account for the misstated numbers, DMND starts to look attractive at the current valuation based on their growth potential and their current earnings power; the minute my eye catches that overwhelming debt load, I’m forced to walk away in fear of what might lay ahead for this company.</span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">On the other end of the spectrum is Nokia (</span><a href="http://www.gurufocus.com/stock/NOK" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">NOK</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">); while the company has gotten clobbered by Apple’s (</span><a href="http://www.gurufocus.com/stock/AAPL" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">AAPL</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">) iPhone and Google’s (</span><a href="http://www.gurufocus.com/stock/GOOG" style="background-color: white; color: #005790; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px; text-decoration: none;">GOOG</a><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">) Android operating system, they are fine from a financial perspective. Even after losing more than 1 billion euros last year, the company has net cash of 5 billion euros, leaving them plenty of time to right the ship (now that we abandoned that burning oil rig, right Mr. Elop?) before the balance sheet becomes an issue.</span><br />
<br style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;" />
<strong style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">4) Would you LOVE to see the stock fall 50%? – </strong><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">For me, this is the ultimate test for an investment. If you can look at a company’s competitive position within an industry and know that you would love to buy more at half of today’s price </span><i style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;">regardless</i><span style="background-color: white; font-family: Arial, Helletica, sans-serif; font-size: 14px; line-height: 21px;"> of the short-term noise, that’s a good sign in my book (I've been begging for many to do some since I missed out in 2009, but so far, no gravy). If this isn’t true, there are two likely culprits: Either you question the long-term sustainability of the business, or you don’t understand enough about the company to feel comfortable with bouts of volatility. Either way, its probably a sign that you should move on to the next opportunity.</span><br />
<br />
<b><u><br /></u></b>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-76369101751138969222013-10-01T18:59:00.000-07:002013-10-01T18:59:52.466-07:00Evaluating BBRY Using Buffett's Arbitrage Strategy<span>BlackBerry, the once-dominant maker of smartphones <span style="text-decoration: underline;"></span>that fell hard times in recent years, announced a $4.7billion deal to go private a few days ago. Since then, </span><span>a
few of my friends have mentioned to me that the Fairfax and BBRY deal
could be a very interesting situation. The announced deal is
$4.7billion, however, the market is putting a $4.15 billion price tab on
Blackberry. Therefore, I decided to take a closer look at this
potential arbitrage situation. <br /><br />In evaluating the current
situation, I turned to the 1988 letter to shareholders from the Oracle
of Omaha. In this letter, Mr. Buffett intelligently laid out the four
questions that need to be evaluated in arbitrage situations. <br /><br />(1) How likely is it that the promised event will indeed occur?<br /><br />(2) How long will your money be tied up? <br /><br />(3) What chance is there that something still better will transpire — a competing takeover bid, for example? <br /><br />(4) What will happen if the event does not take place because of anti-trust action, financing glitches, etc.?<br /><br />Let's go through the questions one by one. <br /></span><span>(1) How likely is it that the promised event will indeed occur?</span><span><br /><br />Here
is what Mr. Buffett wrote for the KKR-Arcata deal:" Appraising this
arbitrage opportunity, we had to ask ourselves whether KKR would
consummate the transaction since, among other things, <b><i>its offer was contingent upon its obtaining 'satisfactory financing.</i></b>'
A clause of this kind is always dangerous for the seller: It offers an
easy exit for a suitor whose ardor fades between proposal and marriage.
However, we were not particularly worried about this possibility <b><i>because KKR's past record for closing was good"</i></b><br /><br />With
the Fairfax and Blackberry deal, one of the reasons why Mr. Market is
putting a discount to Blackberry's value is because Fairfax has not
obtained all the financing needed. This worry is warranted if the
acquirer has an unsatisfactory track record. However,</span> <span>in 28 years, Fairfax has Never retreated or walked away from a deal. So in my opinion, it is very likely that the promised event will indeed occur. </span><br /><span>(2) How long will your money be tied up? </span><span><br /></span><span>Fairfax will spend two months conducting due diligence of the company's financial statements. That due diligence is
expected to be complete by 4 November, BlackBerry said in a statement</span><span>.
Assuming the due diligence is completed as expected, then allowing a
couple days for final negotiation and wrapping up the deal, our money
will be tied up for about 5-6 weeks. It is a long time for Wall Street but for value investors, 5-6 week is almost as short as it can get. </span><br /><span>(3) What chance is there that something still better will transpire — a competing takeover bid, for example? </span><span></span><br />
<span></span><br />
<br /><span>From what I read, there could be other bidders who are interested in BlackBerry’s services business and operating system, but only few bidders in the handset unit. Blackberry will also need to pay Fairfax a hefty breakup fee if they can find a better deal. So if a better deal is find, it has to be a few hundred million dollars more to cover the termination fee. Furthermore, Blackberry's CEO Thorston Heins has a huge incentive to find another deal, not necessarily a better one though, because </span><span>if he lost his job after a sale of the company (not dependent on the sale price), he will get a compensation package worth $55.6 million. </span><br />
<br />
<span>So it seems like a deal, whether it is with Fairfax or not, is extremely likely given the incentives of participating parties. </span><br />
<span></span><span><br />(4) What will happen if the event does not take place because of anti-trust action, financing glitches, etc.</span><br />
<br />
<span>Here, the market has factored in the possibility that the deal falls through. Should that be the case, the market will likely to value Blackberry the way it did before the announcement of the deal. How much, nobody knows. From a balance sheet perspective, Blackberry's latest quarterly filing shows that it has roughly $9 billion tangible assets and $4 billion liabilities. So net tangible assets is $5 billion dollar, still higher than Fairfax's bid. Blackberry's intangible assets include its acquired technology and intellectual property. If we ask ourselves what the intangible assets might be worth, again, turning to the Oracle's wisdom, let's "coolly evaluate the intangible assets at somewhere between zero and a whole lot." However, with or without intangible assets, Blackberry should worth at least to the $4.7 billion bid by Fairfax. </span><br />
<span><br /></span>
<span>So to sum up, if everything turns out as expected and assuming that an investor purchases Blackberry at today's price for $4.15 billion or $7.92 per share and that in 6 weeks and that the deal goes through, the investor will wind up with $4.7 billion or $9 per share, That's 13.6% in 6 weeks or more than 200% annualized. </span><br />
<span><br /></span>
<span>Alternative, one can do a conservative expected return calculation illustrated as following: </span><br />
<br />Let's say there is 70% chance it will go through for at least
$9. If the deal doesn't go through, let's assume BBRY drops to $7. <br /><br />Expected
return = 70%*1.08 - 30%*0.92=$0.48 on $7.92 per today's closing price,
or 6.06% in 6 weeks, or more than 66.5% annualized. <br />
<span><br /></span>
<span>I think the odds are good. As the market keeps going up, this looks like a compelling "work-out". </span><br />
<span><br /></span>
<span><br /></span>Ninghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-10992982813392125082013-09-30T13:01:00.002-07:002013-09-30T13:01:34.808-07:00Great Michael Price Interviewhttp://www.marketfolly.com/2013/06/michael-prices-presentation-from-london.htmlNinghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0tag:blogger.com,1999:blog-2219031865534260870.post-56190332189352148502013-09-23T16:30:00.000-07:002013-09-23T18:06:38.095-07:002013 Pabrai Investment Funds Annual Meeting NotesI had the honor to attend the Pabrai Investment Funds annual meeting in
Chicago this past Saturday. It was a great learning experience. Mohnish
did a fantastic job and it was really fantastic of him to take the time
answering investors' questions both during the meeting and after the
meeting. Truly a remarkable man!<br /><br />Here are my notes:<br /><br /><strong>General Comments:</strong><br /><br />Mohnish
commented on the performance of the funds first. Most of the funds
handsomely beat the best index by a considerable margin (except for PIF
4, still beat the best index but by a small margin). Only 1 out of 200
fund mangers can beat the S&P by more than 3% annually and Mohnish’s
certainly done that. The funds have done better than the market this
year both as of 6/30 and as of 8/31. <br /><br /><strong>Value Proposition:</strong><br /><ul>
<li>No management fees, only performance fees. </li>
<li>Pabrai family is the 2nd largest investor. </li>
<li>High watermark. </li>
<li>No leverage, no margin loans, no short positions. </li>
<li>Great investor base ( a worth-noting one in my opinion). Most investors did not panic and redeem during bad times. </li>
</ul>
<strong>Other Comments:</strong><br /><ul>
<li><strong>HAVEN'T MADE A MISTAKE FOR A FEW YEARS.</strong></li>
<li>Few big ideas during 2011 and 2012 generated good returns. </li>
<li>Fully exited the Japanese net net basket investments (see below). </li>
</ul>
<br /><strong>Update on the Japanese Net Net:</strong> <br /><br />The
Pabrai funds invested in a basket of Japanese net net starting October
2010. Mohnish has exited all the positions with a realized gain of 2.2%
including dividends, or 1.4% annualized. To me, this is surprising as
the Japanese market has advanced significantly since October 2010. In
search of explanation, Mornish referred to a few quotes from Ben Graham
from the 1940 edition of Security Analysis. Here is one:<br /><br /><i>"It
may be pointed out, however, that investment in such bargain issues
needs to be carried on with some regard to general market conditions at
the time. Strangely enough, this is a type of operation that fares best,
relatively speaking, when price levels are neither extremely high nor
extremely low." </i><br /><br />Mohnish expanded on this by stating that
when the market bottoms it's much better to buy quality companies that
have fallen precipitously with the market rather than focus on net-nets.
When the market flies, net-nets are also ignored because investors
shift their focus to both quality companies and story stocks. <br /><br />Examples
include Hibiya Engineering and Ryoyo Electro. Both were trading below
NCAV at the time of his investment, generating profits as well as
positive and consistent cash flows. Managements of both companies were
also repurchasing shares. Hibiya ended up just a little bit profitable
and Ryoyo turned out be a -15% loss. <br /><br /><strong>Question and Answer:</strong><br /><br /><strong>1.
Further comments on the Japanese net net investments. Why did the funds
exit all net net positions? Is Ben Graham right about net-net not
working in a trending market? </strong><br /><br />Mohnish said he wanted to
have the optionality of cash and he wasn't comfortable at the level of
cash holdings Therefore he exited the net net basket. He also mentioned
that the market's skeptical about Japanese companies' managements'
willingness and ability to unlock value for shareholders. <br /><br /><strong>2.
Question on the equation Mohnish used in net net: Net Asset + Long Term
Bond - All Liabilities. Is long term bond double-counted?</strong><br /><br />Long
term bond here is not long term debt. It refers to the fixed income
investments on the balance sheet as assets. They can be converted to
cash easily. <br /><br /><strong>3. Question regarding the commercials played during the meeting. </strong><br /><br />There are two more commercials coming up. He can't answer this one. <br /><br /><strong>4. Thoughts on market for the rest of 2013? What is the minimum investment for the funds?</strong><br /><br />No
idea what the market will do for the rest of 2013 and he won't even
try. Minimum investment in the Pabrai funds now is $2.5 million. <br /><br /><strong>5. Question regarding concentration versus diversification. </strong><br /><br />Mohnish
moved from 10/10 allocation model (10 ideas each 10%) to 10/5/2. During
December 2008, so many stocks are trading at bargain price and they are
coming in so fast and furious so he didn't have the time to figure out
which one to pass. The funds invested 2% in each. Then as the market
advances, his 14th or 15th position will not be as good as his top
positions. He wants to have the flexibility to make those 2% and 5% bets
but generally will limit the position size to 10%. <br /><br /><strong>6.
In a recent book about John Templeton, Mohnish wrote some comments about
how he traveled to different business schools and talked to the
students about companies with amazing financials. What are the
companies?</strong><br /><br />Mohnish said he is clueless about that. Maybe he needs to reread what he wrote. (laughter) <br /><br /><strong>7. As a result of the Japanese net net investment, did you add anything to the checklist and if so, what is it?</strong><br /><br />He
made the addition of when buying a basket of net net, make sure the
market is not too high, not too low. ( I didn't quite catch this
exactly) He found it very hard to believe that the net net investments
only resulted in a 2.2% gain including dividends. It seems so obvious at
the time of the investment. <br /><br /><strong>8. Question on net net and
checklist, do you look a lot into management and if so, what do you look
at? What's your thought on management's capital allocation decisions? </strong><br /><br />The
checklist is created by looking at his mistakes and other investors'
mistake and coming up with ad-hoc questions that should've been asked
prior to the investment. He then categorized these questions into a few
baskets such as leverage, management. In terms of management, he looks
at factors such as ownership percentage, alignment of interest, and
management compensation. He also looks at management's capital
allocation record but management rarely allocates capital perfectly and
it's ok if the investment is compelling. He's made a lot of investment
in companies whose management is not very good at allocating capitals.<br /><br /><strong>9.
It seems like most of your holdings are large cap blue chips stocks.
Going forward, are you planning to switch to more small cap and mid
caps?</strong><br /><br /><strong><br /></strong>Mohnish said that most of his
investments are not in large cap blue chips stocks. He would love them
to convert to blue chips though. His approach is opportunistic because
he is not pursuing after a specific asset class. It happens to be during
the past year or so, he has invested in a few blue chips but that could
change a year from now.<br /><br /><strong>10. Two part question. What's
your thought on post crisis ROE of banks? How do you incorporate macro
into your investment analysis? </strong><br /><br />There are both headwinds
and tailwinds for the banks. The tailwinds include less competition for
big banks and technology advancement that cut labor cost. The headwind
is higher capital requirement and stricter regulation but he thinks
that's good for the banks in the long run. <br /><br />In general, you will
always better off focusing on the micro than the macro. For example,
there's a McDonald's close to his house and he's fascinated by the
efficiency of the drive through operation. If you look at that business,
does an increase in the interest rate or unemployment rate impact that
business as much as an opening of an In & Out next door? Obviously
the latter has a larger impact. <br /><br /><strong>11. What are your thoughts on activism? Do you follow any activist investors? </strong><br /><br />Mohnish
said he's always been skeptical about the activist's impact on
business. He thinks in general, activism is overrated. It's not easy to
force changes in public companies. It's an acrimonious way to go through
life. He will be much better off without being involved in activism. He
does not follow any activist investors. <br /><br /><strong>12. When you
invested in Delta Financial, the sentiment for mortgage business was
high, how do you balance investor enthusiasm with true value of the
business? </strong><br /><br />Investing in Delta Financial is a straight
stupid mistake, not sentiment driven. He basically made a basic mistake
by not appropriately assessing the downside. You'll make errors all the
time in this business. You have to focus on the specific of business,
not the sentiment and macro. <br /><br /><strong>13. Would you taper or not taper? What are your thoughts on Indian Rupees?</strong><br /><br />Mohnish
said "so you ask me to be the Fed Chair? Good thing I'm not." All jokes
aside, he would be on the side of Bernanke. The fall of Rupee is
interesting. To some extent, he thinks it is an overdose to skepticism.
But it doesn't matter what the Rupee does, if you invest in India, you
still want to focus on micro. <br /><br /><strong>14. Questions on Japanese net net, did you factor in the liquidity issue before your investment? </strong><br /><br />The
net net investments he made in Japan were not the absolute cheapest and
they are not very liquid. It took the funds a year to get in and
another year to get out. The problem is, most net net situations are
with micro cap and small cap companies and they are inherently not as
liquid as large caps. <br /><br /><strong>15. How did you get started in the investment management business? </strong><br /><br />Mohnish
said prior to his launch of the partnership, he had a few years of good
returns with his money and he was giving stock tips to his friends. His
friends suggested him to start a partnership to make it more official.
So Mohnish started the partnership with 8 other friends' money. He was
still running a business and a day job back then. To him, managing a
million does not requirement too much extra work. When he set up the
partnership, he wanted to set it up in the fairest way possible. He
actually guaranteed the principle for his early investors and he took it
out later. If you are interested in creating an investment business,
you should start by creating a track record that is audited so you can
show it to your investors. If you beat the indices consistently, people
will swim to you. <br /><br /><strong>16. If you were to go back to when you
started, what would be the things you advice to read? And if you don't
look at the macros so much, how did you come up with these international
investments. </strong><br /><br />Each person is different. But he found
Manual of Ideas and Corner of Berkshire and Fairfax very helpful. There
are other good resources out there and it's better to copy other's
ideas. Japanese net net was his original idea and we all know how it
ended up (laughter). <br /><br /><strong>17. At this time last year, Apple
was going up everyday up to around 700 and someone during the meeting
last year asked you if you would buy Apple. Why did you not buy apple? </strong><br /><br />Apple
is a fantastic business with an incredible franchise. What keeps him
away from Apple is because it is in an industry with rapid changes. The
second thing that dissuade him, Apple is a super large cap and you are
not going to find 2x, 3x returns in large cap blue chips. You will find
better opportunities in smaller caps. <br /><br /><strong>18. Do you use
options and futures? How do you make the decision, based on fundamental
analysis or technical analysis because fundamental tells you what to buy
and technical analysis tells you when to buy and when to sell?</strong><br /><br />Don't use options or futures. Makes decisions based on fundamentals only. <br /><br /><strong>19. I was wondering in general, what are your take on Europe (especially the financials)?</strong> <br /><br />In
general, it is very likely that many opportunities exist in Europe.
There are many opportunities out there but he doesn't understand the
country dynamics or the businesses. It may not be a bad place to start
if the country is going through stress. Especially European companies
with revenues from all across the globe. <br /><br /><strong>20. What are your thoughts process behind keeping your funds closed? </strong><br /><br />The
funds are closed because he can't find anything to buy and he thinks he
has more capital than ideas. If that shifts sometimes in the future
when he has more ideas than capital, he'll open up the fund.
Furthermore, he has no incentives to increase the asset under
management, unlike the other investment managers. The other thing he
would prefer to do is to raise money at the right time. Historically
when the funds got massive inflows when the funds were performing well
and got no inflows when the funds were performing poorly. He was
desperate in raising capitals back in late 2008 and early 2009 and was
not successful. However, at the peak of 2007, investors are throwing
money in. The less, be patient and be ready when opportunities arrive. <br /><br /><strong>21.
I didn't quite catch this one but it was related to the comparing some
investment to Berkshire Hathaway and which is a better investment in his
opinion.</strong><br /><br />Mohnish said he's glad he's not benchmarked
against Berkshire. Buffett has the disadvantage of size but he should be
able to beat the S&P 500. He hopes Warren will do better. <strong><br /></strong><br /><strong>22.
What is your strategy in terms of picking out the ideas for further
research when you go through the holdings of others? And how have you
used the checklist to rule out ideas that can potentially turn out to be
mistakes? If you had used the checklist, would you have invested in
Delta Financials? </strong><br /><br />That's a good problem to have in the
first place. You can trim the list by picking out the ones they have the
highest convictions. <br /><br />There are many examples that the checklist
prevented him from investing in an idea but most of his ideas don't
even get to the checklist phase. In the last 14 months, he has looked at
many many things and for one thing or another, he turned them down. He
also has conversation with other money managers and very often, during
these conversations, the ideas are killed. The checklist is used to
highlight the things that he has thought about. If he had run the
checklist, he wouldn't have bought Delta Financials. <br /><br /><strong>23. Question on the checklist, are you concerned that your may have raised the bar too high? </strong><br /><br />He
doesn't think the checklist list has raised the bar to high. Any
companies he run the checklist on will have some issues. The checklist
is not too demanding. He's sure many many things that he passed on will
end up doing well. The thing that usually stops him is the downside,
which may never materialize. But that's the kind of things you should
look at prior to making an investment decision. <br /><br /><strong>24. What are your thought on selling? Does the rise or fall of interest rates change the discount rate you use?</strong><br /><br />Typically
he sells at 90% of intrinsic value. The interest rate doesn't really
affect the discount rate he uses. In general, a discount rate of 6%-9%
should be ok. <br /><br /><strong>25. This question comes from an equity research analyst. Have you ever been tempted to short? </strong><br /><br />He
said he has not been tempted to short at all. He thinks shorting can be
a way to make money but the timing is too tricky, you can be right but
it can take a long time to prove it. Also the maximum gain you can get
is 100% but the maximum loss is unlimitedNinghttp://www.blogger.com/profile/03594563354249217633noreply@blogger.com0