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To: Chuzzlewit who wrote (11171)	11/19/1999 12:05:00 PM
From: John Malloy	Respond to of 21876

<Sorry to ramble on, but this topic is dear to my heart> A kindred spirit! This topic is dear to my heart as well. We must be calculating different things. I am trying to calculate what a stock is worth to me, irrespective of what the market price is. What I care about is the net cash a stock puts in my pocket. That's why I focus on the dividends I receive and the price of the stock when I sell. That's what flows into my pocket. I don't care about the firm's cash flow because that cash flow doesn't get into my pocket. I don't understand why you care about the firm's cash flow, because it doesn't get into your pocket either. The classical procedure for valuing a stock is the Dividend Discount Model -- a firm is worth the present value all the dividends the firm will pay as long as it is in business. My approach is consistent with the classical approach. According to that approach, an investor who buys a stock is buying the right to all those future dividends. The price he pays for the stock is the present value of all those future dividends. I also value the stock as the present value of all future dividends. I account for dividends I receive directly. I use the stock price when I sell as a proxy for the present value of all the dividends the firm will pay after I sell. In order to value a stock, I need to build a mathematical model that will allow me to forecast future dividends and stock prices. As part of that model, I need a measure of the size of the engine that is generating earnings and dividends. If accountants hadn't provided me with stockholder equity to fill that need, I would have had to invent it, or something like it. I don't find stockholder equity as objectionable as you do. Stockholder equity doesn't have to be accurate. It just has to be calculated in a consistent way from year to year. For example, I model the stock price as equity/share at any time multiplied by the price/book ratio at that time. Suppose the firm overstates equity/share. Then the price/book ratio must have an exactly compensating error because the two multiplied together must equal the actual stock price. The same is true for dividends. I model dividends as equity/share multiplied by the return on equity and the dividend payout fraction. If the firm overstates equity/share, then return on equity multiplied by the dividend payout fraction must have an exactly compensating error because all three multiplied together must equal actual dividends. In short, I need a model that allows me to forecast dividends and stock prices. Equity/share, with all its shortcomings, allows me to make those forecasts. The model meets the acid test -- it works! So I have no problem using equity/share. Have a happy Thanksgiving while you mull this over. John Malloy