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Strategies & Market Trends : Buffettology -- Ignore unavailable to you. Want to Upgrade?

To: Robert Douglas who wrote (769)	12/24/1998 12:10:00 PM
From: Chuzzlewit	Read Replies (3) \| Respond to of 4691

Robert, I apologize for nothing I said. I will stand behind every conclusion I have drawn. I believe value investors fool themselves, and I am fully prepared to back that statement up. I would also point out that I do not and did not twist and contort what people on this thread say, nor do I engage in creating fictitious positions ("straw men") as some others on this thread are fond of doing. If you are interested in an honest debate, I am more than willing. Economists, financial academics and business appraisers have understood for years that there is no such thing as intrinsic value. This means that value is really an empirical concept, and it is relative rather than absolute. Value is generally defined in one of two ways: either you look to "comparables" -- this is done in real estate all the time. But you may not recognize that it is also commonly done in accounting conventions in the use of "the lower of cost or market" tests. Alternatively, you might look at capitalizing future cash flows. This latter approach is embodied in the CAPM (or capital asset pricing model). This model is generally taught in finance courses because it makes the best theoretical sense. Unfortunately, there is a chicken and the egg quality to it, because one of the underlying assumptions is the EMH in at least one of its incarnations. Nevertheless, you will find that merger documents produced by investment bankers attempt to value a business combination on this basis. So, what we are left with is the willing buyer and the willing seller methodology, long used by appraisers. But isn't this exactly what the stock market is -- a device for bringing buyers and sellers together. What I find so truly odd is that if you cannot define the value of a commodity item like oil, or an hour of labor, how can you hope to define the value of a business which depends on ownership of assets which are ultimately composed of a combination of labor and commodities? Robert, if you are sincerely interested in this kind of thing, may I respectfully suggest you read Burton Malkiel's "A Random Walk Down Wall Street"? The book is virtually required reading in every graduate finance school in the country, and provides a very readable summary of academic thinking and research into the stock market. Finally, since you brought out an analysis of Dell, I will point out that you made unreasonably constraining assumptions, but I will pass those by for the moment and simply point to a glaring mistake you made in your conclusion. If a company is fairly priced, and grows its earnings at 15% per annum, then the growth in the value of the stock must be 15% per annum. That means that Dell's stock must grow at a rate of at least 15% at the end of you analysis. That would also mean that according to your way of thinking, if Dell were properly valued it ought to have a price of around $11 ($84 discounted at 50% for 5 years = $11.06). Now here are some of the errors you explicitly made: 1. 6% net margin; 2. An increase in the number of shares (Dell actually decreases the number of share o/s each quarter through buy-backs). In effect, you assumed lowered earnings per share. So, let's make a simplifying assumption. Starting with this past quarter's earning's of $.29 let have that grow at 50% per annum for the next 5 years, or 20 quarters. That means that earnings grow by 10.67% per quarter. That means that in 20 quarters, earnings will be $2.20 for the quarter. That also means that earnings for the full year would be $7.61 (the sum of quarters 17-20 inclusive) if the number of shares remained constant. Of course, that neglects interest income which would be earned on share buybacks. Nevertheless, using your logic, the value of a share would then be $228.30 (30x $7.61). Dell is currently trading at about $75, so the return over this period would be 24.9% per annum. You will note that I made no assumptions other than 50% per annum growth in eps and a terminal value of 30x trailing earnings. TTFN, CTC