Sunday, September 6, 2015

Look for businesses where ROIC >> WACC; Be wary of market when q ratio >> 0.7

"The primary test of managerial economic performance is the achievement of a high earnings rate on equity capital employed (without undue leverage, accounting gimmickry, etc.) and not the achievement of consistent gains in earnings per share."

- 1979 Berkshire Hathaway Annual Report

I was reminded of the above quotation when I read the Universa Working White Paper The Dao of Corporate Finance, Q Ratios, and Stock Market Crashes.

The paper states that the most important metric for an individual business is ROIC verses WACC.  Competitive forces make ROIC approximately equal to WACC for most business (about 8%) and therefore growth rate doesn't matter for most business.  Look for businesses where ROIC >> WACC.

Theoretically, aggregate EV/BV (Tobin's q ratio) should be approximately equal to aggregate ROIC/WACC which should be about 1.  Historically, the q ratio averages about 0.7 due ostensibly to book values being systematically overstated.  Be wary of market conditions where q ratio is >> 0.7 (currently at 1.02).

Sunday, April 5, 2015

Case for Pershing Square Holdings

I plan to increase my small position in PSHZF to a large position for the following reasons:

1) Pershing Square has a track record of ~20% APY over the last ten years, and I expect that level of performance to continue.  I believe that Bill Ackman is an activist version of the next Warren Buffett.  I believe that buying Pershing Square Holdings now will produce similar returns to buying Berkshire Hathaway back when it was of a similar size.

 2) Large capitalization shareholder activism has the benefit of significant barriers to entry to prevent large capital flows into the strategy.

3)  Pershing Square's portfolio management approach is inherently low risk (where risk is defined as the probability of a permanent loss of capital).

4) Pershing Square generally invests in higher quality businesses with dominant defensive market positions that generate predictable free cash flow streams and that have modestly or negatively leveraged (cash in excess of debt) balance sheets.  Pershing Square buys these businesses at deep discounts to its estimate of intrinsic value giving a margin of safety against a permanent loss of capital.

5) Pershing Square often seeks investments where they can effectuate positive change to catalyze the realization of value.  This serves to accelerate the recognition of value, helps avoid "dead money" situations, and protects PSH somewhat from managerial actions which can destroy value.

Friday, April 3, 2015

E-mail to Congressman Tom Reed to Support HR1673

message has been sent to the following recipients courtesy of link on Investors Unite website:

   * Representative Tom Reed

The content of my message is as follows:

I write today to urge you to support H.R. 1673, which was recently introduced by Representative Marsha Blackburn, and has since been referred to the Financial Services Committee.
As you may be aware, the bill establishes a reserve fund in which to hold the profits of Government Sponsored Enterprises Fannie Mae and Freddie Mac, which currently operate under the conservatorship of the Federal Housing Finance Agency until substantive housing reform legislation is passed.

In the wake of the 2008 financial crisis, Congress acted quickly and decisively to rescue the housing market by passing the Housing and Economic Recovery Act, which created the FHFA and made it conservator of the GSEs. These actions stabilized the market and allowed the GSEs to resume their mission of increasing access to affordable homeownership by providing liquidity in the secondary mortgage market. By 2012, the GSEs had returned to profitability and have since repaid the Treasury over $40 billion more than was spent to stabilize them after the crisis.

However, under an amendment made to HERA in 2012, the Treasury claims 100% of the GSEs' profits and uses the money as general revenue. This "net worth sweep" not only robs shareholders of rightful return on their investment, but, even more alarmingly, also leaves the enterprises with virtually no capital buffer against any potential future losses, greatly increasing the likelihood that the taxpayer would be asked to foot the bill again. This has now become an imminent possibility.

Rep. Blackburn's bill is a good faith effort to stop the Treasury from using the GSEs as a "piggy bank" to artificially draw down the deficit, and instead will allow the enterprises to build a capital reserve until Congress determines the future of the American housing finance system. This is a bipartisan, short-term solution that curbs an outrageous federal overreach, protects taxpayers, allows for continued access to mortgage credit, and respects the rule of law.

Please take a stand for the taxpayer by supporting H.R. 1673. I appreciate your time and service to our country, and look forward to hearing from your office on this tremendously important issue.

Thank you


Stan Holland
[My postal address was included here]