value investing in today’s world (ii)

flavors of value investing

A basic tenet of value investing is that bad companies don’t stay bad. Something will happen, sooner or later, to cause a change.

–It may happen internally: the company directors do the jobs they’re being paid to do (fat chance) and encourage better business practices; or a set of less skilled executives may retire and be replaced by stronger managers.

–The economic environment may become more favorable.

–Or, the most likely–or maybe just the most likely to succeed, an outside agency may either mount a takeover bid or, at the very least, acquire a large enough stock position to force changes in the way the company is run.

What I think of as value purists will hold shares in a company simply because the financials scream that it’s undervalued. They are content to sit and wait, on the idea that eventually something good will happen.

Others only enter after a catalyst is visible. This may be as simple as evidence of unusual buying activity. Or it may be, as is now the case with Disney, a powerful outside investor who specializes in shaking up underperforming companies signals an interest.

Non-investment companies that compile the indices against which professional investor performance is benchmarked, typically also provide sub-indices that they label growth or value. The S&P 500 Value and S&P 500 Growth are examples. Where value investors deal in absolutes, the indices deal in relatives. They don’t say that anything is cheap or fast-growing in absolute terms at any given time. Rather they tend to tag, for example, the highest price to book value stocks at a given time as growth, the lowest as value. But this describes the relative valuation of one group vs. the other, not that either is in absolute terms expensive or cheap, growthy or stagnant.

shares with extra voting rights, a key distinction

Is META a value stock? It’s trading at 12x earnings and 7x cash flow. This compares with deep-value “sin” stock, tobacco company Philip Morris, which is also part of a conglomerate (a bad thing, from change of control perspective), and which is trading at 18x earnings and 11x cash flow.

Why is META so cheap? Although founder Mark Zuckerberg only owns a small proportion of the overall number of shares, his have 10x voting power of regular ones. So there’s zero chance of ousting him and running the company differently. No matter how low the price/book or price/cash flow might be, it’s not a true value stock.

Leave a Reply