Category Archives: Accounting

cash flow per share and earnings per share as valuation metrics (ll): cash flow per share

January 27, 2011 By in Accounting, cash flow, cash flow/share vs. earnings/share, depreciation, growth vs value Tags: , , , , , , , , , Leave a comment

investor preferences

A large number of investors in the US want to buy stocks where the underlying companies are growing profits rapidly.  The same is true in many other stock markets of the world.  For such investors, earnings per share growth is the main metric they look for when transacting.

This isn’t an immutable law of equity investing, however.  To a large degree, the search for growth is also a question of investor preferences.  In the US, the market I have the longest experience with, I’ve seen the mix of price and growth that investors prefer change dramatically several times.  This has been not so much because the macroeconomic environment has changed, but because the personal circumstances of investors (their age and wealth) did.

Also, I’ve seen other markets where preferences are quite different, where a “good” stock is one that pays a high dividend and where the company is mature enough that it has little need to spend capital on expansion.  These are markets where the search is for income, not for growth.  Taiwan in the 1980s is the first strong example I’ve encountered personally (technology stocks there couldn’t list unless they were willing to pay a 5% yield!).   But the US in the pre-WWII era seems to me to have been another.

the search for income

Not every company can grow at a rapid clip of a long time.  As well, some companies temporarily experience declining profits, either because the economy has turned against them cyclically, or because they’ve just lost their way.  In any of these cases, the large group of investors I’ve mentioned above lose interest in the stocks and more or less consign them to the equity junk pile.

There’s a whole set of other professional investors–in fact, in the US they are arguably in the majority–who evaluate stocks not on their earnings growth potential but on the companies’ ability to generate cash from operations.  There are many variations on this approach.  But all use cash flow per share as their main tool.  Such investors calculate an absolute worth for the company (usually a present value of cash flows over, say, ten years) and compare that with the share price.  They buy what they hope are the most undervalued stocks.

Around the globe, such value investors expect that at some point either the company’s fortunes will take a cyclical turn for the better, or that other investors will realize the undervaluation they see, or (in the US at least) that pressure will be brought to bear on the company to improve its operations.

[By the way, about two years ago, I wrote a series of posts on growth investing vs. value investing that you might want to read.  Take the test (which of two stocks would you buy) to see if you’ve got more growth or value tendencies.]

the stock as a quasi-bond

The key to this approach, viewing it through my growth investor eyes, is to regard the stock as a quasi-bond.

Let’s say the firm is now generating $1 a share in cash from profits and $2 a share in cash from depreciation and amortization.  That’s $3 a share in yearly cash flow.  Taking a ten-year investing horizon, the company will generate a total of $30, even with no growth at all–if the firm can get away without serious new capital investments.  If we were to assume that the company could achieve an inflation-matching rise in cash flow, then the present value of the stream of cash flow is $30.  (Yes, this is a vast oversimplification, but it is the thought process.  Remember, too, we’re also figuring there’s nothing left after ten years.)

What would a company like this sell for on Wall Street?  $20 a share?  …less?

We do have a yardstick, since if we reverse the profit and depreciation figures the description in the last paragraph is a rough approximation of INTC.  The value investor’s explanation for serious undervaluation is that people are so worried about the possibility that processors using designs from ARM Holdings will gradually eat in to INTC’s markets that they are overlooking the latter’s substantial cash generating power.

happy vs. unhappy shareholders

Another way of putting the difference between looking at earnings per share and cash flow per share–

–investors look at eps to gauge a firm’s value when they’re happy with the way the company is performing;

–they look at cash flow per share when they’re not, when they’re trying to figure out how much the company would be worth with different management, or in private hands, or after being acquired by a competitor.

The risk the first group takes is that all good things eventually come to an end.  The worry of the second group is that they’ve be unable to pry the company out of the hands of current management.

cash flow per share and earnings per share as valuation metrics (l): earnings per share

January 26, 2011 By in Accounting, cash flow, cash flow/share vs. earnings/share, depreciation Tags: , , , , , , , , , Leave a comment

two types of investors, two toolboxes

In the US and increasingly in the rest of the world, investors tend to fall into two psychological types:

—growth investors (like me) are dreamers.  We buy stocks based on the belief that future profit growth will be strong enough to make the stock rise in price.  Our mantra is:  better eps than expected for longer than expected.  We typically buy stock in well-managed, industry-leading companies and use projected future eps as our main tool.

—value investors (the more venerable [read: older] school)are pragmatists.  They buy stocks on the idea that they are undervalued based on what one can see in the here and now–the earning power of today’s well-understood businesses + the value of assets on the balance sheets.  They are happy to buy a mediocre company whose stock is trading on the mistaken belief that the firm is truly wretched.  They often have an eye to change of control.  They use both cash flow per share and eps as tools.

eps

Looking at earnings per share growth is, I think, pretty straightforward conceptually.  Earnings go up, the stock goes along for the ride.  The problem is that forecasting earnings with a reasonable degree of accuracy  even twelve months ahead is much more difficult than you’d imagine.  The evidence is that as a group even professional securities analysts, with lots of information at their fingertips and unparalleled access to company managements, fail at doing this.

One issue is that company managements understand the Wall Street game:  show surprisingly strong earnings and you’ll look like a genius and your stock (your stock options, too) will go up a lot.  So they pressure analysts to understate earnings.  Analysts, too, since their livelihood depends on investor interest in the stocks they cover, sometimes become like home town radio announcers for “their” industry and fail to notice trouble developing.

For growth investors, cash flow per share doesn’t come up in discussion very much.  For me–and I spent a little more than half my career in value shops)–three instances where  cash flow is important stand out:

–An emerging company has spent a lot on creating the infrastructure it needs to launch its products/ services, but they haven’t caught on yet.  The firm is showing small profits, or maybe losses at present.  This situation often creates the opportunity for significant operating leverage (large profit increases from small increases in sales).  So if you can find a convincing reason that the company will be successful, it is probably a very interesting investment.

–A more established company has persistently high cash flow but small profits.  This means cash flow consists mostly of depreciation.  Put another way, the company continues to make capital investments but then spends most of its time just trying to recover its (poorly conceived) outlays.  Value investors are drawn to this kind of firm like moths to a flame–thinking that either the board of directors, shareholders or activist investors will force changes.  Growth investors, in contrast, run away as fast as they can.

–A company has two divisions, one of which provides all the growth.  This happens more often than you might think.  In fact, WYNN (which I own) is in just this position.  Macau operations provide all the profits.  To my (growth investor) mind, a situation like this can provide very good performance.  That’s provided you can convince yourself that the second division–Las Vegas, in this case–won’t turn into a black hole of losses that devours the profitable division. This is where cash flow comes in as analytic tool.

As an investor, it’s not good but it is acceptable that the second division is losing money.  But it’s a great comfort if the division is in the black on a cash flow basis, as WYNN is in Nevada.  Operating leverage can be a worry if there’s a significant chance it can turn negative.  But it can be a longer-term plus, if you think there’s a bigger chance operating leverage can eventually turn positive.

That’s it for today.  Tomorrow, cash flow per share and value investors.

cash flow

January 25, 2011 By in Accounting, cash flow, depreciation Tags: , , , , , , Leave a comment

cash flow

Yesterday’s post probably contained more than you will ever need to know about depreciation.  Today’s topic is cash flow.  Tomorrow’s will be a discussion of whether cash flow or net profits is a better indicator to use in evaluating a stock.

four possible sources

What makes cash flow important is that it is a broader measure of a company’s ability to generate money from operations year after year than net profit is.  Professional investors normally consider four sources of funds in calculating cash flow. They are:

–net profit

–depreciation and amortization (which is essentially depreciation under another name)

–deferred taxes

–changes in working capital.

The four items should be found either in a company’s cash flow reconciliation statement or in the footnotes to the balance sheet.   In the US, all are contained in the “cash flows from operating activities” section of the cash flow statement.

I stick with two

Not everyone uses all four items.  There’s universal agreement (or as near as you can get in any human endeavor) that a cash flow calculation should include net profit + depreciation and amortization.  The question is whether to include the other two. And the issue is whether they provide a recurring source of cash.  My own opinion is, except in heavily government subsidized industries like mineral extraction where taxes always seem to be deferred, to exclude both deferred taxes and changed in working capital.

The worry about deferred taxes is that they arise from differences in the timing of when the tax expense is shown on the financial reports to shareholders and when the cash is ultimately paid to the tax authority.  So they often reverse themselves in relatively short order.

How can this happen?  One main reason is that governments often give companies a tax incentive to invest by allowing them to take rapid depreciation deductions.  In most countries (Japan is the only exception I can think of) financial reports use straight line depreciation, which slows and smooths the depreciation deduction.

An example:  For a $1000 item with a 5-year life and no salvage value, where government allows double declining balance depreciation, the yearly deprecation expense for taxes vs. for financial reporting looks like this:

tax     400     240     120     120     120

fin      200     200     200     200     200

Δ        200      40      (80)     (80)    (80).

Let’s assume (to keep things simple) that there are no other differences between the tax books and the financial reporting accounts.  If so, in year 1 the financial reporting accounts will deduct 200 from revenue for depreciation vs. 400 on the tax books.  Therefore, the report to shareholders will show pre-tax income that’s 200 higher than the tax books will show to the government.

What to do about the 200 in “phantom” income on the financial reporting books.  Not to worry, the financial reporting accountants will make a tax provision of 70 (assuming a 35% corporate tax rate) for the “extra” income.   They will label the 70 as deferred taxes and establish a balance sheet entry to hold the phantom tax payment.  They will also enter the 70 as a positive cash flow from operations on the consolidated cash flow statement, to show that the 70 hasn’t actually been paid to the tax authority.  (I’m not making this up.  This is what they do.  Don’t ask me why.)

In year 2, the procedure is similar to that of year 1, but the amount is 14.

In year 3, the depreciation deduction for financial reporting purposes is higher than that for the tax authority, so more actual taxes–an extra 28 per year–are paid.  Financial reporting accountants handle this by reversing their prior procedure–subtracting 28 in deferred taxes each year from the balance sheet, the tax entry on the income statement and the cash flow statement.

The details–bizarre as they are–aren’t so important.  The point to remember is that unless a company is continually investing, the deferred tax additions to cash flow will soon reverse themselves.  So they can’t be counted on as recurring sources of cash flow.

The other iffy item, in my view, is changes in working capital. There are negative working capital businesses.   Public utilities, restaurants, and hotels are examples.  Their customers pay for the companies’ products either in advance or very quickly after using them.  The companies, on the other hand, pay their suppliers only with a time lag, say, 30 days after delivery.  So such companies enjoy a “float” equal to perhaps 20 days worth of sales.  As long as sales are increasing, this “float” not only persists–it gets bigger!  The increase in payables minus receivables shows up on the cash flow statement as cash coming in from operations.  The amounts can be very large.

This isn’t exactly risk-free money, however. If sales begin to contract, so too will payables–meaning the company will have to return part of the float it has enjoyed from its suppliers.  And it better have the cash to be able to do so.  This is my reason for not counting working capital changes either.

(One other note about working capital, which I really consider a separate item for analysis.  There are firms whose market position is weak enough that their suppliers don’t give them much trade credit and they are also compelled to finance their customers’ purchases for long periods of time.  The worst I ever recall seeing was the Japanese sporting good company, Mizuno, which in the Eighties was giving its customers two years to pay.  In order for the company’s sales to grow, this trade financing–a use of corporate funds–had to grow as well.)

cash flow vs. free cash flow

Analysts often try to distinguish between (gross) cash flow as described above and (net or) free cash flow.  The latter is what’s left from profits + depreciation after all corporate calls on that cash have been satisfied.  These calls are generally:

–capital expenditure, i.e. reinvestment in maintaining and expanding plant and equipment

–working capital needs

–repayment of debt

–dividends to shareholders.

sounds good, but a somewhat nebulous concept

Although the concept of free cash flow is clear, arriving at a practical figure–especially when analyzing the company as an acquisition target–is a lot murkier than it might sound.  First of all, if you or I were acquiring a company, we probably wouldn’t pay dividends any more (we’d cancel our jet rentals and ride around on the corporate plane instead; we might have the company “invest” in a golf course in a resort area, too–and inspect it frequently).

We might think that the current owners’ capital spending plans were too aggressive or wasteful.  In either case, we could pare them back.  We might also think that the firm’s working capital management is very inefficient.  And we might feel we could refinance existing debt at a more favorable rate.

the unenviable case of utilities

However fuzzy the actual calculation may be,  we can probably best see what the distinction wants to highlight by considering a (highly simplified) public utility, like a local gas or electric distribution company.  Regulators in most countries grant such utilities a maximum allowable profit that’s calculated as a percentage of the utility’s net (meaning still undepreciated) plant and equipment.

Let’s say the allowable return is 5% and the net plant and equipment is 1000.  In the first year, the company is permitted to achieve a profit of 50.  During that year, the company records depreciation expense of 25.  Cash flow is therefore 75.

But starting out in year 2, absent any new building, the net plant is only 975.  Therefore the maximum allowable profit is 48.75–a fall of 2.5%.  In order to keep profits flat from year to year, the utility has to reinvest its depreciation to get the net plant back up to the prior year’s level.  To have, say, a 2.5% profit increase, the utility has to make its net plant grow by that amount–meaning it has to reinvest depreciation + another 25 (half its profit) back into the business.

This is the ultimate case of a company whose cash flow is not free.  Looking at the utility sections of stock services like Value Line, which calculate cash flow and price/cash flow ratios will show you what stunningly low multiples of cash flow pure utilities trade at.  The fact that most of the cash has to be plowed back into the business just to keep the ship afloat is the reason why.

That’s it for today.


depreciation

January 24, 2011 By in Accounting, cash flow, deferred taxes, depreciation Tags: , , , , , 5 Comments

I want to talk about subscription services and about cloud computing in particular.  This and the next couple of posts will lay some groundwork.

depreciation

As as investor, I’m interested in depreciation in the accounting sense–the expense on the income statement that represents the allocation of part of the cost of a capital asset (that is, an asset that lasts a long time, like a factory or a piece of machinery) against revenues in a given period of time.  (In an economic sense, which I’m not going to write about here, depreciation is the wearing out or obsolescence of a capital asset.  The two senses of depreciation aren’t the same thing.  In the accounting sense, for example, the laws in a given country or accounting convention determine what can be written off, and by how much.  A factory building, for instance, amy be allowed to be written off over 40 years.  At the end of that time, the carrying value on the balance sheet will be zero, or very close.  But the structure itself may be economically usable for another 20 years.  A further aside–this difference can be very pronounced when dealing with the depletion of mineral reserves.)

a non-cash charge

Depreciation doesn’t represent an outlay of cash during the period it is charged against income.  The factory is already built and the machinery is already installed before anything is made for sale.  It actually represents an inflow of cash which the company is not considering to be profit, but rather recovery of a portion of the capital investment it has made in plant and equipment.

figuring what the quarterly depreciation expense is

To determine the depreciation expense in a given accounting period, a company needs several pieces of information.  They are:

–the cost of the capital item

–its estimated useful life

–estimated salvage value, and

–the method to be used in allocating the depreciable cost (cost – salvage value) over the useful life.

Two allied concepts to depreciation are amortization and depletion. Depletion is the cost allocation procedure for the value of mineral reserves;  amortization is the procedure for intangible assets.

depreciation methods

straight line

The most commonly used method of depreciation in financial reporting is straight line. This means that the depreciable cost is spread in equal amounts over the estimated useful life.  Let’s assume, for example, that an asset has a cost of 1,000, a useful life of 10 years and a salvage value of zero.  The the depreciable value is 1000 – 0 = 1000.  1000/10 years = 100/year.  This means depreciation expense of 25 per quarter or 100 per year.

accelerated

Sometimes companies feel that assets, like computer systems, lose value faster than the straight-line method allows for.  So they will voluntarily use a depreciation method that writes off a larger amount of the asset’s cost in the earlier years of its life.  More often, governments will give companies a tax break by allowing them to use an accelerated depreciation method for writing off a given type of investment on the company’s tax return.

two accelerated techniques

There are two main methods of accelerating depreciation.  They may not make a lot of intuitive sense, but since they’re mostly intended as tax breaks, that shouldn’t matter too much.

1)  declining balance

Declining balance is the name for a family of depreciation schemes that key off the straight line depreciation method.  Specific declining balance schemes are designated as, say, 2x declining balance, 1.75x declining balance, etc.  The number in front refers to the multiple of straight line depreciation that’s applied each year to the depreciable balance for the asset.  “Declining balance” refers to the fact that the the gross depreciable amount declines.  It is reduced each year by the value of the prior year’s depreciation, before the new depreciation is calculated.

For example, let’s say we’re going to use double (2x) declining balance to depreciate the above ten-year life asset with original cost of 1000 and no salvage value.  For a ten-year life asset, straight line depreciation is 10% of the value each year.  Using 2x declining balance means using two times the straight line percentage, or 20%, as the percent of the asset value that we’ll depreciate in each year.

In year one, this means our depreciation is 20% of 1000, or 200.  For year two, we first subtract last year’s depreciation from asset value; that is, 1000 – 200 = 800.  Second year depreciation is 20% of 800, or 160.  In year three, the depreciable balance is 800 – 160 = 640.  Depreciation is 20% of 640, or 128.  And so on.

One quirk–the declining balance method can never get the asset fully depreciated, because you’re always taking only a fraction of the depreciable balance each year.   So accountants made up a fudge to get the system to work.  At some point, declining balance gets you a smaller depreciation expense than using straight line would.    In our case it’s at year six (where 2x declining balance = 20% of the depreciable balance; straight line = 25%).  At that point, you switch to using straight line for the remaining years.

3) sum of the years digits

This method, which doesn’t have any rationale that I can see, is nevertheless pretty straightforward.  Take the estimated useful life in years.  Add together all the digits from one through that number.  That gets you the denominator of a fraction.  Assign the highest digit of the series to the first year of depreciation, the next highest to year two, etc.  That get’s you the numerator.  For each year, multiplying  (the gross depreciable amount) x (the digit assigned) /(sum of the digits) = that year’s depreciation.

For example, in our ten-year lived asset, the sum of the digits 1-10 is 55.  Therefore, first year depreciation is 1000 x 10 /55 =   181.82.  Second year depreciation is 1000 x 9 /55 =  163.64.  And so on.

Two points:

–depreciation is a key element in the calculation of cash low, which is the topic of the next post in this series, and

–the difference in between the taxes on profits as shown in a given financial report to shareholders and the (often much lower) amount actually paid to the tax authority gives rise to deferred taxes, which can be a key element of cash flow as well.

More about these topics in the post on cash flow.

large realized losses (II): how to find out

September 13, 2010 By in Accounting, book value, Constructing a Portfolio, Current Market Thoughts, ETFs Vs. Mutual Funds, Industry Analysis, Investment firms, Portfolio management, Stock ideas, Strategy, Trading Tags: , , , , , , , , , Leave a comment

don’t look in marketing materials

There are two ways for a mutual fund or ETF to have amassed large realized investment losses:

–they’ve had a very weak or very unlucky portfolio manager in charge of a fund, with the result that it has made losses in a benign investment environment, or

–the fund has simply existed during a period of great euphoria, when all the money flowed in, and a subsequent panic, when that money flowed back out at a loss.

The past several years have been such a period and have, by and large, produced the situation funds and ETFs are now in.

No one is going to advertise “Great news!!  We’ve lost billions since 2007, so you have a built-in tax shelter for future gains.  It’s so big your gains will be tax free for years.”

Quite the contrary.  A fund management company will provide this important information only when forced–that is to say, only in its official reports to shareholders and to the SEC.  You have to dig it out.

get the annual/semi-annual report

You can usually get the official reports on a fund company website.  You don’t want a summary report, or an abbreviated “fact sheet.”  That won’t have what you’re looking for.

Or you can go to the SEC’s EDGAR website.  Here’s the link.

On the Filings and Forms page, select the red “Search for Company Filings” link.  That will bring you to the search page.

Click on the red “company or fund name…” link.  That will bring you to an “Enter your search information” box, where you can enter either the fund name or its ticker symbol.  (This is the same search function you’d use for any publicly listed company.)

Clicking the “find companies” button will take you to a list of the fund’s SEC filings.

Look for the Certified Shareholder Report, form N-CSR, or semi-annual report, form N-CSRS.  That’s what you want.

inside the report

Go to the financial statements.  Note the date of the report, since all figures will be as of that date.

Statement of Assets and Liabilities

Find the “Statement of Assets and Liabilities.”

It will have three sections:  Assets, Liabilities and Net Assets.  Net Assets is the one you want.

There are two lines you should be interested in:

–“Accumulated undistributed net realized gain (loss) on investments and foreign exchange transactions.”  This is the figure you want! If it’s a loss, it will be in parentheses, like (2,345,678).  No parentheses if it’s a gain.

–“Net unrealized appreciation (depreciation) on investments and assets and liabilities in foreign currencies.”  This will show you whether the fund has an aggregate gain or loss stored up in the securities it still holds and has not yet sold.  This is a nice-to-know number, but it needs further refinement (see below).

schedules/tax footnote

There are two more pieces of information you should have.  There’s no standard place to find them, so you may have to do some poking around for yourself.  They are most likely either in a schedule immediately after the Statement of Assets and Liabilities or in a tax footnote.

The first item is when the tax losses expire.  This must be disclosed if it’s relevant, but need not be if it isn’t.  What I mean by relevant is, say, that the fund has unrealized gains of $250 million and accumulated losses of $2 billion that expire in December 2010.  In this case, the tax losses will likely expire unused.

The second is the gross unrealized gains and gross unrealized losses.  A fund may have $250 million in net unrealized gains, but that may be composed of $500 million in unrealized gains and $250 million in unrealized losses.  The gross unrealized gains show the real ability of the fund to generate gains that will use up the realized losses.

how to use this information

The first, and obvious, comment is that the foremost criteria for selecting a fund are its suitability for you, given your goals, risk tolerance and financial situation.  Tax benefits are nice to have, but they’re a second- or third-order consideration.  Better to have a fund run by a skilled manager inside a firm with strong dedication to good performance, with no tax losses, than one with tons of tax benefits but a weak manager and a deficient corporate culture.

In most cases, the losses funds have today have been caused by the market action of the past few years.  It’s possible, though, that in some cases losses have been generated by bad management (I know. I’ve been hired more than once to clean up a mess someone else has made).  These turnaround situations can have, I think, great profit potential.  But with so many funds with strong management being in a loss position that has significant value, I see no reason to take the extra risk.

A fund example: I was looking at a mutual fund the other day as I was preparing for these posts that had roughly the following characteristics:

Assets:  $2 billion

Accumulated realized losses:  ($1.8 billion)

Unrealized net gains:  $700 million, consisting of $1 billion in gross unrealized gains and $300 million in gross unrealized losses.

A rough calculation of the value of these losses:

Assuming a federal tax rate of 15% on capital gains and (in my case) a state tax of 10%, the ability of (my share of) $1.8 billion in losses to shelter realized gains from being distributed to me as taxable income would be worth (my share of) $1.8 billion x .25 = (my share of) $450 million, or 22.5% of (my share of) the net assets of the fund.  That’s a lot.

This raises two other points:  don’t forget to include state taxes in your calculation; at this point it looks as if capital gains taxes will be going up for individuals with more than $250,000 in yearly income.  That would make a fund like I describe more valuable to the wealthy.

what can go wrong?

The worst problems would come from selecting a fund with poor management.  Let’s exclude this issue.  There are still potential pitfalls.

1.  The stock market stays in the doldrums.  As a result, it remains difficult for any manager to make gains to use up the tax losses before they expire.

2.  The fund manager doesn’t “get” the value of the tax losses.  Normally a manager sensitive to tax efficiency tries to avoid short-term trading.  When you have a big loss position, a somewhat greater trading orientation–provided you have the temperament and skills–is appropriate.

3.  Investors pour tons of new money into the fund you select, either because they realize the value of the tax losses or for some other reason.  The issue is this:  in the example above, the net assets of the fund are $2 billion.  If I put even $1 million into the fund, that represents only .05% of the fund assets, so portion of the tax losses that existing shareholders are entitled to is basically unchanged.  But if another $2 billion in new money comes in, then the entitlement of each existing share is cut in half.

How likely is this “unfavorable” outcome?  It’s hard to tell.  In my experience, only one thing will attract new shareholders–sharp price gains.  But that will also trigger outflows from existing shareholders who have decided to hold on to underwater shares until they’re back at breakeven.

4.  Your fund is merged into another one.  Fund companies will many times merge funds that are perceived to have weak records, or which can’t seem to attract new money, into other “healthier” funds.  The rules on what happens to tax losses in this case are complex, but the basic idea is that the ability of the successor fund to use the losses is severely restricted.  So not only do you have to share the losses with the holders of the other fund, but their present value is diminished.  It’s of course possible that the fund you’re merged into will have a bigger tax loss position that yours, but I wouldn’t count on it.

As a practical matter, I think #4 is the biggest risk.  Fund boards may have no understanding of the value of the tax losses.  And they generally tend to go along with the wishes of the fund management company.

On the other hand, if you have a choice between two roughly equivalent funds, one with large realized tax losses and one without them, I think the decision is a no-brainer.