Apologies for missing the Weekend Reading last week… sometimes life gets in the way.

By Charles Ruff, CFA

Aswath Damodaran, NYU Finance Professor

Last week I attended a presentation by Aswath Damodaran a Finance Professor at NYU. Prof Damodaran is an expert in valuation. His speech was titled Dante meets DCF and he discussed the common errors he sees in the nine circles of valuation hell. As always, he was incredibly entertaining. I won’t walk through all nine but a few call-outs:

  • Fixation on the base year in a valuation – what is so special about the most recent year? There is no reason to believe that what happened over the previous 12 months is a “normal” year of operations.
  • Periods of High Growth only last for so long – Many people cite companies like Apple (AAPL) and Microsoft (MSFT) as examples of how large companies can continue growing at high rates. Maintaining growth is incredibly difficult. The fact that we can recall these companies by name is a big clue: this is the exception, not the rule! For the other 99% of companies, periods of high growth ultimately end and the company matures.
  • Equity Value does not equal Equity Value per share – stock options and warrants need to be included in valuations! Too often these are overlooked.
  • The final circle of hell: in 1977, investment bankers at First Boston advised Kennecott Copper to buy the Carborundum Company and justified the deal with an incredibly inaccurate DCF.
    • Kennecott was forced by the FTC to divest it’s coal business (Peabody Coal)
    • Using these proceeds, Kennecott went on an acquisition hunt and eventually paid a strong premium for the Carborundum Company, a maker of abrasives
    • Cost of Equity Cost of Capital
      Kennecott (Acquirer) 13.0% 10.5%
      Carborandum (Target) 16.5% 12.5%
    • To inflate the perceived value of this transaction, First Boston used 10.5% to justify the deal.
      • This deal was cash and did not involve debt.
      • To value a target, the target’s cost of equity should have been used, not the acquirers!
    • At what point does misleading advice constitute fraud?

Jamie Dimon Annual Letter

Dimon Letter

  • Good discussion on the US economy and the needle the Federal Reserve must thread
  • Oil, as a percentage of global GDP, is only 40% of what it was back in 1973. Yes, oil is still meaningful, but not as much as it once was.
  • If Jamie Dimon ever ran for President, not only would I vote for him but I would join his party and actively campaign for him. #runJamierun

Scott Minerd & Inflation

Global CIO Outlook | For Lessons on Fighting Inflation, Skip Over Volcker to 1946

  • The press often cites the 1970’s as an example with inflation but Minerd looks back to post-WWII when there was a high amount of savings/liquidity and a limited supply of goods.
  • Then, inflation ultimately proved transitory and supply and demand came back into balance.
  • Capitalism is an amazing thing!
    • “How did the inflationary period end? First, pent-up demand subsided, supply came on board as prices rose, and production and manufacturing capacity transitioned from wartime to peacetime activity. In other words, the market’s “invisible hand” worked as expected.”

Been Waiting for Activists to Speak Up on Issues Like This...

After Engine No. 1 took down Exxon, I’ve been waiting for activists to speak up on issues like this…

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