In keeping with some sort of theme here at the beginning of 2008, I took a look at Forbes Best 400 Businesses list with a focus on the ‘honor roll’ list of the 29 best.
Usually when you read about the best picks for next year, what you don’t see is something about the value of the business. In fairness, Forbes isn’t telling us that these businesses are on sale. Just that they are really good businesses and have performed well in the past. Still, since we are paying for something when we buy a stock, doesn’t it seem odd that you almost never read a discussion of what the stock is worth?
This may be a throwback to a very influential old school theory of valuation that was taught in almost all business schools for thirty years… right up until recently… and it is still defended by some real old school econ profs.
The theory is that in a large marketplace where all the information is known about the things that are on sale, the price of the things being sold is what they are worth. The reasoning goes that since everyone knows everything, there is no reason that anyone would pay too much or take too little. In this perfect marketplace, price equals value.
The marketplace that was held up as the ideal market for this theory is the stock market, and the proof that it is correct is that the professionals who manage mutual funds almost never beat the market returns over any long period of time. The logic is that since the pros can’t beat the market, the market must be pricing things perfectly.
Good argument if it wasn’t for one small thing: the pros ARE the market.
They control so much stock in any given investment that the price of the stock goes down when they sell and goes up when they buy. Also, almost all fund managers own hundreds of stocks at any one time. If you own hundreds of stocks, you are the market.
This theory is further discomforted by the fact that individual investors like Warren Buffett, Eddie Lampert, Bill Ruane, Bill Nygren and many more like them do beat the market, and not by just a little. They slaughter the market. $10,000 invested in the market in 1969 is now worth $134,000. The same $10,000 with Buffett in 1969 and held to today would be now be worth $44 Million.
That difference demands that we learn what Buffett knows. And what Buffett knows is that when you buy a wonderful business at a great price, you are certain to make money. This is the essence of Rule #1 style investing.
So let’s take a look Rule #1 style at what look like the best businesses in America for 2008, according to Forbes.
On the graph below are the companies in order of last five years' return to investors. And on the right side of the column I added two columns that cover the essential questions for any great investment: Is it a wonderful business?; and is it on sale?
Since we’re not considering what you as an investor know (its Meaning), nor how great the Management is or is not, we’re really just looking at two M’s: Moat and Margin of Safety.
The thing to see here is how few on the Forbes list are really great businesses to own and how many fewer are on sale lately.
(NOTE: Where I write “YES, BUT” what I mean is that the business has a great history up to recently but its turning not so great lately … but still, it’s a great business Moat and it will likely pull out of its problems.)
Now go play.
From Forbes:
America's Best Big Companies
Edited by Scott DeCarlo 12.21.06, 6:00 PM ETTO COMPILE THIS LIST WE SCREENED over 1,000 corporations with $1 billion or more in revenues, using metrics such as latest-12-month and fiveyear stock market returns, sales and earnings-per-share growth and debt-to-capital ratios. We used Thomson IBES consensus forecasts for long-term earnings growth; accounting and governance scores came from Audit Integrity of New York and Los Angeles to help us weed out companies with potential problems
Of all 400 companies on our Best Big Companies list this year, these 29 corporations deserve special recognition, as they have appeared on the list each year since its inception in 1999.
Stellar financial performance and solid corporate governance are some qualities that make the Honor Roll companies perennial standouts amongst their peers. Not surprisingly, many of these companies have delivered outstanding returns to investors. (On the accompanying table, we list the honor roll companies by their five-year total returns.)
Honor Roll
[Click on image to see larger view. Note, links below are not clickable.]
17 great businesses (including the YES BUT group) but only EXPD and LOW are both great businesses and on sale. BBBY is a YES BUT and is on sale. That’s it.
What does that tell you about the upside in this market?
Have a great year investing in 2008, but don’t forget that staying in cash is okay when you’re not sure. Buffett still has $40 Billion in cash, so don’t sweat not finding what you want. Be patient, grasshopper.
Now go play.
