Phil Town

Phil Town on Meaning - Reap What You Sow

I got this letter a couple days ago from Mark that I want to share with everyone. He has a question about one of the 4M's from Rule #1 - Meaning.

Hi Phil Town.  My name is Mark and I've been doing my best to learn as much as possible about Rule #1.  One of your big tenets is Meaning.  What does the company mean to me?  I'm not entirely sure I'm all the way on board with this idea as my main goal is making money, and even an "Evil Empire" like Exxon or their ilk can make a guy a boat load of cash.
 
But I read one of your blog posts about how Karma can come back and haunt you.  Have you ever read the book "The Secret" by Rhonda Byrne?  If you have, do you agree with the idea about laws of attraction?  Could this be why "Meaning" means so much in your investing model?  If I see stocks that are doing well and have the right kind of numbers, do I say no to them just because I may have a moral qualm about them?  Will the universe punish me for being greedy? :)
 
Anyway, I want to thank you for any time you can give me regarding this, and I hope that between RULE #1, the blog and my own research I can get a better understanding of how to find these great companies.

Here's what Phil Town told Mark:

The Third M

The four M’s of RULE #1, Meaning, Moat, Management and Margin of Safety, are the key to finding wonderful businesses on sale.  The third M – Management – is the hardest to evaluate.  There are no tools to objectively decode the passion, honesty and owner-orientation of the CEO of a business.  You have to do the homework.  And you have to know what you’re looking for.

A good friend of mine, Steve Farber, and I worked together many years ago consulting to executives about becoming better leaders.  Steve just wrote a really great book and I want you to read it.  Its title says it all: Greater Than Yourself. 

That’s what I want my CEO to think and feel about the business I own.  I want him to sublimate himself to the task of making my business successful and a positive contributor to life on earth on all levels – certainly for me, the owner, but also for the people he’s leader, the suppliers, the customers and the environment. 

Steve is a great writer.   His first book, The Radical Leap, was named one of the best 100 business books of all time.   I read Greater Than Yourself in an evening.  It will help you spot a great CEO.  Even better, it will help you be a better leader yourself.

Now go Play.

Phil Town

Payback Time

The day after I told Manny (Kiplingers) to get in, the market shot up 500 points. Nice call on the market if I do say so myself.  And pure luck.  I was thinking it would continue down for a while.  But businesses are cheap and that’s what we really care about.  And now it's time to figure out what to buy.   You guys asked me about Apple, (AAPL), Altria (MO),  Verizon (VZ), AT&T (T), Microsoft (MSFT) & ConocoPhillips (COP).  I’ll dig in on these, but only after you tell me what they are worth and why.

As always, I want you to do the homework.  You sent me two opinions of value for AAPL – Charpe197 thinks $286 is retail.  Lynn suggests the right retail value is $151.  Since I didn’t see their work, I can’t say for sure why the difference in value, but I thought I’d add another layer of information for those of you who are looking to buy some businesses right now.

Phil Town Question of the week

A lot of Rule #1 readers are writing in with variations on the same question:   if the MOS is good but the tools say Sell, now what?

Here's how Steve worded it:

Question:

Hi Phil Town,

RULE #1-Great book. I'm still going thru it and have a question about when two factors collide. For example, I'm running the Big 5 numbers for NBR and they all look really good. Using your calculator, the MOS is really, really high, but I think my last calculation had the MOS around $450+ and the stock is under $40. This seems like a really good buy, but when I look at the chart tools, many of the signals are saying SELL (e.g. MACD just turned negative, RSI is approaching the 50 mark, moving averages are about to cross, STO going below the 80 line).

So my questions:

Is my MOS incorrect?

What to do when two factors collide?

Thanks for any input,

Steve

Answer:

The big guys -- the institutional investors -- control 85% of the money in the stock market, and they don't play the game the way we do.  The game they play is "How did I do this quarter compared to my peers?"

For that reason, they may sell a stock that is well under the Sticker simply because others are selling it... and someone started the run just because they wanted to take profits to make the quarter look better.

The 4M Valuation Process Still Applies, Even in this Market

A few days ago, Nathan asked the following question -- which is echoed in a lot of emails I've received from RULE #1 investors:

Mr. Phil Town, I'm struggling with putting a value on a company right now b/c of how much the P/E and the growth rate we use affects the results. Should we stick to your standard way: using either the historical P/E or double the lowest growth rate (b/w historical and analyst projections), whichever is lower? That method is providing pretty high P/E ratios and, therefore, nice and high sticker prices for some companies. Should we slash the P/E ratio used in the calculation given the current market environment? If so, any rule as to how much?

I also wonder about the growth number that we use in the calculation. What should we do when analysts are predicting negative growth in 2009 for Rule #1 companies? Should we still consider it? If so, what number should we use for growth?

Thanks for all your help.

Here is my answer:

Nathan,

Let's go over the process of valuation:

1. Meaning:  You've got to know the business.

In a sketchy economic environment like the one we're in, it's even more important. 

DOING 4M COMPANY SEARCHES ON INVESTOOLS AND ON MSN MONEY

Richard posted a comment that requested Phil Town give detailed information about how to find a business that is on sale for 50% off. A stock's value is what I call the Sticker Price (and what Investools calls the "estimated target price" and what Warren Buffett calls "Intrinsic Value").  Rule # 1 investors buy at a Margin of Safety, or 50% off Sticker.

Good question, Richard, because this whole thing is academic if you can't find a wonderful business that you can buy cheap.

Finding wonderful businesses is easy.  There are tons of them. But finding wonderful businesses that are on sale takes some digging.

HOW DO YOU REALLY KNOW YOU KNOW A COMPANY?

Here's an exchange I had with Greg, who's been trying to find something to buy.  He understands how to run the numbers, but he's stumbling on Meaning and Moat.  Read on.

Phil Town,

Dell does seem cheap, but no one seems to be taking the bait.  And I don't feel like I KNOW the business.  In fact, I am not sure how to really know any business.

I have read several entries on your blog where you say that you agree with the research someone has presented and often let them know something that they didn't see, but then you tell them that if you only knew the company you might invest in them too, but you don't so you won't. 

So how do I know a business like Dell that is selling many products worldwide with competition coming at them from every angle and from every country.  Some of their competition I have never even heard of because it is some small company in China or Taiwan or somewhere churning out no-name computers at dirt cheap prices and some overseas markets are eating them up. 

I feel like if I waited until I knew a company, I would have to wait until I was the CEO of the company.  Since this will never happen, I feel like I can't properly invest in anything. 

YOUR HOMEWORK: SONC (SONIC)

This question comes from Tom in Edmond, OK:

Hi Phil Town. I am just beginning this venture and am paper trading at this time. I have ran the numbers 3x for SONC and I think I finally got the correct MOS ($19.50).  However, I am not 100% sure how to calculate this stock as it just went thru a 3 for 2 split about 2 weeks ago. What is the correct method to do this?

Thanks for the book.

Here's my response:

Hi Thomas,

Stock splits do not change the size of the pie, as you know.  They only slice the pie into more pieces. 

When a business splits its stock, all the services that tabulate the data and provide it to websites like MSN Money and Investools recalculate all the old numbers all the way back to reflect the new number of shares.

Is HANS a Buy Now?

HANS (Hansen's Natural sodas) has great numbers.  But it's not enough to have great numbers.  Remember the 4Ms? 

The numbers tell us there must be a moat, but "Is it going to last?" is a question that is only answered by the first M -- the Meaning of the business.  Do you know this business?  If you do, you should be able to handle this question well:  Is HANS going to definitely be here and still growing in 20 years?  That is the key question.

Time to Back up the Truck on ACF?

You pay a hefty premium for a cheery consensus.  And you get a hefty discount for a gloomy one.  We’re a long way from a depression-era stock market, or even a recession-era market (like 1973, 1983), but in one industry we’re tapping along at the bottom and that’s where you want to be looking for a great business that is on sale.

Here’s an example for you to consider: Americredit Corporation (ACF).

It's a pretty simple business.  They lend you the money to buy your car, particularly if GMAC isn’t interested because your credit kind of sucks.  You put a pile down and Americredit puts up the rest.  They do about 400,000 a month.  You pay, everything is good.  You don’t pay, they come get your car and resell it.  Simple business.