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Posts Tagged ‘Warren Buffet’

What’s in a Stock Price?

February 12th, 2010 No comments

I have been having an on going discussion with one of my friends about stock prices. Tom believes that the stock price itself determines whether or not a company is “expensive” or “cheap”. If you are going to invest in individual stocks, one of the first concepts to learn is that stock price by itself is largely irrelevant when determining the value of the company.  The stock price must be paired with other valuation criteria to determine whether or not a stock is “cheap” or “expensive”.

Unfortunately, some financial writers some of whom should know better try to attract readers with misleading article titles, such as “Bargain $10 Stocks to Buy”, or “The Best Stocks under $20”. There is a small amount of relevance to stock prices in the sense that good quality large companies try to keep their stock price in the range of $30-$50 to appear “affordable” to retail investors. If the stock price of such a company did fall to under $20, this might imply that it was “cheap” because the price fell out of the normal price range.

Not all good quality companies split their stock to maintain a certain price point. There are some companies who have never split their stock. The most famous example of course is Berkshire Hathaway(BRK-A), led by Warren Buffet. Since its public offering over 40 years ago at a price of $15, the stock has never been split.  At a price of $90,000 per share, very few retail investors can afford it so this is an extreme example of how a price can be a barrier (there are “cheaper” class B shares available at a cost of about $2,900). Other newer examples include the insurance company Markel (MKL) at about $300/share, and Google (GOOG) at $400/share.

If you only have $100 to invest, then a $400 stock is indeed expensive.

At the other end, very inexpensive stocks can be cheap due to company problems. The major stock exchanges require companies to maintain a minimum stock price ($1) or face de-listing. Also, stocks priced under $5 may be filtered out by large institutional investors who maintain minimum price levels.

For typical companies that are viable and stable, to determine if a stock is cheap, look at the companies earnings, free cash flow, balance sheet, and other criteria. As an example, compare Google to Bershire Hathaway, which is cheaper on an earnings basis? Even though Berkshire costs about $90,000 per share, that gets you over $7,300 of earnings in the past year. The earnings for a share of Google are only about $15. So, by that comparison Google is actually twice as expensive as Berkshire Hathaway.

What Steve Jobs Can Teach Us About Investing

February 9th, 2010 No comments

In the past 10 years, Apple has been a great investment. The success of their mp3, cell phone, and the rejuvenation of their computer business has been remarkable. If you look at the record of technology companies over the same 10 years, it’s been quite tough. With a few exceptions (Apple included), technology stocks have been poor performers. 

Most of the credit can go to Apple’s CEO, Steve Jobs. My first experience with his products came at school. When I was in college, Jobs started a company called NeXT. At the computer lab at school, I saw a demo of his new computers. They crashed, but once they got them going they had impressive features that current PCs didn’t have. It was some of this technology that Jobs brought with him to his second stint at Apple that eventually made it to the current Apple computers.

The question is would it have been possible to find Apple and invest in it before this rejuvenation happened? And if so, what criteria could you have used?

According to Joe Ponzio, a value investor, Apple would not have been a good investment based upon its cash flow at the time prior to the launch of its first real blockbuster product, the iPod. So, if you asked ‘Would Warren Buffet Buy This Stock?”, the answer is likely no because the financials don’t look good. 

If you don’t want to consider the financials, then another reason to invest would be to have some knowledge of the future products or other technical information that would lead you to conclude that there is a lot of unrealized potential. There is no other insider more knowledgable than Steve Jobs himself.

So, what did Steve Jobs do? In this article written during the previous bull market that existed in 2007, he traded in some options that were under water for a fewer number of shares that he took possession of. These shares currently had value while the options did not, so at the time this looked like a good decision.

As the article pointed out, that decision cost him over $4 billion. I have no doubt that Jobs believes in his products and is passionate about Apple. But, if Jobs really thought that his company was undervalued  and had lots of growth left why would he trade in his options? If the ultimate insider didn’t see the bull run that occurred with Apple, how could anyone else have expected to see it?

Only by chance.