In her book, Value Investing Made Easy, Janet Lowe reports that value investing invariably falls out of favour during bull markets. Benjamin Graham's son, who owns the rights to his father's books Security Analysis and The Intelligent Investor reports that the books generally sell poorly during roaring markets. But after a market correction, the book sales pick up again. Since the market has been in a bear market from March 2000 through 2001, let's revisit Value Investing with a tool you can use to assess stocks according to value investing principles. In her book, Lowe lists ten attributes of an undervalued stock. The first five criteria measure risk. Criteria 6 and 7 show financial soundness and the last three factors show earnings history. According to Graham, any company that meets 7 out of 10 of the criteria is an undervalued stock. Now rather than just list the ten attributes, I've created a worksheet. Although the annotated worksheet follows below, printing it out here will give you all the ads and my ugly mug to boot. I know you don't want that! After the article is a link that will give you a worksheet to print out. You can then use it to analyse a company of your choice. The Value Investor's Worksheet Company____________Stock Symbol_____ Exchange_____ Address__________________________________________ City________ Prov./State_____ 1. Earnings to Price Yield_____ AAA Bond Yield_____ The earnings to price yield should be double the AAA bond yield. Earnings to price is the reverse of the P/E ratio. If a company has a P/E of 20, its E/P is 1/20 or 5%. If its P/E is 50, its E/P is 1/50 or 2%. 2. Current P/E Ratio_____ Highest Ave. P/E (last 5 years)_____ The current P/E should not be more than be 40% of the highest P/E in the last five years. 3. Dividend Yield_____ AAA Bond Yield_____ The dividend yield should be two-thirds of the AAA bond yield. 4. Stock Price_____ Tangible Book Value_____ The stock price should be two-thirds of the tangible book value of the company. Book value = (total assets - liabilities - stock issues ahead of common stock)/number of common shares. 5. Stock Price_____ Net current asset value_____ The stock price should be two-thirds of the net current asset value or net quick liquidation value. Net current asset value = Current assets - current liabilities. 6. Tangible Book Value_____ Total debt_____ Total debt should be lower than tangible book value. 7. Current ratio_______________________ The current ratio should be 2 or more. Current ratio = Current assets/current liabilities 8. Total debt_____ Quick liquidation value_____ Total debt should be less than the quick liquidation value. 9. Current earnings_____ Earnings 10 years ago_____ Earnings should have doubled in the last ten years. 10. Earnings history
(list EPS for each of last ten years) Earnings should have declined no more than five percent in no more than two of the last ten years. Some Elaboration on the Worksheet As mentioned above, Lowe says a company should meet 7 out of 10 criteria to be considered undervalued. But, she notes, "they should not be followed like a cookbook recipe". The criteria one wants to abandon depends on their goals. Investors looking for income should pay closer attention to items 1-7, and particularly criterion number 3. Those looking for a balance between safety and growth can ignore criterion # 3 and focus on the other 1-5 and numbers 9 & 10. Meanwhile, those looking for exceptional share price growth can ignore criterion # 3, give lighter weight to 4, 5 & 6, and give heavy weighting to numbers 9 & 10. She says that in this way, "investors can select those elements that best achieve their goals and compromise on those that do not". Links of Interest Book Review: Value Investing Made Easy - Janet Lowe's clear, concise book is a joy to read. Book Review: The Warren Buffett Way - Learn how Warren Buffett became the world's greatest investor. Value Investing Net Links - My comprehensive collection of Value Investing net links Value Investor's Worksheet - Print out our worksheet and use it to analyse prospective stocks for purchase. Berkshire Hathaway Owner's Manual - This manual for shareholders explains Warren Buffett's investment philosophy. The Intrinsic Partner - A seven chapter online book on value investing from The Terrion Group Graham & Doddsville Revisited - GADR is the work of Reynolds Russell, RIA. This page explains the methodology. A free emailed newsletter is available on request. Sherlock Holmes Investing - John Price operates this entertaining and educational value oriented website. Value Doc - Michael Burry, medical doctor turned stock analyst, writes the Value Doc column for MSNBC Valuestocks.net - Dr Burry's own value oriented website Investing (Canada) NotesThe Daily: Have you checked out The Daily? Links to daily Canadian business and investment news and commentary. Disclaimer: As with all my columns here, I should re-iterate a precaution. I am not a professional financial advisor. I am a financial journalist and editorialist. The views in these columns are my personal opinions. The author holds interests in a number of the funds mentioned in this article. |