MagicDiligence

Why Return on Capital Is So Important to Investors

> 1) In your invested capital formula, what's the intuition behind
> using those particular accounts? It seems more intuitive to me to
> define "invested capital" as net debt + equity. More explanation
> on your invested capital formula would be great.

The idea is to count "invested capital" as the net assets that are employed in generating profits. Lots of good companies have huge cash wads that are not employed in core profit generating activities. If you include these extra assets, your return on capital figure will be unduly low.

> 2) Also in your invested capital formula, you have (Short-term Liabilities
> + Interest Bearing ST Liabilities). But Interest Bearing ST Liabilities
> are already in Short-term Liabilities, so aren't you double counting
> here?

No, it removes Interest Bearing ST Liabilities from the equation. I would be double counting if it was (Short-term Liabilities - Interest Bearing ST Liabilities).

Why Return on Capital Is So Important to Investors

On Apr 16 04:47 AM ArtfulDodger wrote:

> Steve Alexander:
>
> This is a good article with good points. Thanks.
>
> These calculations certainly help to quantify a stock. Do they provide
> you with enough info to buy?
>
> Would you buy without qualifying the company? I.e., how well management
> works, how well the company markets, the quality of its products,
> competition, etc.
>

ROC is one point to look for when qualifying an investment, not the only point. Like Buffett says, a great business does not always make a great investment if it's priced too high. I always do a management and competitive analysis before recommending a stock. The Magic Formula strategy itself helps with price, as it only filters out stocks with a high operating earnings to enterprise value ratio (earnings yield).

Thanks for the comments everyone!

Does Pfizer / Wyeth Merger Create an Arbitrage Opportunity?

Good review, thanks. The key thing here is the credit rating. Pfizer's balance sheet is going to be depleted after this - the combined company will owe over $50 billion in debt while carrying just Wyeth's cash balance of about $14 billion. While the 50% dividend cut will help, and the combined company should generate free cash flow of around $15 billion a year initially, the sustainability of those cash flows is in question given the 2011 patent cliff for Lipitor.

Also, since this is not an all cash deal, the arbitrage target is constantly moving with Pfizer's stock. Given that this deal has a lot of short term negatives (20% equity dilution, big debt load, dividend cut), it looks a bit risky to me.

Steve
MagicDiligence.com

8 Dow Stocks Likely To Outperform

Most of the comments here are typical emotionally driven investing, which has failed in the past and will continue to fail. Dogs of the Dow has been a successful strategy over long periods of time and will likely continue to be. Sure some of these may see dividend cuts (particularly financials), but over the long run the vast majority will maintain and even raise the dividend. Don't let a few months of macro concerns deter you from following strategies that are proven over long periods of time. Nobody can predict the overall economy, but it seems everyone thinks they can.

Steve
magicdiligence.com

Pfizer Stock: Value Trap?

With a solid balance sheet and huge cash flow and reserves, Pfizer can participate in whatever the next big drug category will be. The dividend isn't going anywhere - payout of free cash flow is high at 80%, but don't forget share buybacks (which lower total dividend payout) and the fact that it's one of only 8 companies with a AAA debt rating. R&D is a numbers game, and nobody has the scale of numbers that Pfizer brings to the table.

Steve
magicdiligence.com

Using the Magic Formula With Dividend Stocks

Every time in the past someone has said "we're going through a fundamental change", they've been wrong. It was said during the tech boom. It was said in the late 80's when Japan was booming. It was said in the 70's after 7 years of stagflation. It was certainly said in the 1930's. And guess what? Value investing has always been a winner. Don't be fooled by the gushing talking heads. Buying cheap and selling dear will ALWAYS work.

A Fat Yield at Pfizer

Great review Mike. Pfizer indeed looks attractive at today's prices, which are a nearly 11 year low. The 7% dividend is in good shape, payout on free cash is 80%, which is high but sustainable, particularly if Pfizer executes some share repurchases. Nice to have your insider views on Chantix as well.

Steve
magicdiligence.com

A Contrarian Look at Pfizer

Excellent analysis on PFE. Downside is pretty limited. Collecting the dividend allows PFE to trade with the market and still beat it by 6.5%. Not to mention that this is the cheapest the company has been since the 90's. One of the best performing stocks of the 20th century and in business for 160 years. Good long term play today.

Steve
magicdiligence.com