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Varun Munjal
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  • The Importance Of Liquidity

    Monetary transactions between people are described by fluctuating rates. People team up in organizations (recognized by brands) that transact money at lower rates than outside the organization. When organizations become intransparent about money that belongs to owners, and "report" quarterly, people ought to take that discount into mind compared to private stakes, which are transparent.

    To describe the rates on the money transacted, there is "credit risk", which reflects fear of illiquidity, which reflects fear of insolvency. How can the rate on money not reflect credit risk? It can't. Hence equity stake can be called a kind of credit stake. The interest rate on "stocks" is so subject to credit-risk frenzy ("volatile") that we don't even call it an interest rate, it a rate of return. (Conventionally thought of as "interest rate" on stocks rather than interest rate on "stocks"). The stock interest rate leads interest rates and the Treasury follows.

    Interest denotes positive reinforcement: approach more than absence-of-avoidance. But the connotation is different: the financial world equates low interest rates with safety through the concept of credit risk. To those who are educated rather than willfully ignorant about bankruptcy, credit risk can be understood completely through illiquidity. For these believers, "interest" earnestly means "interest". Low interest rates on stocks (high "forward P/E") pretend to safety but they indicate exertion and over-extended asset prices, while high interest in stocks indicate perceived danger at a time when near-term (predictable) cash flows are more substantial.

    The value investor is a master operator of liquidity because he always has his eye on the ball. Liquidity also eventually makes oneself respected (creditworthy). Everybody else is thinking about gains because, frankly, their fears do not include pennilessness, so they hold negative-reinforcement financial attitudes, including speculation. But the man who knows that the specter of bankruptcy is everywhere precisely because it is seen nowhere is the man who exploits the illiquid. Liquidity is the vehicle through which something becomes more.

    Jul 08 9:39 AM | Link | 4 Comments
  • Best Balance Sheet Metric

    Goodwill / Shareholder's Equity.

    Whoever thought of this was wearing a green eyeshade.

    Jun 24 8:51 AM | Link | Comment!
  • Return On Invested Capital And Return On Capital Employed

    "Return on invested capital" is

    NOPAT / (BV of Equity + BV of Debt - Cash)

    Benjamin Graham's recommended equation excludes cash because cash was not thought to reflect management's performance then. Because we know that cash is an insurance policy and amassed by spendy CEO's, cash ought to be included. Also, when Graham was writing these words in the late 1940's, managements, especially those of industrials, could be trusted to return cash to shareholders by handing back more frequent dividends. Here is an equation that doesn't exclude cash:

    NOPAT / (Fixed assets + working capital, i.e. "Capital Employed")

    Capital Employed is made up of fixed assets and working capital, that is, it excludes intangibles, which managements have been marking up for the good part of the last decade. By excluding them, we look at what management can do with their brands rather than expecting management to perform well as a proportion of how much the brands are thought to be worth. Managements come and go, brands stay.

    Goodwill is also excluded. This is the amount of money that management has paid for acquired companies in excess of the acquiree's book value, which already ought to have incorporated its intangibles. Another reason to exclude this type of asset is that management may pay a lot for an acquiree and mark it up, but it may take many years to realize earnings on this one-time expense. 'Prices paid for acquisitions' is a separate issue from 'operational effectiveness'.

    Jun 23 10:36 PM | Link | Comment!
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