Valuation technique is a tool, a means to an end. If objective is sound decision, not elegant method, principles behind DCF are more valuable than mechanics of it.
Keep in mind the refrain of most professors before explaining any quant models - "All models are wrong but some are useful" - DCF is one such model but once you start believing all your manufactured and questionable inputs to the model, the output reflects your bias.
I stopped using DCF once it stopped making sense to me but now i know how to do it right. Thanks! This was just brilliant . Going to spend my sunday reading the rest of your blog🙏
"Someone acquiring an entire business is likely to think on similar lines." This is the key IMHO. What they teach you in B-scools and even CFA is for investment banks, buyers and sellers of whole companies or strategic stakes. Metrics for investors, have to be different. These are not taught and so every successful investors develops is own. Excellent piece as always
The most important metric being Return on Capital as it answers most of the important questions regarding the quality of a business saves a lot of time for investors to filer out companies.
"A business with 30% ROE growing 10% a year is left with two-thirds of profit as surplus cash. A 15% ROE business is only left with one third." can you explain this, sry couldn't understand it.
Loved it Sridhar. Going just by one parameter is suicidal, a combination of multiple parameters like capital allocation, competitive nature of business, integrity of management, risk, DCF etc., and validating of our observations on a regular basis increases our probability of success.
Recently started reading your blogs and finding it very helpful- Karthik
Keep in mind the refrain of most professors before explaining any quant models - "All models are wrong but some are useful" - DCF is one such model but once you start believing all your manufactured and questionable inputs to the model, the output reflects your bias.
I stopped using DCF once it stopped making sense to me but now i know how to do it right. Thanks! This was just brilliant . Going to spend my sunday reading the rest of your blog🙏
thanks for doing this long-form article after a long time.. Hope to see more like this going forward....
Super stuff.. ..very well written....the homage to PG is such a lovely bonus !!!
"Someone acquiring an entire business is likely to think on similar lines." This is the key IMHO. What they teach you in B-scools and even CFA is for investment banks, buyers and sellers of whole companies or strategic stakes. Metrics for investors, have to be different. These are not taught and so every successful investors develops is own. Excellent piece as always
Amazing as always Anand! Thank you!
Very well put! Missed such essays over last few months.
Me too
The most important metric being Return on Capital as it answers most of the important questions regarding the quality of a business saves a lot of time for investors to filer out companies.
I think the 2nd quote is from Yogi Bera. Not from Albert Einstein
"A business with 30% ROE growing 10% a year is left with two-thirds of profit as surplus cash. A 15% ROE business is only left with one third." can you explain this, sry couldn't understand it.
I think this is what is means, ROE * Reinvestment Rate = Expected Growth
30% * X = 10% for business1
15% * Y = 10% for business2
The author is expecting both the businesses to grow at 10% and trying to calculate how much re-investment is needed.
X = 1/3
Y = 2/3
After spending 1/3rd of money for growth, business1 is left with 2/3rds of money as profit.
After spending 2/3rds of money for growth, business2 is left with 1/3rd of money as profit.
Loved it Sridhar. Going just by one parameter is suicidal, a combination of multiple parameters like capital allocation, competitive nature of business, integrity of management, risk, DCF etc., and validating of our observations on a regular basis increases our probability of success.
Recently started reading your blogs and finding it very helpful- Karthik