What is value?
Whole books have been written on the subject. We recommend “Security Analysis” by Benjamin Graham and David Dodd, or for the briefer course, “The Intelligent Investor,” by Graham alone. But for now, we’ll just say that a conservative way to value a company is to look at net current assets.
Here’s how. You add up all the assets that could be liquidated quickly-cash, inventories, or short-term receivables-and subtract total liabilities. What’s left is net current assets. This is essentially the liquidation value of the firm in a crisis. If you’re able to find a stock selling at less than the value of net current assets-well then my friend, you have what Ben Graham would call a value stock on your hands. Buy it!
It’s hard to find any securities trading below net current asset value today. Graham loved the metric because it gave the investor what he called a “margin of safety.” You weren’t depending on future projections for cash flow, asset appreciation, or market opinion. Instead, your valuation was based only on a conservative estimate of what you could get for your assets today, minus the firm’s long-term liabilities.
How do the infrastructure assets of Macquarie Bank stand up to this value test? Well, we don’t really know, yet. It’s hard to liquidate a bridge or a toll-road, or so we hear.
But as MacBank’s chief Allan Moss says, “These assets have been chosen simply because they are privileged, because they are robust through the cycle. That’s why we’ve chosen them, that’s why the investors who support us like them so much… What assets are they? Well, they’re toll ways. How bad does it have to be, really, before the people in this room get on the bus? How bad does it really have to be in economic terms before you cut down on water?”
Well, there could be a drought. Or a spike in petrol prices as global oil production peaks. But we digress. Here is our question: isn’t sustainable demand for a business a separate question from what you should pay today for that business?
Don’t get us wrong. It’s great to have an asset with cash flows in good times and bad. But if you’ve paid too much up-front for it-whether it’s a house or a bridge-you will need many, many years of cash flow to justify the purchase price, and that’s assuming the price of the asset doesn’t change in the meantime. And by change we mean “fall.”
If you can do something yourself to add value in the interim, it helps. MacBank reckons it can add value to its assets. And not just any value, but “really special value!” Moss says the bank’s acquisitions are, “focused where we believe we can add special value and these businesses are going very well, that is our approach. It’s an approach of focusing where we can add some really special value, where we have special expertise.”
Do you add really special value by simply raising the price of an asset and then selling it through a fund to your customers? Or is there some other really special trick we don’t know about? Who knew that MacBank’s wizards had special expertise in operating toll roads? It was news to us. But there is a lot we don’t know. And we readily admit it. In fact, we embrace it.
Admitting your ignorance of the future is a cornerstone of successful investing. It prevents you from making overly optimistic, or even completely unjustified projections about future value. But then, discussions of value seem vaguely archaic at this point in the credit cycle.
Still, we are just 435 days away from the start of the summer Olympics in Beijing. The days are getting shorter in Melbourne. The cycles roll on. Value is merely out of style for now. It will come back in vogue, but not until after the melt up has run its course, which could be a while yet.
Markets and Money