This past week, my business partner and I drove quite a distance to checkout some companies that had finally hit our “severely undervalued” targets after years and years of watching the stocks. One of the firms happened to be a confectioner. We spent the day speaking with a small business owner who had extensive experience with this particular company and bought more than $500 worth of products to take back to headquarters, have analyzed, and compare to the other manufacturers in the industry. We learned a great deal about the business that is common knowledge to those who work in the sector but you can’t necessarily gleam from the regulatory filings. For instance, there appears to be a struggle at headquarters between two factions: those who want to dilute this particular brand and sell it through mass distributions outlets, and those who want to keep it a premium products sold through a chain of heavily controlled storefronts. This could have enormous implications for the intrinsic value of the stock, making the difference between anemic returns and a share price 400% to 500% higher ten years from now. This is what Philip Fisher was talking about in his classic treatise Common Stocks and Uncommon Profits.
What is important for new investors to understand is that two reasonable persons could disagree on intrinsic value, even if they are both conservative and are presented with the same facts. That’s why Warren Buffett and Charlie Munger have been quick to remind people in the past that it is a range of values, rather than a precise figure. What you are trying to calculate is the present value of all of the money that the enterprise is going to earn from now until doomsday, discounted back at an appropriate rate of return.
In other words, intelligent investing is about buying the greatest future profits at the lowest present price. Done well over time, and you one day wake up with tons of assets churning out cash, minting money for you and your family. Buffett described long-term processes like this in regard to weight gain: If you eat an extra piece of toast, you might not notice it. You’re not going to get up from the table and people declare, “My gosh, you’re huge!” But given enough time, if on a net basis you are consuming more calories than you are spending, it’s going to make a difference. This is very much like the process of wealth creation. Small differences, over time, turn out to huge gains in net worth. That’s why you hear so many stories about how you can amass millions by just giving up a latte everyday.
For more information on this approach, read Common Stocks and Uncommon Profits - 15 Investment Secrets to Help Make You Rich: The Legacy of One of the Greatest Investors of All Time.
