Attention Book Value Investor!!

Book value gets a lot of attention these days - perhaps because it's such an easy number to find. You see it reported everywhere. With current technology, u can google and it can generate a number of stocks that traded below its book value. In theory, u just buy a stock that has a higher book value versus its price. Example, book value per share RM8.00 versus stock price RM4.00. Before I start going into book value, let's us understand what is book value. The formula is pretty simple:

How it is used among investors? It compare share price against book value per share. The ratio measures how far share price against its book value. Assuming A stock priced at RM15.00 versus its book value RM3.00 per share. It is said that the stock is traded at market 5 times against its book value. It may be considered at Overvalued stock, not a buy criteria. or the other way around, stock that is sell 0.5 time than its book value, can be considered as undervalued stock. Similarly, the NTA (net tangible asset) which has similar behavior.

The drawback of this method is that, the stated book value often bears little relationship to the actual worth of the company. It sometimes doesn't reflect the true value (be it understates or overstates). For example, Penn Central had a book value of more than USD60.00 per share when it went bankrupt. In 1976, Alan Wood Steel had a stated book value of USD32 million (USD40 per share). However, the company filed for Chapter 11 Bankruptcy 6 months later (similar like Pn17). The problem was that its steel-making facility, worth perhaps USD30 million on paper, was ineptly planned and certain operational flaws rendered it practically useless. TO pay off some of the debt, the steel-plate mill was sold to Lukens Corp. at around USD5 million and the rest of the plant was presumably sold for scrap.

A textile company may have a warehouse full of fabric that nobody wants with book value USD4 a yard. In reality, they couldn't give the stuff away for 10 cents. There's another unwritten rule here, the closer you get to the a finished product, the less predictable the resale value. You know how much cotton is worth but who can be sure about,an orange cotton shirt? You know what you can get for a bar of metal but what is it worth as a floor lamp.

A few decades ago, Warren Buffett decided to shut down the New Bedford textile plant that was one of his earliest acquisitions. Management hoped to get something out of selling the loom machinery which has a book value of USD866,000. But at a public auction, looms that were purchased for USD5,000 each years back, now were sold at USD26. What was reported as book value of USD866,00 only brought in USD163,000 in actual cash.

Overvalued assets on the left side of the balance sheet are especially looked very suspicious when there's a lot of debt on the right side. A company may reported RM400 million in assets and RM300 million in debts, resulting in a positive book value of RM100 million. The debt part is a real number. but assets of RM400 million may be worth at RM200 million in a bankruptcy sale or auction, then the actual book value is a negative RM100 million. now, it has become a worthless company.

A piece of advice, when you buy a stock just because its book value, drill down the detail of what those values really are.

For more clarity, you may want to evaluate Warren Buffett recent acquisition: (1)Exxon Mobil (2) Heinz (3)IBM or even its current shareholding like Coca Cola (in Berkshire Hathaway).

Is he buying stock that value higher than its book value (5 times than price to book ratio) or lower than its book value (1 time than price to book ratio). Or, why isn't he selling Coca Cola if it is traded higher than its book value?

In summary, just be careful using a book value, or it can be a value trap!

7 Habits of Highly Effective Investors

1. They read. And read, and read, and read ...

If you follow Warren Buffett and Berkshire Hathaway (NYSE: BRK-A, BRK-B), you've probably stumbled across his witty and equally brilliant first mate, Charlie Munger. He's a legend for his insights into successful investing, thought processes, and habits. He nailed a crucial one here: “In my whole life, I have known no wise people who didn't read all the time - none, zero. You'd be amazed at how much Warren reads - at how much I read. My children laugh at me. They think I'm a book with a couple of legs sticking out.”

2. They seek and demonstrate humility

Koch Industries may not command the recognition of its phonetic relative Coke, but it should. Koch is the second-largest private company in the United States and rakes in more than twice the revenue of the more familiar beverage-maker.

Koch Industries chief financial officer Steve Feilmeier is in charge of deploying the company's massive capital at a reasonable rate of return. When discussing what he looks for in a valuable acquisition for Koch, he said: "There is one in particular that I pay attention to when we're looking at another company, and that is humility."

Humility can be a rare virtue in an industry controlled by animal spirits, but it pays off.

3. They fail

Peter Lynch, the legendary manager of Fidelity's Magellan Fund, absolutely stomped the market over his career, averaging annual returns of 29 per cent. Here's what he had to say on picking winners: "In this business, if you're good, you're right six times out of 10. You're never going to be right nine times out of 10."

That's right. If you're king of the investing mountain, you may narrowly beat a coin toss in the long run.

4. They steal

Maybe "steal" isn't the best word for it. In investing it's called "cloning", or basically borrowing already great investment ideas and making them your own.

When it comes to cloning, no one is a bigger advocate than fund manager Mohnish Pabrai - and few are so successful at it. After managing his fund for more than 18 years and weathering two recessions, his average annual return is 25.7 per cent.

Pabrai breaks his approach down to three strategies, and one of them is, indeed, cloning. It's no coincidence that he has had this idea affirmed by someone else too: Charlie Munger.

5. They evaluate internally

A lot of investors are aware of the need to go against the grain to find success, but the judgment and evaluation of others can be a big psychological weight. It can cause doubt and insecurity in your approach.

Buffett knows this best. He was chastised for trailing the moonshot returns of the tech bubble while he stuck with boring insurance and paint manufacturers.His advice for weathering the storm? An "inner scorecard". As he said in The Snowball, a book about his life: “The big question about how people behave is whether they've got an Inner Scorecard or an Outer Scorecard. It helps if you can be satisfied with an Inner Scorecard ... If all the emphasis is on what the world's going to think about you, forgetting about how you really behave, you'll wind up with an Outer Scorecard.”

6. They practise patience

We got a wonderful reminder of the power of patience here at Fool HQ when co-founder David Gardner's 1997 recommendation of Amazon.com (Nasdaq: AMZN) became a 100-bagger. That return – a gain of 100 times the original investment – is absolutely stunning, but even more impressive is that David was an owner the whole way through.

In his original Amazon recommendation, David wrote: "We're patient investors who buy with the idea of holding on to our latest pick for at least a year or two - if not indefinitely."

He's still holding.

7. They're decisive

Don't confuse patience with indecision. The best investors are poised to act when the right opportunity comes across their radars.

John Paulson and Michael Burry didn't participate in The Greatest Trade Ever by sitting on their hands. When they saw a clear opportunity, they backed up the truck. For Burry, that often meant battling his own investors' anxiety. His fund Scion Capital returned nearly 500 per cent in less than eight years.

Foolish takeaway

Taking the time to cultivate good habits will yield incredible results. As one popular saying goes:

Your actions become your habits,

Your habits become your values,

Your values become your destiny.

Read more: http://www.smh.com.au/business/the-seven-simple-habits-of-the-best-investors-20131112-2xe2o.html#ixzz2kQj29J7f

How to detect A company's bankruptcy?

It is very common for an investor to fall into trap which is, investing in the wrong company that may face bankruptcy. This is one of the red flag that an investor must at all cost to avoid buying this kind of company in stock market. Bankrupt by definition means, a person or company is unable to pay or settle outstanding debt. In the stock market case, when a company has the characteristics that the debt is beyond control, it will face bankrupt. We have seen company like Enron and World.com (biggest financial fraud in wall street history).

There's a way to detect it even before it happens. Edward Altman has developed a formula on how to predict bankruptcy. This formula will provide 80-90% accuracy that a company will bankrupt within 2 years. this formula is called as Altman Z-Score Analysis. NYU Stern Finance Professor, Edward Altman, developed the Altman Z-score formula in 1967. In 2012, he released an updated version called the Altman Z-score Plus, that can be used to evaluate both public and private companies, both manufacturing and non-manufacturing companies and both U.S. and non-U.S. companies. Investors can use Altman Z-scores to help determine whether they should buy or sell a particular stock if they're concerned about the underlying company's financial strength. The Altman Z-score Plus can be used to evaluate corporate credit risk.

In Malaysia, particularly, you should have avoided companies like Transmile, Kenmark, Repco etc even though the price went outrage without reason. You do not want to invest your hard earn or retirement money into these kind of companies.

Ok, below are the screenshots of Altman Z-score formula. The input of Z-score are derived from Balance Sheet and Profit & Loss Statement. Before you use this tool, make sure the source of inputs are available. If it is kept secret, you know the drill. they want to hide from you, there must be something fishy. There's a reason why all companies in all stock exchange around the world must release the quarterly/yearly reports. 

Altman Z-score Analysis

Z-score

If you are interested in the above excel formula, do email me.