Welcome to the third installment of the Road to Mastery Series, and you can read previous installments here.

In the last installment we established that the quantitative elements are the businesses numerical data, which are found in:

  • The cash flow statement
  • The balance sheet
  • The income statement
  • The equity statement
  • And in addition, the company’s annual and quarterly reports will further provide production and unit prices, capacity and costs, etc.

    In the 1930s, tangible assets were the main quantitative elements of value Graham and Dodd used to appraise the value of a company.  

    “The reason: much of the stock market’s capitalization in that era was based on raw materials (mainly mining companies), transportation (railroads), utilities, and manufacturing. All of those industries had significant amounts of plant, equipment, and inventory. Today, service firms dominate the economy, and, even in manufacturing, much of the firm’s capital comes from intangibles-software, acquired brands, customers, product portfolios-that do not appear explicitly on the balance sheet.”

    Bruce Berkowitz

    Hence, Graham and Dodd encouraged the investor to value a business in three quantitative perspectives:

  • Book Value (total assets minus total liabilities)
  • Current-Asset Value (current assets minus all liabilities)
  • Cash-Value (cash assets minus all liabilities)
  • And other Value Investors have added another valuation perspective, worthy of consideration, called Enterprise Value (market capital of equity plus long-term debt).

    Let’s put these quantitative valuations into practice with companies in the Tire and Rubber industry, which appears to be out of favor with investors.

    Companies such as Capstone (CAPC), Cooper Tire and Rubber Company (NYSE: CTB), Bridgestone Corp., (TYO: 5108 & BRDCY U.S.: OTC) and Goodyear Corp., (NYSE: GT).

    Figures correct at 8th of April 2018. Capstone, Goodyear, and Cooper’s figures are from their 2017 annual report, but Bridgestone’s figures are from their 2016 annual report.

    All four companies are trading slightly below their enterprise value. 

    It’s important to note that the above valuations have been based upon the stated values of assets as reported by the company in their respective annual report.

    “In most instances, assets are overvalued and liabilities are undervalued in an effort to communicate higher earning power and a stronger financial position.”

    C.W Mulford and E.E. Comiskey

    Graham and Dodd did recognize that assets values stated on a company’s balance sheet may not reflect their actual realizable value.

    Graham and Dodd wrote: (emphasis mine)

    The book value of a common stock originally the most important element in its financial exhibit. It was supposed to show “the value” of the shares in the same way as a merchant’s balance sheet shows him the value of his business. This idea has almost completely disappeared from the horizon.

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