aswath damodaran

Aswath Damodaran, Stern School of Business, NYU – ‘Where is the Value in Value Investing ?’

Aswath is a author of Damodaran on Valuation: Security Analysis for Investment and Corporate Finance (Wiley Finance) and professor of Finance at NYU Stern.

*General

o Natural contrarian

o Nothing to lose

o ‘Pinata’ ready to fight back – (Value community uses academics as a ‘pinata’)

o When everything is Value Investing, nothing is Value Investing

* His definition – Significant discount to estimate of value

o Put aside the accounting balance sheet

o Look at the ‘Financial balance sheet’

  1.  Investments the business has made
  2.  Investments the business expects to make – future (bulk of Facebook’s value is in growth)

* Hard Core Value shuts out much

* (3) classes of Value Investors

o Passive screeners (Graham, identify undervalued assets)

o Contrarian (Bad news, too depressed)

o Activists (Bad management, bad run, hope to change)

* Myth 1 – DCF is just an academic exercise

o Present value of expected cash flows

o If you are not affecting cash flow or risk, cannot affect value

o Asset value – must have positive cash flow at some point

o negative cash flow up front – if larger cash flow later

o (4) drivers of DFC

** Cash Flow

** Value of growth over the cost of that growth

** Risk

** Maturing of the business – how soon

** (Do not make DFC the enemy of Value)

* Myth 2 – Beta

o Measure of relative risk only

o Measure macroeconomic risks related to interest rates

* For public companies, the cost of capital will be 7% -12%

* If you don’t like Beta and use 9%, not so bad

o Beta alternatives

* Market based

* Relative volatility, Standard Deviation

* Implied cost of equity and capital

* Accounting Information based

* Accounting earnings volatility

* Accounting ratios

o Doing your homework does not make risk go away

* Macro risks are still there

* Implication 1 – Need for diversification not decreased because you are a Value Investor

* Implication 2 – Good Value Investors can still lose money

 * Myth 3 – Margin of Safety is an alternative to Beta and works better

o End of the process, not the beginning

o Not a substitute for risk assessment and valuation

o Not a fixed number for intrinsic value, but reflective of uncertainty

o Too conservative can be damaging to long term investment process

o Too high, just as harmful

o Useful tool is “Crystal Ball” in Excel to do large numbers of simulations & compile the results

* Myth 4 – Good management = low risk

o (my note: I think this related to the horse/jockey analogy)

o What to look for in good management (not all inclusive)

* Stability of earnings

* High growth

* Low risk

* Hi dividend

* Myth 5 – Wide moat = good investment

o Wider is only warranted over time – sustainable

o If you can predict

* Myth 6 – Intrinsic value is stable and unchanging

o Price of risk varies

o Not a single number, but a range

o Passive investors are ‘stuck’, Activists can change the situation

* Myth 7 – Active value investing has a bigger payoff than passive value investing compared to active growth vs. passive growth

o Active growth actually beats by more

* What is your competitive advantage? (the only data advantage is in high frequency trading)

* Success can be achieved selling liquidity when others need it

 * Q&A

o Definition of risk

* Some measure of a market component

* Accounting data does not do it (smoothing & restructuring items are really just ‘screw ups’)

o Q4 – 2008, was risk redefined?

* Normal was mean reversion, but now the global/macro is a factor

o Growth & value definition

* General – low P/E value, high P/E growth

o How to assess the value of growth assets?

* Value of the growth that exceeds the cost of capital for that growth

Value Investor Conference: Omaha, Nebraska – May 4th, 2012

Dustin Hunter, SunRift Capital Partners (www.sunriftcp.com)

(These notes are to the best of my recollection and trusty ink pen. Discrepancies are due to my error in understanding & transcribing.)