Bruce Berkowitz – Our Successful Three Step Approach To Value Investing

One of our favorite investors here at The Acquirer’s Multiple is Bruce Berkowitz. He is the Founder and Chief Investment Officer of Fairholme Capital Management, and President and a Director of Fairholme Funds. In 2010 Berkowitz was named as the 2009 Domestic-Stock Fund Manager of the Year by Morningstar as well as the Domestic-Stock Fund Manager of the Decade (2000-2009), also by Morningstar. Most recently, he was named 2013’s Money Manager of the Year by Institutional Investor Magazine.

Get The Timeless Reading eBook in PDF

Get the entire 10-part series on Timeless Reading in PDF. Save it to your desktop, read it on your tablet, or email to your colleagues.

Bruce Berkowitz

Here’s an excerpt from an interview with Berkowitz in which he succinctly lays out his three step approach to value investing, including the example of Bank of America:

At Fairholme we’re very focused on price. Price matters most to us. And we think that price determines much of the success you’re gonna have in the future. So rather than predict what’s going to happen with the company we try to price it correctly with a large margin of safety. So pricing with a significant margin of safety is very important in our rule number one of not losing.

Once we determine what a cheap price is, our next step is to look at the investment and the underlying company and stress test it to determine all the ways that business can go wrong, the environment can go wrong, the balance sheet can go wrong. Try to kill the company.

If we can’t kill the company and we’re buying it at a price that reflects near death we may be onto something very good.

The next step in the Fairholme process is to search for catalysts to understand how the environment, the ecosystem is going to change over time. And how that’s going to affect the company getting closer and closer to a more normal return on investment or on capital employed. That’s the third part of the investment process.

We could use for example a current investment, Bank of America. So 2008 the financial world almost comes to an end. Government comes to the rescue. Most investors have lost eighty to ninety percent of their investment in the company. So we’re watching. We see how Bank of America is recapitalized. We see how their earnings power is maintained, in fact the franchise is intact. But because of what just happened the pain and suffering of so many, the diminution value, the company is priced for death.

But it has been restructured. We capitalized and you can see through the business fundamentals and the quarterly earnings that the company’s actually in better shape than probably it’s been in the past fifty to one hundred years.

So here we have a situation, priced for death, looks to have tremendous value, franchise intact, earnings power foggy because of what just happened in the time that’s going to be needed to resolve the sort of legacy issues from the last debacle.

But you know, if you know business and you know banks, the bad burns off, the good increases, you return to  a normal, and the price follows it. And this is a good example of what we do and how we can invest a dollar and eventually see that dollar become two and four and six.

You can watch the entire interview here:

Article by Johnny Hopkins, The Acquirer's Multiple




About the Author

The Acquirer's Multiple
The Acquirer’s Multiple® is the valuation ratio used to find attractive takeover candidates. It examines several financial statement items that other multiples like the price-to-earnings ratio do not, including debt, preferred stock, and minority interests; and interest, tax, depreciation, amortization. The Acquirer’s Multiple® is calculated as follows: Enterprise Value / Operating Earnings* It is based on the investment strategy described in the book Deep Value: Why Activist Investors and Other Contrarians Battle for Control of Losing Corporations, written by Tobias Carlisle, founder of acquirersmultiple.com. The Acquirer’s Multiple® differs from The Magic Formula® Earnings Yield because The Acquirer’s Multiple® uses operating earnings in place of EBIT. Operating earnings is constructed from the top of the income statement down, where EBIT is constructed from the bottom up. Calculating operating earnings from the top down standardizes the metric, making a comparison across companies, industries and sectors possible, and, by excluding special items–earnings that a company does not expect to recur in future years–ensures that these earnings are related only to operations. Similarly, The Acquirer’s Multiple® differs from the ordinary enterprise multiple because it uses operating earnings in place of EBITDA, which is also constructed from the bottom up. Tobias Carlisle is also the Chief Investment Officer of Carbon Beach Asset Management LLC. He's best known as the author of the well regarded Deep Value website Greenbackd, the book Deep Value: Why Activists Investors and Other Contrarians Battle for Control of Losing Corporations (2014, Wiley Finance), and Quantitative Value: A Practitioner’s Guide to Automating Intelligent Investment and Eliminating Behavioral Errors (2012, Wiley Finance). He has extensive experience in investment management, business valuation, public company corporate governance, and corporate law. Articles written for Seeking Alpha are provided by the team of analysts at acquirersmultiple.com, home of The Acquirer's Multiple Deep Value Stock Screener. All metrics use trailing twelve month or most recent quarter data. * The screener uses the CRSP/Compustat merged database “OIADP” line item defined as “Operating Income After Depreciation.”