WARREN BUFFETT: Zone 5?
AUDIENCE MEMBER: John Rankin (PH), Fort Collins, Colorado. Thanks for having us.
In the book, “Warren Buffett Way,” the author describes the capital growth model that you’ve used to evaluate intrinsic value in common stock purchases.
My question is, do you also still use the formula Ben Graham described in “The Intelligent Investor,” that uses evaluating anticipated growth, but also book value?
It seems to me that fair value is always a bit higher when using Mr. Graham’s formula than the stream of cash discounted back to present value that is in “Warren Buffett Way” and also that you’ve alluded to in annual reports.
WARREN BUFFETT: Yeah, we’ve tried to put in the annual report pretty much how we approach securities. And book value is not a consideration — virtually, not a consideration at all.
And the best businesses, by definition, are going to be businesses that earn very high returns on capital employed over time. So, by nature, if we want to own good businesses, we’re going to own things that have relatively little capital employed compared to our purchase price.
That would not have been Ben Graham’s approach. But Ben Graham was — Ben was not working with very large sums of money. And he would not have argued with this approach, he just would’ve said his was easier. And it is easier, perhaps, when you’re working with small amounts of money.
My friend Walter Schloss has hewed much more toward the kind of securities that Ben would’ve selected. But he’s worked with smaller amounts of money. He has an absolutely sensational record. And it’s not surprising to me at all. I mean, when Walter left Graham-Newman, I would’ve expected him to do well.
But I don’t look at the primary message, from our standpoint, of Graham, really, as being in that — in anything to do with formulas. In other words, there’s three important aspects to it.
You know, one is your attitude toward the stock market. That’s covered in chapter eight of “The Intelligent Investor.” I mean, if you’ve got that attitude toward the market, you start ahead of 99 percent of all people who are operating in the market. So, you have an enormous advantage.
Second principle is the margin of safety, which again, gives you an enormous edge, and actually has applicability far beyond just the investment world.
And then the third is just looking at stocks as businesses, which gives you an entirely different view than most people that are in the market.
And with those three sort of philosophical benchmarks, the exact — the evaluation technique you use is not really that important. Because you’re not going to go way off the track, whether you use Walter’s approach — Walter Schloss’s — or mine, or whatever.
Phil Carret has a slightly different approach. But it’s got those three cornerstones to it, I will guarantee. And believe me, he’s done very well.
Charlie?
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