The Superinvestors of Graham-and-Doddsville - Warren Buffett's Speech at Columbia Business School (at year 1984)

(The Article below is quote from The Columbia Business School Magazine: 4–15)

Is the Graham and Dodd "look for values with a significant margin of safety relative to prices" approach to security analysis out of date? Many of the professors who write textbooks today say yes. They argue that the stock market is efficient; that is, that stock prices reflect everything that is known about a company's prospects and about the state of the economy. There are no undervalued stocks, these theorists argue, because there are smart security analysts who utilize all available information to ensure unfailingly appropriate prices. Investors who seem to beat the market year after year are just lucky. "If prices fully reflect available information, this sort of investment adeptness is ruled out," writes one of today's textbook authors.

Well, maybe. But I want to present to you a group of investors who have, year in and year out, beaten the Standard & Poor's 500 stock index. The hypothesis that they do this by pure chance is at least worth examining. Crucial to this examination is the fact that these winners were all well known to me and pre-identified as superior investors, the most recent identification occurring over fifteen years ago. Absent this condition - that is, if I had just recently searched among thousands of records to select a few names for you this morning -- I would advise you to stop reading right here. I should add that all of these records have been audited. And I should further add that I have known many of those who have invested with these managers, and the checks received by those participants over the years have matched the stated records.

Before we begin this examination, I would like you to imagine a national coin-flipping contest. Let's assume we get 225 million Americans up tomorrow morning and we ask them all to wager a dollar. They go out in the morning at sunrise, and they all call the flip of a coin. If they call correctly, they win a dollar from those who called wrong. Each day the losers drop out, and on the subsequent day the stakes build as all previous winnings are put on the line. After ten flips on ten mornings, there will be approximately 220,000 people in the United States who have correctly called ten flips in a row. They each will have won a little over $1,000.

Now this group will probably start getting a little puffed up about this, human nature being what it is. They may try to be modest, but at cocktail parties they will occasionally admit to attractive members of the opposite sex what their technique is, and what marvelous insights they bring to the field of flipping.

Assuming that the winners are getting the appropriate rewards from the losers, in another ten days we will have 215 people who have successfully called their coin flips 20 times in a row and who, by this exercise, each have turned one dollar into a little over $1 million. $225 million would have been lost, $225 million would have been won.

By then, this group will really lose their heads. They will probably write books on "How I turned a Dollar into a Million in Twenty Days Working Thirty Seconds a Morning." Worse yet, they'll probably start jetting around the country attending seminars on efficient coin-flipping and tackling skeptical professors with, " If it can't be done, why are there 215 of us?"

By then some business school professor will probably be rude enough to bring up the fact that if 225 million orangutans had engaged in a similar exercise, the results would be much the same - 215 egotistical orangutans with 20 straight winning flips.

I would argue, however, that there are some important differences in the examples I am going to present. For one thing, if (a) you had taken 225 million orangutans distributed roughly as the U.S. population is; if (b) 215 winners were left after 20 days; and if (c) you found that 40 came from a particular zoo in Omaha, you would be pretty sure you were on to something. So you would probably go out and ask the zookeeper about what he's feeding them, whether they had special exercises, what books they read, and who knows what else. That is, if you found any really extraordinary concentrations of success, you might want to see if you could identify concentrations of unusual characteristics that might be causal factors.

Scientific inquiry naturally follows such a pattern. If you were trying to analyze possible causes of a rare type of cancer -- with, say, 1,500 cases a year in the United States -- and you found that 400 of them occurred in some little mining town in Montana, you would get very interested in the water there, or the occupation of those afflicted, or other variables. You know it's not random chance that 400 come from a small area. You would not necessarily know the causal factors, but you would know where to search.

I submit to you that there are ways of defining an origin other than geography. In addition to geographical origins, there can be what I call an intellectual origin. I think you will find that a disproportionate number of successful coin-flippers in the investment world came from a very small intellectual village that could be called Graham-and-Doddsville. A concentration of winners that simply cannot be explained by chance can be traced to this particular intellectual village.

Conditions could exist that would make even that concentration unimportant. Perhaps 100 people were simply imitating the coin-flipping call of some terribly persuasive personality. When he called heads, 100 followers automatically called that coin the same way. If the leader was part of the 215 left at the end, the fact that 100 came from the same intellectual origin would mean nothing. You would simply be identifying one case as a hundred cases. Similarly, let's assume that you lived in a strongly patriarchal society and every family in the United States conveniently consisted of ten members. Further assume that the patriarchal culture was so strong that, when the 225 million people went out the first day, every member of the family identified with the father's call. Now, at the end of the 20-day period, you would have 215 winners, and you would find that they came from only 21.5 families. Some naive types might say that this indicates an enormous hereditary factor as an explanation of successful coin-flipping. But, of course, it would have no significance at all because it would simply mean that you didn't have 215 individual winners, but rather 21.5 randomly distributed families who were winners.

In this group of successful investors that I want to consider, there has been a common intellectual patriarch, Ben Graham. But the children who left the house of this intellectual patriarch have called their "flips" in very different ways. They have gone to different places and bought and sold different stocks and companies, yet they have had a combined record that simply cannot be explained by the fact that they are all calling flips identically because a leader is signaling the calls for them to make. The patriarch has merely set forth the intellectual theory for making coin-calling decisions, but each student has decided on his own manner of applying the theory.

The common intellectual theme of the investors from Graham-and-Doddsville is this: they search for discrepancies between the value of a business and the price of small pieces of that business in the market. Essentially, they exploit those discrepancies without the efficient market theorist's concern as to whether the stocks are bought on Monday or Thursday, or whether it is January or July, etc. Incidentally, when businessmen buy businesses, which is just what our Graham & Dodd investors are doing through the purchase of marketable stocks -- I doubt that many are cranking into their purchase decision the day of the week or the month in which the transaction is going to occur. If it doesn't make any difference whether all of a business is being bought on a Monday or a Friday, I am baffled why academicians invest extensive time and effort to see whether it makes a difference when buying small pieces of those same businesses. Our Graham & Dodd investors, needless to say, do not discuss beta, the capital asset pricing model, or covariance in returns among securities. These are not subjects of any interest to them. In fact, most of them would have difficulty defining those terms. The investors simply focus on two variables: price and value.

I always find it extraordinary that so many studies are made of price and volume behavior, the stuff of chartists. Can you imagine buying an entire business simply because the price of the business had been marked up substantially last week and the week before? Of course, the reason a lot of studies are made of these price and volume variables is that now, in the age of computers, there are almost endless data available about them. It isn't necessarily because such studies have any utility; it's simply that the data are there and academicians have [worked] hard to learn the mathematical skills needed to manipulate them. Once these skills are acquired, it seems sinful not to use them, even if the usage has no utility or negative utility. As a friend said, to a man with a hammer, everything looks like a nail. I think the group that we have identified by a common intellectual home is worthy of study. Incidentally, despite all the academic studies of the influence of such variables as price, volume, seasonality, capitalization size, etc., upon stock performance, no interest has been evidenced in studying the methods of this unusual concentration of value-oriented winners.

I begin this study of results by going back to a group of four of us who worked at Graham-Newman Corporation from 1954 through 1956. There were only four -- I have not selected these names from among thousands. I offered to go to work at Graham-Newman for nothing after I took Ben Graham's class, but he turned me down as overvalued. He took this value stuff very seriously! After much pestering he finally hired me. There were three partners and four of us as the "peasant" level. All four left between 1955 and 1957 when the firm was wound up, and it's possible to trace the record of three.

The first example (see Table 1, separate file) is that of Walter Schloss. Walter never went to college, but took a course from Ben Graham at night at the New York Institute of Finance. Walter left Graham-Newman in 1955 and achieved the record shown here over 28 years. Here is what "Adam Smith" -- after I told him about Walter -- wrote about him in Supermoney (1972):
He has no connections or access to useful information. Practically no one in Wall Street knows him and he is not fed any ideas. He looks up the numbers in the manuals and sends for the annual reports, and that's about it.

In introducing me to (Schloss) Warren had also, to my mind, described himself. "He never forgets that he is handling other people's money, and this reinforces his normal strong aversion to loss." He has total integrity and a realistic picture of himself. Money is real to him and stocks are real -- and from this flows an attraction to the "margin of safety" principle.

Walter has diversified enormously, owning well over 100 stocks currently. He knows how to identify securities that sell at considerably less than their value to a private owner. And that's all he does. He doesn't worry about whether it it's January, he doesn't worry about whether it's Monday, he doesn't worry about whether it's an election year. He simply says, if a business is worth a dollar and I can buy it for 40 cents, something good may happen to me. And he does it over and over and over again. He owns many more stocks than I do -- and is far less interested in the underlying nature of the business; I don't seem to have very much influence on Walter. That's one of his strengths; no one has much influence on him.

The second case is Tom Knapp, who also worked at Graham-Newman with me. Tom was a chemistry major at Princeton before the war; when he came back from the war, he was a beach bum. And then one day he read that Dave Dodd was giving a night course in investments at Columbia. Tom took it on a noncredit basis, and he got so interested in the subject from taking that course that he came up and enrolled at Columbia Business School, where he got the MBA degree. He took Dodd's course again, and took Ben Graham's course. Incidentally, 35 years later I called Tom to ascertain some of the facts involved here and I found him on the beach again. The only difference is that now he owns the beach!

In 1968， Tom Knapp and Ed Anderson， also a Graham disciple， along with one or two other fellows of similar persuasion， formed Tweedy， Browne Partners， and their investment results appear in Table 2. Tweedy， Browne built that record with very wide diversification. They occasionally bought control of businesses， but the record of the passive investments is equal to the record of the control investments.

Table 3 describes the third member of the group who formed Buffett Partnership in 1957. The best thing he did was to quit in 1969. Since then， in a sense， Berkshire Hathaway has been a continuation of the partnership in some respects. There is no single index I can give you that I would feel would be a fair test of investment management at Berkshire. But I think that any way you figure it， it has been satisfactory.

Table 4 shows the record of the Sequoia Fund， which is managed by a man whom I met in 1951 in Ben Graham's class， Bill Ruane. After getting out of Harvard Business School， he went to Wall Street. Then he realized that he needed to get a real business education so he came up to take Ben's course at Columbia， where we met in early 1951. Bill's record from 1951 to 1970， working with relatively small sums， was far better than average. When I wound up Buffett Partnership I asked Bill if he would set up a fund to handle all our partners， so he set up the Sequoia Fund. He set it up at a terrible time， just when I was quitting. He went right into the two-tier market and all the difficulties that made for comparative performance for value-oriented investors. I am happy to say that my partners， to an amazing degree， not only stayed with him but added money， with the happy result shown here.

There's no hindsight involved here. Bill was the only person I recommended to my partners， and I said at the time that if he achieved a four-point-per-annum advantage over the Standard & Poor's， that would be solid performance. Bill has achieved well over that， working with progressively larger sums of money. That makes things much more difficult. Size is the anchor of performance. There is no question about it. It doesn't mean you can't do better than average when you get larger， but the margin shrinks. And if you ever get so you're managing two trillion dollars， and that happens to be the amount of the total equity valuation in the economy， don't think that you'll do better than average!

I should add that in the records we've looked at so far， throughout this whole period there was practically no duplication in these portfolios. These are men who select securities based on discrepancies between price and value， but they make their selections very differently. Walter's largest holdings have been such stalwarts as Hudson Pulp & Paper and Jeddo Highland Coal and New York Trap Rock Company and all those other names that come instantly to mind to even a casual reader of the business pages. Tweedy Browne's selections have sunk even well below that level in terms of name recognition. On the other hand， Bill has worked with big companies. The overlap among these portfolios has been very， very low. These records do not reflect one guy calling the flip and fifty people yelling out the same thing after him.

Table 5 is the record of a friend of mine who is a Harvard Law graduate， who set up a major law firm. I ran into him in about 1960 and told him that law was fine as a hobby but he could do better. He set up a partnership quite the opposite of Walter's. His portfolio was concentrated in very few securities and therefore his record was much more volatile but it was based on the same discount-from-value approach. He was willing to accept greater peaks and valleys of performance， and he happens to be a fellow whose whole psyche goes toward concentration， with the results shown. Incidentally， this record belongs to Charlie Munger， my partner for a long time in the operation of Berkshire Hathaway. When he ran his partnership， however， his portfolio holdings were almost completely different from mine and the other fellows mentioned earlier.

Table 6 is the record of a fellow who was a pal of Charlie Munger's —— another non-business school type —— who was a math major at USC. He went to work for IBM after graduation and was an IBM salesman for a while. After I got to Charlie， Charlie got to him. This happens to be the record of Rick Guerin. Rick， from 1965 to 1983， against a compounded gain of 316 percent for the S&P， came off with 22，200 percent， which probably because he lacks a business school education， he regards as statistically significant.

One sidelight here： it is extraordinary to me that the idea of buying dollar bills for 40 cents takes immediately to people or it doesn't take at all. It's like an inoculation. If it doesn't grab a person right away， I find that you can talk to him for years and show him records， and it doesn't make any difference. They just don't seem able to grasp the concept， simple as it is. A fellow like Rick Guerin， who had no formal education in business， understands immediately the value approach to investing and he's applying it five minutes later. I've never seen anyone who became a gradual convert over a ten-year period to this approach. It doesn't seem to be a matter of IQ or academic training. It's instant recognition， or it is nothing.

Table 7 is the record of Stan Perlmeter. Stan was a liberal arts major at the University of Michigan who was a partner in the advertising agency of Bozell & Jacobs. We happened to be in the same building in Omaha. In 1965 he figured out I had a better business than he did， so he left advertising. Again， it took five minutes for Stan to embrace the value approach.

Perlmeter does not own what Walter Schloss owns. He does not own what Bill Ruane owns. These are records made independently . But every time Perlmeter buys a stock it's because he's getting more for his money than he's paying. That's the only thing he's thinking about. He's not looking at quarterly earnings projections， he's not looking at next year's earnings， he's not thinking about what day of the week it is， he doesn't care what investment research from any place says， he's not interested in price momentum， volume， or anything. He's simply asking： what is the business worth？

Table 8 and Table 9 are the records of two pension funds I've been involved in. They are not selected from dozens of pension funds with which I have had involvement； they are the only two I have influenced. In both cases I have steered them toward value-oriented managers. Very， very few pension funds are managed from a value standpoint. Table 8 is the Washington Post Company's Pension Fund. It was with a large bank some years ago， and I suggested that they would do well to select managers who had a value orientation.

As you can see， overall they have been in the top percentile ever since they made the change. The Post told the managers to keep at least 25 percent of these funds in bonds， which would not have been necessarily the choice of these managers. So I've included the bond performance simply to illustrate that this group has no particular expertise about bonds. They wouldn't have said they did. Even with this drag of 25 percent of their fund in an area that was not their game， they were in the top percentile of fund management. The Washington Post experience does not cover a terribly long period but it does represent many investment decisions by three managers who were not identified retroactively.

Table 9 is the record of the FMC Corporation fund. I don't manage a dime of it myself but I did， in 1974， influence their decision to select value-oriented managers. Prior to that time they had selected managers much the same way as most larger companies. They now rank number one in the Becker survey of pension funds for their size over the period of time subsequent to this “conversion” to the value approach. Last year they had eight equity managers of any duration beyond a year. Seven of them had a cumulative record better than the S&P. The net difference now between a median performance and the actual performance of the FMC fund over this period is $243 million. FMC attributes this to the mindset given to them about the selection of managers. Those managers are not the managers I would necessarily select but they have the common denominators of selecting securities based on value.

So these are nine records of “coin-flippers” from Graham-and-Doddsville. I haven't selected them with hindsight from among thousands. It's not like I am reciting to you the names of a bunch of lottery winners —— people I had never heard of before they won the lottery. I selected these men years ago based upon their framework for investment decision-making. I knew what they had been taught and additionally I had some personal knowledge of their intellect， character， and temperament. It's very important to understand that this group has assumed far less risk than average； note their record in years when the general market was weak. While they differ greatly in style， these investors are， mentally， always buying the business， not buying the stock . A few of them sometimes buy whole businesses. Far more often they simply buy small pieces of businesses. Their attitude， whether buying all or a tiny piece of a business， is the same. Some of them hold portfolios with dozens of stocks； others concentrate on a handful. But all exploit the difference between the market price of a business and its intrinsic value.

I'm convinced that there is much inefficiency in the market. These Graham-and-Doddsville investors have successfully exploited gaps between price and value. When the price of a stock can be influenced by a “herd” on Wall Street with prices set at the margin by the most emotional person， or the greediest person， or the most depressed person， it is hard to argue that the market always prices rationally. In fact， market prices are frequently nonsensical.

I would like to say one important thing about risk and reward. Sometimes risk and reward are correlated in a positive fashion. If someone were to say to me， “I have here a six-shooter and I have slipped one cartridge into it. Why don't you just spin it and pull it once？ If you survive， I will give you $1 million.” I would decline —— perhaps stating that $1 million is not enough. Then he might offer me $5 million to pull the trigger twice —— now that would be a positive correlation between risk and reward!

The exact opposite is true with value investing. If you buy a dollar bill for 60 cents， it's riskier than if you buy a dollar bill for 40 cents， but the expectation of reward is greater in the latter case. The greater the potential for reward in the value portfolio， the less risk there is.

One quick example： The Washington Post Company in 1973 was selling for $80 million in the market. At the time， that day， you could have sold the assets to any one of ten buyers for not less than $400 million， probably appreciably more. The company owned the Post ， Newsweek ， plus several television stations in major markets. Those same properties are worth $2 billion now， so the person who would have paid $400 million would not have been crazy.

Now， if the stock had declined even further to a price that made the valuation $40 million instead of $80 million， its beta would have been greater. And to people that think beta measures risk， the cheaper price would have made it look riskier. This is truly Alice in Wonderland. I have never been able to figure out why it's riskier to buy $400 million worth of properties for $40 million than $80 million. And， as a matter of fact， if you buy a group of such securities and you know anything at all about business valuation， there is essentially no risk in buying $400 million for $80 million， particularly if you do it by buying ten $40 million piles of $8 million each. Since you don't have your hands on the $400 million， you want to be sure you are in with honest and reasonably competent people， but that's not a difficult job.

You also have to have the knowledge to enable you to make a very general estimate about the value of the underlying businesses. But you do not cut it close. That is what Ben Graham meant by having a margin of safety. You don't try and buy businesses worth $83 million for $80 million. You leave yourself an enormous margin. When you build a bridge， you insist it can carry 30，000 pounds， but you only drive 10，000 pound trucks across it. And that same principle works in investing.

In conclusion， some of the more commercially minded among you may wonder why I am writing this article. Adding many converts to the value approach will perforce narrow the spreads between price and value. I can only tell you that the secret has been out for 50 years， ever since Ben Graham and Dave Dodd wrote Security Analysis ， yet I have seen no trend toward value investing in the 35 years that I've practiced it. There seems to be some perverse human characteristic that likes to make easy things difficult. The academic world， if anything， has actually backed away from the teaching of value investing over the last 30 years. It's likely to continue that way. Ships will sail around the world but the Flat Earth Society will flourish. There will continue to be wide discrepancies between price and value in the marketplace， and those who read their Graham & Dodd will continue to prosper.

(Note: Further edit this thread with the remaining part of the speech that I did not put in last time and to bold certain part in this speech in order to highlight parts that worth to take note.)

Never trust the bank's marketing pitch

Yesterday I received a call of a telebanker from Standard Chartered Bank who was trying to persuade me to make a credit card balance transfer to the Standard Chartered account. Too bad that I am debt free so I did not accept the offer from the telebanker. The telebanker then offered me another package to make a personal loan of RM7,200 from the bank with only 4.99% charge per annum. He told me there are 3 period selections I can choose to repay the loan, i.e. 9-month, 1-year and 1.5-year.

I was quite curious about the package of RM7,200 loan with the marginal 4.99% annual interest rate charge, so I inquired the telebanker that whether I can repay the principal plus interest of RM7,559.28 (=RM7,200 * 1.0499) at the end of 1 year if I take up the 1-year loan package? But the fellow told me that I would need make installment to repay the loan for 12 months after a month I receive the loan.

When I was listening to the telebanker about the installment to repay the loan, I realised that the loan effective annual rate is more than 4.99% per annum. Let me work out some illustrations to show how the marketing trick of the bank to mislead the borrower by pitching a loan promotion with low rate but end up the borrower needs to pay more than the loan rate without realised he is paying more.

If I borrow a loan of RM7,200 with a marginal interest rate of 4.99% to be repaid within 12 months by installment, so each month I need to pay RM629.94 (=[RM7,200*(1.0499)]/12). The effective annual rate can be worked out by using the money weighted average return method (or the so called Internal Rate of Return, “IRR”). By working trial and error on the IRR in order to make the Net Present Value of the plan to be zero, I am able to get the effective rate to be 9.09%, which is 1.82 times higher than the marginal interest rate of 4.99%. So the effective annual rate for 12-month package is shown as below:-

RM629.94/[(1+IRR)] + RM629.94/[(1+IRR)^2] + …+ RM629.94/[(1+IRR)^11] + RM629.94/[(1+IRR)^12] – RM7,200 = 0

IRR = 0.7572%

Annualised IRR = 0.7572% * 12 = 9.0867%

How about the effective interest rate of the 1.5-year loan of RM7,200? Please refer the calculation shown below:-

Monthly installment = (RM7,200*[1+(0.0499)*18/12])/18 = RM429.94

RM429.94/[(1+IRR)] + RM429.94/[(1+IRR)^2] + …+ RM429.94/[(1+IRR)^17] + RM429.94/[(1+IRR)^18] – RM7,200= 0

IRR = 0.7711%

Annualised IRR = 0.7711% * 12 = 9.25%

From the computation, it is clearly showing that the longer period we take to repay the loan with installment, the higher effective interest rate we have to pay. By knowing I need to pay the loan with principal with interest by installment, I straigh away rejected the "kind" offer from the telebanker.

A rumour about Tan Teng Boo's new Ferrari Car

Today I was attending the CFA Level III course at the Kasturi College at Menara Plaza First Nationwide. During the class, one of the classmates mentioned that when he was parking his car in the car park of Menara Plaza First Nationwide, he noticed a Ferrari sport car was parked inside the car park as well. So he further inquired in the class whether it was the lecturer’s car. Immediately the lecturer’s denied he drove car come to work lah cuz he used to ride motorcycle come to lecture (I think the lecturer was very humble cuz he is a brilliant and knowledgeable fellow who can earn enough to afford a luxury car).

In order to further prove that he has no sport car, the lecturer said that the car could be possible belong to Tan Teng Boo as he is the one most qualified to own a good car in this building (Note: TTB’s office of Capital Dynamics is located at the same building of Menara Plaza First Nationwide at floors 16 and 17 which I have visited before). So I assume that TTB was driving his sport car to work at the office on Sunday, then it is a good news to the ICAP’s shareowners that the FM is so hardworking and productive as he even works on holiday.

By the way, I remembered last time TTB was used to drive a Lotus sport car. Maybe now he buys a more stylish one after last year the bull run (he also opened more news offices during the crisis). Hope he can drive safe and thus the ICAP shareowners can sleep well with his good health condition...^_^!!

Is ICAP's NAV discount relevant to value investor?

The purpose of setting up ICAP is to enjoy capital appreciation in the long run. In an extreme case that if all initial IPO investors of the fund were serious value investors and who invest ICAP because of TTB's outperformance, they wont sell a share from the 1st day of listing. So the fund would have a stale price of RM1 since its listing, not RM1.83 now. Indeed, the meaning of 'close' end fund mean there would be no additional fresh capital (except right issue) being added into the fund and thus the original investor dont really expect about the 'new' investors.

So what will happen to those investors who bought at RM1 at the IPO and still being priced at RM1 today? Their only concern is the growth of NAV, not the share price. In this case the market is non-existance, TTB can just liquidate the fund and everyone will get back their value base on the NAV instead of receiving wrong reward base on market price.

Of course now the situation is not at the extreme side that the original IPO investors wont sell a share since IPO otherwise you and I can't buy the fund to enjoy its benefit. The situation is just at the midpoint of the extreme amid the discounting the NAV is becoming bigger. But just like what I mentioned in the extreme case that the role of market doesnt matter or it is just irrelevant.

By the way, those who think can beat TTB by "emulating the fund's purchases by investing in the bigger companies and ignore the smaller ones have yielded a much higher returns" wound end up just like those who try to beat Warren Buffet by mimicking his portfolio holding. However, we simply just dont know when TTB or Warrent Buffet is going to liqudiate their position and left the mimicker like a dumb ass who think they have outperformed (Please refer to the case of Berkshire Hathaway Holding of China Oil then you would know those Warren Buffet mimickers look stupid today).

Lastly I wanna quote a phrase from Warren Buffet: "If a business is worth a dollar and I can buy it for 40 cents, something good may happen to me. Those who cannot understand this concept in 5 minutes will not get it through even after 10 years." So any of those who bought ICAP shares but feels uneasy being trapped in discount, please stop pretending to be value investor and dispose the shares to get out from the trouble.

ICAP’s 5th AGM (Part 4)

Below are the 18 companies that ICAP has mentioned during the AGM:-

1) Airasia
According to TTB, he thinks Airasia is a well-managed company and it is expanding aggressively. Due to this kind of aggressive expansion, Airasia leveraged quite heavily to finance the purchase of new airplanes.

ICAP believes that Airasia could make an outstanding profit and also penetrate well into the aviation industry during good time, however it would invite high risk as well while encountering bad time.

After ICAP invested into Airasia not too long at year 2008, the world financial market faced a rapidly deteriorated economy due to the bankrupcy of Lehman Brother. So the pessimism was spread so furiously and caused a huge confidence risk as most banks wanted to withdraw their credit. As a result, ICAP concerned about Airasia could be in trouble due to liquidity risk amid the confidence risk. Thus ICAP sold Airasia decisively for security purpose. The disposal made a gain of RM540,000.


2) Axiata
It was not ICAP's intention to invest Axiata. Axiata is the product of the demerging exercise of Telekom Malaysia Berhad ("TM"). ICAP was initially investing TM before the announcement of demerging TM Internationl ("TMI") from TM (TMI was subsequently renamed as "Axiata").

The initial investment of TM was not because of Axiata. In fact, ICAP is more interested to the fix-line telephone business that still under TM now. Thus ICAP decides to keep the original TM shares after the demerging plan and was finding a good timing to dispose Axiata.

However, the reality always to its back to investors as it happened the opposite way as what ICAP has expected. Instead of finding a good timing to dispose Axiata at a higher price, Axiata's announcement of Right Issue with an issue price of RM1.12 per share and also the 'Lehman Panic' incident just sent its share price to a hell down from around RM8 to the lowest at RM1.47. Since the Right Issue was RM1.12 and thus it was very dilutive to the existing shareholder if he decided not to subsribe the Right Issue offer. So what was the reason that ICAP dispose Axiata and realised a loss of RM14 million without further subscribing the Right Issue?

TTB explained that Celcom is the gem of Axiata and so far the best performing subsidiary. Nevertheless, Malaysian cellphone market is going to be saturated and thus it will step into a mature stage. Hence TTB doubt that whether Celcom can further support other non-performing subsidiaries of Axiata? Axiata's the other 3 subsidiaries are either stuck in a mass loss or a slight marginal gain situation, thought I believe they are turning the situation these few years.

All these 3 other subsidiaries are operated at foreign markets and their accounts are recorded with foreign currency amounts, and thus they are subject to a great foreign currency exchange rate risk while consolidate into Axiata's group account. (Note: for my own opinion, i think the foreign currency exchange rate risk is a non-issue as the foreign currency exchange rate is too fluctuate that today can make a foreign currency exchange gain and tomorrow these would be a foreign currency exchange loss. As a whole, this foreign currency exchange gain and loss is just an accounting issue and thus will offset each other in long run, unless the depreciation or appreciation of the the foreign currency exchange rate is a structural change).

Though the 3 oversees subsidiaries seems to have very good potential, it is a question that when will they break even and start to contribute to Axiata's bottom line. Moreover, Axiata was in heavy debt to TM. This is the reason why Axiata wanted to engage the Right Issue in order to spin off the debt to TM. However, after paying the debt to TM, Axiata borrows a huge debt funding again for the acquistion of the shareholding of another subsidiary, i.e. "Idea". So Axiata's net gearing rises once more and TTB thinks the aggressive expansion via high debt funding seems not a wise move. In fact, the existing 3 oversees subsidiaries still have room to improve and thus post a better organic growth. Instead of improving internally, Axiata chooses an easier way to grow via acquisition and thus taking more financial leverage risk to turn around another subsidiary.

As ICAP did not want to further expose to the Axiata's high leverage risk and also there were other better investment opportunities than Axiata at Bursa Malaysia, ICAP decided to dispose off Axiata and used the remaining proceed to invest into other more promising counters.

(This was almost the same reason that I wrote in the previous thread to indicate that why ICAP realised Axiata at a loss of RM14 million).
http://kinwing.blogspot.com/2009/08/icapaxiata8-8-2009.html

东和资源股价跟镍价的联系。

由于收到草根兄有关东和资源股价(Tonger’s Price)跟镍价(Nickel’s Price)联系的问题，所以特别开了这个帖回复草根兄的疑问。其实我现在也正在以英文作草稿撰写着Tongher’s Price跟Nickel’s Price之间的正面联系(Positive Correlation)，它将被呈现在"TONG HERR RESOURCES BERHAD (PART 2) 或 （PART 3)"。

我之前向草根兄提过东和("Tongher")是以先进先出（"FIFO")的会计方式来记录其存货的成本，这也是唯一被FRS会计准则允准的存货记录方式。另一种的存货成本记载方式是后进先出("LIFO")，这种方式比较广泛用于美国的会计制度("GAAP")，其对FIFO的优势是延后缴税("Deferred Tax")。不过美国GAAP将逐渐的与IFRS融合（"Harmonise")并逐渐过渡采用IFRS的准则，所以LIFO在未来将不被接纳。

FIFO的方式会将原料成本购买价的效应延后一段时间才发酵。其原料成本价效应通常是在未来原料购买价与之前的购买价出现了相反的发展趋势才能感受得到。可能我这么说草根兄还不能明白，所以我在以下举个例子。

假设我们现在是处于2007年的高通货膨胀时期("Inflation")，所有的原料价都涨价，包括Nickel's Price。由于原料价的上升，因此这给Tongher一个理由来为它的制成品("Finished Goods")涨价,以尝试将高涨的成本转移至客户身上。所以这有助于公司提高它的销售额("Revenue")。另一方面，由于受制于FIFO的方式，Tongher的销售成本("Cost of Goods Sold"或简称"COGS")却没有大幅度增加。这是因为Tongher的2007年会计帐目不能即时反映2007年的原料高收购价，而只能以2007年之前的低收购价来记录其COGS。

即使Tongher在2007年年头所购买的原料存货并在同一年的年尾以Finished Goods来出货(Real time inventory transaction is using LIFO),但是Tongher的会计记录方式还是要用2007年之前较低的原料收购价来反映其COGS。由此可见Revenue的增加是即时反应了通膨的效应，但COGS却往往在这个时刻因为FIFO的因素而保持不变甚至有所下降，因此这种落差将会为公司的营运盈利("Operating Profit")带来正面的增长。

相反地，当原料价下跌时，公司的Revenue就会即时反应出下跌的趋势(因为那时候Finished Goods不降价都不行，因为客户极可能会给公司压力，尤其是工业产品并无任何实质的品牌效应以保持起其产品价格不变），但之前在高价买进的原料存货却需得在这个时候呈现出来。所以祸不单行的是除了公司的Revenue下降之外，其COGS也在此时大涨。所以公司往往会在原料价下跌时会面临Operating Profit的下跌甚至蒙受亏损。

所以草根兄你也可能回观察到很多工业股都有类似的情况，那就是它们的股价跟原料价的联系("Correlationship")。 SHELL REFINING COMPANY (FEDERATION OF MALAYA) BERHAD （"SHELL"）就是其中一个典型的例子，当原油价高涨是Shell的盈利将增加并带动股价的上升。而当原油价下降是Shell的盈利将降低进而导致股价下滑。

(以上是我的看法，不一定正确，所以有待各位的指点)。

ICAP’s 5th AGM (Part 3)

(My photo shooting skill still need to improve...^_^")

Before Tan Teng Boo ("TTB") commenced to share us a list of shares that compse the ICAP's portfolio like last time, he mentioned why ICAP should be traded in premium (OK, I was patient to listen to this salesman promotion...^_^!!). The reasons given by TTB to justify 'why ICAP should be traded in premium' can be found from the previous article in my blog.
http://kinwing.blogspot.com/2009/08/forward-company-analysis-icapitalbiz.html

So he was just repeating the few points such as the 3 'N' principals, how the fund manager is saving lot of costs for the fund lah, how the fund manager is picking cheap stocks lah, how integrity the fund managerlah and blablabla. For me, I view the most important point is the 3 'N' principals, i.e. 'No' Borrowing, 'No' Derivatives / Off Balance Sheet Liabilities and 'No' Short Selling that enrich the financial strength of ICAP. At least I can sleep soundly during nights without worrying wake up the next day and found out the fund is in bankruptcy.

Later, TTB shown us a list of shares that the fund has invested. The list of shares is shown below in alphabetic order:-
1) Astro All Asia Networks PLC (ASTRO, 5076)
2) Boustead Holdings Berhad (BSTEAD, 2771)
3) Fraser & Neave Holdings Berahd (F&N, 3689)
4) Haio-Enterprise Berhad (HAIO, 7668)
5) Integrax Berhad (INTEGRA, 9555)
6) Kuala Lumpur Kepong Berhad (KLK, 2445)
7) Lion Diversified Holdings Berhad (LIONDIV, 2887)
8) Mieco Chipboard Berhad (MIECO, 5001)
9) Padini Holdings Berhad (PADINI, 7052)
10) Parkson Holdings Berhad (PARKSON, 5657)
11) Petronas Dagangan Berhad (PETDAG, 5681)
12) Poh Kong Holdings Berhad (POHKONG, 5080)
13) P.I.E Industrial Berhad (PIE, 7095)
14) Suria Capital Holdings Berhad (SURIA, 6521)
15) Swee Joo Berhad (SWEEJOO, 5119)
16) Telekom Malaysia Berhad (TM, 4863)
17) Tong Herr Resoruces Berhad (TONGHER, 5010)

(to be continued)