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Kamoroun
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Joined: May 28th, 2018, 7:19 pm

Should You Pay More Than Assets Less Liabilities For A Company?

June 15th, 2018, 8:12 am

Wow, I really can't believe the wisdom I get here. I would like to first of all thank everyone before I can ask my next question. 


When deciding if an investment/acquisition makes sense you check the IRR, MoM etc If you are finally comfortable with this should you go ahead with the acquisition if your price is more than A - L?
I see when buying Berkshire, Warren Buffet had purchased the company at approximately the value of its current assets minus all liabilities thus paying almost nothing for the property, plant and equipment and any going concern value of the business.
Seems quite wrong that one can click "buy" by just by focusing on the DCF and ignoring the Balance Sheet. 
 
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ppauper
Posts: 69397
Joined: November 15th, 2001, 1:29 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

June 15th, 2018, 10:40 am

Berkshire Hathaway is a special case because it was a failing company. When Buffett bought it, it was a textile company and he's transformed it into a holding company for insurance and monopolistic business like Heinz and Coca Cola.
From wiki on Berkshire Hathaway
In 1962, Warren Buffett began buying stock in Berkshire Hathaway after noticing a pattern in the price direction of its stock whenever the company closed a mill. Eventually, Buffett acknowledged that the textile business was waning and the company's financial situation was not going to improve. In 1964, Stanton made an oral tender offer of $11​1⁄2 per share for the company to buy back Buffett's shares. Buffett agreed to the deal. A few weeks later, Warren Buffett received the tender offer in writing, but the tender offer was for only $11​3⁄8. Buffett later admitted that this lower, undercutting offer made him angry. Instead of selling at the slightly lower price, Buffett decided to buy more of the stock to take control of the company and fire Stanton (which he did). However, this put Buffett in a situation where he was now majority owner of a textile business that was failing.
Buffett initially maintained Berkshire's core business of textiles, but by 1967, he was expanding into the insurance industry and other investments. Berkshire first ventured into the insurance business with the purchase of National Indemnity Company. In the late 1970s, Berkshire acquired an equity stake in the Government Employees Insurance Company (GEICO), which forms the core of its insurance operations today (and is a major source of capital for Berkshire Hathaway's other investments). In 1985, the last textile operations (Hathaway's historic core) were shut down.
In 2010, Buffett claimed that purchasing Berkshire Hathaway was the biggest investment mistake he had ever made, and claimed that it had denied him compounded investment returns of about $200 billion over the subsequent 45 years. Buffett claimed that had he invested that money directly in insurance businesses instead of buying out Berkshire Hathaway (due to what he perceived as a slight by an individual), those investments would have paid off several hundredfold.
 
Kamoroun
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Posts: 20
Joined: May 28th, 2018, 7:19 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

June 15th, 2018, 10:56 am

Which means that a simple litmus is that your book value can't be less than A - L?
 
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ppauper
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Joined: November 15th, 2001, 1:29 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

June 15th, 2018, 12:43 pm

Which means that a simple litmus is that your book value can't be less than A - L?
if that happens, it's worth buying the company to break it up
 
Kamoroun
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Joined: May 28th, 2018, 7:19 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

June 15th, 2018, 1:24 pm

I mean Book value by using Discounted Cashflows (Unlevered Free Cash Flow)
 
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ISayMoo
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Joined: September 30th, 2015, 8:30 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

June 16th, 2018, 7:28 pm

You should always pay as little as possible.
 
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citiboy
Posts: 10
Joined: January 12th, 2011, 5:28 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

July 12th, 2018, 1:16 pm

Book value doesn't represent market value various reasons. For example property, plant and equipment are carried at historical costs whereas the market value of land and buildings might have appreciated, cash dividends reduce book value but they constitute a value for the shareholder, growth opportunities, intangibles (patents, relationship with clients, etc) are yet another reason why stock will trade above book value. 

You can study P/B ratios for companies to get the feeling about it.

Some insight may be taken from so called Justified P/B ratio formula: P/B = (ROE - g)/(r-g), where ROE is Return on Equity, r is the discount rate (cost of equity), and g is growth. You can see that even without growth (so if all profit is paid out as dividend), if ROE is higher than the cost of equity, the P/B will be greater than 1.
 
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DavidJN
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Joined: July 14th, 2002, 3:00 am

Re: Should You Pay More Than Assets Less Liabilities For A Company?

July 14th, 2018, 2:57 pm

Get a copy of the undergrad corporate finance textbook textbook by Brealey and Myers and look up their stuff on PVGO - Present Value of Growth Opportunities. 
 
achalk0
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Joined: July 29th, 2018, 8:19 pm

Re: Should You Pay More Than Assets Less Liabilities For A Company?

July 30th, 2018, 12:09 am

Neither are monopolies by any mainstream economic measure. Maybe in a politician's speech.
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