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Author: jeevagjfunds Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 11  
Subject: 2010- Stock Pick Date: 1/11/2010 1:55 PM
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How to generate highest return in stock market – Warrens Buffett’s Way. Explained with current stock pick


Here is the strategy used to attain highest compound annual return in stock market. These formula’s used by great stock pickers like Warren Buffet, Benjamin Graham and Charlie Munger to generate consistent and high compound annual return for long time.

Here is the winning formula. As investors we have to look for stock that align with this formula to generate highest return in stock market.


Temporary bargain price + Fixable error + Solid fundamental value + Able management

= Highest return

Here is the past and recent examples those are produced great returns, which are align with above formula.

Examples from Warren Buffett:

1. In 1960, American Express (AXP) had salad oil crises, AMEX shares dropped $65/share to $35/share. Warren Buffett partnership invested $13 Million (40% of his partnership fund) in American express. In 2 years, his partnership netted $20 Million profit.

2. In 1976, GEICO shares dropped from $61/share to $2/share. Over next 5 years,
Berkshire Hathaway invested $45.7 million. In 1996, Berkshire owned 51% of the
Company and agreed to pay $2.3 Billion for 49% of the company, which is close
close to $70/share. For his initial investment which he did it in 1976, Buffett
Generated 19.45% compounded annual return for 20 years

Examples from last year:

1. Citigroup(C) traded around $30 in 2008, In March 2009 touched $0.97/share. In August 2009 it bounced back to $5.23/share. However bought the stock at $0.97/share might have made 530% return in 5 months.

2. Goldman Sachs traded around $195/share in January 2008 and reduced to $59/share in November 2008. It bounced back to $165/share in Dec 2009. It did generate 270% return in one year

3. Bank of America traded around $40/share in January 2008 and reduced to
$2.53/share in March 2009. It bounced back to $15.28/share in December 2009.
That is 600% return in 9 months.


Current opportunity: Terex Corporation (TEX)

Terex Corporation operates as a diversified global manufacturer. The company operates in four business segments: Terex Aerial Work Platforms, Terex Construction, Terex Cranes, and Terex Materials Processing & Mining. Terex Aerial Work Platforms segment offers material lifts, portable aerial work platforms, trailer-mounted articulating booms, self-propelled articulating and telescopic booms, scissor lifts, telehandlers, construction trailers, trailer-mounted light towers, power buggies, portable generators, and related components and replacement parts


















Now we examine how Terex align with our winning formula.

1. Temporary Bargain price:

Terex was trading around $74/share in October 2007. Recession started, stock prices reached $8.92/share in February 2009.

Here is the statistics of the company in 2007:

2007 yearly revenue: $9.1 Billion, Net income: $613 Million, 2007 Diluted shares = 104.9 million shares, Market cap in October 2007 = $7.76 Billion, EPS=$5.85/share.

2. Fixable Error:

Industry down turn started in 2008 and continued in 2009. Terex revenue started declining.
Terex started managing the business for cash conversion in 2009. Terex long term debt is $1.9 Billion. They have over $1.5 Billion Liquidity and no near term debt maturities until 2012.
They reduced capital reduction around $199 Million in 2009. They got cash from inventory reduction $497 Million in 2009. They have improved prospects in 2010 and US and emerging markets demand is increasing. So that they can survive this down turn and improve the earnings coming years.


3. Solid Fundamental value:

Terex EPS growth from 2004 to 2008 is 16.5% compound. Retained earnings are great. Each dollar retained it created $2.48/share from 2004 to 2008. Average Return on Equity is 22.58% from 2004 to 2008. Owner income increased 12.41% annually from 2004 to 2007.
Company in the cost conservation strategy to survive the recession, after the recession, probably next year revenue will start grow.

Here is the intrinsic value calculation assumption. If owner income increased 5% for next two years, 4% for another 3 years. I used higher discount rate to accommodate the uncertainty, which is 20%, In that scenario calculated intrinsic value is $45/share. 1/7/2010, Terex closing price is $22.41/share. Which is 50.2% discount to intrinsic value. This perfect investment.




4. Able Management:

Recently management Divestiture of mining business to Bucyrus international for $1.3 Billion cash. Through 2004-2008, mining has accounted for 12% and 14% of consolidated net sales
and operating profit respectively. 2008 Net sales with Mining = $9.9 Billion, 2008 Net sales without mining = $8.4 Billion. Company is planning to concentrate on machinery and industrial production. Company projecting to earn EPS = $8.5/share in 2013 that is double the business.
The company is planning to use the cash to pay down the debt. So Management is doing great job to divest low margin business.


Terex return projection:

As per owner earnings projection, Terex will generate around $694 Million that is around $6/share. This stock historically traded between 9 and 17 ratio.

In 2013, Terex should trade around $54/share to $102/share, which is 24.9% and 46.5% compound annual return for 4 years.


Do own research before investing in TEX


Disclosure: Long on TEX


Author:

Jeeva Ramaswamy is ardent disciple of Warren buffet and managing partner of GJ Investment funds (www.gjfunds.com) which is value based investment fund focusing on US and emerging markets modeled after 1956 Buffett partnership. Since inception GJ Funds have consistently beaten Dow, NASDAQ and S&P 500 indicies and 95% of the mutual and hedge fund managers by wide margin. He can be reached at jeeva@gjfunds.com
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