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Stocks B / Berkshire Hathaway

URL:  http://boards.fool.com/if-pre-tax-earnings-yield-is-625-and-grows-60-30541958.aspx

Subject:  Re: Berkshire buys Heinz Date:  2/14/2013  10:23 AM
Author:  mungofitch Number:  198564 of 213120

If pre-tax earnings yield is 6.25% and grows 60% then we're at a 10% pre-tax yield.
So you're saying that as long as it grows 60%, to get to a 10% pre-tax yield,
and then there is sustainable growth, the time frame it takes to get
to the 10% pre-tax yield doesn't matter as long as here is
sustainable growth above that? If so, what rate of growth?


Actually I figure that as long as they get to 10% pretax "soonish" they
don't need sustainable growth after that, merely sustainable real earnings.
Think of it as an alternative to TIPS, except paying a real 10% instead
of a real 0%, and slightly reduced coupons for the first few years.

Why doesn't the growth rate matter much? My thinking is pretty simple.
First, I figure Berkshire needs 10%/year pretax yield on new investments as a hurdle rate.
Plus I just figure that if you buy something you're going to hold for
maybe 30 years, the timing of that goal isn't critical so long as it's met.

Real pretax 6-8% for 3 years and real pretax 10%+ for 27 years isn't materially
different from real pretax 6-8% for 7 years and real pretax 10%+ for 23 years.
The vast majority of the value of ANY stock is past the 5 year mark.
Most of us forget that, and even those who remember are generally
unable to imagine earnings streams that might last 50+ years.

So, whether it takes them 3 years or 6 years or 9 years to get the real yield above 10%
pretax on the original purchase price is far from the biggest determinant of the ultimate value.
The bigger issue is the relatively rare ability to buy consolidated
control of brands which have a good chance of having a VERY long run earning power.
If this is one (a big if), that's the reason that it would be worth 20 times current earnings.
Some companies are, but it's only maybe 1 in 100, and few of those are elephant sized.

Any other reason it might be worth such a high multiple?
Well, consider that if a firm is allocating any more capital to the business,
the longer you own something the more closely your returns approach the firm's ROE.
Here is their ROE for the last 10 years:
2003    41.1%
2004 31.8%
2005 36.6%
2006 43.0%
2007 44.8%
2008 75.7%
2009 48.4%
2010 31.1%
2011 39.4%
2012 36.0%
If you knew only one thing about the firm that would be the one to know. Looks pretty good at first glance.
As a bonus, in the same era return on total assets has been slowly rising from ~13.5% to ~17.5%.

None of this proves that it's a good deal, but it shows some of the
reasons that it's not a good idea to jump to the conclusion that it
isn't a good deal just because it's a high multiple of current earnings.
It might well be worth a high multiple of current earnings.

Jim
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