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Berkshire Hathaway Inc. Message Board

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  • Rickson9 Rickson9 Jul 8, 1998 4:34 PM Flag

    Jim - Dollar is always a dollar?

    Robert Hagstrom calculated intrinsic value in his
    book The Warren Buffett Way, but he didn't derive any
    mathematical proofs. This was probably to keep it relatively
    simple. The equations would show what would happen to the
    investment under 3 different conditions:

    1) bond
    grows faster than the company
    2) bond grows slower
    than the company
    3) bond grows at the same rate as
    the company

    Hagstrom only had examples of when
    #2 was true.

    After being confronted by an
    individual who wanted the proof (I wasn't able to produce it
    at that instant), I went back to my desk and
    scribbled it out on a scrap piece of paper at work (I
    couldn't concentrate after that kind of
    challenge).

    Basically it just shows mathematically what is intuitive.
    That is, that if a company grows slower than a bond,
    buying the bond is more prudent etc.

    For anybody
    who wants to try it, just derive the Future Value
    forumula (using P=present value, F=future value,
    I=interest rate, n=time in years). This formula applies both
    for the bond and the company. This is supposedly
    Buffett's first method of finding the future worth of a
    company.

    Then equate both future values F(bond) = F(company).
    This is equivallent to 'discounting'.

    When you
    get to the bottom of the solution you will have three
    solutions. I(bond) > I(company), I(bond)=I(company) and
    I(bond) < I(company).

    Cheers,
    JimC

 
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