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Berkshire Hathaway Inc. Message Board

  • BrkRules BrkRules Jul 8, 1998 10:28 AM Flag

    Jim - Dollar is always a dollar?


    Hi, I have an example, and I guess I would like
    to know your opinion of the "intrinsic value" of

    Ok, I have two holding companies who simply invest in
    bonds. However, because of some screwy new tax law, they
    are going to be in cash for the next 3

    Ok, company A has access to quality A+ (private
    placement) bonds that pay 10 percent, and we fully expect
    the interest rates/availability to stay the

    Company B can only get bonds that pay 8 percent. Once
    again, we totally expect the status

    Alright, here is the question, since both companies have
    the exact same assets right now, and it is in cash,
    do they have the same intrinsic value? (I don't know
    the answer to this, but one of your comments
    yesterday made me think of it)

    This topic is deleted.
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    • You've opened up a can of worms with that

      I'm hardly an expert, but if we examine what Warren
      Buffett does, we may get an idea.

      Buffett determines what an instrument is worth compared
      to a bond. First (1) he determine's the instrument's
      future worth over a period of 'x' years.

      that (2), he _discounts_ this instrument by comparing
      it to the U.S. long bond. Discounting is a method
      used to compare to instruments that grow at different

      If you had $100 that did not grow at all and held it
      for one year, it would have a future value of $100
      after that year. However, if you discounted it over one
      year at 10% (akin to comparing it with a 10% bond),
      you'll get something like 90 bucks ($90.91). This means
      that if you wanted to have a future $100 amount in 1
      year, you should only pay around 90 bucks for it

      Conversely, if your $100 grew 20% in one year, it would have
      a future one year value of $120. Discounted by 10%,
      this would yield $109.09. Again, this would mean that
      if you wanted to ensure a 1 year future worth of
      $120 bucks you should only pay $109.09

      Buffett's intrinsic value calculations is based on one
      massive assumption. That is, that the U.S. long bond
      yield is the best and safest long-term rate possible in
      corporate America; he's probably right.

      The answer
      to your cash question is: it depends. It depends on
      what the money will be doing after 3 months and it
      also depends for how long will it be doing what it's
      doing. I hope that's not too

      Basically, lets assume that after 3 months the bonds just
      sit as dead cash. To determine it's intrinsic value
      after 1 year you would find the future value of a bond
      that grew at 'x'% for 3 months and then grew at 0% for
      the next 9 months. This would yield a future value
      for one year. You can then discount (compare it with
      the long bond) it back at current interest rates.
      However, with such a short-term outlook the difference
      between it's intrinsic value and flat $100 value will be
      negligible, but over longer terms, the difference would be

      So, in the first case where, say $100 is
      growing at 10% for 3 months and then sits dead for the
      next 9 months, it's future 1 year value would be
      around $100 + $100 x (3 months x 10%/12 months) x 3 =
      $102.50. Discounting back by the U.S. long bond (lets
      assume a nice round 6%), you get an intrinsic value of
      $96.70. This is after 1 year. If it sits as dead cash for
      longer than 9 months, this value will drop. Alas, the
      ravages of time works both ways - do nothing and your
      buying power erodes.

      It is probably safe to use
      the long bond rate at 6% for one year because the
      time span is so short. However, Buffett realizes that
      _historically_ the long bond is much higher and has even been
      twice as high. This would _dramatically_ change your
      discounting process because a 5% yeild and 14% yeild results
      in _vastly_ different intrinsic values over a long
      time span - say 10 years.

      Sorry for the lack of
      any concrete answer. :P

      The Toronto
      Investment Club

      • 3 Replies to Rickson9
      • 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

        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

        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).


      • I just came into a sum of money to invest in the
        market. I have always been a Buffet fan yet never had
        enough $ to step up and invest in his stock.

        somebody step up and tell me if I should or should not
        invest in BRKA at this specif time? Should I wait for
        the stock to fall?

    • I've read the chairmans letters, I am holding stock that is up 300%, BUT I have NOT made a dime.


    • I liked your posting on "making predictions."
      Consider the prediction that BRK will continue to do well.
      After all, it is simply a prediction and may have a
      high probability of succcess. But, it is not
      guaranteed by anyone (let alone by insurance company such as
      Ge... or Ge.....Re). Thus, I only wish that some of the
      participants on this post would at least discuss the
      possibility that BRK may not do well under certain
      circumstances (say, if interest rates go up). Otherwise, we
      learn less and are simply the believers like the
      ultra-religious people. Even the Roman Empire or the British
      Empire came to an end.

      Even Buffett (especially
      Munger) has talked about paradigm shift. It appears to me
      that if Buffett had started investing 20 to 40 years
      ago, may be, he would have successfully invested in
      steel and auto. He would have made a fortune. But, the
      paradigm shifted to colored water, etc. May be, someday,
      the paradigm will shift again. Buffett may not be
      around by then but ROE on colored water will be smaller.
      Of course, if you ask the managers of colored water
      (i.e., Buffett and Munger), it is extremely unlikely
      that they would say that the stock price is high. I do
      not believe that he has EVER (almost ever) has
      suggested that any of BRK's holdings are

      Furthermore, I only wonder that because the investors have not
      had a wonderful time with BRK, they are predicting
      the same will be true in the future. BRK will
      probably do better than the market (I own a lot) but not
      like the last 12 months (or what has happened since
      January). Well, these are my thoughts just to keep myself
      on ground and I hope some believers are not

      The reason is that sometimes we start to believe in a
      prediction -- for example, almost everyone (who posts here)
      does not want to hear any possibility of BRK not doing

    • I hate to risk propogating this issue, but my
      initial investing concept was firmly based on "not
      gaining or loosing" until you actually sell. But after
      going through some rounds of wins and losses, I finally
      came to the conclusion that paper gains/losses are
      just as REAL ever.

      I attribute NOT selling to
      the rulette table while the wheel is spinning. You
      sell when the wheel stops. If you choose to take
      whatever you have left (gain or loss) and go for another
      spin, then you're back in the market! It doesn't make
      any difference whether you decide to leave your chips
      on the table, (for another round) or take them off
      and walk away. You can't look at your significantly
      reduced stack of chips, and say, I haven't lost because I
      have yet to walk away!

      Same thing with
      equities. Your chips stay on the table, on the same number,
      with the same odds, for many, many rounds....

    • Making predictions is always dangerous,
      especially if they are about the future.

      I copied and
      framed two pages of shareholder communications that now
      hang on the wall of my office. These are from a
      Chickasha Oklahoma company called Sentry Manufacturing
      Company that manufactured quartz crystals for the
      communications industry and for quartz watches. In its letter to
      shareholders for the 3rd quarter of 1976 it said in part "Due
      to the quartz crystal watch technology I believe the
      quartz crystal industry offers the greatest potential
      and opportunity of any industry in America Today" .
      This was signed by Joe C. Norman, the Chairman of the
      Board. However, this upbeat tone did not even last
      throughout the next year. In the letter to shareholders in
      the 1977 annual report, Mr. Norman tells us that "60
      percent of the American quartz industry employment was
      lost during 1977...An American watch crystal industry
      doesn't exist today." I keep this to remind me to place
      very little confidence in the predictions of other
      people, especially if they are about their own company.

      I must have a funny spellchecker. I know that
      Chickasha is not a common word, but why my spellchecker
      wanted to replace it with "Chic kasha" is beyond me.

    • Excellent advice (from BrkRules) to all you short
      term & day traders out there...

      <<<The first thing to consider is taxes! Every time you
      sell your securities, you realize a (hopefully) gain.
      This takes a bite out of the performance, especially
      if they are short term gains. The more often you
      trade, the more this affects

      Unless you are a seasoned SOES bandit, stay out of

      <<<...big issues to consider before you sell your
      securities is to put your assetts somewhere

      YUP!! That's why you want to find something where, if
      you sell, you want to put it back into the same
      security! That, by definition means you never sell...

    • There is one prediction that is almost certain to
      be true some day. Buffett's prediciton that future
      performance of BRK will not be as good as past will certainly
      come true. I assume that BRK will grow at around 15%
      in the future instead of the historical 24%. When
      that starts to occur, I think there could be an
      extended period of time, 5 to 10 years, when the stock
      appreciation would be in only the 10% range as the share price
      adjusts to a lower growth rate. Matter of fact, I expect
      this to happen. I can live with it but I feel many BRK
      holders will be very disappointed.

      I am actally
      surprised that they have been able to keep up the current
      rate of growth as long as they have. The only hope of
      maintaining the current growth rate is through larger and
      larger acquisitions like General Re. There are many
      fewer large companies that Buffett is interested in
      than small companies. He will not be able to do a
      General Re every year. The man continues to surprise me
      but the number of options that he has to work with
      decrease as the company gets larger and larger.

    • Yup! Predictions are for the birds... but even
      Buffet was predicting that BRK would not do as well as
      it has... and he's been saying that for more than 10
      years now... when BRK was trading at around $2000.

      At the risk of sounding like a flippy chearleader...
      (no offense to you chearleaders) Brk has plenty of
      room to grow. The GRN acquision is proof positive. WEB
      says his acquisions have to be big to make any
      meaningful dent... What will he buy next? Maybe with his $23
      billion float, he'll pay cash and buy another company
      with a $25 billion float! I hope eventually he'll own
      half the US... I want that $900,000 share. Someday I
      want the sticker on my dishwasher to say: "General
      Electric...A Berkshire Hathaway Company"

      Yeah, yeah...
      just daydreaming... :-o

    • "If you claim that any assumptions as to what
      cash will do is speculation, I agree. However, from
      that aspect, any prediction of future income/value is
      also speculation, no?"

      Yes. And the less you
      do, the better. It's already bad enough that you have
      to forcast earnings and return on equity for 10
      years without having to throw in other garbage as

      The Toronto Investment

    • "Would you agree that cash has a "real" intrinsic
      value based upon how it is actually used? (eg, if one
      calculated intrinsic value in hindsight)"

      Cash has
      face-value intrinsic value. Once it is used, it is no longer
      cash. It becomes something else with different
      financial attributes.

      "Since that number is actually
      worthless, if I understand you correctly, you are stating
      that assuming a value greater than face value is
      dangerous. Also, if the true intrinsic value of the cash is
      less than face value, hopefully we aren't investing in
      that business."

      Cash is not worthless. Cash is
      stated as face-value. No more and no less. $100 now is
      worth $100 in present value terms, that's all I'm
      saying. Sometimes a rose is just a rose. What cash 'was'
      or what cash 'will be' is total


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