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# Berkshire Hathaway Inc. Message Board

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• Novalis_97 Novalis_97 Aug 8, 1998 12:23 AM Flag

## GEICO refuses to give BRK discounts

Before or after taxes is not relevant. If, for
that newspaper example, the newspaper's actual P/E
(after-taxes) was 30 but Buffett's calculated "intrinsic" P/E
was 25, then Buffett would determine that the
newspaper was overvalued. If the actual P/E (after taxes)
was 20, then he'd determine the paper was
undervalued. Or you could use the pre-tax P/E values instead
to determine whether the paper was over or
under-valued. If the paper's actual pre-tax P/E was above 16,
then Buffett would determine the paper was overvalued;
if the paper's actual pre-tax P/E was below 16, then
Buffett would say undervalued. Whether you use the
after-tax or the pre-tax P/E is not relevant. Whichever you
use, you want to compare that to a company's actual
after-tax or before-tax P/E to determine whether the
company is over- or under-valued. That was the point of
that example.

Look at Coke. It's P/E is around
50. Its pre-tax P/E will, of course, be lower because
EPS will be higher. But whether you use the after-tax
P/E or the pre-tax P/E, you want to compare that to
Coke's "intrinsic" P/E (what the P/E SHOULD be), as
determined by discounting Coke's cash flow.

The
point of the newspaper example was not so much to say
anything about using after-tax vs. before-tax figures but
to show what the change in intrinsic value would be
if you change the assumptions used in the perpetual
annuity formula. If you say growth is 6% forever, then
intrinsic value = \$1 mil. / (0.10 - 0.06) = \$25 million.
\$25 mil. would be the appropriate amount to pay if g
= 6%. If the company's market capitalization is
higher than \$25 mil., then it's overvalued. On the other
hand, if there is no growth over time but earnings "bob
around" around an unchanging value, g = 0% and intrinsic
value = \$1 mil. / (0.10 - 0.00) = \$10 mil. In this
case, if the company's market cap. is \$15 mil., the
company is overvalued.

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