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Berkshire Hathaway Inc. Message Board

  • iluvbabyb iluvbabyb Apr 4, 2000 4:33 PM Flag

    Get back to the Buffett basics

    Note from

    In a market driven
    by momentum and rising relative valuations, the true
    value of a company becomes meaningless; the game is to
    identify the companies that are cheap on a relative basis.
    That is the focus of sell-side research, which has
    been justifying all of its buy recommendations and
    gaudy price targets on the basis of comparable P/S
    ratios. To be fair, we have fallen prey to this logic
    before as well. And in times of momentum frenzy, it can
    be an effective way to trade profitably. But we are
    no longer in such times, and now the relative
    valuation game becomes a vicious cycle, with lower
    valuations for one stock arguing for lower valuations for
    the entire sector. To find a bottom to such a
    sell-off, you have to get back to basics: what is the true
    value of a company? A company is worth the discounted
    present value of future cash flow. Put simply, a company
    is worth the cash its business will spin off in the
    future, discounted to today's value using an appropriate
    discount factor. Making such calculations is by no means
    easy, and it is certainly not as easy as saying the
    company X should trade up to $100 from $50 so that its
    P/S ratio will match that of company Y. But in a
    market that has turned ugly, as today's tech market has,
    discounted cash flow analysis is the only way to have
    confidence in your investment.

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