Rule #1 Finance Blog

With Investor Phil Town

ON BUD AND THE IMPORTANCE OF EQUITY GROWTH RATE

Here’s a followup letter from Dinesh, who pointed out my Bud oversight the other day. Keep reading this post to the end, because I go on to explain why Equity Growth Rate is so important to Rule #1 investors.

Hello Phil,

one more thing…

Buffet bought BUD news came out from company (not from BRK) in April maybe on 21st.  But since then BRK has not make any comments (They make no comments in either case if they are buying or not. that is their policy.). However they need to disclose their holding to SEC every quarter. and they did not disclose BUD in their last report in August. (in which they listed Lexmark, Home depot, Lows and Comcast etc.)

In one case they get permission from SEC to not disclose their holding is they are still buying  more. But in this case I am not sure. as news came out in April and SEC report in August so they they had enough time to buy as much as they wanted to buy and price also did not went so high that they could have not bought. So I am not sure what is going on…..let us wait till next report and if they do not list in that too then u know….

I seriously doubt that BRK bought any BUD.

I am really thankful for your reply and post. This gives me confidence to consider Stocks as my investment option. I am very very grateful. I shall for sure attend your seminar when you are in Bay area.

Warm Regards,
Dinesh

Dinesh has been doing his homework! Here’s my response:

Thank YOU, Dinesh.  You did good, my friend.  Nice catch.  Rule #1 is simple but just like riding a horse or fly fishing or snowboarding or shooting (all the stuff I like to do at home) you have to remind yourself each time to go over the basics and don’t leave anything out. In this case I left out one of the two most important numbers.  I still can’t believe I did it, but oh well.  I still get bucked off once in a while, I still fall on my ass snowboarding, I still miss an easy shot all from not being focused at the important moment.

Let’s talk about why equity is so critical – just to remind certain people (me, in this case) to never miss it. 

Equity or book value per share is just the accumulating surplus from a business that makes a profit.  Lots of businesses make a profit, but most of them have to use it to replace old equipment or build new restaurants or factories or stores to grow.  That means that the profits never make it to the owner.  Me.  That sucks.  What’s the point of having a business if you never see the money?  SHOW ME THE MONEY!!! 

Well, businesses show you the money one of two ways: They either accumulate it or they pay it out to you.  If they pay it out, it’s called a dividend. If they accumulate it, hold onto it, it’s called equity or bvps

We Rule #1 types, being lazy and slothful as much as possible, massively prefer that the business accumulate the equity simply because if they pay it to us, two bad things might happen:

1) We might have to pay tax on it; and
2) We have to find someplace to put it that’s going to make 15% a year. 

Actually these are not such terrible things.   We can get around the tax thing by investing through an IRA of some sort.  Subject for another post.   

And it isn’t so hard to find someplace to put it.  We just buy more of the business that paid it to us.  No big deal. Nonetheless, it is better if they don’t pay it.  Here’s why: Because a business that pays dividends is seeing some limits to growth, while a business that doesn’t … isn’t.  Assuming both are throwing off the same amount of surplus cash, give me the one that has lots of ways to invest my surplus money and still make a really good return on capital.

Ahhhh.  We find ROIC sneaking in there.  That’s because these two things, Equity growth rate and ROIC, are connected.  A business that has a high equity growth rate and a high ROIC (and both are staying high) — that is a good start toward determining it’s a Rule #1 business.

Now go play.