Phil Town
Phil Town

Allen from Moorpark, CA had a couple questions worth sharing with other Rule #1 readers.  I'll answer this one today and his other question tomorrow.

Hi Phil Town,

What *DO* you do when the growth rates are all over the map? For practice, I'm trying to analyze Disney, which is *NOT* a Rule #1 company, but we have a zillion shares from when my wife was a little girl.

The 9, 5 and 1 year equity growth rates are 5.7%, 2.8% and 0.1%, but analysts forecast 12.15% earnings growth, and actual 9, 5 and 1 year EPS growth is 7.4, 16.8 and 10.7%.

So the EPS growth is there, but the equity growth doesn't support it. Since sales growth and ROIC are weak, and long term debt is 5 years of free cash flow, I'm not thrilled. But the problem with selling, of course, is the *BIG* tax bill that we'd be hit with. Am I missing anything? Any thoughts?

Thanks so much for reading this, and have a good weekend!


My response:

My first thought is that taxes on investments suck, and even more than that, they create a very non-business reason not to sell.  At the very least Congress should let us swap stocks without taxing gains.

My second thought is that you should never hold onto a business that you don't like for a tax reason.  It is one heck of a lot better to pay taxes on gains than to watch the value of your Rule 1 investment disappear.

You own Disney already and it will be painful to sell and then watch it go up... so do your homework beyond the numbers in this case and get a sense if the new CEO can rebuild the brand.  They just bought Pixar and I halfway wonder if Steve Jobs isn't thinking about running it at some point if the new guy fails.  Now THAT would be fun to watch!

So how to dig in?  It's all about a predictable future.  If you can't get a prediction from the numbers (and those equity numbers are horrible) then you need to try to understand why analysts think good things about the future.

Third thought:  Sticker Price. If the analysts are right, Disney is worth about $25 and is selling for $28.  I guess that's kind of good news for you, in a sense.  If things go well that will mean a 15% return is doable for Disney.  That's probably the first time in a long time.  Still, if I owned it and had ridden in up to this level, I'd be outta there and, if I wanted to own it again, I'd wait for a 20% price drop relative to its Sticker and then start buying in again.

Final Thought:  This is not a situation like Coke in 1999 when it was priced massively above value. In that case, we sell.  Period.  We want to make our minimum to account for the risk of investing, right?  In this case the minimum is make-able if all goes well or better.  Not the best thing if we're thinking of buying, but not a bad thing if we already own it.  So what you MUST do is to determine if that 12% growth number is reasonable.  If you can't do that, find a business to invest in that is easier to understand.

Now go play,

Phil Town

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