The Business of Value Investing.pdf

204 The Business of Value Investing

the past sales transactions, it was obvious that the properties were

being understated on the balance sheet by an average of 50 percent,

or approximately $ 400 million, based on the real estate sales in the

past. Based on the shares outstanding, real book value was under-

stated by about $ 15 a share. Tangible book value was about $ 20 while

real book value was actually close to $ 35.

Adding the real book value with the management division value

of $ 19 to $ 25 yielded an intrinsic value of anywhere from $ 54 to $ 60

per share.

Free Cash Flow Valuation

The above analysis is one effective way to properly value the busi-

ness. Looking at the value of the company by determining the

future free cash fl ow generation yielded these results.

For many years, Sunrise was exceeding the earnings estimates

of analysts. So if you took the $ 2.55 in earnings per share that it was

expecting for 2003 and added back depreciation — depreciation which

wasn ’ t really occurring since Sunrise ’ s depreciable assets were real

estate, which appreciates over time — of $ 30 million, or $ 1.25 per share,

you’ve got an operating cash fl ow fi gure of about $ 3.80 per share.

The company ’ s annual capital expenditures were about $ 6 mil-

lion or so, or approximately $ 0.25 to $ 0.30 a share. Deducting that

from the operating cash fl ow produced free cash fl ow of approxi-

mately $ 3.50 a share. Given the quality of this business and its

future growth rate, a multiple of 14 to 15 times earnings was fair.

Assigning such a multiple led to an intrinsic value of about $ 49 to

$ 52.50 per share. As you can you see, on both fronts, intrinsic value

was way above the current price range of $ 25 to $ 30 per share.

(See Table 10.2 .)

Coupled with management ’ s announced stock buyback com-

mitment, Sunrise was a clear value and provided a strong margin of

safety as well. Figure 10.1 shows a stock price for Sunrise. After 2002,

Mr. Market seemed to catch up with value creation happening there.

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