The Business of Value Investing.pdf

The Only Three Types of Investments You Need to Know 25

As I mentioned earlier, prices exist to inform investors. Any

business is undervalued at one price, fairly valued at another price,

and overvalued at yet another price. A value investor is looking for

the fi rst type of business. The price you pay determines the value

you will get. By all accounts, Google is a fantastic business run by

some fi rst - rate individuals. But when Google ’ s stock price started

trading for $ 600 a share, that price failed to make Google a good

investment value. This has nothing to do with the numerically high

dollar price of the stock. As of June 2009, Berkshire Hathaway class

A shares traded for approximately $ 90,000 per share but this is

arguably a much better value than Google, based on the underlying

value of the assets of the two respective businesses.

In looking for undervalued securities, you should focus on price

only to the extent that it provides you with information to deter-

mine whether the quoted stock price is less than the value of the

business. Merely looking at the stock price doesn ’ t do much; you

have to determine what you are getting for the current price being

quoted. For example, how much in earnings does the business gen-

erate in relation to the current market price of the company? How

much cash is being generated each year? Has the book value of the

company been rising or sitting still? Above all, is this a good strong

business with future growth opportunity ahead? Chapter 5 discusses

searching for such investment opportunities in greater detail, but

for now, let ’ s keep the focus on how to determine whether a busi-

ness is undervalued or not.

Let ’ s look at a simple, boring business: carpets and fl ooring.

This industry is dominated by two players: Mohawk Industries and

Shaw Carpet. At the end of 2008, they commanded over 45 percent

of the market. Shaw is privately held (coincidentally by Berkshire

Hathaway). As I write this chapter in the late summer of 2008, here

is what I fi nd on Mohawk.

In the most recent full year, 2007, Mohawk sold $ 7.6 billion

worth of fl ooring and earned $ 435 million in net income. Looking

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