Cash Flow as Ultimate Metric

“an investment is a net present value–positive activity (the likelihood of the net present value of the potential benefits minus the likelihood net present value of the potential losses is positive).”

“Private Market Value (PMV) is the value an informed industrialist would pay to purchase assets with similar characteristics. We measure PMV by scrutinizing on- and off-balance-sheet assets and liabilities and free cash flow. As a reference check, we examine valuations and transactions in the public domain. Our investment objective is to achieve an annual return of 10% above inflation for our clients.7”

“Robertson still focuses on the global equity markets because he feels they offer an opportunity to "go places where prices are very reasonable." He is currently buying companies with very high free cash flow—once a value investor always a value in- vestor. The companies that are attractive to him are those that do not have regular growth but do have free cash flow. He is particularly interested in companies that have 16 to 20 percent average free cash flow. This indicates a company's ability to build outward.”

“Graham and Dodd wrote, "An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return." And while there are number of things one needs to look at when evaluating or researching a potential in- vestment, Graham outlines the following six items as essential factors to look at when analyzing a business: 1. Profitability 2. Stability 3. Growth in earnings”

“Earnings might be unimpressive (and therefore the stock price low) but if there is a great deal of depreciation, for example, then cash flow can be high. And it is cash flow, in its ability to service debt by making interest payments, that makes a highly leveraged acquisition viable. In his original issuance of junk bonds, Milken had recognized the importance of cash flow, more than earnings, in assessing whether the leveraged companies he was underwriting would be able to meet their debt payments. Now that he had moved from $25 million offerings to multibillion-dollar deals, the calculation was not so different—just bigger.”

“Milken’s theory was that many companies don’t go broke on the operating-profit line; rather, it is often financial charges that kill them. If there were a way of reducing or removing those charges, these companies might survive and ultimately return to health. Drexel investment banker Paul Levy, who would come to specialize in this area, stated that its key is the concept of the “flexible balance sheet,” or adapting to a company’s changing needs. If a company is being choked by its interest-payment obligations, why not make those payments in common stock? Or why not just exchange the old debt paper for common stock, and eliminate the charges entirely? In this new-age finance, nothing is written in stone. “People used to issue bonds, and after twenty years they would repay them,” Levy said. “That’s hogwash!” The bondholders would tend to accept these offers, no matter how displeasing, because they would find themselves between the proverbial rock and a hard place. As Levy explained, these exchange offers are essentially an arbitrage. If a buyer purchased at par a bond which then came to trade at sixty cents on the dollar, he would probably be willing to exchange it for a piece of paper trading at sixty-five cents—especially if he thought his alternative was to be stuck holding the bonds of a bankrupt company.”