Pre-Christmas sale, everything must go…

As has become clear, my portfolio has undergone a major change from a collection of low price/tangible book, low earning companies to a growing collection of low price/book companies with far better earnings histories.

Using my new approach to valuation (which as ever is mostly stolen from the giants whose shoulders I am trying to stand upon), I found that most of what I owned was already ‘overvalued’.

The list of the departed and their annual gains is as follows, some of which I’ve mentioned before:

Company              profit/loss    Holding days
J Smart Contractors  5.2%           403
M J Gleeson          34.2%          541
French Connection    15.7%          639
600 Group            4.2%           682
Northamber           31.2%          757
Mallett              -8.9%          785
Titon                47.7%          812
Averages             18.5%          660

Even though I’ve ended up selling these companies outside of my original system (which was to sell when the price/book ratio reached one, or after five years) I am happy, or perhaps lucky, with the average returns.

Currently my valuation method is in a bit of a flux, and there may be some movement beyond what I mentioned before.  The basics remain the use of historic ROE and price/book, but the ROE factor it is likely to be some combination of ROE10, 5, 3 and 1, all handily provided by sharelockholmes.

The companies above were re-valued either with ROE10 alone or the averages of the above averages (making averages of averages seems to be a compulsion of mine).  Taking the average of the averages gives around a 40% weighting to the current ROE, with gradually less for the prior years.  It makes some sense to me and in combination with less strict price/book entry criteria (I will now buy companies above book value and with negative tangible book values (!)) it certainly throws up a different sort of company to those I’ve held before.  I’ll nail down the exact approach in the coming weeks or months.

I realise this move (from buying assets on the cheap with little or no thought for anything else, to paying much more attention to the earning power of the assets) represents a sizeable amount of style creep, which can be a very bad thing; but as long as you’re creeping in the right direction I think it’s justifiable.  I can only point my finger in Buffett’s direction and say that if he did it, so can I.

Author: John Kingham

I cover both the theory and practice of investing in high-quality UK dividend stocks for long-term income and growth.

9 thoughts on “Pre-Christmas sale, everything must go…”

  1. Very interesting UKVI. I'm using the average of 1 year ROE and 10 year ROE to screen for profitable companies so I seem to like averages of averages too! That's how I found FW Thorpe. However I still have four of the shares you ejected in the Thrifty 30 portfolio. I don't see why you can't have a mixture of absolute bargains, like Northamber, whose earning power is fairly shot to pieces, but are so cheap it doesn't really matter, and 'quality'. The good news is, if your list of current holdings is up to date, we only have one in common now: Waterman. So if our performance diverges, it might tell us something 🙂

  2. Hi Richard. I'd still say most of these companies represent balance sheet bargains, only two trade above book and the average p/b is 46%, so they're still proper 'value' companies, some are even below tangible book. They're also small with an average cap of 98M, so they fit the small cap low price/book model. But yes I do think they are more 'quality' than those listed above.One difference between me and you is that the Thrifty 30 has multiple screens and I only want one. Once I changed my view on how I could build an 'outperforming' group of companies, the old view was pensioned off along with the related stocks. It's not that I think the old rules don't work any more, it's just that I want to focus on and refine a single method.As for only one holding in common, that might change soon since Armour and AutoLogic rank near the top of my screen, with Haynes somewhere further down.Good luck old chap…

  3. Hi UKVI, I think what you are doing is great. And you are building your own style as you go along. I can explain some of the issues you are mentioning, i.e. just buying companies at below the T/BV is good from a risk/loss point of view but it doesn't help with the earnings valuation. A decision needs to be taken at portfolio level first, i.e. do you want to run a portfolio of just potential break-ups or a portfolio of catalyst scenarios or the most difficult one (the one buffet has nailed down pat) the wide moat (franchise value) companies. you can run one portfolio with all three in, however, you would need to get your weightings accurate. i separate them into 3 separate portfolios. sometimes there are stocks that overlap or fall into one or more portfolios. regarding the earnings power valuation, are you using 'NOPLATPA' (to determine the no growth free cash flows?)Just as you are trying to buy companies at a discount to their asset value you should like wise be buying them at a discount to their intrinsic value which includes the EPV. just some thoughts.have fun and keep up the good work.

  4. Hi UKVIAll I can say is "I am not worthy". You really appear to have made a great call on BDEV. You made the call at 75p or so meaning in less than a month you're up around 20%.CheersRIT

  5. If you do go for Armour and Autlogic, you'll probably get them at better prices than I did!If you're going for one method only then some combination of profitability and value is probably wise. Sticking to Ben Graham could leave you with very few companies to pick from over long periods of time! The thing is, though, those are the situations I feel most comfortable holding. A core of bargain stocks helps me be a little more adventurous 🙂

  6. Hayden – I think I'm moving away from "a portfolio of potential break-ups", but I wouldn't say they were catalyst plays. Instead I'd say they are just 'undervalued' relative to what they've earnt in the past, probably due to some hopefully short term issues. They perhaps have a small moat in that I'm looking for reasonable earnings power over a number of years, but my holding period is a couple of years or so, so I don't care if they're going to be "materially bigger, 10, 20 or 30 years from now" as Buffett is fond of saying. They just need to outperform on average over that two year or so period.

  7. @RIT – Howdy, unfortunately things didn't work out quite that well. I bought on Oct 19 at about 89p (my post about it was just late), so BDEV has made a fat loss for most of the time since then. But these things pan out best over a year or three so Barratt and I will be hitched for a while yet!@Richard – That's what I thought. This style should pick up more companies than the cigar method, especially in a boom. However, I still want to value them on an absolute basis (Graham) rather than relative (Greenblatt and similar). So if the price of everything went nuts I'd still expect to have a hard time finding stocks, and therefore be more in cash.

  8. I'm having a bit of a "style creep" myself. I've had some disappointing picks last year – HMV being the most embarassing. Fortunately, I bailed out around mid-year before further declines set in. In future, I should look for better balance sheets and not be so contrarian in my approach.I've recently read "The Little Book That Builds Wealth", which aims people towards a Buffett-esque strategy. This has shaped my thinking somewhat. So has "The Little Book That Beats The Market", which espouses Greenblatt's "cheap and good" philosophy.So, I'm broadening my horizons to defensive shares that might offer good value, rather than cigar-butt type investments.To give an example of one defensive share that I think is good is RWD.L (Robert Wiseman Dairies). I think one way (certainly not the only way) of measuring a defensive share is to satisfy yourself that the balance sheet is fine, and look at the long term growth of the company (only works for defensives) and add on the dividend yield. If you include the analysts estimates for RWD (which has has profits down compared to this year), then, over about a 12 year period, RWD has had a growth rate of 8.5% pa. Its dividend is 5.2%. So that would imply a return of about 13.7% pa – not to be sneezed at.Another way of considering price attractiveness is to look at how Greenblatt calculates his "earnings yield" (basically EBIT/EV). It comes out at 18%. Caution has to be applied here, because like I say, the base EPS on which it is calculated is likely to be too high. I did some tweaky adjustments, and reckoned that you could at least estimate a 10% return.OK, so maybe not Buffett-like returns you'd expect from them, but I think the odds are quite favourable.

  9. Hi Mark. Interesting. RWD does come up on my screen but only about 30 on the list and so not high up enough (yet) for me to seriously look at, but that's just my valuation method.I think the two valuations you mention are for different things. I'd say the first way is more for buy and hold, where you're not so much looking at the share price changes over 1-5 years or whatever, you're looking at dividend growth and consistency. With Greenblatt you're typically buying to sell within a year or two so you're more interested in the share price and how the EBIT/EV ratio affects price gains over that period.I'm sure either one could produce nice returns, the tricky bit (for me at least) it sticking to one approach, or one group of approaches a la Mr Beddard at

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