[Jerome]

This is a very good question because it shows how careful we must be about what we put behind certain terms.

Like the PER, the debt/equity ratio can hide several different definitions.

The most common usage, also put forward by investopedia, is simply total liabilities / total equity.

However, if we stick to the name, we are not talking about liabilities, but about debts. So, and this is also one of the definitions given by Wikipedia, some people use total debt / total equity instead, with total debt = short term debt + long term debt. This is also how I calculate it. FT does the same.

This allows us to focus on what is really debt, namely loans, and not all liabilities.

 

If you use the first definition, a ratio of 2 can be a good guideline. If you use the second, it will be too high, you will have to stick to at least half.

However, we should not be too obsessed with this ratio taken in isolation and above all want to apply it uniformly. It varies greatly depending on the sector and/or capital expenditure. Typically banks, telecoms and the automobile industry are higher.

Debt is not inherently bad. It is a lever, therefore riskier, but potentially also more lucrative. It is rather the use that is made of it that can be bad and the means of the company to ensure the payment of interest.

It's like when you go to the bank, they will ask you for your salary to see if you are able to repay the installments. For this reason I more readily compare the FCF to the debt which gives me an idea of the time needed to repay the latter.

When you value a company you can also use the EV (enterprise value) rather than the capitalization (price), because the EV takes into account the net debt.

[Jerome]

However, I did not understand why you say that the "formula is wrong" and the result is correct for calculating the Free Cash Flow?

you wrote:

1,170,002 + 133,673 = 1,036,329 JPY

your math teacher would have white hair 😉

Yahoo gives the value directly, that's right, but it's always better to understand what's behind it and also to be able to calculate it in case it is no longer given.

you are preaching to the converted!

[Jerome]

I realize that my problem comes from two values with almost the same designation on Yahoo, but found once in the Balance Sheet and in the second case in the Cash-flow…

As already said, be careful not to mix these two tables, otherwise you are comparing apples and pears (or rather a state with a variation). "PPE" in balance statement is a state, "Investing in PPE" is a variation.

 and also the formula you give by subtracting capital expenditures. If I consider that an expenditure is negative in a balance sheet, I have to add it

yes we play on words, you deduct the expense (which is a positive number) or you add the negative value which is indicated in the flow

Free Cash Flow = Cash Flow From Operating Activities + Investments in property, plant and equipment
1,170,002 + 133,673 = 1,036,329 JPY

correct result but wrong formula 😉 once again we are playing on words, the main thing is that you understood

I now notice that on the yahoo cash flow page that you indicate above, everything is indicated at the bottom: operational cash flow, capital expenditure and free cash flow… simpler!

Regarding the increase in the number of shares, is this a problem for the fundamental and long-term analysis of the Otec Corporation that you had done or are the 500 thousand new shares negligible (it is almost 10%)?

Same comment as before, we should not compare apples and pears. You are talking about the current financial year. Yes, 10% is a significant increase in the number of shares, but we must take the overall picture. However, my analysis was based on the last closed financial year (more reliable values), with all the fundamentals of this financial year, including the number of shares. If during the current financial year the number of shares has increased, then yes, it is bad news, but what about the rest? in the first half of 2019, compared to the previous year, sales increased by 23% and net profit by 134%…

So I think we're still not doing too badly with Otec 😉

 

[Jerome]

Example for Otec Corp, the capital expenditure is negative, so I have to do a "standard" arithmetic operation (--=+) or is it always a subtraction equals whether the capital expenditure value is positive or negative?

you "add" the negative value

We agree that "Total stockholders' equity" and "Total Equity" are synonyms?

Yes

I found in Yahoo the number of shares outstanding on the "Statistics" page (value 5.25M) and on MSN in "Summary" (value 5.7M). It is strange that in MSN under "Balance sheet" the value of "Ordinary Shares Outstanding" is different. Maybe there is a difference between previous years and the current one?

ok, yes, obviously there is an increase in the number of shares to 5.7 in the current financial year. The important thing is to compare like with like, i.e. data between them over the same period (e.g. profit of the last financial year by the number of shares of the last financial year to obtain the earnings per share)

 

You mention EBITA, that's a typo I guess?

yes sorry, written hastily

Net income before extra items
You use FT (with a subscription) to get all this information, is that right?
But I think I can be satisfied for the moment with just the value of the Moderate Profit (average profit calculated with the "Net Income available to common shareholders" over the last 4-5 years)

yes i use FT with ab

yes you can use this, or also EBIT or EBITDA which do not include exceptional profits/losses

it all depends on what you want to do... i would say that if it is to compare valuations these last two are much better than the last net profit, but that by using the average of the net profits you are not too bad either

[Jerome]

Hi Xavier,

Here are my answers:

free cash flow = operating cash flow – capital expenditure

operational cash flow = Cash Flow From Operating Activities »

capital expenditures = capital expenditures or Purchase of property plant, and equipment (PP&E) (as reported at Yahoo and MSN)

 

I also noticed a big difference between MSN and Yahooo for the value of "Net income" (Yahoo - https://finance.yahoo.com/quote/1736.T/cash-flow?p=1736.T ) (MSN - https://www.msn.com/en-us/money/stockdetails/financials/tks-1736/fi-a9aslh ), do you have an opinion on this?

I see the same values for me... be careful not to compare the "income statement" with the "cash flow statement" because on the latter income = EBIT (before taxes)

 

Price to book

you have to divide total stockholders equity by the number of shares, to get the book per share,

then divide the course by the book per share

The book value I think is the value of the “Current Assets”?

No, not al all

Is the value given by Yahoo or MSN sufficient (it's the MRQ one, so the last quarter) or should we do a longer period, or an average or even per year and see its evolution?

This value, unlike profits or cash flow, is rather stable over time, so there is no need to use an average, but on the contrary the last known value. Personally, I use the last financial year.

I read in one of your articles that you prefer to use "tangible book value", what do you use as a value? I found on MSN the value "Net Property, Plant, and Equipment", but I think you also have to take into account inventory and other assets?

you take total equity and you remove goodwill and intangibles

Price to tangible book

you take the tangible book value and divide by the number of shares, that gives you the tangible book per share

then you divide the price by this number

There I have more difficulty finding the representation, but I think we must use the value of Yahoo Intangible Assets.

No, not al all

One more question regarding the number of shares outstanding (Shares Outstanding), or do you take the value, because between Yhaoo and MSN there is a difference of almost 500 thousand! (Y:5.25Mio and MSN:5.7Mio)

I didn't find anything on yahoo and I found 5.2 on MSN, this last value is correct

you have to look under balance sheet

EBIT / EBITDA
You mention these two abbreviations regarding Results Growth.
An EBITDA value is given at Yahoo, I think it is still the current value.
Could you tell me what method you use to calculate them? There is certainly a better way to do it than using the normal definition.
Do you only analyze the current or also the past or the average?

EBIT: Operating Income

EBITDA = Operating Income + Depreciation/amortization (not indicated under its two sites)

but you can use EBITA it works very well too and most of the time the values are similar

 

Net income before extra items
Yahoo and MSN don't give it directly? Do you get it elsewhere or is there an indirect way to calculate it?

I can't find it on these sites either, the idea is to not take into account exceptional profits/losses

 

My last question is about the dividend history at Yahoo, if I take the value given in "Historical data -> show dividends only", I have a value of 65 for the last of 2019 and if I look on the main summary page I have the value of 130 for the future, so this is already a forecast, but based on what?

This seems more like a Yahoo bug to me, it happens quite often with them. They probably doubled the dividend thinking it was paid 2x per year.

[Jerome]

following :

Turnover:
Are we talking about the total turnover for a year? Yes.

Current assets:
Is this the total current assets? yes

Current liabilities:
Is this also short term liabilities? yes
precision: the current ratio (or general liquidity ratio) = ratio between current assets and current liabilities (this is where Graham says it must be greater than 2)

 

Working capital requirement:
This is the difference between "Current Assets" and "Current Liabilities", is that right?

yes it is working capital in English… clearer

 

Equity:
Are these values correct or should we use "Capital Stock" (at MSN) and "Common Stock" (at Yahoo)? Equity. What you put below is correct:
Yahoo FR: Total Equity
Yahoo EN: Total stockholders' equity
MSN FR: Total equity
MSN EN: Total Equity

Profit stability:
A value that is difficult to obtain without subscribing to the various sites mentioned or is there another that would be usable for this?

you can find it for free on Yahoo / financial / income statement, but not for 20 years obviously

Dividend statistics:
Same remark as before.

you find the dividend history on yahoo, historical data, show dividends only

Growth of results:
Should we use turnover or operating profit/loss or another value? Net profit in principle, or even EBIT?

Course / Moderate Profit Ratio
This is our famous PER/PE Ration? Yes

The different sites give us the TTM (value calculated on the average of the last 12 months). It should therefore be recalculated with the average profit, but to do this we use the "Net profit" (Net profit available to ordinary shareholders - (name according to Yahoo))? yes, even if I personally prefer to use the net income before extra items (what I call recurring profit). This avoids being polluted by extraordinary elements which would artificially distort the ratio upwards or downwards.

 

[Jerome]

Hi Xavier,

I'll start with a quick comment on the 6 points you list from Graham:

Here are the 6 points given by Benjamin Graham.

1) Size
Turnover: 100 million

This is to ensure the liquidity of the stock. On the other hand, research gives a certain advantage to small caps, and in particular to micro caps. The latter have the particularity of being difficult to trade by institutions, so in this category (and it is the only one), small investors have an advantage.

2) Financial situation
Current assets = 2* Current liabilities

=> on the other hand, companies that have too much cash seem to underperform (which is explained by the fact that they have money lying idle and not being used for the development of the company)

3) Profit stability
Positive result (25 years)

I no longer remember that Graham was asking for 25 years of positive results! I was thinking five. That seems extreme to me. Profits are by nature very inconsistent. Personally, I am very happy with a positive profit and if possible increasing over 5 years.

4) Dividend statistics
Continuous payment (10 years)
Growing dividends (according to Jerome)

Nothing to complain about, research (Ned Davis) has proven the validity of dividends, especially if they are increasing.

5) Growth of results
Earnings per share growth min 1/3 over 10 years (calculated as 3-year average for start and end)

same remark as in point 3. Also be careful not to focus too much only on profit, but also (and above all) on free cash flow.

6) Moderate price/profit ratio
Max current price = 15*average profit of the last 3 years

I also seem to have read that Graham was more interested in the last five years. In any case, I think it is indeed good not to focus on current profit, but rather the average, again because profits vary a lot from one year to the next.

In your list there are still other criteria dear to Graham like the Price to book (or even the price to tangible book). For deep values, he was also a big fan of the NCAV (net current asset value) and the NNWC (net net working capital).

 

[Jerome]

never as far as I'm concerned

[Jerome]

The minimum depends on your transaction fees. It's clear that if you have to pay 50 bucks in fees for an order at 500.- you can forget it. In any case you won't be able to trade Japanese stocks via Postfinance, so that brings you back to the IB solution and therefore the fees are more reasonable.

Personally, for my shares, I always place orders worth around 10,000 CHF on average and as I told you, no problem negotiating at the desired price. The Tokyo Stock Exchange is the second largest behind NY and therefore it is liquid.

[Jerome]

Of course there can be bankruptcies, hence the importance of doing your homework. And be careful, even the big ones can go bankrupt. How many have been had with Swissair, Kodak, GM…? In many ways, big companies are riskier than small ones because they are less reactive when it is necessary to change strategic direction due to environmental, technical, human, legal, fiscal, etc. changes.

I don't change my approach for small versus large caps. I always invest more or less the same amount. In fact, it's more the volatility that guides the amount I put in. I obviously invest a little less in a very nervous stock and a little more in a quiet stock.

I don't claim to be able to strongly influence the market 🙂

[Jerome]

I don't know this film, to watch on occasion indeed.

I still think that the Fed is sufficiently independent. It is already more or less standing up to Trump! But it is true that the Chinese own a good part of the USA...

 

[Jerome]

Yes, you're right, it's a micro cap worth about 110 million USD. Small companies have the advantage of doing a little better than the market over the long term. For the past ten years, it's the big ones that have done better, but there will be some catching up in the future.

Regarding liquidity, it is indeed better to place a limit order, with the bid value if you are stingy, the offer if you want to put the chances of trading on your side, or a value between the two to make a compromise. You can also use the current price.

I have never had any problems with the counterparties, I have always been able to buy the number of shares I wanted. To ensure this, I place a GTC-Good to cancelled order, which means that if the order does not go through completely during the session, it will continue the following session(s). But this has almost never happened to me.

The good side of these low volumes is that for once on the stock market you have a competitive advantage over institutions! You might as well take advantage of it.

[Jerome]

Hello

I have to say that I don't have much confidence in the Chinese government! There is a lot of manipulation going on there, especially on the yuan. I've already had mixed results on stocks alone, so I don't dare imagine on government bonds.

[Jerome]

Analyzing a stock with or without a dividend is not much different. I particularly like companies that do not pay only a small part of its profits, so if we push to the extreme we arrive at zero dividend 😉

Be careful, this is not a Japanese company, but a Chinese one... nothing to do with it!

In short, without looking too much into detail, here is what jumps out at me and what I don't like:

- you said it, it's a falling knife

-the company has achieved two negative results in the last four years

– negative free cash flow

– expensive compared to book value (3 times)

– EBIT represents only 0.66% of the enterprise value

– the company issues a lot of shares

– it’s a big capitalization

 

 

 

[Jerome]

No, never. It is useless and even counterproductive. You may be surprised to learn that a very large number of stocks hedge their own currency risk.

More information on this subject:

Foreign currency actions and currency risk (1/4)

Protect yourself against exchange rate risk by investing globally

[Author]

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