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By Bruce Jackson (TMF Googly)
Baker Street, London -- Every man, woman and their dogs are probably now aware of Fortune magazine's article entitled "Mr Buffett on the Stock Market." The crux of the story is that Buffett believes that shares in general could return just 6% per annum over the next 17 years. The number of years is chosen as such because between the years of 1964 and 1981, the Dow Jones Industrial Average gained a grand total of 0.1%. What the?! And you thought over the long-term that markets were guaranteed to rise?
In that 17 period, corporate profits rose, and sales of the top 500 US companies rose 500%. Yet, share prices, in aggregate, went no-where. Although Buffett doesn't say as much, it seems clear that the market as a whole was over-valued in 1964 and undervalued in 1981. Also, during that period, interest rates rose precipitously, from 4% in 1964 to 15% in 1981. I don't need to tell you that 15% interest rates make equities relatively (sic) unattractive.
Buffett is a value investor. Not in the same mode as Benjamin Graham, who looked for companies selling below net asset value, virtually regardless of the quality of the business. Stephen Bland (TMF Pyad) in his regular Friday value piece sets, out very stringent criteria for selecting value shares, but only buys them if they give him the right vibes. For him, the quality of the business matters, but is not absolutely paramount to the selection of the company.
Buffett's investment style is a mix of the above. He looks to buy great companies at reasonable prices and hold them for the long-term. At the very start of the article, he says "we focus almost exclusively on the valuations of individual companies, looking only to a very limited extent at the valuation of the overall market." He also says "sooner or latervalue counts." Nothing he has said changes that investment philosophy, and he won't be put off making future investments just because he thinks the market may be at an irrationally high point.
Some will say that Buffett, the man who has made his fortune by almost exclusively investing in the stock market, is being overly bearish. I'd say that he, like many other value investors, is getting increasingly frustrated at the lack of new investment opportunities, and has come up with a rational reason as to why this state of affairs shouldn't continue. That's not to say they couldn't, but in the long-term Buffett is saying, as quoted above, and no apologies for repeating, that "sooner or latervalue counts." That's the Qualiport's philosophy, and it remains unchanged, not withstanding past mistakes.
Tomorrow, Dell Computer Corporation (Nasdaq: Dell) reports third quarter results. They've already flagged to the market that profit margins will be weaker than previously expected due to unexpectedly higher memory prices. Could this signal the end of personal computer (PC) price weakness? Rising memory prices will adversely affect all PC manufacturers, so they'll all be keen to hold their prices. NEC Packard Bell has recently withdrawn from the market as they couldn't be competitive with the likes of Dell. As the weaker parties fall by the wayside, that only strengthens the hand of the market leader. And in all but the world-wide sales statistics, but not for long as Compaq's lead is shrinking, that's Dell.
The PC business is all about volume. A company like Dell, with its supremely efficient business model, has the ability to keep its input (the materials that go into making the PC) prices in line with its output (sale to the customer) prices. This means that gross margins largely remain static. Moving down the income statement, as a proportion of sales, Dell are seeing operating expenses fall. The net effect is that Dell are able to grow profits in line with sales growth, plus a little bit more, as things like administrative expenses are spread over a larger sales base.
Consensus forecasts are for Q3 sales of about US$6,700m. This is up 39% from the corresponding period last year, and 9% on Q2 2000. Earnings per share (EPS) by contrast are forecast to grow by about 28% year-on-year and actually fall 5% quarter-on-quarter to US$0.18.
I run a spreadsheet on Dell, detailing their past four quarterly results. The beauty of Dell is that their earnings are hugely predictable. For the third quarter, I reckon the following numbers will be relatively close to their actual results.
In US$'000's
Q2 2000 (A) Q3 2000 (F)
Sales 6,142 6,750
Gross Profit 1,354 5,325
Gross Margin 22.0% 21.1%
Operating Profit 694 705
Operating Margin 11.3% 10.4%
Net Profit 507 521
EPS 0.19 0.19
What does that tell you? Not a hell of a lot really. But, if I happen to be relatively close to actuality with most of those numbers, it will prove how remarkably predictable Dell's earnings are. You'll note that I've gone for EPS just above the admittedly recently lowered Wall Street forecast of US$0.18. In years gone by, Dell have consistently out-performed market expectations, although in recent times i.e. since the Qualiport bought them -- another piece of great market timing?? -- they've merely matched market expectations.
Anyway, what's all this short-term noise got to do with the long-term prospects of Dell? Well, I do like to keep up with how each Qualiport company is performing on a quarterly (for US companies) or semi-annually (for UK companies) basis. That way you can hopefully spot trends as they happen, rather than waiting for them to catch you by surprise. (Did someone say Rentokil Initial (LSE: RTO)? I spotted the trend, I just didn't act.)
At about US$41, Dell trade on a forecast forward price-to-earnings ratio (P/E) of about 54. And that represents value? Well I think it does, as I make its intrinsic value about US$52. But that's just one opinion, and I've been wrong before.
Rob's back on Friday. In the meantime, I'll endeavour to spend a little more time on the Qualiport message board. See you there.
Company Change Bid DELL(US)+0.40 40.40 EMA +0.15 8.26 IIG -0.02 2.65 MSY +0.16 6.21 PIZ +0.20 7.95 RTO +0.04 2.16 ULVR -0.04 4.63 LLOY -0.22 8.18 Qualiport Stocks Last Rec'd Total # Company Buy Current Change 22/04/99 542 Misys 5.57 6.21 11.4% 29/09/99 356 Lloyds TSB 7.56 8.18 8.3% 27/10/98 1133 Indep Ins 2.60 2.65 1.9% 04/11/98 245 Pizza Exp 7.93 7.75 0.3% 27/01/99 74 Dell (US) 44.63 40.40 (9.5%) 19/12/97 783 Rentokil 2.55 2.16 (15.3%) 17/04/98 301 Emap 10.20 8.26 (19.0%) 17/07/98 266 Unilever 7.53 4.63 (38.5%) Last Rec'd Total # Company In At Value Change 22/04/99 542 Misys 3065.85 3365.82 299.98 29/09/99 356 Lloyds TSB 2723.20 2912.08 188.88 27/10/98 1133 Indep Ins 2990.63 3002.45 11.90 04/11/98 245 Pizza Exp 1966.34 1947.75 (18.59) 27/01/99 74 Dell (US) 2007.42 1811.88 (195.54) 19/12/97 783 Rentokil 2046.53 1691.28 (355.25) 17/04/98 301 Emap 3139.85 2486.26 (653.59) 17/07/98 266 Unilever 2052.00 1231.58 (820.42) Cash: £ 18.41 Current Total : £18,467.51 Total Invested: £20,184.62 Profit/(Loss) : (£ 1,717.11) Value Per Share Day Month Year Qualiport 0.65% 2.86% -12.56% FTSE 100 0.18% 3.06% 9.59% FTSE All Share -0.07% 2.94% 11.81%