Australian Market

Level 2 Template: Combining Valuesoft Functions and Including Margins of Safety

There are over 30 functions in Valuesoft which users combine in different ways to suit their own needs. The following is an example that starts with a combination of two of the functions shown in the Level 1 Templates, STRETD and STAEGR. Next it uses new functions to calcuate growth rates, margins of safety, and target prices. Here is a list of the functions used in the template:

• STAEGR: to measure stability
• HGROWTH: to measure histroical growth
• ESAFETY: to apply an automatic margin of safety to the forecast of growth
• PESAFETY: to apply an automatic margin of safety to the forecast of the PE ratio
• STRETD: to calculate the expected average return
• TARGD: to calculate the price to pay (the "target" price) to get your minimum desired return

As we said in the introduction to these templates, the most important activity of an investor is to estimate with confidence the percentage return over a specified holding period when buying stock in a company. And you want to be able to do this based on numbers that you can see and adjust such as the growth rate of earnings.

Because I am interested in medium to long term investments (remember, Buffett's favorite investment period is forever), I need to have dependable forecasts of earnings for the next five years or more. However, for most companies it is extremely difficult to be able to forecast earnings with any confidence.

Most people rely on forecasts provided by the various stock analysis firms. Unfortunately, many studies show that their results are extremely unreliable. In contrats, Valuesoft has two functions STAEGR and HGROWTH work together to remove a lot of the guesswork out of making earnings forecasts and the unreliabiulity of analyst forecasts.

Again we will use ARB Corporation as an example. (ASX code: ARP). After having done an analysis of the company (its products, competitors, and so on), you are ready to crunch some numbers. (For an example of a USA company, click here.)

Suppose you are interested in estimating the percentage return on buying ARB now and holding it for 5 years. Also you want to know the return under your margin of safety. You will need some data. You can get data free from YahooFinance. However, even though it was enough for a Level 1 analysis, it is not quite enough for Level 2 More complete data is available free for Australian residents from the online broker Commsec. (You will need to register.) Alternatively you can get five years of data from NineMSN Investor.

For this example we will get the data from MSN Money. The pages that you will need are:

• Company Report
• Financial Results (Highlights)
• Financial Results (Key Ratios, 10 Year Summary)
• Financial Results (Statements, 10 Year Summary)

Now all you do is type the numbers into a template supplied with Valuesoft including your estimates of the PE ratio and the growth of earnings. All the rest is done for you. The final result will look like this:-

Data is typed in the white cells , forecasts go in the cells , and the Valuesoft results are displayed automatically in the cells .

Column E contains Return on Capital Or Return on Equity if Return on Capital is not available). Both are important measures of how well management is doing with the money they have. Consistently above 15% is a desirable level.

Notice the high levels of STAEGR in the cells C13 to D14. The chart also shows the smooth growth of sales and earnings. These are the types of companies I love. When they are purchased at the right price you can get outstanding profits with as much safety as bonds.

Amazing new functions that allow you to automatically incorporate a margin of safety!

Benjamin Graham and Warren Buffett said that the three most important words in investing are margin of safety.

In this example I have added a margin of safety by using the new ground-breaking functions PESAFETY and ESAFETY in Valuesoft. Applying the function PESAFETY lowers the PE ratio from the current level in cell I3 to a safety level in cell I10. Depending on the relationship between the current P/E ratio and historical P/E ratios, the size of the margin of safety can be larger or smaller.

Similarly, we apply a margin of safety to the estimated growth. The function ESAFETY lowers the growth estimate from the historical level seen in cell D15 to the safety level in cell I11). This lower level is based on the historical growth rate of earnings (in cell D15), the historical growth rate of sales (in cell C15), and the stability of earnings over the past 5 years as measured by STAEGR (in cell D12).

Cell I7 uses STRETD to calculate the expected  annualized percentage profit assuming that dividends are reinvested. This is under quite a strong margin of safety. It is equivalent to saying that there is a very strong probability that I will make at least this return over the next 5 years. 

With Valuesoft you can find those stocks that you can lock ensure a satisfactory return while at the same time leaving open the possibility of a much higher return. 

Target Prices Another Valuesoft feature included in this template is the use of the function TARGD. This calculates the target price, or buying price, necessary to achieve your desired percentage profit. In this case, a percentage profit of 12% (cell I6) is asked for. The target price in shown in cell I8.

When you know exactly how much you are willing to pay for a stock, often you get that temporary dip that you are looking for. Setting target prices is a vital part of the investment strategies used by Warren Buffett. He said that he is willing to wait indefinitely to buy the stock he wants at the price he is willing to pay.

Level 1 Templates Click here

These Level 1 and Level 2 templates are just a taste of what is possible with Valuesoft. See the Contents of the Manual for a complete list of the functions as well as the other resorces that come with Valuesoft.