Do you REALLY KNOW what your goal is?

I’m reading The Goal by the late Eliyahu Goldratt. The book for me is about measures. Having the right measures.

It’s great to have a new piece of technology, machine or process. But what is it improving? Is that relevant to your goal?

Better question – What IS your goal?

“The Goal”, as the protagonist discovers, is:

“To reduce operational expense and reduce inventory while simultaneously increasing throughput.

Operational expense = What it costs (e.g. labour) to make the product

Inventory = Work in progress (WIP)

Throughput = Sales

Three dynamics. They’re pretty simple – and in his role he can affect these. Only these are worth worrying about as only they will lead to the plant’s success.

If a company was doing an activity based on the above metrics, it was working towards the goal. If it wasn’t, then it was wasting time.

Beforehand he thought it was “increase market share” or “increase efficiencies” or “ROI” or “net profit”. Problem was – there was no goal.

What are the three goals of your life? Are you always working towards them?

These are the questions I now ask myself.

 

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What do Warren Buffett and Peter Thiel NOT have in common?

Below is a summary of Warren Buffett’s Principles and Rules from Warren Buffett Accounting Book. This book is the best book I’ve read on reading / understanding financial statements.

I finally think I understand the three statements –  and I’ve done an MBA. The book provides the perfect balance of simplicity without being condescending – a difficult feat, especially in finance literature.

Buffett’s Principles of Valuing Companies:

Principle 1: Vigilant Leaders
Rule 1 Low Debt
Rule 2 High Current Ratio
Rule 3 Strong & Consistent Return on Equity
Rule 4 Management based on Long Term Goals
Principle 2: Long Term Prospects
Rule 1 Company Must Have Persistent Products
Rule 2 Minimise Taxes
Principle 3: A Company Must Be Stable & Understandable
Rule 1 Stable Book Value Growth from Owner’s Earnings
Rule 2 Sustainable Competitive Advantage (“Moat”)
Principle 4: Buy at Attractive Prices
Rule 1 High Margin of Safety
Rule 2 Low Price to Earnings Ratio
Rule 3 Low Price to Book Ratio
Rule 4 Set a Safe Discount Rate
Rule 5 Buy Undervalued Stocks

Contrast these rules to Peter Thiel’s Zero To One, a book which covers tech investments – something that until recently Buffett wouldn’t touch.

Thiel’s summary quote on tech investments: “Most of a tech company’s value will come at least 10 to 15 years in the future. Thiel’s valuation rests on his “11 Key Questions to ask” one of which is “Durability” i.e. Will your market position be defensible 10 and 20 years into the future?

So using the model above, could you successfully value a tech company?

No. Why? Two major metric cannot be determined – Revenue and Free Cash Flow.

To place Thiel’s theories over Buffett’s Principles above, here’s where it falls over:

Principle 1 Rule 3 : Strong & Consistent Return on Equity (ROE)

  • No historical data available!

Principle 3 Rule 1 : Stable Book Value Growth from Owner’s Earnings

  • No historical data available!

You also can’t calculate:

Principle 4 Rule 5: Buy Undervalued Stock

This Rule is based on a Discounted Cash Flow Model. Determining this rests on working out the historical free cash flow (FCF) rate.

The best that Thiel’s model provides is a good assessment of the “Discount Perpetuity Cash Flow”

An understanding of past earnings and future earnings is so critical in investing.

Peter Lynch, one of my favourite investor’s says in One Up On Wall Street “If you can follow only one bit of data, follow the earnings – assuming the company in question has earnings…. sooner or later earnings make or break an investment in equities.”

Happy hunting.

Why Markets Are Efficient

Here’s why I’m learning towards efficient markets.

Following Tim Ferriss’s recommendations, I’ve read, in this order

1. Buffett – The Making of an American Capitalist
2. More Money Than God
3. The Smartest Investment Book You’ll Ever Read

I’ve just finished the third. This book falls under the “efficient market” hypothesis whereas the first two were strong advocates of the “inefficient marts” hypothesis. I have to admit I was pretty convinced by inefficient market theory, but Solin’s book has kind of blown it out of the water.

Anyway – this book is great. Its aggressive tone against what Solin calls “hyperactive” investing and the complete lies of the financial industry make this book mandatory reading for anyone interested in investing, regardless of whether you’re an efficient or inefficient market guy.

If more people read this book, it would make lives harder for unethical brokers pushing unsuitable products with no fiduciary responsibility. And that’s good in my book.

A lot of people don’t really consider critical things such as fees when they’re buying actively managed funds – this book explains in black and white what the dangers are.

Best of all there’s a very simple and clear approach in the final section – the book is not just a rant!

Great stuff.

The Market is Inefficient – at first

“People form opinions at their own pace and in their own way – the notion that information could be instantly processed is one of the ivory tower assumptions that has little to do with reality.” Sebastian Mallaby, More Money Than God

So this is one of the many cases for Inefficient Markets Theory. It’s in stark contrast to Dan Solin’s opinion laid out in The Smartest Investment Book You’ll Ever Read

Where am I with these opinions? Still undecided. But I do have a few opinions.

  1. You may be able to ‘beat the market’ but only temporarily. Soon enough whatever amazing strategy you’ve come up with will be replicated, and the market will become ‘efficient’.
  2. If markets were efficient, there would be no such thing as hedge funds – they couldn’t exit. No investing ‘edge’ would ever work
  3. It’s a very small minority who can continually ‘beat the market’ meaning that even if markets are inefficient, there are very few who can be relied upon to do it for long periods of time. This obviously has ramifications for who you should invest your money with.

I’ll be exploring Efficient vs. Inefficient – will be interesting to see where this lands.

First step is to see what people say online.