In their recent episode of the VALUE: After Hours Podcast, Brewster, Taylor, and Carlisle discussed You Just Can’t Overpay For Quality! Here’s an excerpt from the episode:
Jake: There is something very appealing about the idea that you own this quality business and that it should protect you from whatever vagaries the world throws at you, whether it’s inflation, or market crashes, or economic problems. The good businesses should theoretically insulate you somewhat, but–
Tobias: You can’t overpay. You just can’t overpay.
Jake: That’s the thing. I’m not entirely sure that that competitively advantage period, which is what’s required to earn excess returns on capital, how long those are anymore.
Tobias: Why do you think they can be quite long? But I think they’re often in things that are just under– The quality brand middle stand, those things, it’s a family and business that’s been owned for generations and they make something– I think all of these advantages get eroded over time.
But they make a Scotch that everybody recognizes the brand of, and they have a limited run every year, and they sell them at the price that they– Every year they wake up and they decide how much they’re going to charge more than last year, and then they sell them all, and they go and do that again the next year. That’s a good business, probably. Got a very, very durable moat. There are a few of those around.
Bill: I hate these conversations.
Tobias: Why? What are you objecting? Is it theoretical?
Bill: Look, the price you pay matters, but if you buy dog shit at cheap earnings, and then that dog shit has to continue to reinvest, and you never see the earnings, that’s not value. That’s just crap. I think something that I’ve been thinking about a lot is, actually, I think in a high interest rate environment, high ROIC companies should trade at a bigger dispersion, because theoretically they could actually dividend you back cash when you have reinvestment opportunity. But then the problem is a lot of them buy back their own shares.
So, I think you should almost look at ROIC, it is like a weighted average of the reinvestment that is needed to maintain or the investment that is needed to maintain times or well, plus the reinvestment that is needed to grow, and then plus, these are all weighted. Like the way to free cashflow yield on the buyback. That’s how I think is the most appropriate way to look at the overall return on capital, because a lot of times, I think–
I don’t know. I like buybacks because it prevents management from doing something stupid. But I also think people just look at a buyback yield and they don’t– Look, if you’re shrinking your share count by 2%, it’s costing you a billion dollars to do it. I don’t know. But yeah, I think it all comes down to what you pay and what something’s worth. I don’t like the classifications of different stocks.
Tobias: No, I agree. I agree. I’m just teasing them out to talk about a little bit, and possibly this is an artifact of the last two years that we went through the period before then where the argument was, you basically just had to pick the best business and then that was the only thing you needed to do. You didn’t need to worry about whether what you’re paying was sensible in the context of.
Bill: I don’t think that that was actually the argument.
Tobias: I encountered that multiple times.
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