VALUE: After Hours (S07 E15): How To Value A Company

During their recent episode, Taylor, Carlisle, and Rich Pzena discussed How To Value A Company. Here’s an excerpt from the episode:

Tobias: Yeah. I’ve run a firm, got it to break even and then run into the buzzer of the last few years. But Rich, your strategies, how do you think about valuation?

Rich: For us, it’s very simple. We use one metric, price compared to normalized earnings. And normalized earnings, it’s a concept, but it’s not a complex concept. It’s what should the business earn over a full economic cycle. Not the peak, not the trough, but on average, what’s the earnings power of this business. It’s informed by the history of the business. It’s informed by the competitive positioning.

If you talk about stories of things that you’ve invested in– We were talking about the internet bubble. Well, COVID was another opportunity to buy things at crazy prices. We can save this for a little bit later, but I don’t think we have the same opportunities today. But COVID we did. And our biggest holding became in probably by the end of the second quarter of 2020, GE. You can’t imagine a worse business than building jet engines during COVID. It’s not only that travel was down–

The number of takeoffs and landings were down 60%. But the volume of GE’s business was down more than that, because first of all, nobody was buying new airplanes. But most of their revenues came from the repair and remodel, the repair side of the business, the spare parts business, because that’s the high margin business. And so, if you were parking airplanes, you would operate the ones you weren’t parked until they had an overhaul date, and then you would park it and pull another one out and you would spend no money on maintenance. So, their revenues were down 70%, something like that. And imagine a giant manufacturing operation with an R&D operation with a 70% revenue decline, it had 20% margins before that or 22% margins.

Jake: That’s real operating leverage you start to see there, right? [chuckles]

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