The very best investors, in my view, are ones that approach investing as business owners, much like the well-publicized viewpoints of the Oracle of Omaha himself, Warren Buffett, who views stocks as pieces of a business, not pieces of paper.
Whether it is the local McDonald’s franchisee, the mom and pop coffee shop competing with the corner Starbucks, the local hardware store trying to stay afloat against Home Depot and Lowe’s, the family dentist or physician or independent financial advisor, these entrepreneurs “live” strategic analysis, competitive evaluations, and free cash flow management. They know what matters in their business, and they know what is required to drive future free cash flows, which is how they make a living.
Business owners understand that their livelihood depends on allocating revenue across expenses, future investments, and dividends, among other items. Sole proprietors know very well–that tax considerations aside–it matters very little whether they receive the income stream from their business as a salary or as a dividend (the IRS cares about this distinction, however). They understand that the cash that would be paid as a dividend would have accrued on the balance sheet if it weren’t. These entrepreneurs understand that such cash is already theirs and that they don’t need to pay it to themselves in order to “own” it.
As an investor in a corporation, you are a partial owner of a business. Warren Buffet knows this – that’s in part why he doesn’t waste his time with dividends. Entrepreneurs that are involved in the day-to-day cash flows of the business know that they already own any dividends they will pay to themselves. But why don’t external investors embrace this truism? Why don’t investors understand that a dividend is a payment of cash to them that they already “own?” Running a company and dealing with both its ups and downs has given me experiences far beyond those ever gained in any other aspect of my investment career, whether it be on the buyside or at Morningstar.
At Valuentum, we understand that the dividend is vitally important to retirees and near-retirees for income, and we pay very close attention to it, but we also believe in a holistic business evaluation process that goes beyond a company’s dividend and its yield. As business owners, we take a hard look at all of the free cash flows of the business that investors own. We offer a fair value range for every company in our coverage.
We pay close attention to the information contained in stock prices, which can at times offer valuable insight into the business’ relationship with customers, the supply chain and beyond. The Financial Crisis taught the world how important it is to pay attention to the information contained in stock prices, particularly in the financial sector, where GAAP accounting offered little in the way of predicting the “run-on-the-bank” dynamics that hit Washington Mutual and counterparty risk that buried Bear Sterns and Lehman Brothers.
Investors must continue to go beyond the dividend to truly understand the business. Think like an entrepreneur. Think like a business owner. And don’t ignore the information contained in stock prices. The Valuentum process looks at all of this and more.