How Do You Value And Evaluate Insurance Companies?

How Do You Value And Evaluate Insurance Companies?

Someone asked on LinkedIn: How Do You Value And Evaluate Insurance Companies? My answer is below

First off there is no such thing as determining a perfect value for any company, let alone companies as complex as insurance companies.

Second there are huge differences in valuing life and P&C insurance companies. The main difference comes in the long-range - and possible huge underpricing in long-term life insurance policies - that can have negative effects for years.

But the following links are some of the best things I've learned from on how to get a range of values and help you evaluate insurance companies.

Let me know if you have further questions.

How To Value Float, A Book Recommendation, And Other Thoughts

Unico American Corporation $UNAM: A Company I Would Love To Own Outright

Notes From Phone Conversation With the CFO of Unico American Corp

The Float Of The Companies I Own

Some Questions For You About Insurance Companies

Evaluating insurance companies is a lot different from evaluating most companies.  And the info above will help you learn how to evaluate them.

Did I miss anything?  And do you have any other questions about insurance companies?  If so, let me know in the comments below.

Don’t Be A One-Legged Person In An Asskicking Contest – My Answer To Why Valuation Is Important

Don't Be A One-Legged Person In An Asskicking Contest

My Answer To Why Valuation Is Important

Last week I asked your thoughts on valuation.  If you think it's important?  Why or why not?  I asked this because I've seen a lot of discussion on the topic in recent weeks.  This post is my answer to that question.

Asking if valuation is important to deep value investors like us is like asking if we follow the teachings of Ben Graham and Warren Buffett.  The answer of course is yes.  But why is valuation important?

Once we understand how to do valuation most of us never think about this question again. And it's important to understand why.

To show why valuation is important let's continue with an example from the earlier post.  Why The P/E Ratio Is Useless - And How To Calculate EV.

Why Valuation Is Important

Below is an example of two company's made up for the example.

Company 1 Company 2
Market Cap 100 100
P/E Ratio 10 20
P/E stays the same under the below scenario.
Cash and Cash equivalents 0 40
Debt 40 0
EV = 140 60
EBIT = 10 10
FCF = 10 10
Company 2 is cheaper when considering EV
EV/EBIT = 14 6
EV/FCF = 14 6

P/E, EV/EBIT, and EV/FCF are all relative valuations.  Companies that have lower relative valuation multiples are cheaper than others.  And companies that are cheaper are better to buy.  Why is this?

To find out why lets invert both EV/EBIT and EV/FCF to find each companies earnings yield.  I explain earnings yield in the following section.

Earnings Yield Estimates Expected Rate Of Return

For those who don't watch the short video above I'll paraphrase. Earnings yield is the estimated return you should expect to earn in one year on an investment.

The higher this number is the better. This is because the higher this number is the more a company is undervalued.

Company 1 above has an earnings yield of only 7.1%. Not good enough. I look for earnings yields above 10%.

Company 2 above has an earnings yield of 16.7%. 2.35 times company ones earnings yield. And above the 10% I look for when considering an investment.

This means you should earn 2.35 times more if you invest in company two instead of company one. But this isn't all...

By doing the work above with EV and earnings yield, not only do you see that company 2 will get you a higher return. But doing a bit more work allows you to see that company 2 is a less risky investment.

Company 2 is safer because it has no debt, while having a lot of cash. The saying that the more you risk the more you gain is a fallacy. This "advice" needs to die because it leads many investors into unnecessary danger.

But these aren't the only concepts you need to consider when evaluating an opportunity.

EBay And Amazon Businesses

Many of you who've followed this blog for a while know that I also run an EBay and Amazon reselling business.  The example below is something I found and sold last year.

I use the concepts talked about in this article every day.  And you can use them whether you're analyzing a stock.  Or buying something to sell in your business.

Let's say we have two of the same Giorgio Armani jeans.  Same size, color, condition, everything.  And both are real Giorgio Armani jeans.

Each pair of jeans looks brand new but does not have the tags on them still.  These jeans sell for more than $100 brand new.  But for this example let's use $100 because it's an even number.

So both pairs of jeans are the same and sell brand new for the same amount.  But what if I said you could buy one of the pairs for $80 and the other pair for $2.  Which would you buy?

The one that's selling for $2 of course.

But if you had an EBay and Amazon business how would this change things?  You would need to keep thinking...

One pair we bought for $80 and the other we bought for $2. We can resell both for $100. This means we have the potential to make $20 on one pair and $98 on the other.

The pair we bought for $80 and sold for $100 gives us a 20% return. Not bad. But the pair we bought for $2 gets us a return of 4900%. Or a 49 bagger in a short amount of time. We'll get back to the time aspect later... This is a spectacular return. And is why valuation is so important.

All else remaining equal, the cheaper a company is the higher return you should expect in the long-term.

This is why it's important to value businesses. Without doing valuation you can't know if you're getting a good deal. Or taking unnecessary risks with your capital.

In the above example is risking your $80 to make a $20 profit worth your time? Or would you rather buy the $2 pair of jeans and get a 4900% return on the same item while risking far less money on a safer investment?

But there's still more...

You also need to think about the amount of time it will take for your investment thesis to play out. And consider what you can't invest in while you invest in this opportunity.

This last concept is opportunity cost.

The Opportunity Cost of Investing

As investors we have to consider several choices every time we think about buying an investment.

  • Is the investment safe?
  • Am I getting a high enough return compared to the capital I'm risking?
  • Am I getting a high enough return for the amount of time I expect to hold this investment?
  • Do I already own another company that would be a better investment?
  • If I invest in this company now, am I comfortable holding it for the long-term? Another - possibly better- company may come along and I need to be comfortable losing out on that opportunity.

These are just a few of the many things you need to consider when investing. But for now I want to concentrate on the last bullet point.  It's the concept called opportunity cost.

DEFINITION of 'Opportunity Cost'

1. The cost of an alternative that must be forgone in order to pursue a certain action. Put another way, the benefits you could have received by taking an alternative action.

2. The difference in return between a chosen investment and one that is necessarily passed up. Say you invest in a stock and it returns a paltry 2% over the year. In placing your money in the stock, you gave up the opportunity of another investment - say, a risk-free government bond yielding 6%. In this situation, your opportunity costs are 4% (6% - 2%).

Below is a video from Study.com giving a real world example of opportunity cost.

The example of choosing between two jobs is too simple.  But it's a good starting point.

The thoughts I would've added to help me decide which is a better job would be: Which job would I be happier at?  Which one has more room for advancement?  How many hours do I have to work at each?  Etc.

When considering an investment you need to consider more than just valuation.

For example: Which one is safer?  Which one is offering a higher return?  Which one do I have more capital tied up in and for how long?  Which company has higher profits and cash flow compared to valuation?  Am I willing to pay up for a better company?  And much more.

This is how you begin to analyze the opportunity cost of an investment.  And get closer to a decision.

But without valuation you're only considering part of the equation.  And without valuation you'll have to rely on gut instinct and emotion.  Two things that will kill you when making investment decisions.

Don't Be A One-Legged Person In An Asskicking Contest

Yes I know when picking businesses and stocks to invest in not everything is equal like in the examples above.  But this is why you need many tools in your mental toolbox while evaluating things.

And if you don't consider valuation, opportunity cost, and the other concepts in this article, you're missing some of the best mental investment tools.  Or as Charlie Munger says:

"If you don't have the proper mental tools then you go through a long life like a one-legged man in an asskicking contest."

To learn more about mental models.  And start adding tools to your mental tool box so you don't go through life like a one-legged person in an asskicking contest, go to the earlier post. Car Wash Psychology, Mental Models, and The Power of Habit.

What do you think about valuation?  And did I miss anything in my explanation?  Let me know in the comments below.

***

Don't forget, if you want to receive two free gifts that will help you evaluate companies faster.  Get all future blog posts. Get future case study information first.  And be entered to win a hard copy of: The Snowball - Warren Buffett and the Business of Life and a $50 AMEX gift card. Sign up for the Value Investing Journey newsletter here.

Lionel Messi Is A Failure

Famous Failures

This post is a continuation of my Famous Failures series.  To view earlier posts in this series go to this link.

The aim of Famous Failures is to show that all successful people are failures.  And that to become great we have to fail, learn, and keep moving forward.

Lionel Messi Is A Failure

In case you don't know the picture above is of the best football player in the world. Lionel Messi.  The Michael Jordan of soccer.

Leo Messi

The above screen capture is from this video on Famous Failures.  It's about the best footballer in the world - and my favorite player - Lionel Messi.

Below is an excerpt from this article detailing some of the adversity he faced growing up.

But Messi is no stranger to adversity. Born with an outstanding, audacious talent, nature, almost as if re-dressing the balance, denied him the growth hormone that would permit him to grow the same as most other children.

Messi said: “When I was 11 years old they discovered that I had a growth hormone deficiency and I had to start a treatment to help me to grow.

Every night I had to stick a needle into my legs, night after night after night, every day of the week, and this over a period of three years.”

“I was so small, they said that when I went onto the pitch, or when I went to school, I was always the smallest of all. It was like this until I finished the treatment and I then started to grow properly”.

A team cut him when he was 11 due to health issues.  But he chose to work and go after his dream of playing for FC Barcelona.  In time he became the best football player in the world.  And one of the best of all time.  The info below is from Wikipedia.

He's won 22 team championships in eight different competitions.  Has won dozens of awards including being the world's best player a record four straight times.  And holds - and is still breaking - dozens of records around the world.

 

For more information on Lionel Messi read: Lionel Messi Is The Best Footballer The World Has Ever Seen.

But to really understand his greatness you need to watch him.  Below is a 6:22 video showing some of the reasons why many think he's the best football player ever.

And to think, none of us would ever have known anything about Lionel Messi if he gave up when he first failed.

Dream big... Imagine what you can do if you keep pushing forward instead of quitting when you fail.

What do you think of Lionel Messi?  Do you admire him and the way he plays football?  Do you think he's a failure for not winning a World Cup yet?  Or are you wrong and think Cristiano Ronaldo is a better player?

Let me know in the comments below.

 

Why Is Valuation Important?

Why Is Valuation Important?

Over the past few weeks I've seen a ton of people asking "why valuation is important?"

I've seen others answers, but I want to hear from you...  Do you think valuation is important?  Why or why not?

In the short  57 second video below I start a conversation about valuation.  Next week I'll post my thoughts on this.  And then get back into the case study.

Let me know what you think in the comments below.

Excerpt From Press On Research Issue Released Tomorrow

Excerpt From Press On Research Issue Released Tomorrow

Press On Research High Def

Below is an excerpt from Press On Research issue released tomorrow.

Investing In China For The First Time In Five Years

The last time I invested in China my portfolio lost 50% of its value in a matter of months. This was more than five years ago.

But this will change today…

I’m still wary of the wide spread fraud many small Chinese companies allegedly practice.

But I’ve found a company that is so cheap its getting me to invest in China again. Even with panic and fear running through the country.

Most analysts and economists predict that China’s property market will crash. Or is already crashing. And this will lead to the entire Chinese economy crashing.

In 2007 and 2008 this is what happened in the United States. And what led to the Great Recession.

When people are afraid to invest in a market or industry I get excited. You find the best investment opportunities where people are afraid to invest.

I agree the Chinese market is beginning to show signs of crashing. And that at some point it’s stock market will tumble.

But I don’t base investment decisions on stock market or country valuation levels.

I base investment decisions on whether single companies are cheap or not.

Today’s recommendation is so undervalued. And the opportunity so great. That it’s the first company I will buy in China since 2009.

And my valuations all consider the worst case scenario of a Chinese property market meltdown.

If things don’t get as bad as analysts and economists expect than this company could be a multi bagger.

But this isn’t all the company has to offer…

To see what the company is you must subscribe to Press On Research.

But a years worth of great company recommendations aren't all you'll get when you subscribe to Press On Research. You'll also get three free gifts. And priority access to two future services.

When you subscribe to Press On Research you'll automatically get a PDF copy of my book How To Value Invest. And two resources that will help you evaluate companies faster.

You'll also get priority access to How To Value Invest The Course when it launches. And priority access to a one on one value investment in-depth coaching program. Where you'll learn everything I know about how to value and evaluate companies.

Space is limited in both of these services and subscribers to Press On Research will get priority access to both of these services when they launch.

This all comes with a 60 day money back guarantee too. If you aren't happy with everything you get with your year-long Press On Research subscription I demand you fire me. And I'll give you your money back.

But you'll still get to keep your free gifts.

If you would like to subscribe to Press On Research for one year where you'll get a company recommendation issue every month. And the free gifts above. A $8,016.94 value. For only $97. Subscribe at the button below.




P.S. Or if you need more convincing still you can go to the Press On Research FAQ.

P.P.S.  If you're a Value Investing Journey subscriber you only have the rest of today to use your discount to subscribe to Press On Research.

My Answer To How Do You Find Stock Opportunities

My Answer To How Do You Find Stock Opportunities

Below is my answer on Quora to someone who asked How Do You Find Stock Opportunities?

Six Days Before Next Press On Research Issue Comes Out

Press On Research High Def Six Days Before Next Press On Research Issue Comes Out

There are only six days left until the next Press On Research issue comes out on 5/19/15. And to help convince you that you should subscribe I wanted to send you some excerpts from the upcoming issue and the first issue released last month.

The following excerpt from the next issue is unfinished and unedited.

An Opportunity So Good I’m Investing In China For The First Time In Five Years

It also pays a 2% dividend. Has more net cash – cash after subtracting all liabilities – $256 million than its whole market cap right now $220 million.

This Company Is Undervalued By As Much As 309%

The following excerpts are from the first issue released last month.  You will get access to this if you subscribe to Press On Research.

This Investment Will Gain You At Least 20% This Year.

And As Much As 258% over Time

Since 2011 this company has produced $469 million in cash. And they’ve paid out more than $400 million in dividends to shareholders.

The company has competitive advantages. Zero debt. And zero chance of going out of business. And it just hit an all time low in January. So we can buy a great company at a cheap price.

But a years worth of great company recommendations aren't all you'll get when you subscribe to Press On Research. You'll also get three free gifts. And priority access to two future services.

When you subscribe to Press On Research you'll automatically get a PDF copy of my How To Value Invest. And two resources that will help you evaluate companies faster.

You'll also get priority access to How To Value Invest The Course when it launches. And priority access to a one on one value investment in-depth coaching program. Where you'll learn everything I know about how to value and evaluate companies.

Space is limited in both of these services and subscribers to Press On Research will get priority access to both of these services when they launch.

This all comes with a 60 day money back guarantee too. If you aren't happy with everything you get with your year-long Press On Research subscription I demand you fire me. And I'll give you your money back.

But you'll still get to keep your free gifts.

If you would like to subscribe to Press On Research for one year where you'll get a company recommendation issue every month. And the free gifts above. A $8,016.94 value. For only $97. Subscribe at the button below.




P.S. Or if you need more convincing still you can go to the Press On Research FAQ.