Forum Topics McNiven’s Valuation
Strawman
Added 9 months ago

I wanted to give another shout out to @Rick for a great presentation last night on how to value a company using the McNiven formula.

(the recording is on the Meetings page).

Here is the presentation if you want a copy:

Rick Presentation.pdf

I cant upload an excel file here, but here's a Google Sheet if you want to play with Rick's spreadsheet (go to File --> Save copy if you want to edit yourself)


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Silky84
Added 9 months ago

Watched the recording this morning. Thank you rick very helpful and insightful!

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TomS
Added 9 months ago

Apologies I couldn’t make it @Rick - however I’ve watched the recording a few times through now.. always good to be introduced to a new method of valuation!


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mikebrisy
Added 9 months ago

I second that!

While I previously understood the idea of valuing reinvestment if ROE > required return, I now understand how McN pulls everything together in a way to consider SP and returns together with ROE and payout ratios.

The tutorial with worked examples was great, and it helped cement the model by demonstrating how to value the $100 bank deposit under different scenarios.

Great job @Rick and thank you for taking the time to do this.

I'm definitely going to use McN alongside my preferred method of DCFs.

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Rick
Added 9 months ago

@Strawman somewhere in the Google docs upload process the dividend bar disappeared.

The charts should look like this.

f71f7582f1111442ca810e83f8e03491895696.jpeg

Also, I’m happy for you to share my working valuation spreadsheet if you think it’s useful and appropriate.

Cheers,

Rick


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wtsimis
Added 9 months ago

Great presentation Rick much appreciated and very helpful.

Will definitely put it to use and reach out as needed.

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Strawman
Added 9 months ago

Right you are @Rick -- should be fixed now!

Here's the link to the working valuation sheet

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PortfolioPlus
Added 9 months ago

Agree, Rick's slides were well done and he explained what is a difficult concept well,

If it apprears double dutch can I urge you to stick with it because it puts the weight where most investors don't look, appreciate, articulate and/or recognize.

Investing is about the future which is uncertain - but more uncertain for crap investments as opposed to quality investments. We are talking abourt RISK and risk and reward are always related. Aussie Bonds are low risk and thus low return. Nigerian War Bonds on the other hand are explosively risky!

So remembering my days as a penciller for a bookie, 'its all about balancing the risk and not exceeding it' as I was told, - so starting prices moved up and down depending upon the 'risk to the bag' (another of his expressions). He certainly didn't 'risk the bag' when shouting a beer at the end of the day, come to think about it.

Thus, knowing the risk involved & working out in advance what return you need to compensate for the risk, you can establish your starting price/buying price. That's what McNiven's formula can do for you. Actually it can do two things (1) establish whether it is value on the current SP and (2) at what price would you need obtain the share so as to give you the return on investment (which you have set) given the risk involved. If nothing else this gives you the ability to set a price alert. Also a selling price alert, as well.

What I have noticed is that it forces me to fully consider the risk involved and this was a section of the AR which I would skip through as bum-fluff in the AR - ditto for the auditors report - now I read it very closely. Still, its difficult to allow for the 'Scott Basham' effect - as those who follow (or did follow) HCL will understand. .

Obviously, the larger the risk the more margin of safety you need. Some crap investments can be potentially good investments if that margin of safety favours you.

People have different versions of what rate to expect. I use bands amongst sectors, for example Consumer Discretionary - I use 10% to 12% for quality companies like NCK & JBH - maybe I am a bit of a tight twat here, but the sector does have high beta. 14% to 16% for so-so companies or companies with issues like ADH or CCX. Mid area companies like SSG are around 13%.

Anyhow this just another take on the same matter. To each his own.

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Solvetheriddle
Added 9 months ago

@Rick well done Rick clear preso

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Rick
Added 9 months ago

It’s great to hear your interpretation of the formula @PortfolioPlus. I agree with your comments. I think each person will use it in a different way, but I like how you are thinking.

This is what I like about Strawman. You give a little and get so much more back! :)

Thanks to everyone else for the kind feedback. I’m pleased you enjoyed the session. I hope you find it useful.

Cheers,

Rick

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jcmleng
Added 9 months ago

@Rick can I add my thanks to your preso and worksheets. I had a big aha moment after viewing your preso and spent the last few hours internalising what you presented to come up with a crude 1st attempt at valuing XRF.

2 things I still need to get my head around:

  1. The timeframe bit - I did a snapshot of XRF after the 1HFY24 results and extrapolated the NPAT to the rest of FY24. This made sense and gives me a base from which to revalue XRF when the full-year results are released in Aug 2024, so I am already one step better than yesterday! What I do need to get my head around is how to extend the valuation over the future 3-5 period and what inputs I should use. The historical ROE trend is a good base but I haven't quite worked out how to use that historical info to make a meaningful assumption going forward.
  2. Will need to work out some rules around the Required Rate of Return. Need to also differentiate this from the capital growth in the price of XRF. @PortfolioPlus's rules were a really good start point and I used 10% to start with. Would be keen to see what rates you and others use, the reasoning behind them and when you would use what rate.


Once again, many thanks. My investing knowledge went up a distinct notch today from your preso!

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Rick
Added 9 months ago

@jcmleng nice to see you have put the formula straight to work! I’ve seen your calculations and reasoning for your XRF valuation. I get the same valuation as you using the same inputs so you’ve worked out how to use the formula . Well done! :) I’ll make a few comments in the XRF valuation thread.

Looking at your questions above,

  1. The timeframe bit. This is where your knowledge of the business and the industry it operates in comes in. If you understand it well, how it makes money, what influences its margins, what potential growth looks like, how far can it expand etc. etc, then your assumptions about future earnings which are then used to determine future ROE will be well informed. I can see you’re already doing this in your XRF valuation. The thing to remember here is that it’s far better to be approximately right than exactly wrong (John Maynard Keynes). The historical trend is very useful as a starting point but you can’t use it as a trajectory without knowing more about the headwinds and tailwinds for the business. The conversations here on Strawman can help with this too!
  2. In regards to what you use as RR, I generally start with my default of 10% and adjust according to the quality of the business, predictability of earnings, debt etc. Sometimes I’ll start by seeing what the RR is at the current share price. Does it look like good value for the quality of the business? Your return for a very high quality, popular business is likely to be less than 10. However, in small cap land you might find a hidden gem that has the DNA of a high quality business at a very reasonable price offering you an incredible return. I think it is also useful to have a checklist of criteria to rule out certain businesses, like TeamInvest do eg. maximum debt, consistency of earnings, minimum ROE, percentage of earnings reinvested, margins etc. I haven’t documented such a list, but I certainly consider all these things when filtering out the businesses I’m interested in. It’s not all driven by the best RR! I’ll be interested to understand how others approach this.

That’s probably enough from me for now. I hope these ramblings help.

Cheers,

Rick

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Solvetheriddle
Added 9 months ago

@Rick maybe the below is easier for some to understand and is what i do.

it starts with a truism being the one stage DDM being price=d1/(k-g) dividend period one divided by the required rate of return (that I call cost of capital--it doesnt matter) less the growth rate

if we divide both sides by eps we get PE=payout ratio/(k-g) the required rate of return is the same as you have covered and should be risk-adjusted. the growth is ROE (forward-looking, normalised and marginal) times retention. That gives me PE=payout/ (required rate of return-ROE*retention)

i then get a value by using that PE *eps + dps/Sp (add yield), it reconciles to McNivens formula as far as i can tell

so it is all based on the stage one DDM with all the strengths and weaknesses that the DDM has. the main weakness being properly estimating RR and ROE.

imo there is a solid theoretical foundation but as they say, investing is not easy...ive also found it is a weighing machine..ie sometimes takes time

good luck Tuesday



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Rick
Added 9 months ago

Thanks @Solvetheriddle. I’m 66 today and my brain is not quite as fast as it was at uni! :) It will take me a while to work through the maths you suggest, but for now I’ll just agree that the methods concur! ;)

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Solvetheriddle
Added 9 months ago

@Rick happy birthday mate, I’m not far behind you!

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Rick
Added 9 months ago

Well it looks like I’m up for a talk about McNiven’s valuation method next Tuesday at 6pm AEDT (20th Feb). I’m hoping this time suits the hard workers amongst us who are wanting to tune in.

After a brief explanation of the McNiven’s formula and the key variables, I’ll share an interesting 10 year chart that compares Codan’s (CDA) share price with valuations that could have been made using McNiven’s formula and the data available at the time. With the wisdom of hindsight, we can consider if these valuations might have been useful or not.

Then we’ll jump into having some fun testing the method. First we’ll see if it works for valuing the equity in a Term Deposit which is 100% predictable and resembles a zero risk business with a low rate of return.

Next we’ll tweak a few variables until the metrics start to resemble one of the big four banks and consider the valuation accounting for some risks and an appropriate margin of safety. @Strawmandoesn’t know it yet, but I’m going to throw a few questions his way while we pressure test the formula! There’s no such thing as a free lunch Andrew! ;)

Then comes the interesting bit! We’ll take a look at a few businesses of most interest to Strawfolk. That’s where I’ll need your help. I have a few pre-prepared just in case you are all too shy (ha!) including NCK, LOV, XRF and PME. I thought we could also look at a trickier one eg. DMP.

I’m keen to explore some other suggestions from you guys. If there are too many suggestions (ha!) I’ll go with the most popular choices.

In putting forward your suggestion, keep in mind that the formula works best for businesses that have been profitable for a few years, and I’ll need your insights into future profitability as well, eg. a few years of your earnings (NPAT) estimates. I need this to calculate the most critical variable, future ROE. I can find all the other data needed from my current data sources.

I’’m looking forward to hearing your suggestions, and to our meeting next Tuesday!

Cheers,

Rick



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conrad
Added 9 months ago

I’ll probably understand 20% of what you’re saying (if I’m lucky), but I’ll be there and listening intently! Thanks in advance for your time and for sharing your knowledge.

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Strawman
Added 9 months ago

Looking forward to this @Rick

I suspect I'm going to have some prejudices challenged... Which is a good thing!

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shadow
Added 9 months ago

Looking forward to it!

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Rick
Added 9 months ago

No, nothing like that @Strawman! I just need some interaction! :)

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jimmybuffalino
Added 9 months ago

Fantastic, really glad you're doing this. I won't be tuning in live (arsenic hour in my house) but will definitely be watching the recording at the first opportunity.

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