Nov

24

1934I have never been much of a fan of Benjamin Graham, partly because, in my 16 years of investing, investment advisers who touted their devotion to his principles (including the author of "My hero, Benjamin Graham") have all too often stated that they cannot find any stocks cheap enough to buy and are therefore bearish. Once in a blue moon, such advice has been good; the rest of the time, anybody who followed it would have missed the 1,000,000% per century return from investing in equities.

Benjamin Graham's idea that the balance sheet may be more important than the income statement in valuing a company is interesting. In this respect, however, circumstances have changed since Mr. Graham's day. In today's information-intensive economy, balance sheets often do not provide much information about the assets a company uses to generate earnings. The values of brands and intellectual property seldom appear on balance sheets. (When intellectual property appears, it is usually in the form of goodwill, based on market prices for acquisitions, a method that might trouble value purists). Intellectual property is often contained in the brains of key employees. It is hard to value and hard to depreciate. In the absence of patents, one might assume a three-year half-life of existing knowledge, but how does one estimate the value of new knowledge being created? In some cases, the value of specific knowledge instantly falls 100% when a key employee leaves.  So while proprietary assets are more important than ever in valuing a company, they are extremely difficult to properly assess; a glance at the balance sheet won't do.


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