I present to you the investment manager's report from the first semi-annual report of the Tweedy Browne Global Value Fund in September 1993.
(1) "...Our research seeks to appraise this intrinsic value of a share by determining its acquisition value or by estimating the collateral value of its assets and/or cash flow. We believe the process, in many respects, is closely related to credit analysis...A security purchased at 50% of intrinsic value is backed by corporate net worth; i.e., ""collateral,'' which is nearly twice the cost of the investment. This "collateral'' provides additional protection against permanent capital loss..."
(2) "...we adhere to a policy of broad diversification, with no one issue generally accounting for more than 3%, at cost, of the net assets of the portfolio and no industry accounting for more than 15%, at cost, of the net assets of the portfolio. Not only does diversification reduce risk, it also increases the probability through the workings of the law of large numbers that a return will be realized from the entire portfolio. We usually do not know how a gain from a particular stock will occur or when. However, based on our experience, we do know that there are profit producing occurrences in a diversified portfolio of undervalued securities; such as, general open market price increases, special dividends, tender offers, mergers, recapitalizations, spinoffs, purchases of shares by officers and directors or by raiders and corporate share repurchases as well as tardy realization by other investors of a particular security's attractiveness...based on experience, large discounts from intrinsic value are very likely to correct over time, especially in a diversified group of bargains where the law of large numbers is at work..."
(3) "...Franco Tosi is valued in the stock market at less than the company's underlying cash and investments (after deducting all interest bearing debt) at December 31, 1992 of 30,607 ITL per share, and 59% of the book value of the company's net assets, 35,615 ITL per share. If we could buy the whole company today at 21,200 ITL per share, our whole investment would be recouped (net of any taxes) from the 30,607 ITL cash in the till and other investments and we would get the remaining assets for free: cash of 9,407 ITL per share; factories and land, with a stated net cost of 5,008 ITL per share; the sales base; and the future earning power of the business. Franco Tosi is also priced at 9.8 times 1992 earnings of 2,163 ITL per share. If Franco Tosi were to pay out 100% of the 1992 earnings as a dividend (which they could easily do because they have the cash), we would have an earnings yield on our investment of 10.2%. Franco Tosi actually pays us a dividend of 1,100 ITL per share per year. Somewhat like a savings account, the remaining part of the earnings, 1,063 ITL per share, builds up for us within the company while we sleep..."
(1) I have always believed in the idea that a good credit analyst will make a good equity analyst and a good value investor.
I have previously written an article on using credit analysis to evaluate dividend stocks like a bank lender.
(2) To be diversified or not, that is the question. And it will continue to be the question on the lips of many value investors. Tweedy Browne provides a compelling answer to "Why invest in your nth best idea?" in the defense of diversification.
(3) Tweedy Browne explains the concept of "buy a stock for net cash and get the business for free" very well.
I have previously written an article on how to detect fake cash in net cash stocks.
You can read Tweedy Browne Annual Reports (1993-now) here.