VALUE: After Hours (S07 E24): Fort Knox Balance Sheets Help You Sleep at Night

During their recent episode, Taylor, Carlisle, and Jim and Abigail Zimmerman discussed Fort Knox Balance Sheets Help You Sleep at Night. Here’s an excerpt from the episode:

So we love companies with Fort Knox balance sheets and uh, that have highly resilient cash flows and actually we’ll look backwards of several years and we’ll want something to have amortized a big piece of the enterprise value over the last several years because we’re not smart enough.

We’re smart enough to the math, like, okay, well, if that amount of cash keeps coming in for the next three or four years, they can amortize the entire enterprise value or something good is going to happen. And so you just sleep at night because the company’s not going to run out of money, you’re not going to wake up one day, have the stock down 50% because they– That happens a lot. The balance sheet doesn’t get paid attention to, in our opinion, by Wall Street. It will not focus on the balance sheet until there’s a problem, and then it’ll totally focus.

Just like Buffett says, “You take oxygen for granted until there isn’t any, and then it becomes really important.” So, we reverse that. And so, we’re looking at companies that gush cash if we can find them sustainably and that ideally can grow, because they need to grow to really compound your capital. So, we’re trying to come in at modest value multiples with a company that grows and surprises the market. Maybe we saw something before everyone else that they didn’t pay attention to.

Jake: That’s an interesting anecdote from the last Berkshire meeting was– I’d never heard Buffett say this before, but he said that the first thing he looks at when he’s looking at a company is 10-years’ worth of balance sheets, which I think puts him in a very small minority of people who take that kind of balance sheet first approach.

Jim: Absolutely. You’ll see a company that has one of the– Ones we could talk about today, this furniture company can have a ton of debt, and then all of a sudden, over four or five years, all the debt’s gone and then they start buying stock back. So, if we can find a company that buys a ton of stock back and pays all this debt down, that’s highly attractive. People don’t pay attention to that. The thing that lets you do that it’s not even cash from operations. So, if you’re investing in retailers, cash from operations reflects the quality of the management team and their ability to be very disciplined about controlling the working capital.

I mean, you can have a company at two times EBITDA and go bankrupt if they let the working capital go. So, we love that ratio and we use that enterprise value up in cash flow to– It’s a hack to take thousands of companies and cut them down, because very few can meet that criterion.

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VALUE: After Hours (S07 E24): Fort Knox Balance Sheets Help You Sleep at Night

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