Low Risk, High Uncertainty: From Richard Branson To Mohnish Pabrai

There are many famed drop outs: Steve Jobs, Bill Gates, Mark Zuckerberg and Michael Dell. Surely one of the most famed serial entrepreneur and drop out is Richard Branson.

At 16, Branson gave up studies to start his own magazine business. The magazine was called ‘Student’. It was a mail order business, which created a revenue from advertising.

With a steady readership, Branson thought he could also sell other product within the magazines. That’s when he got the idea to sell records, via mail-order in his magazines. The idea was so successful in the first year that Branson decided to start his own record label and recording studio – Virgin Records.

His record company witnessed a huge success as high profile performers like the Rolling Stones and Sex Pistols signed under the label. Branson became millionaire by the age of 23. But it would seem like Branson had lost his mojo when he wanted to start up his own airline. Or so his business partners thought at the time.

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All Earnings Aren’t Created Equal: Judging Earnings Quality

Garbage in, garbage out.

It’s a phrase typically used when talking about forecasting. Because it’s such a subjective art, your forecasts are highly dependent upon the assumptions you make.

Lowering or increasing growth assumptions, discount rates and margins can drastically change what a financial model spits out. Hence, if your assumptions are garbage you’ll get a garbage valuation.

Like I’ve mentioned before, there’s nothing wrong with creating financial models and forecasts. You’ll gain an intimate knowledge of all three financial statements and how they work together if you model them yourself.

But remember forecasts and models are far from perfect.

And that’s businesses are not static, like financial models. They’re constantly changing as their industry, business cycle, regulation and consumer tastes change.

It’s why you should even be wary of the figures presented in an annual report.  Accountants and auditors are paid to present businesses in the best light possible. So if there is a chance to artificially increase earnings out without breaking any rules, they’re going to do it.

It’s why hundreds of books, research papers and seminars are dedicated to the subject of earnings quality – finding out the real earnings of a business.

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Forget Bonds. Stocks Provide Growth and Income

What’s better, stocks or bonds? Well it depends.

If we were looking to for capital appreciation, then stocks are better. But if you wanted to create a steady reliable income, bonds are better.

That’s the common thought anyway.

But according to legendary fund manager, Peter Lynch, whether you want capital growth or income, stocks are the only answer.

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Financial Modelling: Assumptions Built on Assumptions

Wouldn’t it be great to know the future? Sure it might take the spontaneity out of life. But you could become the best investor ever.

There is no such thing as a perfect investment record. Everyone picks up some losers along the way. But if you had an idea of what might happen, you could avoid the ‘bad eggs’ as they say.

This is what financial models try to do. They predict what might happen in the future. Not just profits, but revenues, debt, cash flows and a bunch of other business fundamentals. Judging by the calibre of investors that use financial models, from investment bankers to private equity firms, you’d think they’re the best way to value businesses.

And maybe they are…for the short-term. But I’d argue financial models are a lot less useful than most investors believe.

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The Only Two Investments You’ll Ever Need

There are two types of value investors. Those in the Benjamin Graham camp (value) and those in the Warren Buffett camp (compounders). Both look to buy business for far less than they’re worth. However, that doesn’t mean they both look for the same types of businesses.

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The Best Edge All Individual Investors Have

If you’re an NBA fan, you’ll notice teams are getting smaller. Long gone are the days of the 7-foot center and the 6’9 power forwards. In today’s game, the big man isn’t just required to rebound, protect the rim and score. They also need to help with switches, shoot the mid-range and keep up with the guards.

If I’m honest, I miss the days of big men playing with their backs to the basket. But many teams have now craved out an edge with smaller, quicker teams that shoot three pointers at will. And just like NBA general manager, you also have to define your edge as an investor.

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