Two Roads Diverged: Look-Through Earnings
Now that I’ve made it through all of the holdings in the Two Roads Diverged Portfolio, I have a good sense of what the owner earnings are for each company. This is an exciting thing to know across an entire portfolio because you can compile a table to really show you what you own.
As investors, we often forget that we are buying businesses that produce a certain level of cash flow. The management of our individual holdings determine how this cash is allocated or reinvested in the business, but investors do own a certain portion of this cash flow. Warren Buffet performs this analysis in his annual letters to shareholders. He refers to this cash as look-through earnings. Below is a table representing the look-through earnings for the Two Roads Diverged Portfolio:
| Company | Cost per Share | Owner Earnings per Share | Cost to Owner Earnings Ratio (P/E) | Earnings as a Percent of Price Paid | Recent Price | Recent Price to Owner Earnings Ratio |
|---|---|---|---|---|---|---|
| ADP | $42.34 | $2.28 | 19 | 5.38% | $39.55 | 17 |
| Ctrip | $19.17 | $0.89 | 22 | 4.64% | $48.38 | 54 |
| Dawson Geophysical | $28.56 | $3.81 | 7 | 13.34% | $69.06 | 18 |
| Jupitermedia | $3.39 | $0.30 | 11 | 8.84% | $2.98 | 10 |
| Middleby | $40.00 | $2.96 | 14 | 7.40% | $56.70 | 19 |
| Netflix | $26.76 | $1.30 | 21 | 4.85% | $21.85 | 17 |
| Oyo Geospace | $56.78 | $3.26 | 17 | 5.74% | $52.80 | 16 |
| Yamana Gold | $12.02 | $0.50 | 24 | 4.16% | $15.07 | 30 |
| 6.23% |
Overall, this table does not look that great as the portfolio is getting only a 6.23% cash return on the original cost of shares. There are some corporate bonds that may get close to this yield. However, bonds do not have the prospect of increasing (or decreasing, for that matter) earnings. Dawson is now returning over 13% on the initial investment per year. Growth has a serious impact on these returns. Ctrip has never been cheap, and the 4.64% return on cash does not look pretty. However, how many more years of 55% or even 35% earnings growth will it take for that number to look very attractive.I’ve also added the current price to owner earnings ratio to this table. It’s a glorified P/E ratio as it hopes to get at a more accurate measure of cash flow. Still, seeing this ratio compared to the original cost per owner earning ratio gives a sense of the current value point relative to the initial purchase.
In this time of volatile market quotations, this owner earnings table helps to remind me that I’m trying to purchase businesses that are well-managed and have good long-term prospects at a reasonable price. It is my hope that at the end of 10 years, the owner earnings per share will exceed the price I originally paid. In other words, the owner earnings as a percentage of price paid will exceed 100%. If this is the case, the market quotation for these businesses will most certainly be much higher than they are today.
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