Buffett and Munger do discounted cash flow (owner earnings) calculations in their head - never on paper or computer
When asked at the Annual Meeting in May 1996 for detail on his discounting method, for example, how many future years does he extend the calculation to, Buffett explained that, yes, the discounted owner earnings is the framework at the heart of investing or buying businesses, but, no, there are no written down calculations at Berkshire with cut-off dates for calculating what is called in “the terminal value”.
He said that though the equation is simple and direct “we’ve never actually sat down and written out a set of numbers to relate that equation. We do it in our heads, in a way, obviously. I mean, that’s what it’s all about. But there is no piece of paper. There never was a piece of paper that shows what our calculation on Helzberg’s or See’s Candy or The Buffalo News was, in that respect.”
Buffett and Munger fear that people get hung up on the illusory appearance of “scientific” quality when using apparently sophisticated numerical analysis. In reality, inputs to the formula are of an imprecise nature.
What you need are good ballpark estimates after taking on board the all-important qualitative factors that create shareholder value (quality of franchise and management).
“We are sitting in the office thinking about that question with each business or each investment. And we have discount rates, in a general way, in mind. But we really like the decision to be obvious enough to us that it doesn’t require making a detailed calculation. It’s the frame
Prof. Glen Arnold
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