I tried that for current Intel financials and found that maintenence capex is only 40% of stated amort and dep. Bruce really takes very conservative numbers hence conservative valuations.

But I saw that if I do the same for Conoco Philips and take a 20% of Amort and dep and let the rest take care of maintenance capex, then my valuations fall in line with DCF(not exactly when I use WAAC; but when I take the bruce and buffett way of calculating discount rates) and graham number valuations.

Would you please put some further light on this?

Thanks
A curious investor
Prashant Sharma

Jacob say use GROSS PPE – “You can calculate maintenance CAPEX by:
Calculate the Average Gross Property Plant and Equipment (PPE)/ sales ratio over 7 years”
Link http://myvalueidea.blogspot.com/2007/12/valuation-technique-earning-power-value.html

Yet, in your calculation, you are using PPE right???

Has this problem been resolved on another thread?

What is your latest thinking on this issue?

Simon

What I was getting at with regards to capex affecting output is that if machines are not maintained then they are likely to have increased downtime, which will likely reduce output.
As sales revenue = units sold x price, and units sold is a function of output, then capex should affect production.

Possibly a better way of putting it is if capex was reduced to 0, there would definitely be an effect on output (particularly on max capacity)

So where possible, increases in output (or a suitable proxy) should be used as opposed to increases in sales. Especially when companies are price takers…

That’s my feeling to. Just wanted to see what others thought. Thanks for your input.
.-= Jim´s last blog ..Asta Funding – Postion Exited & Analysis =-.

Reason being, in a cyclical environment companies reduce capex and it goes up in later years. So the norm would most like be that 5yr averaged number.

Besides, the point of averaging is to try and eliminate the effect of any cycles so if I can get a better picture of the company at normalized capex levels, it should be a more accurate valuation.

Bruce Greenwald: “We calculate the ratio of PPE to sales for each of the five prior years and find the average. We then multiply this ratio (the average) by the growth (or decrease) in sales dollars the company has achieved in the current year.”

Warren Buffett states:

“These represent (a) reported earnings plus (b) depreciation, depletion, amortization, and certain other non-cash charges…less (c) the average annual amount of capitalized expenditures for plant and equipment, etc. that the business requires to fully maintain its long-term competitive position and its unit volume….Our owner-earnings equation does not yield the deceptively precise figures provided by GAAP, since (c) must be a guess – and one sometimes very difficult to make.”

Therefore, it would seem to me that Warren is describing a similar process as Bruce Greenwald describes. It also further reveals that Warren is interested in knowing the value of a business today assuming no growth.

My question to this board is, and currently I’m still exploring maintenance capex so I haven’t formed an opinion yet, would it make sense in averaging the conclusion you come to regarding maintenance capex over a period of, say, 5 years? For example:

Bruce says to find the previous 5 year average of PPE/Sales and apply that average as your factor against the current years increase or (decrease) in net sales. After doing so, does anyone think it would make sense that the resulting information (growth capex) be removed from a cyclically adjusted capex? I notice that most of the posts and examples here have proposed to remove growth capex from that year’s stated capex but to me, and so far its just an untested thought, would be to remove the averaged growth capex from a cyclically adjusted (averaged) capex that is stated for book purposes.

Any thoughts?

Thanks for taking the time to comment.

I’m not sure I agree with your view that capex affects output. Growth capex, yes, which eventually leads to increased sales. But maintenance capex does not affect the output at all.

I questioned Greenwald’s method of calculating maintenance capex a very long time, but I do see the logic and from everything I’ve considered, it is the best method so far, but still flawed in some areas.

Since capex directly affects output rather than sales (a company may not be able to shift the additional outpu) would it not be better to use sales and increases in inventory (as a proxy for total increase in production)?

Also if information on the unit amount of production is available (as travis suggested for COP) this should provide a more appropriate figure.

Great blog by the way.

Now I got to find Mr Greenwald’s email and ask him these questions.

You would also think that there would be someone, even among the pros and famous managers that would talk about this.. From what I’m experiencing, even the best value investor managers may not even calculate maintenance and growth capex.

Great idea to email Bruce. Let me know if you do and hear back.

Regarding this CapEx issue it’s definitely a tough one to get my head around. The way I see it just do what makes most logical sense for the situation (until you hear from Bruce of course!). If you get a negative number then that obviously doesn’t make sense as companies can never go with zero nevermind earning money on their maintenance capex. If the number is positive and within reasonable range of depreciation then I’d go with the zero growth capex number as it does make sense intuitively to use change in sales to ppe/sales as a proxy for the extra capex required to support the additional sales.

Now one other issue I realized that we haven’t discussed yet is the issue of a negative GROWTH capex number. This would happen when the company’s revenue decreases. This does not make intutive sense as by subtracting this negative number from current capex we are imlying that if the company maintained its level of sales it would have a greater level of capex than it does in a year of decreasing sales. I would think that a year of decreasing sales and a year of flat sales should have the same capex and it would make sense that this is by definition mainentance capex. So in either of these situations I would just use that years capex as the zero growth capex number.

Would love to hear your thoughts.
.-= Jonathan Goldberg´s last blog ..Position Update – TSE:BUI =-.

It’s also a shame that there is only a handful of websites or blogs that discuss EPV. So far I only know of you, my Value Idea and me..

Regarding the negative aspect… I’m not too sure. I usually just let it be a negative in my model so that I am evaluating on a consistent basis.

I would be interested in reading more information about this to really lay out the logic behind it as well as solidify any possible modifications. I don’t know anywhere else this is discussed besides Greenwald’s book however.

If you do any more on this please let me know! jgoldberg@rogers.com
.-= Jonathan Goldberg´s last blog ..Lecture Summary – Francis Chou =-.

Even if a company loses money in a given year or does worse than the previous year, the company obviously has spent money related to growth capex.

When you multiply PPE/sales to the changes in sales from the previous year, the resulting number does not equal growth capex. Capex is what goes out, sales is what comes in, and by multiplying to sales, Bruce seems to be using an income figure to say it is an expenditure. Just doesn’t make sense how it can be used as growth capex.

So as you mentioned, if PPE/sales shows the level of PPE required to support a given level of sales, multiply PPE/sales to capex in order to get maintenance capex rather than growth capex.

After going through several companies, it seems to work out better because since PPE/sales is always less than 1, it which means I’m not getting negative maintenance capex as I do when I use Greenwald’s method.

What do you think?

PPE/Sales shows the level of PPE that is required to support a given level of sales. By multiplying this by the increase in sales we are finding “Growth CapEx” which is the CapEx that is being used to support the extra sales.

Actual CapEx is made up of “Growth CapEx” and “Replacement CapEx” – so by subtracting growth capex from current year’s capex we are left with replacement capex.

Replacement CapEx is what we want to use in our calculation of EPV as we are using “no growth” cashflows to find EPV.
.-= Jonathan Goldberg´s last blog ..Lecture Summary – Francis Chou =-.

From what I see, the calculation essentially takes away a sales figure from capex. So to me it seems like I am taking an apple and trying to subtract it with an orange.

Great article btw.
.-= Jonathan Goldberg´s last blog ..Lecture Summary – Francis Chou =-.