Richard Beddard

Richard is companies editor of Interactive Investor and a columnist at Money Observer magazine. A keen private investor through his Self Invested Personal Pension, he manages two virtual portfolios. The Share Sleuth portfolio is a hand-picked collection of mostly small-cap value shares, while the Nifty Thrifty is a mechanical portfolio designed to pick large, successful companies at cheap prices.

Seven shares for the future

Seven shares for the future

Rising share prices have shrunk the number of companies recommended by Richard Beddard's Decision Engine to just seven.

Next shares are a 'tough hold'

Next shares are a 'tough hold'

If Next's retail business recovers its shares are currently good value, argues companies analyst Richard Beddard. But there's a problem.

New share added to this outperforming portfolio

New share added to this outperforming portfolio

After much pontification, companies analyst Richard Beddard has a new addition to his portfolio, but what's he bought and which share did he sell to pay for it?

Why I'd like to invest in Anpario shares

Why I'd like to invest in Anpario shares

Despite seeing potential in this AIM share, companies analyst Richard Beddard says they're not cheap. Will he buy them?

Share Sleuth: A valuation measure investors can trust

Share Sleuth: A valuation measure investors can trust
Look at the whole business, including debt, for a clearer view of valuation, advises Richard Beddard.
In my last column(http://www.moneyobserver.com/our-analysis/share-sleuth-valuation-measure-investors-can-trust) I explained how I judge whether a share is overvalued or undervalued. The basic earnings yield calculation I described is earnings (profit for the most recent financial year) divided by market capitalisation (the price of all the shares with a claim on the profit) and expressed as a percentage.
It's a measure of return on investment, and the reciprocal of the venerable price earnings ratio (price divided by earnings). If the earnings yield is, say, 5 %, we're paying more than 20 times earnings for the shares, too much for all but the very best fi rms. While good companies are likely to grow and over time yield more, there are limits to how much it is wise to pay. I don't use this simple version of the earnings yield though; my version accounts for how companies are financed.
Companies are financed in different ways -some have debt while others do not, some lease their premises or equipment (which is a kind of borrowing) and others own them outright, and some have not paid sufficient money into their pension schemes to meet their obligations, which means they have run up a debt to current and past employees.
Rather than use a company's market capitalisation, which only measures the market value of the firm's equity, I add all these forms of debt to the market capitalisation, to produce a figure known as enterprise value. It's a measure of the value of the whole business, in the same way as the market value of a £500,000 house is the value of the equity : the £100,000, say, of your own money used to purchase it, and the £400,000 you borrowed when you mortgaged the property.
Since we have changed the denominator of the earnings yield calculation to include all the debt in the market value, or price, of the company (as though we are paying it off), we do not include the cost of that debt (i.e. the interest) in the numerator, profit. The adjusted profit measure is expressed as a percentage of the enterprise value to calculate the earnings yield.
Why value the whole business, rather than just the equity component?  
When you buy shares, you buy the right to a proportionate share in the profit the enterprise subsequently earns. The profit is generated by the whole business, including those parts financed by debt. But debt distorts the returns on our investment as measured by the standard earnings yield calculation in two ways: it reduces the profit (the return) by the interest cost, and it reduces the investment (market value of equity) because a company relying on debt funding requires less equity funding.
Since the value of equity (market capitalisation) and profit determine the standard earnings yield and p/e ratio, the company's valuation is determined partly by how it's financed. But if a company were to change the way it's financed, we wouldn't expect the value of the firm or of the shares we own in it to change, any more than we'd expect the value of a house to rise just because we remortgaged.
By incorporating the value of debt into the purchase price of the company and ignoring the interest component of profit, we calculate a debt-free valuation as though we'd bought the company outright. It puts firms with differing amounts of debt on a more equal footing. It's better for us as long-term investors to base our valuations on the returns we might expect from the business itself, rather than arbitrary levels of leverage.
If that sounds complicated, you needn't worry much. Stick to companies that do not have much debt and the standard earnings yield or price/earnings ratio is a reasonable guide to valuation. If you prefer to value the enterprise and not just the equity, you can cheat. Software providers such as SharePad calculate 'Ebit' yields, a version of my earnings yield.
This article was originally published in our sister magazine Money Observer. Click here to subscribe.
This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Look at the whole business, including debt, for a clearer view of valuation, advises Richard Beddard.

Portmeirion in three-way scrap for place on this 'buy list'

 Portmeirion in three-way scrap for place on this 'buy list'

There's plenty to encourage long-term investors to hold Portmeirion shares through thick and thin, but will companies analyst Richard Beddard add them to his portfolio?

Why Howdens is on this 'buy list'

Why Howdens is on this 'buy list'

He's seriously tempted to buy this excellent business, but is companies analyst Richard Beddard about to cave in?

13 shares for the future

13 shares for the future

There are two new companies added to analyst Richard Beddard's list of top-ranked shares, which is now powered by sigmoid curves!

Judges Scientific: A miniaturised Berkshire Hathaway

Judges Scientific: A miniaturised Berkshire Hathaway

This gaggle of 13 businesses is a profitable mini-conglomerate, but do the shares make companies analyst Richard Beddard's Share Sleuth portfolio?

Here's what'll haul Quartix shares into the 'buy' zone

Here's what'll haul Quartix shares into the 'buy' zone

Companies analyst Richard Beddard thinks the odds are heavily in favour of this company living long, and prospering. The heart says yes, but what about the head?

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