The 5-to-1 ratio is a fascinating constraint. I am curious about the specific methodology used to quantify that floor. Is it strictly tangible book value, or does he factor in the probability of permanent impairment?
Great spot on the 5-to-1. It’s the hidden engine of his track record.
To answer your question: No, it is not strictly tangible book value. Van Den Berg considers 'Tangible Book' to be a liquidation metric, whereas his method is based on Private Market Value (PMV)—an acquisition metric.
His 'Floor' calculation is tripartite:
PMV (The True Floor): He asks, 'What would a rational businessman pay for the entire company today?' This includes cash flows and intangibles, usually resulting in a value higher than stated book value.
The 5-to-1 Upside: He specifically targets a reward-to-risk ratio where he sees $5 of upside for every $1 of downside risk. He finds that blue chips rarely offer better than 3-to-1, so this constraint forces him into neglected sectors where the pricing is visibly broken.
Impairment Probability: He absolutely factors this in, but he solves for it via Balance Sheet Strength rather than price alone. He calls them 'Financial Fortresses' (low debt, high interest coverage). If a company has zero debt, the probability of permanent impairment (bankruptcy) is near zero, even if the stock price remains depressed for years.
In short: The 'Book' is the accounting reality, but the 'PMV' is the business reality. He buys the latter when it’s priced like the former.
You hit on the exact reason I wanted to write about him. Most investing resources teach you how to read a balance sheet, but almost none teach you how to read your own nervous system. As you said, the math is easy; the stomach is hard.
The 5-to-1 ratio is a fascinating constraint. I am curious about the specific methodology used to quantify that floor. Is it strictly tangible book value, or does he factor in the probability of permanent impairment?
Great spot on the 5-to-1. It’s the hidden engine of his track record.
To answer your question: No, it is not strictly tangible book value. Van Den Berg considers 'Tangible Book' to be a liquidation metric, whereas his method is based on Private Market Value (PMV)—an acquisition metric.
His 'Floor' calculation is tripartite:
PMV (The True Floor): He asks, 'What would a rational businessman pay for the entire company today?' This includes cash flows and intangibles, usually resulting in a value higher than stated book value.
The 5-to-1 Upside: He specifically targets a reward-to-risk ratio where he sees $5 of upside for every $1 of downside risk. He finds that blue chips rarely offer better than 3-to-1, so this constraint forces him into neglected sectors where the pricing is visibly broken.
Impairment Probability: He absolutely factors this in, but he solves for it via Balance Sheet Strength rather than price alone. He calls them 'Financial Fortresses' (low debt, high interest coverage). If a company has zero debt, the probability of permanent impairment (bankruptcy) is near zero, even if the stock price remains depressed for years.
In short: The 'Book' is the accounting reality, but the 'PMV' is the business reality. He buys the latter when it’s priced like the former.
Many thanks!
You hit on the exact reason I wanted to write about him. Most investing resources teach you how to read a balance sheet, but almost none teach you how to read your own nervous system. As you said, the math is easy; the stomach is hard.
Thanks for the thoughtful comment.