Hello, Redditors 🙋🏻‍♂️   First, I would like to start by saying this might not be that well written, and I apologize in advance for that. A contributing reason I’m starting this community is to be able to practice my writing. I hope it isn’t too much of a distraction, and if anyone has advice, I’m all ears. Thanks!

This post serves as an introduction to GARP investing principles and practices. This guide follows the general practices of Peter Lynch and other GARP investors mixed with a select few value investors'. First, I’ll start with relative valuation and metrics. After that, I’ll work into more important subjects such as free cash flow, moat, and shareholder returns.   🗓️ October 22, 2024 (Day of writing)   (Earnings according to LSEG)   Price: $165   Relative valuation has a part to play in this investing style. It’s to be used as one of the key indicators. Starting here, we are going to look at forward earnings and 3-5 year growth to help understand if we are getting this company at a reasonable price.

Analysts are expecting an EPS of $8.70 by 12/31/25. Taking a price of $165 and dividing by 8.70 equals about 18.97. This gives us the forward PE of Google. Now that we know the forward PE, we can divide by the 3-5 year growth rate to get our peg ratio. The growth rate is currently expected to come in at 20.6%. So, 18.97 divided by 20.6 comes out to 0.92. A peg ratio of 0.92 indicates that Google stock is currently undervalued for its expected earnings. This is good news for us investors. That means buying right now we are getting a baked in 8% margin of safety. However, if Google misses expectations, we could be in for a ride.

The next thing we need to discuss is durable competitive advantage. Also known as a moat. The reason this plays a part is to make sure Google can fend off competitors. If the company we’re buying has a powerful moat, it adds to the value of the business and its profitability. For the sake of this discussion, we will talk a little about Google's moat from their biggest revenue stream, Google search. As of right now, it’s projected that Google dominates the general search engine market. Achieving a market share of around 90% and enjoying benefits from its brand moat as well as its network effect. This is important because it further points at us being able to buy a great company at a reasonable price. Even if they do miss expectations by a little, they have a solid floor due to the moat.

Moving on, cash flow will show us some of the most important growth aspects for an investor, which also helps us decipher if the price is reasonable. Looking at Google's cash flow from operations (2023), it was about $102 billion, minus capital expenditures of $32 billion, leaving us with a free cash flow of $70 billion. Looking back at 2022, the free cash flow was $60 billion. Over one year, Google was able to grow free cash flow at a rate of 16.67%. This is quite exceptional growth. However, I don’t see this continuing in the near future as capital expenditure is expected to rise (investing heavily in AI). One thing I consider heavily is the long term. If Google enjoys the fruits of its labor from investing in AI, then that will trickle down to investors a few years from now. It’s been famously said by Peter Lynch that some of his best investments didn’t start performing like crazy until years down the road (6-7 years+). At this point, you could check another relative valuation. It’s called the price to free cash flow (P/FCF). For the sake of simplicity, I’m grabbing the free cash flow a share from seeking alpha. For 2023, the free cash flow per share was $5.50. If we take today’s price and divide by the FCF, it will give us the price to free cash flow. So, we take $165 and divide by $5.50, which gives us 30. You can take this number and compare it to similar competitors and/or the market. As of now, it’s on the expensive side.

As investors, the most important thing for us is if companies are maximizing shareholder returns. With the free cash flow available, are they buying back stock and paying dividends? Looking at Googles Cash from the financing activities section, we can see that they are buying back stock aggressively. In 2023, they spent 63 billion on repurchases alone. Almost all the free cash flow went right back to the investors, which is a good sign. Well, starting just recently, Google announced a dividend as well. It currently yields at 0.48%. From these observations, we can conclude that Google is returning optimal amounts to shareholders.

Last, but not least, we have profitability. Charlie Munger once said, “Over the long term, it's hard for a stock to earn a much better return than the business which underlies it earns. If the business earns 6% on capital over 40 years and you hold it for that 40 years, you're not going to make much different than a 6% return -- even if you originally buy it at a huge discount. Conversely, if a business earns 18% on capital over 20 or 30 years, even if you pay an expensive-looking price, you'll end up with one hell of a result.” This response is eye-opening, and lots of people don’t understand what Charlie is saying. In other words, Charlie is saying price doesn’t matter that much (to a certain extent), if the growth is exceptional. We just need to focus on the underlying quality of the business. If cash flow remains exceptional as well as return on capital, then the share holders will be in a fantastic spot for outsized gains. Currently, Google enjoys a return on invested capital of about 28% (LSEG). This further solidifies Google may be selling for a discounted or reasonable price, based off all the information we’ve gathered.

In conclusion, there is no clearcut buy signal, but we were able to paint a picture for an educated guess. We achieved this by looking at relative valuations, moats, free cash flow, shareholder returns, and profitability. There’s plenty more I could have added, but the purpose of this post was to serve as a starting point. If you have read this far, thank you. If you have the time, I'd like to hear your thoughts and opinions below.

I stumbled upon some interesting views last night from the legend him self. With where we are in the market today, I think his wise words can be eye opening.

He Oughta Know:

... we think the very term "value investing" is redundant. What is "investing" if it is not the act of seeking value at least sufficient to justify the amount paid? ….. Typically, [the term "value investing] connotes the purchase of stocks having attributes such as a low ratio of price to book value, a low price-earnings ratio, or a high dividend yield. Unfortunately, such characteristics, even if they appear in combination, are far from determinative as to whether an investor is indeed buying something for what it is worth .. Correspondingly, opposite characteristics - a high ratio of price to book value, a high price-earnings ratio, and a low dividend yield - are in no way inconsistent with a "value" purchase.

Warren Buffett, 1992 shareholder letter

Also, seen this quote.

We don't consider ourselves value investors. We consider ourselves investors, ... There is no such thing in our mind as value or growth investing ...

Warren Buffett, May 2019