Saturday, December 29, 2012

Fiscal Cliff, Sequestration and Low Income Earners

In response to my post The Fiscal Cliff and Sequestration: Good Personal Finance, a reader asked, "Have you looked at how this will affect the lower income workers?"  After doing some research, here's what I've concluded:

  • Government programs.  Little or no impact.   Most programs affecting lower income earners are exempt from the sequester, i.e. budget cuts. For details, see The Sequester Explained  by The Bipartisan Policy Center.  
  • Taxes.   Going up due mainly to elimination or reduction of tax credits, such as the child tax credit, increase in lowest tax bracket from 10-15%, a lower standard deduction and  the expiration of the payroll tax reduction.  However, as reported in What will happen when the Bush tax cuts run out, the higher tax increase will be on the higher income earners.  In addition, due to refundable tax credits, a number of lower income earners will continue to pay zero federal income tax and mainly see a lower refund.
Of course, YMMV.  The actual impact will depend on the specific situation of each taxpayer.

For more on Reflections and Musings, check back every Saturday for a new segment.
This is not financial or tax advice. Please consult a professional advisor.

Copyright © 2012 Achievement Catalyst, LLC

1 comment:


I find that the best indication of how undervalued a stock is is the price to sales ratio or what is commonly referred to as market cap.

Simply stated. If a company does 1 billion in annual sales but it has a market cap of 100 million dollars than the price to sales ratio is ten to one. In other words the market is valuing a company that does 1 billion dollars in annual sales at just 100 million dollars. But what does this mean. It means everything if you are a classic value investor.

Here is a perfect example of why the price to sales ratio is so very important if you are a value investor in stocks. If our 1 billion dollar company is breaking even that is they are not making a profit nor losing money. Lets say the company has 250 millon dollars in long term debt and 80 million dollars in cash. We will say they are in the food business they make a wide aray of food products. Maybe the company did a buyout of another company a few years ago that did not work out as well as expected. So thats why the company is having trouble making a profit but things now seem to be moving in the right direction. If I purchase shares in the company for say 10 dollars. And over a five year period the company improves their earnings performance to the point where their now earning say 60 million dollars on sales of one billion two hundred million dollars. Thats a profit margain of 5%. If the stock were to now trade at twenty times earnings that would now mean that the price of the stock would be at 120 dollars a share or another way to put it the marketcap is now one billion two hundred million instead of 100 million.

The problem for me is not that this investment method is not effective it works great. I purchased seaboard stock back in 2000. I think it was for 190 dollars a share around that. I following the exact method I describe above. I sold my shares about five years later for 2500 dollars yes thats correct 2500 dollars or more than twelve times what I paid for the shares. Seaboard was profitable when I bought it and profitable when I sold it. The stock was just a great undervalued stock that was overlooked by investors.

Like I was saying before the problem is not with this investment method. Its that stocks like seaboard are very rare indeed theirs just not a whole lot of quality companies out their selling a very low price to sales ratios. Another issue that I have been having is when a company of decent quality trades at a very low price to sales ratio its not long before a private equity firm or the family of a family owned company takes notice and usually makes a low bid for the shares and takes the company private preventing me from realizing the enormous gains that mght have been possible had I not been forced to sell my shares out to a party that was making a very unfairly low offer for the shares of the company.

Another thing to keep in mind when it comes to value stocks that have a low price to sales ratio that could give the buyer a tremendous advantage is this.

I mentioned earlier that are food company had 80 million dollars of cash on their balance sheet now if the company choose to they could buy back a large chunk of their stock maybe 30 million dollars worth of the shares outstanding it would only cost them 30 million dollars they still would have 50 million dollars of cash left on their balance sheet. This means that under the positive earnings outlook for the company the stock price could even be much higher than 120 dollars a share. If the company were to retire a large percentage of their exsisting shares in a stock buyback.