You may assume that a faster-growing business always deserves a premium valuation but that’s not always the case. Growth is not the only criterion that determines valuation. The cost of growth matters just as much. In this article, I will explore four things: (I) Why growth is not the only factor that determines value
(II) Why companies with high returns on retained capital deserve a higher valuation
(III) How much we should pay for a business by looking at its reinvestment opportunities and returns on retained capital
(IV) Two real-life companies that have generated tremendous returns for shareholders based on high returns on retained capital To explain why returns on retained capital matter, let’s examine a simple example. Companies A and B both earn $1 per share in the upcoming year. Company A doesn’t reinvest its earnings. Instead, it gives its profits back to shareholders in the form of dividends. Company B, on the...