What is a Net Net Stock? First, if you don’t know who Benjamin Graham is we need to introduce him to you. He was the godfather of what is now called Value Investing. Ben Graham was an interesting dude who began his trading style in the depression.

He was a mentor of a guy you have probably heard of: Warren Buffett. Graham wrote two very important investment books. Security Analysis and The Intelligent Investor. The later of the two Buffett called the best book on investing ever written. Security Analysis is one of those books that stills sells a lot of copies to this day. It is the kind of book pretend they have read, but haven’t.  I am not dismissing Graham. His ideas are just as profitable today, his writing style is just dense.

In the simplest terms a Net Net, or Net Current Asset Value stock as it is more properly called, is a stock whose valuation comes from its assets rather than future growth prospects. On the Balance sheet, Assets and Liabilities are divided into two forms, Current and Long Term. Current Assets are supposed to be relatively liquid, like cash or short term securities, inventory, etc. Anything that can be used within a year. Long term Assets include Plant and Property, Real Estate, and long term securities. Long term assets are assets that may take more than a year to extract value from. Liabilities are broken down in a similar way. Any liability that is expected to be dealt with in the next year is a Current Liability, more than a year, a long term Liability.  Net Current Asset value stocks have more CURRENT assets than ALL Liabilities. That is one can pay off all the Liabilities with the short term more liquid assets, ignoring the long term assets completely.

Old Ben Graham had many important ideas that Buffett has continued to propagate. For the conversation today what is important is Graham’s concept of “Margin of Safety.” A Margin of Safety can be had when the price of a security (stock) is below the “Intrinsic Value” of that stock. For example, if someone offered to sell a 1 oz. gold bullion coin  to you for $600 that would create a margin of safety for you with respect to gold bullion. The price of Gold closed at over $960 leaving you with a margin of safety of $360. If the price of gold dropped tomorrow you would not lose money. The margin of safety gives you room to maneuver if your investment goes south. This is a little simple, but hopefully you get the idea.

Graham took his concept of Margin of Safety and devised an investing system where he looked for companies that seemed to be out of favor. Ben G. would take this Net Current Asset Value and discount it by about a third to get his margin of error. And a whole new way of valuing companies was born.

Net Net or NCAV (Net Current Asset Value) is not the same as liquidation value although some persons use it as a proxy. We will examine in closer detail how one can discover these Net Net stocks and what to be wary of, in a future post.

2 Responses to “What is a Net Net Stock?”

1. andrew
   December 8th, 2009 @ 7:16 pm

   Hi, are you aware of where Graham first used the term net-net stock (or indeed whether he did) or whetheer the term has evolved around his concept? I can’t find reference to it in either Intelligent Investor or Security Analysis even though I thought it was suppposed to be in there – the concept is definitely outlined there just not the term.

2. chroma
   December 8th, 2009 @ 9:17 pm

   Andrew,
   Thanks for stopping by. I am not sure if Ben Graham referred to them as Net Nets.
   I think he would have referred to them as Net Current Asset Value stocks (NCAV) which is what
   Net Net is short for. On page 169 of the Intelligent Investor he says,

   “The type of bargain issue that can be most readily identified is a
   common stock that sells for less than the company’s net working
   capital alone, after deducting all prior obligations.* This would
   mean that the buyer would pay nothing at all for the fixed assets—
   buildings, machinery, etc., or any good-will items that might exist.
   Very few companies turn out to have an ultimate value less than
   the working capital alone, although scattered instances may be
   found. The surprising thing, rather, is that there have been so many
   enterprises obtainable which have been valued in the market on
   this bargain basis. A compilation made in 1957, when the market’s
   level was by no means low, disclosed about 150 of such common
   stocks. In Table 7-4 we summarize the result of buying, on December
   31, 1957, one share of each of the 85 companies in that list for
   which data appeared in Standard & Poor’s Monthly Stock Guide,
   and holding them for two years.
   By something of a coincidence, each of the groups advanced in
   the two years to somewhere in the neighborhood of the aggregate
   net-current-asset value. The gain for the entire “portfolio” in that
   period was 75%, against 50% for Standard & Poor’s 425 industrials.”

   In his commentary on Chapter 7 of the Intellignet Investor Jason Zweig refers to Net Nets
   as what Graham’s followers describe as Net working capital (which Graham equated with NCAV)

   I hope that helps.

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