Would Benjamin Graham buy Birner Dental Management Services (BDMS)? No. But I would.
Birner’s tangible book value is negative. Not a problem for Warren Buffett. But a huge problem for Benjamin Graham.
I like tangible assets. But I like cash earnings more. Birner’s 10-year average real free cash flow per share (adjusted for the current share count) is $1.95. Slap a Shiller P/E of 15 on $1.95 and you get an intrinsic value of $29.25.
The stock trades at $16.75. Why?
The market is pricing the wrong earnings. Over the last 3 years, Birner averaged $1.11 per share in reported earnings. Free cash flow averaged $2.25 a share.
Birner is trading at a P/E of 8. Not 15. Why?
Some states ban corporations from buying dentist offices. So instead of buying dentist offices, Birner signs 40-year management contracts. The company amortizes the contracts over 25 years. This accounting fiction subtracts $1.33 a share in earnings from Birner’s income statement. It does nothing to free cash flow.
Buying dentist offices for 8 times cash earnings is a good deal. What makes buying Birner a great deal is what Birner does with the cash. It pays dividends and buys back stock. The dividend yield is 4.78%. Birner bought back stock in each of the last 10 years.
If you buy Birner at $16.75 a share, you could get 50% of your purchase price returned in dividends and buybacks in 5 years.
That’s not a promise. It’s a guess. Just like accrual earnings.