Why competitive advantages matter using IRR

[collegeinvestor]

IRR is how people get wealthy. Take a look at this:

 

If you calculate the payback factor= investment/net annual cash flows then you get a figure. (usually positive)

 

As a result if you can get annual cash flows as long as possible your cost of the investment is less and less substantial.

 

If you take a look at the formula to calculate IRR you get...... DPV of cash flow * yearly net cash flow - investment = 0

 

If you can attain net annual cash flows for as long as possible you need to discount these yearly cash flows more and more in order to get these two figures to equal. Discounting these values turns out to equal the interest yield you are returning on your investment.

 

This is how I feel like Charlie Munger thinks. So if you think about all the business out there first they have to 1) generate cash and 2) need to be able to do it for a long period of time. This is how people get rich. First you need to find businesses that can generate this cash (which is hard) and then you need to figure out which ones can do it for a long period of time (even harder). Most of these businesses, if you find one, have a very large investment, almost negating these very good qualities.

 

Maybe I had an epiphany here or maybe this is just simple logic.

[woodstove]

Hi Collegeinvestor... about how Charlie Munger thinks ... this may help.

 

http://boards.fool.com/Message.asp?mid=12539934

 

The author "ctm" may or may not be the "real" Charlie Munger.  And in any case, the author was talking about how Warren Buffett thinks, not how Charlie Munger thinks.  Nonetheless, a print of this particular post is the #1 paper in my stockpicking ideas folder.  Who cares who actually wrote it, if the idea has merit?