Inside today’s Daily Journal…

In the spring of 1972, Morgan Stanley portfolio manager John Bristol sat in a wood-paneled conference room on Sixth Avenue in Manhattan and made a decision that, three years later, would cost his clients nearly half of everything they had given him to protect.

He bought shares of Polaroid at 91x earnings.

It wasn’t recklessness. It wasn’t even ignorance. It was, by the standards of Wall Street in 1972, considered sophisticated thinking.

The logic went like this: certain American companies – Coca-Cola (KO), Xerox (XRX), Avon Products (then AVP), Johnson & Johnson (JNJ) – were so dominant, so reliably profitable, so structurally irreplaceable, that the normal rules of valuation simply did not apply to them. You didn’t ask whether the price was right. You asked whether you owned them. These were the Nifty Fifty, and on Wall Street, they were considered as close to a sure thing as the market had ever produced.

Fund managers bought them at 50x earnings. Then 80x. Then 90x.

The analysts who raised their hands and asked uncomfortable questions about price were quietly dismissed. One well-circulated piece of institutional research from the era put it plainly: these companies were so superior that they represented a “one-decision” investment. Buy them. Then do nothing. Forever.

It was the most expensive piece of research Wall Street ever produced.

When President Richard Nixon’s inflation crisis hit in 1973, the Nifty Fifty didn’t just decline. They were dismantled. Polaroid fell 91%. Avon dropped 86%. The great “one-decision” stocks that institutional America had decided could never be overpriced turned out to be among the most overpriced assets in the history of the New York Stock Exchange.

The investors who lost fortunes weren’t fools. They had correctly identified great businesses. Coca-Cola really was irreplaceable. Johnson & Johnson really did have durable competitive advantages. Their analysis of business quality was almost perfectly right.

Their crime was simpler than that: they had no number.

They had no price above which they would not buy. No ceiling. No framework for translating the undeniable quality of these businesses into a rational entry point. They treated “great company” as a synonym for “buy at any price” – and the market taught them, painfully, that those two things have never been the same.

That lesson – that even the finest business in the world can destroy your wealth if you overpay for it – is the foundation of everything we do when we calculate a “buy up to” price for our recommendations.

We are not in the business of finding mediocre companies at cheap prices. We are in the business of finding exceptional businesses – companies with high returns on equity and durable growth – and then doing the one thing the Nifty Fifty investors neglected to do.

We give ourselves a number.

This week we are revising “buy up to” prices for the entire Complete Investor recommended list – using a rigorous new equity-pricing model and using the latest data from each company’s quarterly earnings report.

The intrinsic value of any business is created by its earnings quality and its earnings growth rate. Seems simple enough, but there are many ways of objectively measuring business quality and earnings growth.