Yes, it is! Indeed the Everest Formula can be considered an evolution of Joel Greenblatt’s Magic Formula. With a similar approach, it has outperformed both the Magic Formula and the S&P500, especially over the last decade.

The main differences are:

• The Magic Formula uses a fixed minimum Market Cap, whereas the Everest Formula uses a dynamic Market Cap based on the current market condition.
• The Magic Formula uses quality and valuation metrics to rank the stocks, whereas the Everest Formula uses quality metrics to filter and valuation metrics to rank. We believe that once a company has been identified as good, the valuation part is the most critical element.
• Magic Formula uses Ebit/EV as the most important valuation metric, whereas Everest Formula uses FCF/EV. This is because we believe that FCF/EV is a better metric to value a company. For more details, see below.

We can guarantee that the formula worked extremely well across the past 20 years (see the results here), but we cannot guarantee that the formula will work in the future. Indeed, as in any investment, past performance is no guarantee of future results, and no strategy can always guarantee investment success.

Anyway, we firmly believe that selecting good businesses at a fair price will always be a good investment strategy. As Ben Graham and Warren Buffet used to say, “In the short run, the market is a voting machine, but in the long run, it is a weighing machine.”. While in the short run undervalued companies can remain out of sight, in the long run Mr.Market always correct itself and assign the right value to assets.

As Investopedia says, the Free Cash Flow Yield is “The best fundamental indicator”. Dividing the free cash flow that a company generates by its value, we get the best measure of its performance.

Investors are interested in the company’s cash in its bank accounts, as these numbers show the truth of a company’s performance. It is more challenging to hide financial misdeeds and management adjustments in the cash flow statement.
Cash flow is the measure of money into and out of a company’s bank accounts. Free cash flow, a subset of cash flow, is the amount of cash left over after the company has paid all its expenses and capital expenditures (funds reinvested into the company).

When free cash flow is positive, it indicates the company is generating more cash than is used to run the business and reinvest to grow it. Therefore, it’s fully capable of supporting itself, and there is plenty of potential for further growth.

Free cash flow is similar to earnings for a company without the more arbitrary adjustments made in the income statement. For this reason, FCF/EV is a more reliable indicator than the PE Ratio.

Return on tangible capital employed is measured by calculating the ratio of pretax operating earnings (EBIT) to tangible capital employed (Net Working Capital + Net Fixed Assets).

This ratio is used rather than the more commonly used ratios of return on equity (ROE, earnings/equity) or return on assets (ROA, earnings/assets) for several reasons.

EBIT (or earnings before interest and taxes) is used in place of reported earnings because companies operate with different debt levels and tax rates. Using operating earnings before interest and taxes, or EBIT, allow us to view and compare the operating profits of different companies without the distortions arising from differences in tax rates and debt levels. For each company, it is then possible to compare actual earnings from operations (EBIT) to the cost of the assets used to produce those earnings (tangible capital employed). 

Net Working Capital + Net Fixed Assets (or tangible capital employed) is used in place of total assets (used in the ROA calculation) or equity (used in the ROE calculation). The idea here is to figure out how much capital is needed to conduct the company’s business. Net working capital is used because a company has to fund its receivables and inventory (excess cash not required to run the business is excluded from this calculation) but does not have to lay out money for its payables, as these are effectively an interest-free loan (short-term interest-bearing debt is excluded from current liabilities for this calculation). In addition to working capital requirements, a company must also fund the purchase of fixed assets necessary to conduct its business, such as real estate, plant, and equipment. The depreciated net cost of these fixed assets is then added to the net working capital requirements already calculated to arrive at an estimated tangible capital employed.

NOTE: Intangible assets were excluded from the tangible capital employed calculations. Goodwill usually arises as a result of an acquisition of another company. The cost of an acquisition in excess of the tangible assets acquired is typically assigned to a goodwill account. To conduct its future business, the acquiring company usually only has to replace tangible assets, such as plant and equipment. Goodwill is a historical cost that does not have to be constantly replaced. Therefore, in most cases, the return on tangible capital alone (excluding goodwill) will be a more accurate reflection of a business’s return on capital going forward. The ROE and ROA calculations used by many investment analysts are often distorted by ignoring the difference between reported equity and assets and tangible equity and assets, in addition to distortions due to differing tax rates and debt levels.