Important point whilst buying stocks
Important point whilst buying stocks
Fundamental Analysis Strength:
To determine how well a business operates in its sector.
We need to know how it manages its cash, organizes its
balance sheet and how well it is run. Understanding the
sector or sectors in which a company operates is key to
determining strength.
The balance sheet of a manufacturer, for example,
is completely different from that of a bank. Gaining
this industry insight is difficult and requires detailed
understanding of capital structure requirements.
Returns:
A strong business works its cash reserves / capital
and equity as hard as possible to maximize value. An
investor should expect investments to generate returns
that significantly beat the rate of interest offered by the
bank.
If the management team has borrowed money, this
should generate sufficient returns to cover debts and
repayments -> as well as reasonable returns for the
business itself -> of around 25% ideally.Intrinsic Value
We take a very unique view of balance sheets. We strip
away anything intangible or shady such as accruals
and add charges that we believe are missing, such as
amortization writing down intangible assets. Soft assets
such as patents and goodwill are discounted.
This is not the whole story in how we value a business
for 3D VI but it’s a key part of the fundamental stage of
our analysis. We also look at the current share price to
help us understand how the business is currently valued
in comparison with our calculation of its intrinsic value.
Dividend:
If the business pays a dividend, what percentage of your
investment can you expect to receive in terms of yield->
3D VIs look specifically for companies that can afford
the dividends they pay. A strong business will pay its
dividends from free cash flows rather than incur debts
to ensure shareholders get paid.
We are not interested in businesses weaving an image
of strength whilst undermining their own value.
A perfectly healthy business might stop paying dividends
for great reasons, for a long-term investment of its own,
for example. Under such circumstances shareholders
can expect to receive an increased dividend or superior
returns later; this is why it’s vital to research the dividend
history of a business to get the full picture.
Through dividend status analysis we want to see
evidence of:
Affordability -> evidence that the business can fund
dividends out of free cash flows.
Consistency -> are they paid regularly->
Growth -> do the dividends increase year-on-year->
A company’s attitude to its dividends offers a valuable
insight into its attitude towards shareholders. However,
we believe it is better to buy a business that pays no
dividend and delivers superior returns, than to buy
a business with a healthy dividend yield that it can ill
afford.
Earnings Predictability
This blended metric considers how the management
team values growth. It is a historical look at growth
across revenue, gross profit, overheads, EBIT and net
income.
Ideally, we want to see a long-term upward trend across
all areas of the business because this demonstrates a
management team that understands the importance of
growth at all levels
Economic Moat:
The strength of a business is also determined by its ability to withstand external market forces and how
protected it is from competition. Michael Porter, Harvard University Professor and corporate strategy expert,
devised his five forces in 1979 as a means of measuring the competitive intensity of a market.
Porter categorized his competitive forces as three horizontals: the threat of emerging rivals, the threat of
established rivals and the threat of substitutes; and two verticals: the bargaining power of suppliers and the bargaining power of customers.In determining the economic moat of a business, we look for evidence of how it is combating these external threats or whether it has succeeded in eliminating them altogether. We conduct deep analysis of how the business deploys its capital and how it generates cash flows to determine
whether it has a moat at all. If we find there is a moat, we need to understand its size and depth and whether
it is growing or shrinking.
To do this we ask the following questions:
-> How difficult would it be for a rival company to
compete with this business-> This barrier could
constitute financial outlay, knowledge or time until a
product is market ready.
-> How indispensible is this business to its customers->
Who needs whom more->
-> Could this business affect other suppliers’
competitiveness in the market place-> Does it have
control->
How real are the threats of substitute products or
services in the market-> Does this company stand
alone-> Are its customers, ‘happily trapped’->
-> Is the business specialized-> How likely is it that
another, similar business could appear to threaten
its market share->
-> By analyzing these criteria, the 3D VI determines the
width and depth of a business’s economic moat and
therefore its long-term prospects in terms of market
strength