A beautiful company bought at high valuations won’t make much money for investors. If you do not get good companies at reasonable valuations, better idea would be to wait for another company rather than hurrying and loading on the wrong stock. We may miss out occasionally a company that out performs all the expectations but we can get saved a lot of times with this approach.
Focus on Quality
A minority shareholder only makes money if there is growth in the underlying business. The stock price is slave of earnings and if the earnings are increasing, sooner or later the stock price will rise to reflect the growth in earnings. Having said that, it is important to distinguish between profitable growth and growth that actually destroys value. In-organic growth where-in a company acquire other companies to quickly increase their top line leads to value destruction. We like companies which are having organic growth.
Product obsolescence is something we need to really ponder over a lot. In today’s world where technology is changing everything, we need to really think hard how the products or services can go out of fashion. The existing companies [incumbents] are getting challenged with relatively new companies.
To mitigate this, we try to identify companies that have products or services which are very basic and companies where the management is capable to adjust to the changing environment and can participate in the disruption rather than getting disrupted.
There are lot of competitive forces in the market place and successful business establish some kind of durable competitive advantage:
A business can be a success because the brand is established inside peoples mind.
A business can be a success because of the scale of operations which significantly reduces the price per unit of the product they sell. This is popular as economy of scale.
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Quality of Numbers
The proof of the pudding is in its eating. The numbers can tell a very good deal about the quality of the company or the industry in which it operates. We look for companies where there is consistent increase in sales and profitability, where the increase in sales actually leads to operating leverage and profits increase at a much quicker pace. Above all we try to see if the return on equity, return on capital and cash flows are respectable.
Quality of management
This is a very subjective and here there are no quantitative measures. The managements past promises, the tone of their speech can tell a lot about the honesty and integrity. We like conservative managements who are very skeptical about their business plans and who run the show in extremely careful manner. We avoid managements resorting to heavy debts to fund their aggressive plans, taking home unreasonable pay checks, coming to TV channels and bragging a lot about their companies.
Quality of products/services/customer satisfaction
At the end of the day no business will be successful without the end users of the products of services being satisfied. We do a scuttle butt approach where we conduct a survey to see what the customer feedback is.