The Best Companies To Invest In
We invest only in excellent businesses that have expanding value. We believe time is a friend to a great business and an enemy to a mediocre one. As we are looking to hold our stocks for a long time, we need to find excellent companies.
For a company to expand into the future it needs specific characteristics. To identify them we must answer the following questions:
1)Does the company have a clear consumer monopoly?
- Is there a brand name product, a key service, or some distinctive attribute that is particularly attractive to buyers that make people or businesses dependant on the company?
2) Are the earnings of the company strong and showing an upward trend?
- What are the earnings per share (EPS) trend over the past 10 years? Is EPS growing consistently upwards or fluctuating wildly?
3) Is the company conservatively financed?
- A consumer monopoly company should be generating huge amounts of cash. It should have little or no long term debt. If debt is present due to the acquisition of another company make sure the acquired company is also a consumer monopoly.
4) Does the business consistently earn a high rate of return on shareholders’ equity?
- How well are management using company assets? A consistently high return on shareholders’ equity is the clearest indication of a strong management team.
5) Does the business get to retain its earnings?
- How much is the company paying out as dividend in relation to earnings? If most of the earnings are being paid back to shareholders the company will be unable to grow the company through reinvesting.
6) How much does the business have to spend on maintaining current operations?
- Is a huge amount of company revenue spent on capital expenditure to maintain current operations? If so the company will have no surplus cash to ever grow the company.
7) Is the company free to adjust prices to inflation?
- An excellent company is one that is free to increase the prices of its products right along with inflation, without experiencing a decline in demand.
Given the above, we always avoid commodity-type businesses. These are businesses that sell a product whose price is the single most important factor in the consumers buy decision. Typical commodity-type businesses are; textile manufacturers, producers of raw foodstuffs, steel producers, energy companies, paper manufacturers, lumber industry. The below characteristics are inherent for such companies and is why they will never generate superior profits:
- Low profit margins
- Low returns on equity
- Difficulty with brand name loyalty
- Presence of multiple producers
- Erratic profits
- Profitability dependant on management’s ability to efficiently utilise tangible assets.
Our free value investing guide will teach you what calculations you need to answer these questions!
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