Book review/top five takeaways of "Common stocks and uncommon profits" by Philip Fisher.
This is the Swedish investor.
Takeaway number 1: Fisher's 15 points checklist
The core of any investment process is the task of deciding which companies to invest in.
Fisher has created a checklist of 15 boxes and to be considered a great investment a company must tick most of them.
1. The company should have services and /or products which are addressing an expanding market.
Today, an expanding market would be something like clean energy,
autonomous drive or perhaps machine learning.
2. Management must have a determination to develop new products.
No product can stay successful and yet remain the same forever.
Perhaps coca-cola would disagree but in almost every other industry it holds true.
3. Research and development needs to be efficient.
Look at how much the company have gained in revenue per spent amount in research.
4. Look for firms with an above average sales organization.
This is the most basic activity of any company - make sure it's handled well.
5. Pick companies with a handsome profit margin.
Look at how much each dollar in sales produces in cents in operating profits. The higher, the greater the cushion in bad times.
6. Not only do you want awesome profit margins today,
but you also want to pick a company that does everything to maintain them in the future as well.
An important part of this is how efficient the company is in cutting its costs.
7. Look for businesses that treats their employers like humans, not like cogs in a wheel or FTEs in an annual report.
Most investors underestimate the importance of great labor relations.
8. If the relationship with blue collars are important, the firm's relationship with its executive personnel is vital.
These are the people that can make or break any venture.
9. You want to invest in a business which has depth to its management.
One-man shows can be successful for a while, but organizations where people grow can stay successful forever.
10. Look for companies with great cost analysis. Without this, a firm cannot know where to allocate its resources most effectively.
It's difficult to decide if the companies is truly outstanding in this perspective, but it's easy to identify if they are deficient. Avoid the latter.
11.The company should be outstanding compared to its competition on industry specific aspects.
What the business should be awesome at differs from one industry to the other. For a retailer, for instance,
it might be how they handle their inventory. For an airline, it might be how efficient they are at pricing every available flying seat.
12. Invest in a company with a long range outlook on profits.
A few businesses create great profits today at the expense of profits tomorrow.
For the long term investor, this is undesirable.
A company aiming for profits in the long run creates strong relations with their employees, their customers and their suppliers.
13. Seek out companies where your shares run a low risk of being diluted in the future.
Such companies have strong cash positions and/or great borrowing opportunities.
14. You want to avoid firms where the management brag about good news as soon as they get a chance to,
but don't reveal bad ones until absolutely necessary.
15. Invest only in companies where the management have unquestionable integrity.
The management is much closer to the assets of the company than the investors and the number of ways that they can
benefit at the expense of the shareholders - that's you and me - legally, are infinite.
Therefore this is the only one of the 15 points which is absolute. If it's not fulfilled, you should not invest.
Takeaway number 2: The Scuttlebutt method. After hearing about these 15 points,
you probably ask yourself this: Where can I read about all this?
Unfortunately, the answer is ... you can't.
However, you can find the information you seek by applying the Scuttlebutt method.
Everything on black.
The investment value at time zero equals the sum from time ...
How do you spend time at Tesla, what do you do? How do you get people excited about Tesla? Is there room for,
possibly, an even less expensive quality electric car experience?
Scuttlebutt is the technique of using and talking to "Main Street" resources to find out if the stock is worthy of your money or not.
Such sources could be:
1. Suppliers of the company
2. Customers of the company
3. Research scientist within the specific industry that the company operates in
4. Trade associations
5. Former employees
Caution! Information from these people can be of immersed value, but it's usually influenced by a bit of negativity.
After all, there's an underlying reason as to why their title is "former employee" instead of "employee".
Here's another advice on how to apply a Scuttlebutt:
Go to five companies within the industry that you are researching. Ask each of them about strengths and weaknesses of the other four firms.
What will emerge from this information is a quite detailed picture about the industry, and which company that would make a great investment.
If competitors talk about your investment target with respect, and maybe even a bit of fear, you are one step closer of finding a great investment!
Here are a few suggestions on how you can contact these people: 1. You could use LinkedIn.
2. You can use their contact information provided on the company's website.
3. You could visit a store. If the company is a B2C (business to consumer) one.
Takeaway number 3: Unconventional wisdom 1: Dividends don't matter
Philip Fisher questions many of the "truths" that the general public has come to accept within the field of investing.
One of these "truths" is the overconfidence in dividends.
According to Fisher, dividends are one of the least important aspects when it comes to making an investment decision.
Let's break down this issue.
The only reason why a company should pay you dividends
(assuming that you aren't broke and in need of a quick buck to pay your groceries, by the way,
then you shouldn't put that money in stocks in the first place!) is if it increases the value for you as a stock owner.
There are plenty of other valuable things that the company could do for its investors with excess capital.
Instead of handing it out as dividends, for instance, it could:
Invest in a global expansion.
Spend capital in R&D, to find new lucrative products.
Increase production efficiency, reducing production costs.
Advertise more, getting more customers.
Hiring more competent employees. The list goes on and on and on. If the management has found a potentially better use of its capital,
you should be pleased as an investor, not nagging about missing out on dividends!
Here's another example on why current dividends isn't interesting.
Company A has a stock valued at $10, and is paying a dividend of $0.5, which equals to a 5% yield per year.
Company B is also a stock valued at $10, but pays a dividend of $0.2, which equals to a 2% yield per year.
Initially, one might assume that company A is a better investment than company B.
But let's look at what happens in the following 10 years with the two companies.
Company A grew like the market tends to do in general - by about 7% per year.
Therefore, it's now valued at $20, and the dividend yield has been kept at 5% So the current dividend is $1 per year.
Now let's consider company B.
This was a growth stock which ticked all of Fisher's 15 boxes, and therefore it's been able to grow much faster than the underlying market.
Its annual growth has been
26%, and therefore the stock is now valued 10 times its initial price, which equals to $100 per share.
Company B has also kept its dividend policies. It's still yielding 2% per year,
but that means that the dividend is now $2 per year.
I hope you see what I'm getting at here.
Company A now has a dividend of 10% on your initial investment while company B has a dividend of 20% of your original purchase.
So don't stare yourself blind on dividends! Current dividends don't stand a chance against future growth prospects.
Takeaway number 4: Unconventional wisdom 2: You are diversifying too much.
Here's another "truth" that many investors have come to accept.
Diversify diversify diversify!
The one universal rule that idiots in finance know is diversification. It's the only free lunch - you've got to diversify!
Diversification is crucial .... and the more diversification you can get the better.
Single stocks are a bad place to invest money. You're much better off to be spread out and be well diversified.
Philip Fisher argues that people over stress "you shouldn't put all your eggs into one basket".
The HORRORS of what could happen if you don't follow the advice is
exaggerated for an active investor, and the other end of the extreme is not mentioned often enough.
If you're having eggs in too many baskets,
many of them end up in quite mediocre or unattractive ones, and you'll never be able to watch them carefully.
Investors who are oversold on diversification put far too little money into companies
they thoroughly understand, and far too much in others about which they know nothing at all.
After all, we all have the same 24 hours.
Because of this restriction (which I've yet to find a loophole for, but you know -
I'm searching!) the more companies you have, the less you know about each of them.
Furthermore, when people give you the advice to invest in 15 companies to be diversified, they have misunderstood what diversification is about,
which is spreading your risks. There are many other factors to consider, such as:
Do the companies in your portfolio operate in different industries? For instance, a portfolio
like this one is not spreading risks, even though it contains 15 companies!
Do the companies in your portfolio have multiple branches or brands? For instance,
comparing Dow DuPont to something like Snapchat or Spotify would be just short of silly.
Dow DuPont is well diversified in itself!
Are the companies of sufficient size?
Smaller companies tend to be one-man shows more often than larger ones and
therefore require more diversification as you can never know what will happen to a single person.
Takeaway number 5: Fish in the right pond. So many opportunities and so little time!
To evaluate any investment opportunity takes a considerable amount of work.
Evaluating all of Fisher's 15 points for every publicly traded company in the world would be complete madness.
You'd spend too much time researching cases that you could have dropped much earlier.
Therefore, you need a process that can quickly separate the winners from the losers.
You need to know that you're fishing in the right pond. In investing, this process is called "screening".
To make big money on investments, it's unnecessary to get some answer to every investment that might be considered.
What is necessary is to get the right answer a large proportion of the very small number of times actual purchase are made.
Here's how Fisher approaches the stock picking process.
Firstly, he talks to people within the investing industry. He will consider around
250 companies from various sources of people that he trusts in the industry. For the average investor,
he might not have such connections yet. But today there's another solution!
There are many social investment platforms out there, such as Seeking Alpha or Etoro.
Follow the people you find trustworthy on these platforms and let them help you during the initial part of the screening process.
After this, Fisher aims to transform the list of
250 companies to approximately 50. At this stage, he won't do a deep dive yet, but he will glance over the balance sheet,
look at the breakdown of total sales by product lines, profit margins and the competition.
Now we're finally ready for the "Scuttlebutt". Out of 50 companies only 2-3 of them will survive.
Yes, that is how hard it is to tick all of Fisher's 15 boxes!
As mentioned previously -
suppliers, customers, research scientists, trade associations and former employees are great sources of information here.
And then there is the final stage.
This is visiting the management of the business.
Out of two to three companies visited Fisher typically invested in only one of them.
This is truly a thorough process to go through in order to find one single company, and I think it shows quite clear
why Fisher is considered one of the greatest of all time.
We will definitely talk more about screening and "fishing in the right pond" in the future.
So, what do you think about the takeaways?
Are all of the 15 points as valuable today as they were 50 years ago when this book was first released?
I should also mention that there are many more takeaways that I didn't have room for in this summary.
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