Saturday, January 30, 2010

13 Signs of a Successful Company

Peter Lynch revealed 13 favorable attributes of a company what may warrant your investment in his book "One Up on Wall Street". It basically boils down to the following adages:

* company doing dull, but necessary work, or work that is otherwise stigmatized, and goes undiscovered or unseen, but growing year after year
* company has a competitive edge such as a niche or brand, has room to grow, and a good employees and management with high morale

Having all of these signs won't guarantee you a stellar investment, but these are good signs that a company has growth potential, but so far has not been "mob-rushed", so you can get in "at the bottom". It's useful to "cull the herd".

1) It sounds dull, or better, ridiculous

Frankly, a lot of investors invest in a company because the name sounds trendy and/or exciting and/or exotic. What would you rather invest in: Consolidated Rock, or Genentech? Who would have thought that "Pep Boys -- Manny, Moe, and Jack" would be a great company to invest in? Or "Crown, Cork, and Seal"? Or Lynch's favorite, "Seven Oaks International"?



2) It does something dull

Seven Oaks International processes all those clipped coupons that all the supermarkets receive every day, and tabulates them so the coupon issuers can reimburse the stores properly. Crown Cork and Seal makes cans and bottle caps. The world need them to function, but you've never heard of them... The perfect "background" business.



3) It does something disagreeable

Any one heard of Safety-Kleen? They sell degreasing sinks to autoshops where the parts gets cleaned and degreased. The resulting sludge is stored in a tank below and periodically service guys come out and pump the stuff into their big tanks and recycle them. They also do restaurant grease traps and whatnot. Not a fun business, can be dirty, but definitely a necessity. There are also companies that clean and sanitizes urinals and restrooms, take the dirty tablecloths and napkins from restaurants and clean them in mass, and so on. The more disgusting, the better. (In fact, Mike Rowe's Dirty Jobs series on Discovery may give you some ideas) In fact, anything bathroom related may qualify. Paper towel dispensers, hand dryers, and so on.


4) It's a spin-off

Parent companyof the spin-off have a reputation to uphold... If the spin-off dies, they would look bad. So often, they will make sure the spin-off has good managers and good balance sheet, making the spin-off VERY attractive investments. Of course, there are spin-offs that died, but most spinoffs prospered after the separation, so being a spin-off is usually a good sign.


5) It wasn't owned by any institutions, nor followed by analysts

In other words, it's boring, and nobody has jumped on the bandwagon yet, or the analysts abandoned the stock to concentrate on something more "exciting". A lot of turnaround stocks are no longer covered when they reach bottom, and the sign that nobody cover them may be a sign of possible rebound, esp. if fundamentals are sound. If a company is 95% institutution owned, you're too late to the party.


6) It was rumored to have something to do with toxic waste, or the Mafia

Mafia was rumored to be in the casino business, so for the longest time, casino shares are depressed. Same with the garbage business, esp. those that really had to do with toxic waste. Both have rebounded. Casinos became fashionable when they started adding hotels and resorts and golf courses, and Hilton and Holiday Inn in gambling cities, such as Reno joined in the game. Suddenly it is fashionable to invest in casinos. Now with the economic downturn, it's out of fashion again, but that's the general idea: rumors and perceptions CAN affect the market.


7) It is a depressing business

Service Corporation International has a boring name, and even duller business: the funeral home business. It buys up funeral homes, crematoriums, flower shops, cemetaries, casket distributors, funeral supply makers, and so on, until it is HUGE. It is vertically integrated, one-stop-shop for funerals. It even provides pre-paid plans... Buy your funeral now so your loved ones won't have to worry about it. We do everything. They are doing so well, they are now offering the service to non-affiliasted funeral homes, for a nice premium. Though for TEN YEARS, the Wall Street ignored it. Then in 1986 Wall Street finally took notice, and company stock got mobbed, and it hasn't been the same since. (It bought out two casket makers, but that didn't help them grow, and a downturn in the business, due to medical research, means they can't grow much any more)


8) It is in a no-growth industry

Just because the industry is no-growth doesn't mean the company is a no-growth, and same for low-growth. High-growth industry attracts the capital for competition. X launches Widget. Suddenly three more companies are researching something that'll be better than the Widget. It's just too... bandwagon-y, and competition is fierce. In a no-growth industry, there's no competition, so plenty of room to grow and acclimate. Phillip-Morris, the tobacco company, was ordered to pay out BILLIONS by all the lawsuits. By delaying tactics (its own team of lawyers) and negotiations, they gained time to expand market globally and accepted the shrinking US market as almost beyond salvage. They then used the capital to buy out other tobacco companies and consolidated the market that nobody else wants to get into, improving their own position.


9) It's got a niche

Lynch used the example of a rock pit. Gravel is cheap, a couple dollars will buy you couple hundred pounds. Thus, if you got the only one in the county, you got a niche. There is no competition because transportation costs will kill the competition. It costs more to haul it than to buy it, almost. A rock pit in the next county is not much of a competition.

Pharmaceuticals have their niche with their drugs (until the generics are allowed in). Chemical companies have theirniche with their chemicals (herbicides and such). A tech company (or even non-tech company) with a nice patent would certainly have a niche. Media companies like newspapers and TV stations and radio stations used to have their niche until alternative media like Internet, Satellite TV, Satellite Radio, and so on are starting to eat their niche.

A recognizable brand-name, like McDonalds, Coca-Cola, Tylenol, and so on are almost as good as a patent, but needs periodic advertising as maintainence of the brand name.

Any one in an industry with a huge startup cost also has a niche.

A company with a niche has a competitive edge and room to grow before they have to worry about the competition. The catch is... you need to find it before the rest of the world does.


10) It makes things people need over and over

Companies that makes disposable necesities, like diapers, razor blades, soft drinks, and so on, have a much better long-term outlook than a company that makes one-off wonders, say, a toy. Think about it... How many of that wonderful toy would a child need? Tickle-Me Elmo (tm) was a hit, but one is enough per child. Soon it's tossed or stored away, and few months later child wants some OTHER toy that everybody else wants... probably made by someone else.

I have a friend who used to sell "Quorum" personal security products as his side job. I told him it was a dead-end job, because everybody just need ONE of each product he sells. There is no repeat business, no long-term relationship at all. It's only word-of-mouth recommendation. At least Avon and Amway keep the customers coming back.


11) It can leverage technology

Automatic Data Processing, or ADP, is the largest paycheck printer/sender in the US. It is a boring but necessary business, and with steady leverage of computers and equipment, it is becoming more and more efficient, doing more with less, as computer prices drop and drop. In other words, rather than invest in the technology companies themselves, consider investing in the companies that would BENEFIT from those technologies. Those companies would become more efficient, and thus, more profitable.

If the company you're looking at can leverage technology to be more efficient, great! That can be the difference between okay profits and GREAT profits.


12) It has inside investors

In other words, the company officers and employees are buying stocks of the company they're working in. That is a sign of commitment and strength, and bodes very well for the company. It means high morale, bright outlooks, and so on. After all, if the employees have a stake in the company, it's only good for the investors.

As SEC requires these inside purchases to be made public, it is not hard to find out about them.


13) It is buying back its own stocks

Stock buyback programs are great for investors. The management have decided that the profit they earned is best used to buy back shares, thus raising the overall price of the stock. This makes all stockholders happy, as that helps make THEIR portfolio richer. Think of it this way: the company is investing in itself! A company that does stock buyback is definitely worth a look, as its management is thinking about the stockholders, not themselves.


Even if a company posseses most of these 13 qualities, you will STILL need to check its fundamentals before thinking about investing in it. These factors are just criteria with which you can "cull the herd'.

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