myinvestingnotes.blogspot.my (Bullbear Buffett Stock Investing Notes)

Keep INVESTING Simple and Safe (KISS) ****Investment Philosophy, Strategy and various Valuation Methods**** The same forces that bring risk into investing in the stock market also make possible the large gains many investors enjoy. It’s true that the fluctuations in the market make for losses as well as gains but if you have a proven strategy and stick with it over the long term you will be a winner!****Warren Buffett: Rule No. 1 - Never lose money. Rule No. 2 - Never forget Rule No. 1.

Tuesday, 10 November 2009

****Evaluating Business Models When Buying a Business

Tips for Buying a Business

Evaluting Business Models When Buying a Business
Buying a business? Of all the things to consider when buying a business, a thorough evaluation of the business model is the most important consideration.

When buying an existing business, it's important to thoroughly evaluate the business model.
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In essence, when evaluating a business model, you must ask three questions:

How does the company I am about to buy currently make money?
Can I continue to make money after I buy this business using the existing business model?
Is there something I can do to change the business model to greatly improve the potential of this business?

How Does the Business Model Make Money?

At first blush, this question would not seem to be very illuminating:

How does a Subway franchise make money? Well, they sell sandwiches. Duh.
How does a local drycleaning business make money? They take in clothes, dry clean them, and get paid to do that. Duh.
How does a PR firm make money? They get clients to pay them money to get media placements. Duh.
How does a website development firm make money? They build websites and get paid to do so? Duh.
How does a lawn mowing service make money? They mow lawns and get paid to do so. Duh.
How does a telecomm value-added reseller make money? They sell businesses T1 lines and other telecomm services and get paid to do so. Duh.

To evaluate the business model, you have to ask probing questions that take the discussion up a notch. Here are a few sample questions to ask when evaluating a business to buy and that company's business model:

Is the business dependent on individual talent or can it still do well even when existing employees are replaced with new employees? In the case of a Subway franchise, the business is systematized and existing employees can be replaced. However, in the case of the PR firm, the customers may have been buying the skills and relationship of a single individual. If that individual is not there, the business model may not perform as well.

Is their repeat business and a recurring revenue stream? A lawn mowing service can sign up clients for an entire summer, and have repeat revenues from customers every week. In contrast, a website development company might only be earning money while working on a specific project. In that respect, the website company is like a taxi driver. No fare, no income. A telecomm value-added reseller locks into a growing recurring revenue stream because they are typically compensated by the provider (e.g. MCI, Sprint, etc.) as long as their client keeps the service. Hence, in the fifth year of business, they are still earning revenues from companies they signed up five years ago, four years ago, etc.

Is the value proposition unique and can a competitor steal the business away? A dry cleaner could lose a lot of business if a comparable business opened up across the street and offered the same services at half the price. The key to a strong business model is some sort of unique positioning that cannot be easily replicated by competitors.

Can I Continue to Make Money With the Current Business Model?

Just because the current owner is making money with the existing business model, doesn't mean you will be able to continue to make the same amount of money in the future.

In the case of the PR firm mentioned above, will those existing clients all stick with you? Will you be able to service clients well? Will you be able to attract new clients? The answers to these questions have a direct impact on how your business model will do for you.

At the end of the day, business models are not abstractions. They are personalized entities that succeed or fail. One person may do very well with a given business model, while another fails miserably.

So don't ask: is this a good business model? Instead, ask: Can I make money with this business model?

Can the Business Model Be Improved Upon?

This is where the real money is made.

If you simply plan on buying the existing business model and running it as is, then you will, in most instances, have to pay a price commensurate with what the business m model will generate.

However, if you can change the business model in a way that improves it, you can transform the price you paid for buying a business into a much higher value.

For example, maybe you buy the lawn service and transform it into a lawn service and landscaping company that also shovels sidewalks and driveways in the winter. You get a bigger share of your customer's wallet and you are well-positioned to grow the business because you have improved the value proposition.

Maybe, you buy the website development company and convert the model from a one-time contract business to a business that has upfront contracts but also has ongoing maintenance contracts. By doing so, you lock into recurring and predictable revenue streams that the previous owner never had.

You get the idea. When buying a business from an existing business owner, you need to look for the opportunities that the previous owner was never able to capitalize on.

Those subtle shifts in the business model are what can allow you to make buying an existing business the best decision you ever made.

Want to learn more about this topic? If so, you will enjoy these articles:

http://www.gaebler.com/Recurring-Revenue-Business-Models.htm
Recurring Revenue Business Models

http://www.gaebler.com/Evaluting-Business-Models-When-Buying-a-Business.htm

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My 18 points guide to Successfully compounding your money in Stocks

Be a good stock picker.
Think as a business owner.
Always look at value rather than the price. Do the homework.
Buy and hold is alright for selected stocks.
Compounding is your friend, get this to work its magic.
Mr. Market is there to be taken advantage of. Do not be the sucker instead. BFS;STS.
Always buy a lot when the price is low.
Never buy when the stock is overpriced.
It is alright to buy when the selected stock is at a fair price.
Phasing in or dollar cost averaging is safe for such stocks during a downtrend, unless the price is still obviously too high.
Do not time the market for such or any stocks.
By keeping to the above strategy, the returns will be delivered through the growth of the company's business.
So, when do you sell the stock? Almost never, as long as the fundamentals remain sound and the future prospects intact.
The downside risk is protected through only buying when the price is low or fairly priced.
Tactical dynamic asset allocation or rebalancing based on valuation can be employed but this sounds easier than is practical, except in extreme market situations.
Sell urgently when the company business fundamental has deteriorated irreversibly.
You may also wish to sell should the growth of the company has obviously slowed and you can reinvest into another company with greater growth potential of similar quality. However, unlike point 16, you can do so leisurely.
In conclusion, a critical key to successful investing is in your stock picking ability.

http://myinvestingnotes.blogspot.com/2012/07/my-18-points-guide-to-successfully.html

11 Lessons From Peter Lynch

Peter Lynch taught me:

1. Behind every stock is a company. Find out what it’s doing.
2. Never invest in any idea you can’t illustrate with a crayon.
3. Over the short term, there may be no correlation between the success of a company’s operations and the success of its stock. Over the long term, there’s a 100% correlation.
4. Buying stocks without studying the companies is the same as playing poker – and never looking at your cards.
5. Time is on your side when you own shares of superior companies.
6. Owning stock is like having children. Don’t get involved with more than you can handle.
7. When the insiders are buying, it’s a good sign.
8. Unless you’re a short seller, it never pays to be pessimistic.
9. A stock market decline is as predictable as a January blizzard in Colorado. If you’re prepared, it can’t hurt you.
10. Everyone has the brainpower to make money in stocks. Not everyone has the stomach.
11. Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what’s actually happening to the companies in which you’ve invested.

Lynch’s advice had a profound effect on my stock market approach. He taught me that investment success isn’t the result of developing the right macro-economic view or deciding when to jump in or out of the market. Success is about researching companies to identify those that are likely to report positive surprises.

Capital Expenditure

A great company with a Durable Competitive Advantage will have a ratio of Capital Expenditures to Net Income of less than 25%. Less is better.

Capital Expenditures are expenses on:
- fixed assets such as equipment, property, or industrial buildings
- fixing problems with an asset
- preparing an asset to be used in business
- restoring property
- starting new businesses

A good company will have a ratio of Capital Expenditures to Net Income of less than 50%.

A great company with a Durable Competitive Advantage will have a ratio of less than 25%.

Less is better.

Benjamin Graham's 113 Wise Words

The true investor scarcely ever is forced to sell his shares, and at all times he is free to disregard the current price quotation. He need pay attention to it and act upon it only to the extent that it suits his book, and no more. Thus the investor who permits himself to be stampeded or unduly worried by unjustified market declines in his holdings is perversely transforming his basic advantage into a basic disadvantage. That man would be better off if his stocks had no market quotation at all, for he would then be spared the mental anguish caused him by other persons' mistakes of judgement."

Philip Fisher's Wise Words

"The refusal to sell at a loss, while completely natural and normal, is probably one of the most dangerous in which we can indulge ourselves in the entire investment process.

More money has probably been lost by investors holding a stock they really did not want until they could 'at least come out even' than from any other single reason. If to these actual losses are added the profits that might have been made through the proper reinvestment of these funds if such reinvestment had been made when the mistake was first realized, the cost of self-indulgence becomes truly tremendous."

(Common Stocks and Uncommon Profits)

The Ultimate Hold-versus-Sell Test

Here is the overriding primary test, followed by observations on why it is so critically important:

Knowing all that you now know and expect about the company and its stock (not what you originally believed or hoped at time of purchase), and assuming that you had available capital, and assuming that it would not cause a portfolio imbalance to do so, would you buy this stock today, at today's price?

No equivocation. Yes or no?

Answers such as maybe or probably are not acceptable since they are ways of dodging the issue. No investor probably buys a stock; they either place an order or do not.

Here is the implication of your answer to that critical test: if you did not answer with a clear affirmative, you should sell; only if you said a strong yes, are you justified to hold.

Some thoughts on Analysing Stocks (KISS)

Ideally a stock you plan to purchase should have all of the following charateristics:

• A rising trend of earnings dividends and book value per share.
• A balance sheet with less debt than other companies in its particular industry.
• A P/E ratio no higher than average.
• A dividend yield that suits your particular needs.
• A below-average dividend pay-out ratio.
• A history of earnings and dividends not pockmarked by erratic ups and downs.
• Companies whose ROE is 15 or better.
• A ratio of price to cash flow (P/CF) that is not too high when compared to other stocks in the same industry.

Margin of Safety Concept: Stocks should be bought like groceries, not like perfume

The high CAGR in the early years of the investing period, due to buying at a discount, tended to decline and approach that of the intrinsic EPS GR of the companies over a longer investment time-frame.

Chapter 20 - “Margin of Safety” as the Central Concept of Investment

A single quote by Graham on page 516 struck me:

Observation over many years has taught us that the chief losses to investors come from the purchase of low-quality securities at times of favorable business conditions.

Basically, Graham is saying that most stock investors lose money because they invest in companies that seem good at a particular point in time, but are lacking the fundamentals of a long-lasting stable company.

This seems obvious on the surface, but it’s actually a great argument for thinking more carefully about your individual stock investments. If most of your losses come from buying companies that seem healthy but really aren’t, isn’t that a profound argument for carefully studying any company you might invest in?

myinvestingnotes.blogspot.my (Bullbear Buffett Stock Investing Notes)

Tuesday, 10 November 2009

****Evaluating Business Models When Buying a Business

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All equity security investments present a risk of loss of capital

The Ultimate Hold-versus-Sell Test

Some thoughts on Analysing Stocks (KISS)

Benjamin Graham

Sell the losers, let the winners run.

Investment Style

Warren Buffett

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