Buffett: BUY OUTSTANDING BUSINESS at a significant discount to its intrinsic value.

If we make mistakes, Buffett confesses, it is either because of

(1)  the price we paid,
(2)  the management we joined, or,
(3)  the future economics of the business.

Miscalculations in the third instance are, Buffett notes, the most common.

It is Buffett's intention not only to identify businesses that earn above-average returns, but to purchase these businesses at prices far below their indicated value.  The margin of safety also provides opportunities for extraordinary stock returns.

If Buffett correctly identifies a company possessing above-average economic returns, the value of the shares of stock over the long term will steadily march upwards as the share price mimics the returns of the business.  

If a company consistently earns 15% on equity, its share appreciation will advance more each year than the share price of a company that earns 10% on equity.  

Additionally, if Buffett, by using the margin of safety, is able to buy this outstanding business at a significant discount to its intrinsic value, Berkshire will earn an extra bonus when the market corrects the price of the business.

"The market, like the Lord, helps those who help themselves."  Buffett says, "But unlike the Lord, the market does not forgive those who know not what they do."

How to do a stock research & analysis.

Opto Circuits India Ltd - Stock Research & Analysis
(15 Dec 2008)

Synopsis

Opto Circuits is a small company in Medical Electronics industry with focus in the niche areas of invasive (coronary stents) and non-invasive (sensors, patient monitors) segments. Prior to '2002 Opto's Revenues were less than Rs. 50 Cr. Today Revenues stand at Rs.468 Cr, with exports accounting for more than 95% of Revenues. Opto Circuits is based in Bangalore India and operates out of offices established in USA, Europe, South-East Asia, Latin America and the Middle East and boasts of a strong international distribution network present in over 70 countries.

The Numbers speak for themselves. Net profit margins are healthy (over 28%), great return on equity (~ 40%, unmatched in the Medical Electronics industry), and solid return on invested capital ratios (over 45%). Financial health has been steadily improving over the years with comfortable financial leverage (1.34) and Debt to equity (0.31), with solid Current & Quick ratios. However, Opto Circuits still has a long way to go before it can show loads of excess cash on its books, due to its aggressive business expansion. Free Cash Flow as a percentage of sales is ~6 percent. It has consistently increased Dividends per share and has a unique track record of rewarding shareholders with bonus shares every year, for the 7th straight year! Opto Circuits seems to enjoy an above-average Economic Moat and fares very well when compared to its peers in this Peer Comparison snapshot.

Though there are Significant Risks going forward, Opto Circuits has lots of positives going for it. Over the last 7 years since FY2002, Opto Circuits Revenues have clocked a long term sales growth of over 45% while long term EPS growth has galloped at a handsome 60% plus. It has been working steadily grow its business through pursuing organic growth through investments in manufacturing capacities and penetrating into newer markets, supplemented by inorganic growth through judicious acquisitions. To its credit Opto circuits has managed acquisitions so far quite well, drawing synergies by leveraging distribution networks and lower-cost manufacturing bases. There is some evidence of Sustainable Growth over the medium term. We posed a few questions to Opto Circuits Management to be able to understand and assess its longer-term prospects and growth sustainability, better.

Opto's track record so far evidences early signs of being served by a Competent Management Team. The stock is promising and there's nothing wrong with investing in a young growth company like Opto Circuits, as long as you know what you are getting into. It has a long way to go before it qualifies to be among the Core holdings in anyone's Portfolio. It’s a long shot, though one that might just pay you back many times over. However, this is only half the story because even the best companies are poor investments if purchased at too high a price. We cover Opto Circuits' stock valuation in the other half story. 

Read more here:

http://www.stock-picks-focus.com/opto-circuits.html#Profitability-Snapshot

When to Sell? The QVM approach to Selling Stocks

Taking profit

Profit should be realised from sales of stocks in the following situations:
(I) when the stock is obviously overpriced, or
(II) when the sale of the stock frees the capital to be reinvested into another stock with potentially better return.

Not taking profit in the above situations can harm your portfolio and compromise its returns. In other circumstances, let the winners run.

Underperforming stocks should also be sold early. Hanging onto underperforming stocks is costly too. There is the opportunity cost that the capital can be better employed for higher return. Also, hanging onto these lack-lustre stocks reduces the overall return of your portfolio.


Reducing serious loss

When the fundamentals of a stock have deteriorated, sell to protect your portfolio. This decision should be make quickly based on the facts and situations, in order to keep your losses small.


How can the average investor improves his investment returns in stocks?

Nestle 27.10.2009

Valuation
http://spreadsheets.google.com/pub?key=tdjqbDNEEF54lSn6z6yORcw&output=html


Comment:  Recent price has climbed faster than earnings.

Parkson 26.10.2009

Valuation
http://spreadsheets.google.com/pub?key=tDwhvs3JG3I9fvO-aI9Z5Gg&output=html

KNM 19.10.2009

Valuation
http://spreadsheets.google.com/pub?key=tRskke5FybslzPlCGkTtM4Q&output=html

This stock fell off the cliff.  Presently, it is not classified as an investment grade stock.  There is much speculation on this stock.  There is some uncertainty of its business performance in the near term.  Hopefully, clarity will surface soon.

Latest qtr EPS (Q2, 09) = 1.82 sen
annualised EPS = 1.82 x 4 = 7.28 sen
Current Price = $ 0.82
Current PE (annualised EPS) = 82 / 7.28 = 11.3

Poh Kong 19.10.2009

Valuation
http://spreadsheets.google.com/pub?key=th6Y8kWFmNXekgYj_wo6byA&output=html

This is a challenging time for the gold retailers.  With gold price going upwards, the prices of their products are higher.  This will reduce the demand for these discretionary products.  The inventories sold will have to be replaced by new inventories bought at higher prices.  There is also the risk of price fluctuations.  The gold price can goes up as well as down.  These retailers will also have to hedge against these fluctuations.  If they got this right, there is exceptional gain.  On the other hand, a wrong bet can be a costly affair indeed, especially for those with little working capital.

Boustead 18.10.2009

Valuation:
http://spreadsheets.google.com/pub?key=tonm_SJrRYK3O6PwdCRbR6A&output=html

Coastal 18.10.2009

Valuation:
http://spreadsheets.google.com/pub?key=tWqDSqCJiyOzvgzp6Ox-81A&output=html

Latexx 17.10.2009

Valuation
http://spreadsheets.google.com/pub?key=tGjkSMyCWNewTHtuEfqzoVg&output=html

Its latest quarterly Q2 '09 result:
qtr EPS = 5.86 sen
annualised EPS = 4 x 5.86 = 23.44 sen

At today's price of $2.40, its PE (based on annualised EPS)
= 2.40/0.2344
= 10.24

Latexx is the 5th largest glove company in Malaysia.  Given its relatively smaller size, its growth is anticipated to be faster than the bigger glove companies (Topglove, Supermax) in the next 2 years. 

Kossan's share price is playing catch-up with the other companies PE valuations. 

Hartalega appears richly valued at its present price and market capitalization.

Hai-O 17.10.2009

Valuation
http://spreadsheets.google.com/pub?key=t44jTv4fYF_pLfGhtHJN8aA&output=html

This share has done well the last 2 years.  It is a multi-bagger. 

Petdag 16.10.2009

Remarkable.  The present price is back to its all time high.

Valuation:
http://spreadsheets.google.com/pub?key=tWD_ov2ZEm3y2RrDZLIGDYg&output=html

Glove companies

Valuation
Supermax, Topglove and Kossan

http://spreadsheets.google.com/pub?key=tIzNTWdhdVSJ803HE80Xn8Q&output=html

PBB 15.10.2009

Valuation:
http://spreadsheets.google.com/pub?key=tE7ISnWkuQCAPx-5JJTDp6g&output=html



Published: Thursday October 15, 2009 MYT 1:59:00 PM


Public Bank net profit higher by 3.7%

KUALA LUMPUR: Public Bank Bhd posted a 3.7% rise in net profit for its third quarter ended Sept 30, at RM639.04mil compared with RM616.34mil recorded a year ago on higher loans growth and deposits.

Revenue for the period was RM2.438 billion, compared with the RM2.79 billion a year ago. Earnings per share were 18.52 sen compared with 18.37 sen.

For the nine-months ended Sept 30, 2009, net profit declined to RM1.839 billion compared with RM1.927 billion. Revenue slipped to RM7.22 billion from RM7.94 billion.

Public Bank said excluding the one-off goodwill income from ING in 2008, the group’s underlying operating net profit for the nine-months increased by 3% from a year ago.

http://biz.thestar.com.my/news/story.asp?file=/2009/10/15/business/20091015135755&sec=business

Hong Leong Bank 15.10.2009

Valuation:
http://spreadsheets.google.com/pub?key=tWGiC7HzTRd_Cpo4XYsejwg&output=html

****Stock selection for long term investors

Overview of the the market and stock selection for long term investors

The Market

There is much volatility in the market. This is due to trading activities. The majority of trades are short term trading. Trading has increased in the market due to various factors:

• Increase turnover rates of mutual funds, hedge funds, off shore funds and pension funds.
• Decrease cost of trading.
• Speed of trading facilitated by technology innovations.
• Investing institution and managers are acting more as agents rather than as investors on behave of their clients.

A minority invests based on fundamentals.

Trading can be in derivatives. The nature of derivative securities is based on price or action of another security. Trading in derivatives has too increased.

Is trading a good thing? It does increase liquidity to the market and this is good. However too much trading and speculation has its downsides. This is akin to breathing 21% Oxygen (life-sustaining) versus breathing 100% Oxygen (too much oxygen has the associated danger of spontaneous combustion).

In this market downturn, questions we have been hearing the most recently are:

• Is it different this time?
  
• How long will it last?
  
• Have we seen the bottom yet?
  

Who knows? These questions are important but not knowable, therefore don’t waste time pondering on these.

The questions long term investors should ask are:

• Are you investing in an easy to understand, wide moat and well run business?
  
• Does that business generate consistent cash flows and has a clean balance sheet?
  
• Finally, are you buying at a large discount to what the business is worth?
  

Strategies for selecting stock for the long term investor

Benjamin Graham: "Investment is best when it is business like. "

However, long term investing is not the only way to make money, there are other ways too.


These 4 strategies should aid one’s investment into equities:
1. Select the business that is long term profitable and giving good return on total capital (ROTC).
2. The business should have managers with talent and integrity in equal measures.
3. Understand the business reinvestment dynamics.
4. Pay a fair price for the business.

1. The business to invest in must make money over time.

• Examine how its revenues and profits are generated. 
• How do its products or services contribute to the value of its business? 
• What are its costs? 
• Look for a business that gives good RETURN ON TOTAL CAPITAL (ROTC), not just those with high ROE. 
• Be aware that high ROE can be due to taking on too much debt. 
• Avoid IPOs, start-ups and venture capitals.

2. Look for managers with a good balance of talent and integrity.

• Those with integrity but lack talent are nice people to have as friends, but they may not be able to deliver good results for the business. 
• Those with talent but lack integrity will harm your business and longer term investment objectives.

3. Is the company able to reinvest its money or capital at a better rate over time?

Basically, be conscious of the reinvestment dynamic of the company.

(a) There are companies giving good return on total capital and able to reinvest their capital at better incremenetal rates over time.

• Invest in these companies as they are effectively compounding your money year after year. 
• This is the powerful concept of REINVESTMENT COMPOUNDING seen in some companies, best illustrated by Berkshire Hathaway. (Reinvestment Compounding)

(b) Some companies have good return on total capital but can’t reinvest this at better rate over time.

• For example, a restaurant business may be dependent on the personal touch of the owner. 
• Expanding the business to another restaurant may not generate the same return on capital. 
• In such cases, the worse approach is to grow the business of the restaurant. This is unlike McDonald. 
• Those investing into such businesses should understand that their RETURNS ARE FROM DIVIDENDS and from RETURN OF TOTAL CAPITAL.

(c) Avoid those businesses with no return on total capital but use more capital all the time.

• An example of this is the airline industry. AVOID such investments.

4. Determining the fair price to pay for the ownership of the business is important.

• For the outside shareholder, the investment should earn the same returns as the company’s business returns.
• If the company earns 10% or 12% or 15% per year for 5 years, the outside shareholders should likewise aim to earn a return of 10% or 12% or 15% per year for 5 years by paying a fair price. 
• Paying a PE of 40 for this company may mean not earning such return as the price paid was too high. 
• On the other hand, paying a PE of 10 – 15 gives the investor a better odd of getting this fair return.
• Paying a fair price for owning a business is important. The company earnings maybe as expected but then your returns failed to match these as you have paid too much to own the business.

What about other factors?


The economy, interest rates, fuel prices, commodity prices, foreign exchange, price of gold and geopolitical situations; should not these influence your investing?

Yes, these are hugely important factors. However, they are not predictable and largely out of our control. They are not knowable in advance. It is better to distance oneself from thinking about them when assessing the business to invest in.

Therefore, the approach adopted should generally not be a top-down macroeconomic one, but a bottom-up microeconomic one. “The implication is with the passage of time, a good business over a long period of time produce results to the investor over time.”


Summary

Identify the company that is in a profitable business giving good return on total capital (ROTC).

The managers should be talented and honest, and have the interest of the shareholders.

The business should be able to reinvest capital at higher incremental rates of returns and with discipline. (Reinvestment compounding).

Also, acquire the company at fair price to ensure a fair return. Avoid paying too much for the current prospect of the company, look long term.

-----
-----


Effectively the above is the same as the QVM approach.


Quality: A good quality company has consistent and/or increasing revenue, profit, eps, and high ROE or ROC.


Value: This is dependent on the price paid to acquire the business. Using earnings yield or PE enables one to determine the fair price to pay for this business.


Management: Look for businesses where the managers have these 2 qualities in the right balance - talent and integrity.


Search out for companies with high ROE or ROTC and low PE or high earnings yield (indicating "cheapness"). Relate the ROE or ROTC to the PE or earnings yield of the business.


A fair price to pay for the business will be the price that guarantees at least a return equivalent to the returns generated by the business you invest in.


Owning a good quality company with talented and honest managers at a good price (fair or bargain price) incorporates all the elements of investing preached by Benjamin Graham, namely the safety of capital considerations, reward/risk ratio considerations and the margin of safety considerations.

Also read: ROE versus ROTC