Fast Growers

 FAST GROWERS

Traits
• Small, aggressive new companies. Growing
at 20-25%.
• Land of the 10-40x, even 200x. 1-2 such
companies can make a career.
• Lousy Industry
o May not belong to fast growing industry.
Can expand in the room in a slow growth
industry by taking market share.
o Depressed industries are likely places to
find potential bargains. If business
improves from lousy to mediocre, you are
rewarded, rewarded again when mediocre
turns to good, and good to excellent.
o Moderately fast growers (20-25%) in slow
growth industries are ideal investments.
Look for companies with niches that can
capture market share without price
competition. In business, competition is
never as healthy as total domination.
o Growth ≠ Expansion, leading people to
overlook great companies like Phillip
Morris. Industry wide cigarette
consumption may decline, but company
can increase earnings by cost cuts and
price increases. Earnings growth is the
only growth that really counts. If costs
rise 4%, but prices rise 6%, and profit
margin is 10%, then extra 2% price rise
= 20% increase in earnings.
o Greatest companies in lousy industries
share certain characteristics:
i) low cost operators / penny pinchers
in the executive suite
ii) avoid leverage
iii) reject corporate hierarchies
iv) workers are well paid and have a
stake in the company’s future
v) they find niches, parts of the market
that bigger companies overlook. Zero
Growth Industry = Zero Competition.
• Hot Industry
o Hot Stocks + Hot Industry = Greater
Competition. Companies can thrive only
due to niche/moat/patents etc.
o Growth ≠ Expansion. In low growth
industries, companies expand by
capturing market share, cutting costs
and raising prices. When an industry
gets too popular, nobody makes money
there anymore.
• Life Phases of a Fast Grower: each may last
several years. Keep checking earnings,
growth, stores to check aura of prosperity.
Ask, what will keep earnings going?
i) Startup phase: companies work out
kinks in the basic business. Riskiest
phase for the investor because success is
not yet established.
ii) Rapid Expansion: company enters new
markets. Safest phase for investor where
most amount of money is made, because
growth is merely an act of duplication
across markets. Company reinvests all
FCF into expansion. No dividends help
faster expansion. IPO helps in expanding
without bank debt / leverage.
iii) Maturity / Saturation: company faces the
fact that there’s no easy way to continue
expansion. Most problematic phase
because company runs into its own
limitations. Other ways must be found to
increase earnings, possibly only, via
luring customers away from competitors.
If M&A / diworseification follows, then
you know management is confused.
• Find out growth plans and check if plan is
working?
i) Cost cuts – the proof is in decrease of
selling and administrative costs.
ii) Raise prices
iii) Entry into new markets
iv) Sell more volume in existing markets
v) Exit loss making operations
• What continues to triumph, vs, flop, is:
i) Capable management
ii) Adequate financing
iii) Methodical approach to expansion – slow
but steady wins this kind of race.
o When a company tries to open >100
stores/year, it’s likely to run into
problems. In its rush to glory, it can
pick the wrong sites or managers, pay
too much for real estate, and, fail to
properly train employees. It is easier
to add 35-40 stores / year.
• Re-classification away from Fast Grower
o A large fast growth company faces
devaluation risk, since growth may slow
down as it runs out of space for further
expansion.
o Inability to maintain double digit growth
may see a re-classification into a Slow
Grower, Cyclical or Stalwart. High fliers
of one decade are groundhogs of the next.
o Fast Growers like hotels/retail having
prime real estate turn into Asset Plays.
o There’s high risk, especially in younger
companies that are overzealous and
underfunded. The headache of
underfinancing may lead to bankruptcy.
o Fast Grower’s that can’t stand prosperity,
diworseify, fall out of favour, and, turn
into Turnaround candidates.
o Every Fast Grower turns into a Slow
Grower, fooling many people. People have
a tendency to think that things won’t
change, but eventually they do,
o Very few companies switch from being a
Slow Grower to a Fast Grower.
o Companies may fall into 2 categories at
the same time, or, pass through all
categories over time (Disney).
• During 1949-1995, an investment in the 50
growth stocks on Safian’s Growth Index
returned 230x, while the Safian Cyclical
Index only returned 19x.
• Growth companies were the star performers
during and after 2 corrections (1981-82 and
1987), and they held their own in the 1990
Saddam selloff. The only time you wished
you didn’t own them was 1973­74, when
growth stocks were grossly overpriced.

Buying and Holding Tips
• Fast Grower => 2x GNP growth rate.
Sustaining 30% growth rate is very difficult,
even for 3 years. 20-25% growth rate is more
sustainable (investing sweet spot).
• Best place to find a 10x stock is close to
home – if not the backyard, then in the
kitchen, mall, workplace etc. You’ll find a
likely prospect ~2/3 times a year. The
person with the edge is always in a position
to outguess the person without an edge.
• Long shots almost never pay off. Better to
miss the 1st stock move (during phase I), or
even the late stage of phase I, when the
company’s only reached 5-10% of market
saturation, and wait to see if it’s plans are
working. If you wait, you may never need to
buy, since failure would’ve become visible.
• Does the idea work elsewhere? Must prove
that cloning works in other markets, and
show its ability to survive early mistakes,
limited capital, find required skilled labour.
• The most fascinating part of long term, Fast
Growers is how much time you have to catch
them. Even a decade later and with stock
already up 20x, it’s not too late to capitalize
on an idea that has still not run its course.
• Emerging growth stocks are much more
volatile than larger companies, dropping and
soaring like sparrow hawks around the
stable flight of buzzards. After small caps
have taken one of these extended dives, they
eventually catch upto the buzzards.
• Small Company Index PE / S&P 500 PE:
Since small companies are expected to grow
faster than larger ones, they’re expected to
sell at higher PE’s, theoretically. In practice,
this isn’t always the case. During periods
when Emerging Growth is unpopular with
investors, these small caps get so cheap that
their PE = S&P 500 PE. When wildly popular
and bid up to unreasonably high levels, it is
= 2x S&P 500 PE.
• In such cases, small caps may get clobbered
for several years afterward. Best time to buy
is when Small PE / Large PE < 1.2x. To reap
the reward from this strategy, you’ve to be
patient. The rallies in small cap stocks can
take a couple of years to gather storm and
then several more years to develop.
• A similar pattern applies to the Growth vs
Value pots. Be patient. Watched stock never
boils. When in doubt, tune in later.
• Look for a good balance sheet and large
profits. Trick is in figuring out when the
growth stops and how much to pay for it?
• Recent price run-ups shouldn’t matter, so
long as PEG still makes it attractive.
• If PEG =1x, then 20% growth @ 20x PE is >
10% growth @ 10x PE. Higher compounded
earnings will compensate even for PE
multiple shrinkage.
• High PE leaves little room for error. Best way
to handle a situation where you love the
company but not the price (great company,
high growth, but high PE), is to make a
small commitment and then increase it in
the next selloff. One can never predict how
far the price may fall. Even if you buy after a
setback, be prepared for further declines
when you might consider buying even more
shares. If the story is still good, after review,
then you’re happy that the price fell.
• So, the important issue is why has the stock
fallen so much? If the long term story is still
intact and the growth will continue for a
long time, then buy more. If you can place
the company in its attractive, mid-life phase,
ex. 2nd decade of 30 years of growth, then
you shouldn’t mind paying 20x PE for a 20-
25% growth rate, especially if market PE =
18-20x with an 8-10% growth rate.
• If you sell at 2x, you won’t get 10x. As long
as same store sales are rising, company isn’t
crippled with excess debt, and is following
its stated expansion plans, stick around. If
the original story stays intact, you’ll be
amazed at the results in several years.
• Trick is to not lose a potential 10x, but know
that, if earnings shrink, then so will the PE
that’s been bid up high – double whammy.
• It’s harder to stick with a winning stock after
price increases, vs, continuing to believe in a
company after price falls. If you’re in danger
of being faked out into selling, revisit the
reasons / story, as to why you bought it in
the first place. There are 2 ways investors
can fake themselves out of the big returns
that come from great growth companies.
i) Waiting to buy the stock when it looks
cheap: Throughout its 27-year rise from
a split-adjusted 1.6 cents to $23, WalMart 

never looked cheap compared to
the market. Its PE rarely dropped <20x,
but earnings were growing at 25-30%
Any business that keeps up a 20-25%
growth rate for 20 years rewards its
owners with a massive return even if the
overall market is lower after 20 years.
ii) Underestimating how long a great
growth company can keep up the pace.
These "nowhere to grow" theories come
up often & should be viewed sceptically.
o Don't believe them until you check
for yourself. Look carefully at where
the company does business and at
how much growing room is left.
Whether or not it has growing room
may have nothing to do with its age.
o Wal-Mart IPO’d in 1970. By 1980 =
stock 20x, with 7x number of stores.
Was it time to sell, not be greedy, &
put money elsewhere? Stocks don’t
care who owns it and questions of
greed are best resolved in church,
not in brokerage accounts.
o The important issue to analyze was
not whether the Wal-Mart stock
would punish its holders, but
whether the company had saturated
the market. The answer was No.
Wal-Mart’s reach was only 15% of
USA. Over the next 11 years, the
stock went up another 50x.

Sell When
• Hold as long as earnings are growing,
expansion continues and no impediments
arise. Check the story every few months as if
you’re hearing it for the very first time.
• If a Fast Grower rises 50% and the story
starts sounding dubious, sell and rotate into
another, where the current price is <= your
purchase price, but the story sounds better.
• Main thing to watch is the end of phase II of
rapid expansion. Company has no new
stores, old stores are shabby, and the stock
is out of fashion.
• Wall Street covers the stock widely,
institutions hold 60%, and 3 national
magazines fawn over the CEO.
• Large companies with 50x PE!? Even at 40x,
and with wide, saturated presence, where
will the large company grow?
• Last quarter same-store sales are down 3%,
new store sales are disappointing, and the
company is telling positive stories, vs,
showing positive results.
• Top executives / employees leave to join a
rival.
• PE = 30x, but next 2 years’ growth rate =
15%. Therefore, PEG = 2x (very negative)

Examples
• Annheuser Busch, Marriott, Taco Bell,
Walmart, Gap, AMD, Texas Instruments,
Holiday Inn, carpets, plastics, retail,
calculators, disk drives, health maintenance,
computers, restaurants
• While it’s possible to make 2-5x in Cyclicals
and Undervalued situations (if all goes well),
payoffs in Fast Growers like restaurants and
retailers are bigger. Restaurants/retailers
can expand across the country and keep up
the growth rate at 20% for 10-15 years.
• Not only do they grow as fast as high tech
companies, but unlike an electronics or shoe
company, restaurants are protected from
competition. Competition is slower to arrive
and you can see it coming. A restaurant
chain takes a long time to work its way
across the country and no foreign company
can service local customers.
• Taste homogeneity helps scale in food,
drinks, entertainment, makeup, fashion etc.
Popularity in 1 mall = popularity in another.
Certain brands prosper at else’s expense.
• Ways to increase earnings (restaurants):
i) Add more locations
ii) Improve existing operations
iii) High turnover with low priced meals
iv) High priced meals with lower turnover
v) High OPM because of food made with
cheaper ingredients, or, due to low
operating costs
• To break even, a restaurants’ sales must =
Capital Employed. Restaurant group as a
whole may only grow slowly at 4%, but as
long as Americans eat >50% of their meals
out of home, there’ll be new 20x stocks.

People Examples
• Higher failure rate than Stalwarts, but if and
when one succeeds, it may boost income 10-
20-100x.
• Actors, real estate developers, musicians,
small businessmen, athletes, criminals

PE Ratio
• Highest for Fast Growers at 14-20x.
Company with a High PE must have
incredible growth (for next 2 years) to justify
its price. It’s a miracle for even a small
company to justify a 50x PE, as may so
happen during a bull market.
• 1 year forward PE of 40x = dangerously high
and in most cases extravagant. Even fastest
growing companies can rarely achieve 25%
growth, and 40% is a rarity. Such frenetic
growth isn’t sustainable for long & growing
too fast tends to lead to self destruction.
• 40x PE @ 30% growth isn’t attractive, but
not bad if S&P 500 = 23x PE & Coke PEG =
2x (PE = 30x @ 15% growth).
• Unlike Cyclical where the PE contracts near
the end of the cycle, Fast grower’s PE gets
bigger and may reach absurd, illogical levels.
• Earnings are not constant and PE of 40x vs
3x shows investor willingness to gamble on
higher earnings, vs, scepticism about the
cheaply priced company’s future.

PEG

2 Minute Drill
• Where and how can the company continue
to grow fast?
• La Quinta Motels started in Texas. Company
successfully duplicated its formula in
Arkansas & Louisiana. Last year it added
28% more units. Earnings have increased
every quarter. Plans rapid future expansion
& debt isn’t excessive. Motels are low growth
industry and very competitive but La Quinta
has found something of a niche. Long way to
go before it saturates the market.

Checklist
• Percentage of sales – is a new fast growing
product a large % of sales?
• Recent growth rate – favour 20-25% growth
rates. Be wary if growth is > 25%. Hot
industries show growth >50%.
• Proof – has company duplicated its success
in >1 city, for planned expansion to work?
• Runway – does it still have room to grow?
• PE – is it high or low, vs, growth rate?
• Δ Growth rate – is expansion speeding up or
slowing down? For companies doing sales
via large, single deals, vs, selling high
volume & low ticket items, growth slowdown
can be devastating because doing more
volume at bigger ticket sizes is difficult.
When growth slows, stock drops
dramatically.
• Institutional ownership / Analyst coverage –
no presence is a positive, as growth
expectations are still not captured in the
Price or PE.

Portfolio Allocation %
• 30-40% Allocation in Magellan. Magellan’s
allocation to Fast Growers was never >50%.
• 40% in Personal investor’s 10 stock portfolio
• If looking for 10x stocks, likelihood increases
as you hold more stocks. Among several, the
one that actually goes the farthest maybe a
surprise. The story may start at a certain
point, with specific expectations, and get
progressively better. There’s no way to
anticipate pleasant surprises.
• More stocks provide greater flexibility for
fund rotation. If something happens to a
secondary company, it may get promoted to
being a primary selection.

Risk/Reward
• High Risk – High Gain. Higher potential
upside = Greater potential downside.
• +10x / (-100%)
• Major bankruptcy risk for small fast grower’s
via underfinanced, overzealous expansion
• Major rapid devaluation risk for large fast
growers once growth falters, because there’s
no room left for future expansion

The Peter Lynch Playbook
Twitter@mjbaldbard 10 mayur.jain1@gmail.com

Slow Growers

SLOW GROWERS

Traits
• Usually large and aging companies, whose
Growth rate = GNP Growth rate
• When industries slow down, most companies
lose momentum as well
• Easy to spot using stock charts
• Pay large and regular dividends
• Bladder theory of corporate finance: the
more cash that builds up in the treasury,
the greater the pressure to piss it away.
Companies that don’t pay dividends, have a
history of diworseification.
• Stocks that pay dividends are favoured vs
stocks that don’t. Presence of dividend
creates a floor price, keeping a stock from
falling away during market crashes. If
investors are certain that the high dividend
yield will hold up, then they’ll buy for the
dividend. This is one reason to buy Slow
Growers and Stalwarts, since people flock to
blue chips during panic.
• If a Slow Grower stops dividend, you’re
stuck with a sluggish company with little
going for it.

Examples
• GE, Alcoa, Utilities, Dow Chemical

People Examples
• Secure jobs + Low salary + Modest raises =
Librarians, Teachers, Policemen

PE Ratio
• Lowest levels, per PEG. Utilities = 7-9x
• Bargain hunting doesn’t make sense without
growth or other catalyst
• During bull market optimism, PE may
expand to Fast Growers’ PE of 14-20x
• Therefore, the only meaningful source of
return = PE re-rating

2 Minute Drill
• Reasons for interest?
• What must happen for the company to
succeed?
• Pitfalls that stand in the path?
• Dividend Play = “For the past 10 years the
company has increased earnings, offers an
attractive dividend yield, it’s never reduced/
suspended dividend, & has in fact raised it
during good and bad times, including the
last 3 recessions. As a phone utility, new
cellular division may aid growth.”

Checklist
• Dividends: Check if always paid and raised.
• Low dividend payout ratio creates cushion,
higher % is riskier.

Portfolio Allocation %
• 0% - NO Allocation, because without growth,
the earnings & price aren’t going to move.
Risk/Reward
• Low risk-Low gain, because Slow Growers
aren’t expected to do much and are priced
accordingly.

Sell When
• After 30-50% rise
• When fundamentals deteriorate, even if price
has fallen:
o Lost market share for 2 Quarters and
hires new advertising agency
o No new products/R&D, indicating that
the company is resting on its laurels
o Diworseification (>2 recent unrelated
M&A’s), excess leverage leaves no room
for buybacks/dividend increase
o Dividend yield isn’t high enough, even at
a lower price.

The Peter Lynch Playbook

Twitter@mjbaldbard 2 mayur.jain1@gmail.com

The Growth Stocks of Peter Lynch

Peter Lynch

From 1977 through his retirement in 1990, Peter Lynch steered the Fidelity Magellan Fund to a total return of 2,510%, or five times the approximate 500% return of the Standard & Poor's 500 index. In his 1989 book One Up on Wall Street, Lynch described a variety of strategies that individual investors can use to duplicate his success. These strategies divide attractive stocks into different categories, each characterized by different criteria. Among those most easy to identify using quantitative research are fast growers, slow growers and stalwarts, with special criteria applied to cyclical and financial stocks. (The latter, for example, should have strong equity-to-assets ratios as a measure of financial solvency.)

Peter Lynch's Company Categories:

Fast Growers

These companies have little debt, are growing earnings at 20% to 50% a year, and have a stock price-to-earnings ratio below the company's earnings growth rate.

Investing in these types of stocks makes sense for investors who want to find solidly financed, fast-growing companies at reasonable prices.

Slow Growers

Here Lynch is looking for companies with high dividend payouts, since dividends are the main reason for investing in slow-growth companies.

Among other things, he also requires that such companies have sales in excess of $1 billion, sales that generally are growing faster than inventories, a low yield-adjusted price/earnings-to-growth ratio, and a reasonable debt-to-equity ratio.

Investing in these types of stocks makes sense for income-oriented investors.

Stalwarts

Stalwarts have only moderate earnings growth but hold the potential for 30%-to-50% stock price gains over a two-year period if they can be purchased at attractive prices. 

Characteristics include positive earnings; a debt to equity ratio of .33 or less; sales rates that generally are increasing in line with, or ahead of, inventories; and a low yield-adjusted price/earnings-to-growth ratio. 

Investing in these types of stocks makes sense for investors who aren't willing to pay up for high-growth companies but still want the chance to enjoy significant capital gains.

Read more: http://www.nasdaq.com/investing/guru/guru-bios.aspx?guru=lynch#ixzz2fsOsMVsc

Summary of Peter Lynch’s “One up on Wall Street”

Peter Lynch ran the Fidelity Magellan between 1977 and 1990. During this time he created the most enviable US mutual fund track record by averaging returns of 29% per year. To give you an idea of the compounding effect, he would have turned $10,000 into just over $270,000 in 13 years.

General Market observations
• The advance versus decline number paint better picture then the performance
of the market than index movements.
• Do not make comparisons between current market trends and other points in
history.
• For five years after July 1st 1994, $100,000 would have turned into $341,722.
If you missed the best 30 days, would have been worth $153,792.
• "The bearish argument always sounds more intelligent"
• Superior companies succeed and mediocre companies will fail. Investors in
each will be rewarded accordingly.
• Investing in stocks is an art not a science.
• If seven out of ten stocks perform, then I am delighted, if six out of ten stocks
perform, I am thankful. Six out of ten stocks is all it takes to create an enviable
record on Wall Street.
• Stand by your stocks as long as the fundamental story of the company has not
changed.
• There was a 16 month recession between July 81 and Nov 82. This time was
the scariest in memory. Sensible professionals wondered if they should take
up hunting and fishing, because soon we'd all be living in the woods, gathering
acorns. Unemployment was 14% and inflation was 15 %. A lot people said
they were expecting this but nobody mentioned it before the fact. Then
moment of greatest pessimism, when 8 out of 10 swore we where heading
into the 1930s the stock market rebounded with a vengeance and suddenly all
was right with the world.
• No matter how we arrive at the latest financial conclusions, we always prepare
ourselves for the last thing that happened.
• The day after the market crashed on Oct 19th 1987 people started worrying
that the market was going to crash.
• The great joke is that the next time is never like the last time.
• Not long ago people were worried that oil would drop to $5 and we would have
a depression. Two years later the same people were worried that oil would
rise to $100 and we would have a depression.
• When ten people would rather talk to a dentist about plaque then to a fund
manager about stocks, then it is likely the market is about to go up.
• “The stock market doesn't exist, it is there as a reference to see of anybody is
offering to do anything foolish” - Warren Buffett
• If you rely on the market to drag your stock along, then u might as well go to
Atlantic City and bet on red or black.
• Investing without research is like playing stud poker without looking at the
cards.

Categorising stocks
When you buy into stocks you need to understand why you are buying. In doing
this, it helps to categorise the company in determining what sort of returns you
can expect. Catergorising also enforces some discipline into your investment
process and aids effective portfolio construction. Peter Lynch uses the six
categories below
• Sluggards (Slow growers) – Usually large companies in mature industries
with earnings growth below or around GDP growth. Such companies are
usually held for dividend rather than significant price appreciation.
• Stalwarts (Medium growth) - High quality companies such as Coca-Cola,
P&G and Colgate that can still churn out high single digit/low teens growth.
Earnings patterns are not cyclical meaning that these stocks will protect
you recession.
• Fast growers – Companies whose earnings are growing at 20%+ and have
plenty of runway to attack e.g. think Google, Apple in their early days. It
doesn’t have to be a company as “sexy” as those mentioned.
• Cyclicals – Companies whose fortunes are closely linked to the economic
cycle e.g. automobiles, financials, airlines.
• Turn-arounds – Companies coming out of a depressed phase as a result of
change in management, strategy or corporate restructuring. Successful
turnarounds can deliver stunning returns.
• Asset plays – Firm has hidden assets which are undervalued or not
recognized at all on the balance sheet or under appreciated by the market
e.g. cash, land, property, holdings in other company.
General observations about different types of stocks
• Wall Street does not look kindly on fast growers that run out of stamina and
turn into slow growers and when that happens the stock is beaten down
accordingly.

Three phases of growth:
• Start-up phase: during which it works out kinks in the business model.
• Rapid expansion phase: moves into new locations and markets.
• Mature phase: begins to prepare for the fact there's no easy to continue to
expand.
• Each of these phases may last several years. The first phase of the riskiest
for the investor, because the success of enterprise isn't yet established.
The second phase in safest, and also where the most money is made,
because the company is going to think about duplicating it's successful
formula. The third phase is when challenges arise, because of company
runs into its limitations. Other ways must be found to increase earnings.
• You can lose more than 50 percent of your investment quickly if you buy
cyclicals in the wrong part of the cycle.
• You just have to be patient, keep up with the news and read it with dispassion.
• After it came out of bankruptcy, Penn Central had a huge tax loss to carry
forward which meant when it had to start earning money it wouldn't have to
pay taxes. It was reborn with a 50% tax advantage.
• It's impossible to say anything about the value of personal experience in
analysing companies and trends.
• Companies don't stay in the same category forever. Things change. Things
are always changing.
• It's simply impossible to find a generic formula that sensibly applies to all the
different kinds of stocks.
• Understand what you are expecting from the stock given its categorisation. Is
it the sort of stock you let run, or do you sell for a 30-50% gain.
• Ask if any idiot can run this joint, because at some point an idiot will run it.
• If you discover an opportunity early enough, you will probably get a few dollars
off its price for its dull name.
• A company that does boring things with a boring name is even better.
• High growth and hot industries attract a very smart crowd that want to get into
the business. That inevitably creates competition which means an exciting
story could quickly change.
• Try summarise the stock story in 2 minutes.
• Ask if the company is able to clone the idea.
• For companies that are meant to be depressed you will find surprises in one
out of ten of these could be a turnaround situation. So it always pays to look
beyond the headlines of depressing companies to find out if there is any thing
potentially good about the stock.

Financial analysis
• When cash is increasing relative to debt that is an improving balance sheet.
The other way around is a deteriorating balance sheet.
• When cash exceeds debt it's very favourable.
• Peter Lynch ignores short-term debt in his calculations. He assumes the
company that other assets can cover short term debt.
• With turnarounds and troubled companies, I pay special attention to debt.
Debt determines which companies survive and which will go bankrupt in a
crisis. Young companies with heavy debts are always a risk.
• Bank debt is the worst kind is due on demand.
• Commercial paper is loaned from one company to another for short periods of
time. It's due very soon and sometimes due on call. Creditors strip the
company and there is nothing left for shareholders.
• Funded debt is the best kind from a shareholders point of view. It can never be
called no matter how bleak the situation is.
• Pay attention to the debt structure as well as amount of debt when looking at
turnarounds. Work if the company has room for maneuver.
• Inventory - The closer you get to a finished product the less predictable the
resale value.
• Overvalued assets on the left of the balance sheet are especially treacherous
when there is a lot of debt on the right. Assets can easily fall in value whilst
debt is fixed.
• Keep a careful eye on inventories and think about what the value of
inventories should be. Finished goods are more likely to be subject to
markdowns then raw materials. In the car industry new cars are not prone to
severe markdowns compared to say the clothes industry.
• Looks for situations where there is high cash flow and low earnings. This may
happen because the company is depreciating a piece of old equipment which
doesn't need to be replaced in the immediate future.

The final checklist
• P/E ratio. Is it high for this particular company other similar companies in the
same industry?
• The percentage of institutional ownership. The lower the better.
• The record of earnings to date and whether the earnings are sporadic or
consistent. The only category where earnings may not be important is in the
asset play.
• Whether the company has a strong balance sheet or a weak balance sheet
and how it's rated for financial strength

When to Sell
Slow Grower
• I try sell when there's been a 30 to 50% appreciation or when the
fundamentals have deteriorated, even if the stock has declined in price.
• The company has lost market share for two consecutive years and is hiring
another advertising agency.
• No new products are being developed, spending research and development is
curtailed, and the company appears to be resting on its laurels.
Stalwart
• These are the stocks that I frequently replace for others in the category. There
is no point expecting a quick tenbagger in stalwarts and if the stock price get
above the earnings line, or if the P/E strays to far beyond on the normal range,
you might think about selling it and waiting to buy back later at a lower price or
buying something else as I do.
Cyclicals
• Extended run in upturn means a downturn could be nearing.
• One of the sell signal is inventories are building up in the company and can't
get rid of them, which means low prices and low profits down the road.
Fast grower
• If the company falls apart and the earnings shrink, and so will the P/E multiple
that investors have bid up on the stock. This is a very expensive double
whammy for the loyal shareholders.
• The main thing to watch for is the end of the second phase of rapid growth.
Turnaround
• The best time to sell a turnaround is after its turned - around. All troubles are
over and everybody knows it. The company has become the old self that was
before it fell apart: growth companies or cyclical or whatever. you have to do
reclassified stock.
Asset Play
• When the stock price has risen to the estimated value of the assets.

Silliest things people say about stocks
• If it's gone down this much already it can't go much lower
• You can always tell when a stocks hit bottom
• If it's gone this high already, how can it possibly go higher?
• It's only three dollars a share: what can I lose?
• Eventually they always come back

Things I have seen and general advice
• Most of the money I make is in the third of fourth-year that I've held the stock.
• In most cases it is better to buy the original good company at the high-priced
than it is to jump on the next “Apple or Microsoft” at a bargain price.
• Trying to predict the direction of the market over one year, or even two years,
is impossible.
• You can make serious money by compounding a series of 20 to 30% gains in
stalwarts.
• Just because the price goes up doesn't mean you are right.
• Just because the price goes down doesn't mean you're wrong.
• Stalwarts with heavy institutional ownership and lots of Wall Street covered
that outperform the market are due for arrest or a decline.
• Buying a company with mediocre prospects just because the stock is cheap is
a losing technique.
• Selling an outstanding fast-growing because the stock seems slightly
overpriced is a losing technique.
• Don't become so attached to a winner that complacency sets in and you stop
monitoring the story.
• By careful pruning and rotation based on fundamentals, you can improve your
results. If stocks are out of line with reality and better alternatives exist, sell
and switch into something else
• There is always something to worry about.
• Stick around to see what happens – as long as the original story continues
make sense, or gets better – and you'll be amazed at the result in several
years.
• One of the biggest troubles with stock-market advice is that good or bad it
sticks in your brain. You can't get it out of there, and someday, sometime, you
may find yourself reacting to it.
• I almost didn't buy La Quinta because in important insider had been selling
shares. Not buying because an insider have started selling can be as big a
mistake as selling because an outsider had stopped buying. In La Quinta's
case I ignored the nonsense, and I'm glad I did.
• You don't have to "kiss all the girls". I've missed my share of 10 baggers and
hasn't kept me from beating the market.


http://twitdoc.com/upload/funalysis/summary-of-one-up-on-wall-street-peter-lynch.pdf

Slow Grower versus Fast Grower

Rather than focus on price alone, we prefer to use measures of value that relate the price of a stock to some measure of how the company is performing as a business. There are many to choose from, but we recommend two tried and true favorites:

• The price-to-earnings ratio (P/E) and 
• The price-to-sales ratio (P/S).

These ratios measure a stock’s price relative to its earnings or its sales. In the simplest terms, they show a prospective investor how many years’ worth of one share’s earnings (or sales) it would cost to buy a single share of a company’s stock.

Example:

http://spreadsheets.google.com/pub?key=tACdu4SdYelgtyWJpKMMkjQ&output=html

If a stock had a price of $10 and earnings of $1, it would have a P/E of 10. An investor would have to pay 10 years’ worth of a share’s earnings to buy a share of stock in this company. A $10 stock with a P/E of 20 is only earning 50 cents per share, and by this measure, would be twice as expensive as the other $10 stock, since it would cost the investor 20 years’ worth of earnings to buy it.

The lower the P/E, the cheaper the stock - not necessarily in dollar terms, but in terms of this measure of their value. How could such a large difference in value exist?

A P/E ratios are based on the current price and current earnings. (Analysts use either the last year’s earnings or a forecast of next year’s earnings in the calculation.) If a company’s earnings are expected to grow quickly over the years, then this higher expected future earnings stream is considered by buyers to be worth a higher price up-front (i.e. higher P/E).

The table shows the implied future price of two $10 stocks with differing earnings growth rates, assuming they continue to sell at whatever price keeps their P/E ratios unchanged (at 10 for the slower grower, and at 20 for the fast grower). The “expensive” $10 fast grower could look pretty cheap 10 years from now compared to the slow grower, even if it costs twice as much relative to earnings today.

Notice that even though the fast grower’s earnings don’t actually catch up to the slow grower’s earnings until year 15, by then the stock is worth twice as much. The fast growth rate and the expected effect on future prices are driving the price, not the actual level of earnings.

The problem, of course, is that the expected future often has a way of being very different from the future that actually happens. If the lofty expectations priced into a high P/E stock aren’t met, the price tends to take a bigger hit than if expectations were more modest.

One of the advantages of the P/E ratio (or multiple) is that it is very easy to find. Many newspapers publish this number daily, right alongside the price.