Finding great companies: What you want to see on their financial statements?

Finding great companies: What you want to see on their financial statements?

If you're committed to finding great companies and investing in them, it is time to state clearly what you should actively seek out on financial statements.  Here now is what you should hope to find when you're studying the report of a company that you're considering for investment. 

https://myinvestingnotes.blogspot.com/2010/06/finding-great-companies-what-you-want.html

Main Points of the Article:

1. The Ideal Profile: Look for companies with a cash-rich, asset-light business model that demonstrate operational dominance, pricing power, and financial resilience—similar to Microsoft or Coca-Cola.

2. Balance Sheet Checklist:

   • Lots of Cash: Provides safety and funds growth without external help.

   • Low Flow Ratio (<1.25): The key metric. Indicates operational efficiency and supply chain power: low inventories/receivables and strategically high payables.

   • Manageable Debt: Debt is a tool, but prefer companies with more cash than long-term debt.

3. Income Statement Checklist:

   • High & Consistent Revenue Growth: Sign of strong demand (8-10%+ for large caps, 20-30%+ for small caps).

   • High & Stable Gross Margin (>40%): Indicates a "light" business with pricing power and a competitive moat.

   • Rising R&D Spending: An investment in future growth (especially for tech/pharma).

   • Full Tax Rate (~34%): A quality-of-earnings check. Be wary of profits boosted by temporary tax credits.

   • Strong & Rising Net Profit Margin (>7-10%): The result of a successful, defensible business model.

4. Cash Flow Statement Mandate:

   • Positive Operating Cash Flow: A non-negotiable sign of a self-sustaining business for public companies. Investigate any negatives deeply.

5. Critical Overarching Principles:

   • Context is Key: No rule is absolute. Metrics must be judged relative to industry norms and company life cycle.

   • The "Why" Matters: The story behind the number (e.g., why inventories are high) is more important than the number itself.

   • This is a Quality Filter, Not a Valuation Tool: The checklist identifies great businesses, but does not tell you if the stock is a good buy at its current price.

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Article Summary:

This article provides a practical, fundamentals-based checklist for identifying high-quality companies with durable competitive advantages. It moves beyond simple profitability to focus on operational efficiency, financial strength, and strategic positioning.

The core philosophy seeks businesses that generate so much demand and possess such market power that they:

• Sell inventory quickly.

• Collect payments from customers upfront (low receivables).

• Can delay payments to suppliers (high payables), using that cash as interest-free financing.

• Fund all growth internally with abundant cash, avoiding excessive debt.

The guidelines emphasize looking for strengthening financial trends—rising margins, growing cash, and efficient use of capital. It stresses that while few companies are perfect, this framework helps investors ask the right questions, distinguish operational brilliance from financial distress, and ultimately find businesses built to thrive and generate real wealth over the long term.

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A detailed discussion

This is a highly practical guide to fundamental analysis, focused on identifying high-quality, well-managed companies with sustainable competitive advantages. It moves beyond simple profitability to assess operational efficiency, financial strength, and strategic positioning. Let's break down, discuss, and summarize the key points.

Core Philosophy: The "Ideal" Business Model

The article champions a specific, powerful business archetype: the cash-rich, asset-light operator with pricing power. Think Microsoft or Coca-Cola. These companies:

• Generate products/services with high demand (high revenue growth).

• Have low capital intensity (high gross margins).

• Exercise such market strength that they get paid upfront by customers (low receivables) and can delay paying their suppliers (high, strategic payables), all while holding minimal inventory.

• Use this operational dominance to fund growth internally (plentiful cash, minimal debt).

Summary & Commentary on Key Guidelines

1. Balance Sheet: The Fortress of Financial Health

• Lots of Cash: The ultimate safety net. It provides optionality for investment, acquisitions, or weathering downturns without relying on external capital. Comment: While crucial, context matters (e.g., a mature tech giant vs. a fast-growing biotech startup). The key is why the cash is there and how it's being (or not being) deployed.

• Low Flow Ratio (<1.25): This is the article's most nuanced and insightful metric. It measures operational efficiency and supply chain power.

  • Low Numerator (Non-cash Current Assets): Means the company isn't tying up cash in inventory (it sells quickly) or waiting on customers to pay (it collects quickly).

  • High Denominator (Non-debt Current Liabilities): Means the company is using its suppliers' money as interest-free financing—a sign of strength, not weakness, if done from a position of cash abundance.

  • Comment: This is a brilliant way to separate operational genius from financial distress. The caveat about small-caps is vital; they lack the clout of giants, so a higher ratio isn't automatically a red flag.

• Manageable Debt: Debt is a tool, not a sin. The guideline wisely avoids a hard rule, favoring a preference for companies with "more cash than long-term debt." Comment: The debt-to-equity assessment must be industry-specific (utilities vs. software). The critical questions are: What is the debt for? Can operating earnings easily cover interest payments?

2. Income Statement: The Engine of Profitability

• High Revenue Growth: The primary indicator of demand. The article sets good benchmarks: 8-10%+ for large caps, 20-30%+ for small caps. Comment: Sustainable growth is key. Growth from acquisitions or price hikes alone is less robust than organic, volume-driven growth.

• Controlled Cost of Sales & High Gross Margin (>40%): This is the moat indicator. A high and stable/rising gross margin shows pricing power and an ability to scale efficiently. The "light business" bias is clear—intellectual property and software are favored over heavy manufacturing. Comment: Absolutely critical. A shrinking gross margin is often the first sign of competitive pressures.

• Rising R&D: Framed as an investment in the future, especially for relevant sectors. Stagnant or falling R&D can signal a company is milking a legacy business at the expense of its future. Measuring it as a % of sales is smart.

• Full Tax Rate (~34%): A clever quality-of-earnings check. Companies using loss carryforwards or other credits boost current earnings artificially. "Taxing" them at the full rate reveals the true, sustainable profit growth.

• Strong & Rising Net Profit Margin (>7-10%): The bottom-line result of all the above. High margins in a capitalist system signal a successful defense against competition. As the article notes, some great businesses (e.g., high-volume retailers) operate on thin margins, but they are exceptions that prove the rule.

3. Cash Flow Statement: The Reality Check

• Positive Operating Cash Flow: Non-negotiable for a mature public company. Earnings are an opinion; cash is a fact. Negative operating cash flow means the business isn't self-sustaining. Comment: This is the ultimate litmus test. You must investigate the reason for any negativity (e.g., a temporary inventory build for a hot product vs. soaring receivables because customers won't pay).

Critical Discussion Points & Caveats

1. The "Ideal" is Rare: The author admits few companies hit all marks. The checklist is a framework for excellence, not a pass/fail test. It helps you compare companies and ask the right questions.

2. Industry Context is Everything: Applying these rules rigidly across sectors is a mistake. Comparing the flow ratio of a software firm (low inventory, high payables) to a supermarket chain (high inventory, low payables) is meaningless. The guidelines work best for evaluating companies within their peer group.

3. The "Why" is More Important Than the "What": This is the article's most important lesson. A high flow ratio could be brilliant or disastrous. Spiking inventory could be mismanagement or preparation for a blockbuster launch. Your job as an investor is to discover the narrative behind the numbers.

4. No Valuation Consideration: The article explicitly stops at quality identification. A great company can be a terrible investment if you pay too much. The next critical step is to determine if the company's stellar characteristics are already reflected in an inflated stock price, or if there's an opportunity to buy a wonderful business at a fair price.

5. Quality of Earnings: The guidelines subtly emphasize this throughout (tax rate, cash flow vs. net income, receivables). They push you to ask: "How sustainable, real, and repeatable are these profits?"

Final Summary: The Investor's Checklist

You are looking for a company that demonstrates:

• Operational Dominance: Low Flow Ratio. It controls its working capital cycle like a master, collecting fast and paying slow because it can.

• Financial Fortress: Ample cash, minimal (or smartly used) debt. It is self-funding and low-risk.

• Profitable Growth: Strong, consistent revenue growth combined with high and expanding margins (both gross and net). It sells more while keeping more of each dollar.

• Real Cash Generation: Consistently positive cash flow from operations. The profits are genuine and liquid.

• Future Focus: Willingness to reinvest in the business (R&D) to maintain its competitive edge.

• Clean Accounting: Pays close to the full corporate tax rate, suggesting earnings are not being boosted by non-recurring credits.

In essence, you are seeking a business that is not just profitable, but efficiently, powerfully, and sustainably profitable, with a model that throws off excess cash and fortifies itself against competition and hardship. This framework provides a powerful lens to separate truly exceptional businesses from merely adequate ones.

Which type of Company would you rather own?

 

Which type of Company would you rather own?

https://myinvestingnotes.blogspot.com/2010/06/which-type-of-company-would-you-rather.html

Would you prefer to own:

A.  One that consistently posts better earnings and whose stocks plows steadily higher?

or

B.  One that made the same amount of money for six years but was (a) profitable and (b) disciplined in paying hefty dividends back to investors?  (Note:  These companies are harder to find, but in such situations, a no- or low-growth company may actually be OK.)

or

C.  One that has made the same amount of money for six straight years, has little sense of enterprise, and has a stock that is trading at the same price it was ten years ago?


Related:

Be a stock picker: Buy GREAT companies and hold for the long term until their fundamentals change

Examples of companies in:

A - PetDag, PBB, LPI, PPB

B - Nestle, Guinness, DLady

C - Too many in this group in the KLSE.

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This is a question that gets to the heart of business quality, capital allocation, and what it truly means to be an "owner" of a company.

Let's analyze each option, with a discussion on the underlying principles.

Analysis of Each Option

A. The "Growth" Company

• Profile: Consistent earnings growth, steady stock price appreciation.

• Pros: This is the market darling. The compounding effect of a rising share price can create tremendous wealth. It suggests a capable management team that is expanding the business, gaining market share, or improving margins. This is the classic story stock.

• Cons & Risks: The critical question is how this growth is achieved. Is it through genuine organic investment in productive assets, or through aggressive accounting, excessive leverage, or dilutive acquisitions? A stock that "plows steadily higher" can also become overvalued, setting up for a painful correction if growth slows. Furthermore, if management reinvests all earnings back into the business, you as an owner see no direct cash return unless you sell shares.

B. The "Owner-Oriented" Company

• Profile: Stable earnings, highly profitable, disciplined in paying hefty dividends.

• Pros: This is a cash cow with exceptional capital discipline. Management acknowledges that not all earnings need to be reinvested in a low-growth business. Instead, they return excess capital to you, the owner, via dividends. This provides a tangible, recurring return on your investment independent of the whims of the stock market. It signals honesty, discipline, and respect for shareholders. The "hefty dividends" create a high "owner yield."

• Cons & Risks: The lack of growth can be a psychological drag in a market obsessed with momentum. If the business environment deteriorates, the high dividend could become unsustainable. The stock price may not see dramatic appreciation.

C. The "Stagnant" or "Value Trap" Company

• Profile: Flat earnings, no sense of enterprise, stagnant stock price for a decade.

• Pros: There are almost none, except for the remote possibility of a deep-value turnaround or activist intervention. Sometimes such companies trade far below their asset value (e.g., net cash, real estate).

• Cons & Risks: This is the classic value trap. A flat stock price for ten years, ignoring inflation, means you have lost significant purchasing power. "Little sense of enterprise" suggests a complacent or incompetent management that is either hoarding cash uselessly or making poor, value-destructive investments. This is dead capital.

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My Choice and Elaboration

I would unequivocally prefer to own Company B.

Here’s the reasoning, framed by the mindset of a business owner, not a stock trader:

1. The Primacy of Cash Flow and Capital Allocation: Company B demonstrates the two most important traits of a wonderful investment: high profitability and superior capital allocation. Earnings are an accounting opinion; cash is a fact. A company that is highly profitable and chooses to return that cash to me via dividends is putting money directly in my pocket. I can then choose to reinvest that cash elsewhere (the concept of "capital recycling").

2. Management as a Steward, Not an Empire Builder: Company B's management understands its role as a steward of shareholder capital. They recognize the limits of their business's growth opportunities and don't force expensive, ego-driven expansions. Instead, they act as a faithful conduit, transforming business profits into shareholder income. This alignment of interests is priceless.

3. Company A vs. Company B: The "Growth vs. Return" Debate: Company A might be more exciting, but it carries higher valuation and execution risk. My return is entirely contingent on finding a future buyer at a higher price (the "greater fool" theory, though in this case, it's based on growth). With Company B, my return is locked in via the dividend. If Company A's growth is genuine and sustainably financed, it could be superior. However, without examining the balance sheet and cash flow, Company B presents a far more predictable and lower-risk outcome. A bird in the hand is worth two in the bush.

4. The Power of Dividends in a Flat Market: In a sideways or bear market, Company B's shareholders are still getting paid. The dividend provides a positive return and psychological comfort. For Company A and C shareholders, a flat market is pure frustration.

5. Why Company C is Uninvestable: Company C is a lesson in value destruction. Flat earnings over six years in a growing economy suggests competitive decline. A stagnant stock price over ten years is a glaring red flag of management failure. Capital is likely being wasted. Owning this is owning a melting ice cube.

Broader Discussion: The "Quality" Framework

This question mirrors the philosophy of investors like Warren Buffett (in his later years), Nick Sleep, and managers of "Quality" or "Compounders" funds. They seek businesses that:

• Have a durable competitive advantage (hence high profitability).

• Require minimal incremental capital to operate (high free cash flow conversion).

• Are run by management that rationally allocates capital (through dividends, buybacks, or shrewd small acquisitions).

Company B fits this perfectly. It may not be a hyper-growth story, but it is a wealth-compounding machine when you, the owner, consistently reinvest those hefty dividends.

Final Verdict: B > A > C.
While A could theoretically generate higher absolute returns, B offers a superior combination of profitability, capital discipline, and risk-adjusted returns. It represents a business you can truly own for decades, sleep well at night, and build real wealth from the cash it throws off. Company C is a trap to be avoided at all costs.

Growth in profits have LITTLE role in determining intrinsic value.

 

Growth in profits have LITTLE role in determining intrinsic value.

https://myinvestingnotes.blogspot.com/2010/04/growth-in-profits-have-little-role-in.html

Growth in profits have LITTLE role in determining intrinsic value.  It is the amount of capital used that will determine value.  The lower the capital used to achieve a certain level of growth, the higher the intrinsic value.

Growth benefits investors only when the business in point can invest at incremental returns that are enticing - in other words, only when each dollar used to finance the growth creates over a dollar of long-term market value. In the case of a low-return business requiring incremental funds, growth hurts the investor."

If understood in their entirety, the above paragraph will surely make the reader a much better investor.

Growth in profits will have little role in determining value. It is the amount of capital used that will mostly determine value. Lower the capital used to achieve a certain level of growth, higher the intrinsic value.

There have been industries where the growth has been very good but the capital consumed has been so huge, that the net effect on value has been negative. Example - US airlines.

Hence, steer clear of sectors and companies where profits grow at fast clip but the return on capital employed are not enough to even cover the cost of capital.

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 It captures a fundamental, yet often misunderstood, principle of value investing. Let's break it down, discuss its implications, and summarize.

Core Thesis: Growth is Not a Free Good

The central argument is a direct challenge to conventional market thinking, which often equates "growth" with "value." The passage asserts that growth in profits is not inherently valuable. It only becomes valuable under a specific condition: when the capital required to generate that growth earns a return above the company's cost of capital.

• Growth that Destroys Value: If a company (or an entire industry) must invest massive amounts of capital at low returns (e.g., 4%) to grow profits, but its cost of capital is 8%, it is destroying shareholder wealth with every new dollar invested. The profit number goes up, but the economic value per share goes down.

• Growth that Creates Value: A company that can grow profits by reinvesting minimal capital at high returns (e.g., 25% on capital) is a value-creating machine. Software companies, certain branded consumer goods firms, and platforms with network effects often exemplify this.

Key Concepts Explained

1. "The amount of capital used will determine value."

   • This refers to the Return on Invested Capital (ROIC). Value is a function of cash flows, and high ROIC means the business generates more cash flow per dollar of capital locked up in the business. A business with a 30% ROIC is far more valuable than one with a 10% ROIC, even with identical current profits, because its future profit growth will require less dilution or debt.

2. "Each dollar used to finance the growth creates over a dollar of long-term market value."

   • This is the value creation test. The "dollar of long-term market value" is the present value of all future cash flows that dollar of investment will generate. If that present value exceeds $1, management has created value. This is directly linked to investing at a spread above the cost of capital.

3. The Example of US Airlines:

   • This is a classic case. The industry has seen consistent growth in passenger traffic and, at times, profits. However, it is fiercely competitive, requires enormous ongoing capital expenditures (planes, maintenance, gates), and has historically earned returns below its cost of capital. The net effect over decades has been wealth destruction for equity investors, despite being a vital and growing service.

Commentary and Nuance

• Echoes of Great Investors: This philosophy is pure Warren Buffett (inspired by his mentors Ben Graham and Charlie Munger) and Michael Mauboussin. Buffett famously said, "The best business is one that can employ large amounts of incremental capital at very high rates of return." He also warned about "the institutional imperative" that pushes managers to pursue growth at any cost, even value-destructive growth.

• Link to "Economic Moats": A business's ability to reinvest at high rates over time is protected by its competitive advantage or "moat." Wide-moat businesses (strong brands, patents, network effects) can sustain high ROIC as they grow. No moat means competition will quickly drive returns down toward the cost of capital.

• The Investor's Practical Takeaway: The passage instructs investors to look beyond the headline "profit growth" figure.

  1. Primary Metric: Focus on Return on Capital Employed (ROCE) or ROIC.

  2. Compare: Weigh the ROIC against the company's estimated Weighted Average Cost of Capital (WACC).

  3. The Rule: Seek companies where ROIC > WACC, and where this spread is sustainable. Be deeply skeptical of high-growth companies with low or declining ROIC.

  4. Sector Selection: As advised, be wary of sectors prone to value-destructive growth cycles—airlines, traditional telecom, capital-intensive manufacturing—unless there is a clear, structural shift toward discipline and higher returns.

Summary

In essence, the passage makes a critical distinction:

• Naive View: Growth in Profits → Higher Intrinsic Value.

• Sophisticated View: Growth in Profits at High Returns on Capital → Higher Intrinsic Value. Growth in Profits at Low Returns on Capital → Can Actually Destroy Intrinsic Value.

The ultimate determinant of value is not growth itself, but the quality of that growth as measured by the return on the capital required to achieve it. An investor who internalizes this shifts their focus from the top-line growth story to the economics of the business model, thereby avoiding value traps disguised as growth stories and identifying truly exceptional compounding machines. This is, indeed, what makes a "much better investor."

GENM: Short-Term Downgrade Risk vs. Long-Term Growth Potential

Based on the provided articles from The Edge Malaysia (dated December 4, 2025), here is a structured analysis and discussion of the key themes and implications for Genting Bhd and Genting Malaysia Bhd:

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1. Core Conflict: Short-Term Downgrade Risk vs. Long-Term Growth Potential

The articles highlight a clear tension between:

• Immediate financial concerns: High debt, weak cash flow, and looming credit rating downgrade risks for both Genting and Genting Malaysia.

• Long-term optimism: Strong growth prospects from the Resorts World New York City (RWNYC) expansion, which could significantly diversify earnings and boost profits from 2026 onward.

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2. Credit Rating Downgrade Risks

CreditSights (a Fitch Solutions company) warns that:

• Genting Bhd has breached Moody’s and Fitch downgrade triggers based on 9M2025 pro-forma numbers:

  • Retained cash flow/net debt below 20% (Moody’s trigger: 20–25%).

  • Gross leverage at 5.9x (above Moody’s 4x trigger).

  • EBITDA net leverage over 5x (above Fitch’s 3.5x threshold).

• A downgrade would push Genting to Baa3/BBB- (near junk status), which would also affect Genting Malaysia’s rating.

• Triggers: Weak cash flow, high leverage, and the US$5.5 billion RWNYC expansion largely funded by debt.

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3. RWNYC Expansion: Opportunities & Challenges

Opportunities:

• First-mover advantage in downstate New York casino licensing.

• Expected to start live table games by mid-2026, with full ramp-up to 800 tables by 2029.

• TA Research forecasts net profit growth of 10.7% in FY2026 and 15.6% in FY2027 for Genting Malaysia.

• RWNYC’s location (Queens) offers strong local and tourist demand.

Challenges:

• Regulatory hurdles: NY Gaming Facility Location Board has yet to finalize license terms, and recommended reducing slot machines and tables.

• High capital outlay: US$5.5 billion upgrade, largely debt-funded, increasing leverage.

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4. Privatization & Shareholding Structure

• Genting Bhd’s takeover bid for Genting Malaysia closed on Dec 1, 2025, raising its stake to 73.133%.

• CreditSights believes privatization is unlikely; the goal is to strengthen control, not delist.

• The offer price of RM2.35/share was considered unattractive by some analysts.

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5. Market Performance & Analyst Views

• Stock performance: Both Genting and Genting Malaysia shares fell on Dec 3, 2025.

  • Genting Malaysia: RM2.19 (-2.67%), market cap RM13 billion.

  • Genting: RM3.27 (-0.61%), market cap RM12.68 billion.

• Divergent analyst ratings:

  • TA Research: "Buy" with TP of RM3.06 (bullish on RWNYC).

  • CIMB: "Hold" with TP of RM2.55 (cautious on regulatory delays).

  • HLIB: "Hold" with TP of RM2.35 (neutral).

  • CreditSights: "Market perform" on Genting, "Outperform" on Genting Malaysia.

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6. Mitigating Factors & Potential Catalysts

• Asset sales: Genting’s potential sale of Miami land (US$1 billion) could improve liquidity and avoid breaching rating triggers in FY2026.

• Geographic diversification: Genting has non-gaming businesses and cash-rich subsidiaries (e.g., Genting Singapore).

• Earnings recovery expected in Singapore, UK, and Las Vegas operations.

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7. Conclusion: Balancing Risk vs. Reward

Investors are currently weighing:

• Short-term risks: High leverage, weak cash flow, rating downgrade threats, regulatory uncertainty in NY.

• Long-term rewards: Potential for significant earnings growth from RWNYC, geographic diversification, and possible asset sales.

The stock’s recent decline reflects market caution despite optimistic growth projections. Success in New York is critical for Genting Malaysia’s future earnings and debt management.

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Recommendation for Investors:

• Monitor: NY licensing progress (deadline Dec 31, 2025), Genting’s leverage ratios, and potential asset sales.

• Balance: Short-term volatility against long-term growth narrative.

• Consider: Genting Malaysia’s "outperform" rating from CreditSights if RWNYC proceeds smoothly and leverage is managed.

This situation is a classic case of high-risk, high-reward investing, with significant uncertainty around both regulation and financing in the near term.