In This Chapter
Finding the information value investors seek Looking to investor resources for facts and analysis Exploring value investing tool kits and Web sites
W
ithout a doubt, information is the fuel that drives all forms of invest- ing today. This is especially true for the do-it-yourself investing styles that have emerged since the 1980s with personal computers and the Internet.Whether you’re a long-term value investor or a minute-to-minute trader, you use some form of financial information to make investing and trading decisions.
This chapter provides an overview of the types of investing information needed to make value investing decisions, and the various sources of that information. We examine the quality of those sources and their cost to you, but by no means do we offer a complete list. The chapter presents some favorites with an emphasis on low cost and simplicity. It’s a good guess that your approach to acquiring information and other tools is similar to your investing approach: It’s value-based.
In some ways, this chapter puts the cart before the proverbial horse because we haven’t yet described value investing techniques and practices, and you may not know what to look for. The information in this chapter will become more valuable as your understanding of value investing increases, so the best advice is to read this chapter once as an introduction and then return to it repeatedly as you refine your value investing system.
It’s assumed that most of you are connected to the Internet. The Web has made research and information gathering so easy, cost-effective, and straight- forward that, really, no investor should do without it. True value investing is a long-term endeavor, making the real-time nature of Web-based information relatively less important compared to other investing styles. But it’s much
easier and often cheaper on the Web. That said, published information avail- able by mail or even at your local library can be quite sufficient. Most of what’s presented here, however, is available online.
What a Value Investor Looks For
No two investors are alike — that’s a fundamental principle of investing and investors. Inevitably, investing combines art and science. Quantifiable and unquantifiable facts are put into the pot, and the resulting stew is interpreted according to taste. The “science” part is using numbers, facts, and formulas to measurebusiness value. The “art” part is taking all the facts and measure- ments together and weighing them according to intuition and experience to judge the most likely outcome or set of outcomes.
This intertwining of art and science is, in fact, what makes markets work. The difference of opinion and judgment coming from thousands of investing
“pots,” combined with differing investing objectives, is what makes markets go up and down. Just as there is no single value investing formula, there is no one set of investing resources guaranteed to make youa successful value investor. We can provide only the ingredients — and the pot.
Further, like so many other things in life, the law of diminishing returns applies.
Too much information is, indeed, too much information. As all bargain hunters know from experience, driving by every gas station in town in search of a slightly better deal doesn’t make sense. Similarly, using too many information sources will probably just confuse you. The best advice: Pick a couple infor- mation sources, learn all you can from them, and use them consistently. In other words, keep it simple. The rest of this chapter is concerned with the facts, analysis of those facts, and the intangibles value investors need to properly blend art and science into their investing decisions.
Facts and more facts
All value investors need facts about a company’s financial and operating per- formance. These facts, and there are lots of them, provide the foundation for value analysis. Value investors look for current or most recent performance and also trends and changes that can help paint a picture of the future. These facts are available from the company itself as financial statements or from one of many information sources that repackage company-provided data for investor use.
Financial results
Financial statements provide a picture of company assets, liabilities, earn- ings, and growth. The balance sheetpresents a snapshot of assets, liabilities,
and net worth. The income statementshows revenues, expenses, and earn- ings for a set period of time. The statement of cash flowsfollows the income statement, showing where cash is obtained and used in the business. Each of these usually has supporting tables and information conveying other key aspects of financial and operating performance. See Chapters 6–8.
Financial trends
As presented, financial statements usually show the most recent performance, as a snapshot (balance sheet) or as the most recent period of activity (income and cash flow statements). The most recent information is, of course, impor- tant. But it is also helpful to capture and measure change as it occurs over time. Like history itself, the past, and the changing trend patterns throughout the past, often suggest the future.
Good trend data, and especially good trend analysis, is hard to come by.
Many financial sources, including company reports, show only the past two, maybe three years of performance. Not bad, but seeing where a company has been for the last five, ten, or even more years is really helpful. For example, if profits or profit margins have grown steadily over the last three years, that’s nice to know. But it says more if that trend is solid over the past ten or so years. Better financial information sources give enough facts to see trends.
Comparative metrics, ratios, and percentages
Similarly, it’s easier to see how good or how bad a set of facts is by compar- ing it to another set of facts — either within the boundaries of a single com- pany or across different companies in the same business. From raw financial data the value investor can construct ratios — relationships between facts that offer clues to financial safety, quality, profitability, and efficiency, thus providing a clearer picture of company value. Ratios also serve to normalize data so that companies can be compared to other companies or whole indus- tries. Price/earnings, price/book, price/sales, and debt/equity are examples, and there are many others. We explain more about ratios in Chapter 10.
Like ratios, percentages relate facts to other facts and help paint a clearer pic- ture of company performance and normalize data for comparison. Examples include return on equity (ROE), return on assets (ROA), and gross and net profit margin. ROE, ROA, and margins are explored in depth in Chapter 13.
Marketplace facts
As will be seen later on, financial facts represent past business results pro- duced by a business, while marketplace facts can often be a leading indicator of future financial results. So it’s important to understand metrics like market share, customer base, or unit sales growth wherever possible. Unfortunately, companies aren’t required to report such facts and often choose not to do so for competitive reasons — you’ll have to rely on what a company does dis- close and on market analysis done by third parties.
The term marketor marketplaceis used frequently throughout the book.
We’re talking about how a company performs in its marketplace — where it sells its products and services — not how it performs in the stock market.
Marketplace information is not about stock price history or trends, relative strength, or any other technical analysis of stock price behavior.
Operating facts
Certain kinds of operational facts or metrics can also be used as a measure to compare companies or to support financial analysis. It’s interesting to know the number of employees, stores, plants, or square feet as measures of size of operations. From there, one can determine productivityor efficiency— how much revenue, profit, and so on is produced per unit of operational activity.
Hence, some call these unitmeasures. Some unit measures are general, such as employee counts, while some are more specific to a particular industry, such as seat miles flown for the airline industry.
Fact sources
As you can probably imagine, it’s easy to immerse yourself into more facts and data than you can possibly absorb or do anything useful with. The trick, as a value investor, is to develop a series of sources providing what you want, in the form you want it, with the right timing, so that you can analyze a busi- ness or get a useful update without spending hours on the details.
More information is not always better. Seasoned investors find and use the right sources for the right information at the right time at the right cost.
Annual and quarterly reports
Most American companies are required by law to provide annual and quar- terly financial summaries to their investors and the financial community.
There are two kinds of annual reports: One is a “consumer-friendly” version with pictures and descriptions of the company’s business with the appropri- ate financial facts included, usually in the back of the report. The other is the so-called “10-K” annual report, submitted according to guidelines to the Securities and Exchange Commission (SEC). This report is more detailed overall, with more supporting financial facts and an analysis of the company business, including key marketing and operating facts.
Quarterly reports, also required, summarize the most recent business activ- ity and major changes during the quarter. The “10-Q” version, similarly, has more detail and is cast to SEC standards. Annual reports give a good hands- on financial summary, often with a healthy dose of marketing and operational data. They may have considerable “lookback” data for determining trends, but not always. Quarterly reports are usually issued concurrent with earnings announcements, but annual reports may considerably lag an actual business year.
To get 10-Ks reliably and quickly, the SEC created a Web site known as
“EDGAR,” or “Electronic Data Gathering And Reporting.” “EDGAR Online” can be found at http://sec.gov/edgar.shtml. While Edgar will help you find annual reports and other filings, today it’s almost become easier just to go to the company “Investor Relations” page. Annual reports are usually available, are easily downloadable, and have indexes to help you hone in on what you want. The upshot is you don’t have to mail the company a postcard and wait 3 weeks to get an annual report (or buy shares) like you did 20 years ago.
Financial portals
Printed materials, such as annual reports, used to be investing mainstays — that is, before the Internet. The Internet has done wonders for packaging information, enabling investors to quickly find the current information they need, all without waiting or going anywhere.
Financial portals, such as Yahoo! Finance (finance.yahoo.com), assemble vast amounts of company and performance information, including business descriptions, financial summaries, news items and some comparative analy- ses, performance analyses, and screening tools. Portals are a great source for quick overviews or updates, usually with links to more detailed information.
Although Yahoo! Finance is probably the leading financial portal today, there are others that bear watching, like Google Finance (http://finance.
google.com). Google Finance is currently a work in progress, but Google has long demonstrated a knack for providing the right stuff with easy navigation.
Broker sites
Some years ago, broker sites, especially the Internet brokers like E*Trade and Ameritrade, led the way in bringing information to investors online. Today, most broker sites, even the traditional ones, enable some investing analysis.
The quality and ease of use of their tools varies, and in many cases you have to have an account to get the “good stuff” like professional analysis or stock screeners. Today, most of these sites are geared only to very high-level analy- sis and packaged recommendations, like Standard & Poor’s rating reports.
Research services
There are dozens of companies set up to provide data and analysis to investors; however, many aim at providing these products to professional investors, not you. Companies like S&P and Hoover’s offer huge packages of investment information, but of course, the issue is cost, which can run into the thousands. At this point, Value Line is the one research service aimed at individual investors providing a complete package of — as the name would suggest — value-oriented facts and analysis. More at the end of this chapter.
The best “fact” tools allow investors to (1) view results over time; (2) tie financial performance to operating measures, as in sales per employee or sales per square foot metrics; and (3) compare companies to each other and industry averages.
The soft stuff
In addition to financial information, value investors want a sense of a com- pany’s management effectiveness and market position. This is where a lot of the “art” comes in. Understanding a company’s products and markets is an exercise in judgment helped by looking at Web sites; advertising and market- ing campaigns; the company’s own description of its products; and what you see, hear, and experience on the street.
Management effectiveness can be gauged by looking at a company’s financials and financial ratios, previous marketplace and financial decisions, business execution, acquisitions and mergers, public statements and other “track record” items. Many value investors look at management ownership of com- pany stock as a signal of management commitment.
Market position refers to a company’s approach to the marketplace and the resulting success — or failure — of that approach. Some elements of market position can be measured — like market share — but most of the market appraisal — like brand strength — is subjective. We take a closer look at these “intangibles” in Chapter 14.
The company Web site and annual report
Almost as if in dating or employment relationships, first impressions can be important. And today — unless you’ve been directly involved as a customer or in some other way with a company — first impressions are likely to come from a company Web site.
Company Web sites can tell a lot about a company, including how the com- pany sees itself. A well-organized and presented site, offering easy to get information both to customers and prospective investors, says a lot. Some sites give too much or too little detail — and seem more a monument to man- agement or some professional marketing agency than a real portal into a company’s business or intentions. It doesn’t take long to figure out.
Annual reports — though gradually being replaced by the drier regulatory 10-K format — can also reveal how a company views its business. Again, cus- tomer focus and focus on specific facts and figures are better than endless pictures of managers “in action” at some company facility. If a company is proud of what it does, and talks to you about it on the straight and narrow, that’s a plus.
News releases
Most companies have a public relations department, and the job of those PR departments is to disseminate news about the company. Some of it relates to specific company events like annual meetings, earnings releases, or confer- ence calls, while others occur on a more ad-hoc basis, like new product announcements or management changes.
Value investors look most of all for honesty, openness, and understandability in these messages. They look for a balance of good and bad news and willing- ness to admit mistakes, all delivered in clear, crisp language not overly clouded with jargon or business buzzwords. It’s what they say and how they say it that counts.
If you hear or read something like, “...we’re leveraging our core competencies to achieve scalable results in our global off-shoring enterprise,” look out below.
This sentence has little to no real meaning — if they have nothing specific to say, they probably aren’t doing much that’s specific, either. Look for another investment.
Financial commentary
Of course, not all commentary comes from the company itself. Journalists and financial experts write stories about companies all the time, especially larger firms. The stories, which can be found both online and offline, usually highlight key facts, blending in analysis and subjective assessments — in short, they add value.
Value investors should tune in to what the journalists are saying — not to be taken as gospel, of course, but as another view to consider. Many financial journalists have access to information that most value investors do not — from professional data sources, industry observers, and often the company itself.
In the marketplace
For most companies, the real “soft stuff” lies in how the company positions itself in its marketplace, and whether or not it is succeeding with that posi- tion. It can make or break a business.
Value investors should consider how well a company is doing in terms of cus- tomer perception and brand strength. Are customers satisfied with products?
Are they loyal? Do advertising campaigns work? Is the brand an asset or a work-in-progress? If the company is competing on price, is it successful?
And is the strategy clear? Realistic? Executable? Or muddy, sort of, “we’re everything to everyone,” with no clear focus? And what about operational efficiency? Does it deliver the goods? In a way that creates a positive customer
experience without giving away the store? Long lines at Starbucks suggest good business — but also suggest a likelihood that some customers are being turned away. Realizing that specific answers are hard to come by, such are the kinds of answers a value investor would seek. It’s where the “art” enters the value equation.
Sources of soft stuff
The list of “soft stuff” sources is almost endless. As a value investor, you’ll develop your own ways to tune in to happenings with your company, its man- agement, and marketplace success. Again, no two investors will do this alike.
Among the many sources are the following.
Financial and investing Web sites
Financial portal Yahoo! Finance has already been mentioned, and will point to a lot more information about a company located and posted in various corners of the Internet. MarketWatch (www.marketwatch.com) and theStreet.com (www.thestreet.com) offer general news and journalistic commentary about companies across the board, while Morningstar and The Motley Fool (more on these later) provide more thorough analysis generally from a value perspective.
Business journals
Old standbys like The Wall Street Journal and Business Weekstill offer timely and high-quality journalistic appraisal of companies, often with a value slant.
Trouble is, they write about the companies they choose, not what you want to read about at a given moment. You’ll find a few nuggets occasionally in Kiplinger’s,Smart Money, andMoney magazines.
Trade journals
Value investors learn about the businesses they invest in, and reading about a trade can be one of the best ways to keep up. Various journals and Web sites are available to follow everything from the restaurant industry to mili- tary electronics. Hobby and special interest periodicals can help, too — the latest PC magazines can keep you up to date with the computer industry.
Sometimes industry-specific Web sites can offer lots of unique and compara- tive factual information to go with the soft stuff. For example, the U.S.
Department of Transportation Bureau of Transportation Statistics offers detailed snapshots of some 26 U.S. air carriers, loaded with marketing, operational and financial information — check out www.transtats.bts.
gov/carriers.asp.