Author Topic: Individual Stock Investing Checklist  (Read 3568 times)

hodedofome

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Individual Stock Investing Checklist
« on: June 17, 2015, 02:36:13 PM »
I don't buy individual stocks based on fundamentals, but I bet most people that do, would say fundies is what they use. Or at least that's what they claim to use. In any case, here's a pretty thorough sample checklist. Oh, you don't use a checklist huh? Well maybe that should tell you something...

INVESTMENT FRAMEWORK

Industry Study

Is this a good business? What are the key success factors to superior performance in this industry?  (Value Added Research “VAR”)
Define the market opportunity.  How do competitive products address this opportunity?
What are the barriers to entry (“moats”)? (VAR!)
What is the relative power of: (VAR)
Customers
Suppliers
Competitors
Regulators
Who controls industry pricing?  Does the company/sector have any pricing power?
How (and how much) can a good company differentiate itself from a bad one in this industry?
Do you understand this business?  Test yourself and describe it to a ten year old.  DO THIS!

Business Model (VAR)

What is the selling model:  razor/blades? services? one-off contracts?
What are the economics of the base business unit?  How does it stack up against competitors?
Why is the company good (or bad) at what they do?  Can they sustain it?
Is this company growing by acquisition?  How sustainable is that?
Be able to easily describe the entire sales process – from order to fulfillment.

Management (VAR)

What is their background, and what do their former colleagues, investors, classmates, say about them?  Have they been successful in the past?  (Very important)
How are they compensated?  Are their interests aligned with shareholders?
Have they been good at allocating capital?
Are they buying or selling stock?  How much as a percentage of their holdings, and why?

Company/Cultural Issues (VAR)

Is this a great company?  Is it built to last?  What could change this assessment?
Can you imagine holding stock in this company for twenty years?
If you had access to unlimited capital, how would you feel about your chances of successfully competing against this company?
Compare to a weak competitor in the same industry.  What is the difference and why?

Financial Measures First Step:  Check against all the accounting shenanigans in Howard Schilit’s book (Financial Shenanigans: How to Detect Accounting Gimmicks & Fraud in Financial Reports, Third Edition)

Balance Sheet

What is the company’s capital structure, and how does it compare to its peers?
What are the trends in inventory turns, days payable/receivable, and working capital?
What are its coverage ratios on interest payments?

Cash Flow

What are the company’s capital requirements and cash flow characteristics?
How is the company choosing to invest its capital?  CapEx?  Buybacks?  Acquisitions?
Does the company need to access the capital markets?  How soon/often?

Earnings/Profitability

Regarding the company’s sales model, how visible are earnings quarter-to-quarter, and year-to-year?
Is this a fixed or variable cost business?  How much cost leverage?
Do earnings grow as a function of unit sales growth, price increases, or margin improvement?  How sustainable is this growth?

Valuation

Looking forward, what is the company’s valuation in terms of:
Market Value/Earnings
Enterprise Value/EBITDA
Free Cash Flow Yield (After-Tax Free Cash Flow/Market Value)
Market Value/Sales
What is the company’s growth rates in terms of earnings, EBITDA, and FCF?
What are consensus earnings  estimates, versus your own expectations?
What are the key leverage points in our own and the street’s earnings models?  What has to go right, and where is the most chance for surprise?
Are their accounting policies conservative and in line with their peers?

Risks

What are the big unknowns?  How much can the company control/influence these risks?
What could cause this investment to be a total disaster?  How bad could it be?

Other (Timeline/timing issues) DO A TIMELINE!

What are the catalysts (triggers) for the company’s proper valuation to be realized?
What good news, and what bad news, will affect the company in the coming year?
Who owns the stock?  Momentum funds?  Big mutuals? Hedge funds?
How difficult is it to build a significant position (float, volume)?
Draw a time line of expected events and dates.  What might go wrong and when?

Investment Framework:  Short Questions

1.  Is this a bad business?

Who has the power – customers, suppliers, competitors?
What are the barriers to entry?
What kind of reinvestment of capital is needed to grow?
How is the business changing?
What is the historic and current rate of success in this business?
What are the major risks to the business plan?

2.  What is the major misperception?

Why does it exist?
Who is responsible for it?
What stakes do the various parties have in keeping the stock price high?
How popular is the industry?  rising tides lift all boats – for awhile.

3.  Assess management

Industry reputation?
Past history of success or failure.
Straightforward or cunning?
Check out insider ownership and selling.

4.  Ratios:

EBIT/EV as a percentage.
(EBITDA-CAPEX)/EV as a percentage.
Growth of inventories to cost of goods sold – are inventories rising faster?
Growth of AR to sales and AP to sales.
Any accounting changes – smaller reserve for bad debt, revenue recognition, etc.
Cash flow/Int. expense.
Review Howard Schilit’s red flags

5.  Sentiment:  Are more people bullish or bearish on the stock?

Do full media search for articles.  Make list of analyst recommendations.
Short Interest?  SIR (remember, the stock that is already short is potential buying power)  Be careful if there is universal bearishness.

6.  Timing

What is the expected trigger on the misperception?  Do a time line.
Who owns the stock – long term or short term, momentum investors?
Has the souffle already risen once?
Can the rising stock price be self-fulfilling for awhile (financing opportunities, etc)?
Where does the company stand in terms of the fantasy, transition, reality paradigm?

7.  Add when the story starts to unfold — regardless of stock price.

Watch for earnings warnings, excuses, etc.  Where there’s smock, there is often fire.
Is the company or wall street analyst group in denial of the problem?
Watch the ratios, insider selling etc.
Even if the stock down significantly from its high, if answering all these questions convinces you that it is still a short, do not cover and consider adding.  See below
Does waiting for the new financials feel like waiting for Christmas?  IF “YES”  —–> ADD.

Taken from http://mebfaber.com/2011/01/20/hedge-fund-analyst-checklist/

forummm

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Re: Individual Stock Investing Checklist
« Reply #1 on: June 17, 2015, 03:19:58 PM »
Nice checklist!

Whew. The length of this checklist tells me I don't have time to buy individual stocks until after RE.

Retired To Win

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Re: Individual Stock Investing Checklist
« Reply #2 on: June 17, 2015, 08:18:20 PM »
There's such a thing as striking a balance between the amount of money you are going to invest in a company and the amount of time you are going to invest in doing due diligence on that company.  That checklist is extremely thorough, and a fine pathway for a fund manager that invests six or seven figures per company added to the fund's portfolio.  But it's a bit over the top for an individual investor that intends to put less than middle five figures into any one portfolio position.  (IMHO).

Hell! I just saw the tag line at the bottom of your OP.  HEDGE FUND MANAGER CHECKLIST??!!  No wonder!!!!

nobodyspecial

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Re: Individual Stock Investing Checklist
« Reply #3 on: June 17, 2015, 09:59:12 PM »
The problem is that the checklist calculates the actual value of a company.
The price of its shares is set by all the other people in the market who don't have a checklist
 

JetBlast

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Re: Individual Stock Investing Checklist
« Reply #4 on: June 18, 2015, 10:45:30 AM »
It's not a bad checklist, but being from a hedge fund it has some parts that won't apply for many individual investors. For example, liquidity isn't much of a concern unless you're investing in absolutely tiny companies. If it's a reasonably well known company, this isn't a problem until your investing hedge fund like amounts of money. I also think the section about timing and timelines is mostly unimportant to long term investors. I don't have investors hounding me daily like a hedge fund manager. Not having to worry about timing and short term performance is the one real advantage I have over a hedge fund manager.

The problem is that the checklist calculates the actual value of a company.
The price of its shares is set by all the other people in the market who don't have a checklist

That's the premise behind value investing using fundamental analysis. Like Benjamin Graham described it, in the short term the market is a voting machine. In the long term it is a weighing machine.

hodedofome

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Re: Individual Stock Investing Checklist
« Reply #5 on: June 18, 2015, 11:08:41 AM »
Yeah I didn't post this with the expectation that this is exactly what you have to know before buying a company, but rather as a guide. For sure, I think people should be using a checklist of some sort.


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JetBlast

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Re: Individual Stock Investing Checklist
« Reply #6 on: June 18, 2015, 11:56:29 AM »
I agree that there needs to be some sort of process, like a checklist, that is followed in making investing decisions. Otherwise it turns into impulsively and carelessly throwing darts at a board, hoping to find the bullseye.

nobodyspecial

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Re: Individual Stock Investing Checklist
« Reply #7 on: June 18, 2015, 06:12:24 PM »
That's the premise behind value investing using fundamental analysis. Like Benjamin Graham described it, in the short term the market is a voting machine. In the long term it is a weighing machine.
Talking to other programmers that work in finance.
They are now at the point of predicting what competitors predictions predict people will think of a company......

innerscorecard

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Re: Individual Stock Investing Checklist
« Reply #8 on: June 18, 2015, 07:55:04 PM »
Decent checklist. What I like, for the interest of saving time and clarifying thinking, is having "yes/no" questions and then having "if" questions based on those.