If you’re like me, you enjoy following the daily twists and turns of the stock market. And you also know that on any given day, thousands of highly paid, highly competitive mutual fund managers and pension fund experts are scouring the market looking for bargains. When they think a stock is undervalued, they buy it. All that buying forces up the price of the stock until it’s trading for what most investors believe is fair value. If the pros believe a stock is overvalued, they sell it and keep doing so until the stock meets their definition of fair value.
In order to be successful, you need a system to help you spot the few gems that professionals have already picked over. For the last several years, the Ben Graham Centre for Value Investing at the Ivey Business School has run a stock picking competition for university students, seeing it as a way to expose participating students to the value investing approach of stock analysis and to spread the word of value investing with MBA programs around the world.
This year’s event pitted 27 teams of MBA students from schools around the world against each other in an effort to win $17,500 in prize money. The countries represented in the competition were: Canada, China, France, Italy, Singapore, Spain, United Kingdom and the United States. The submissions were narrowed down to four finalists, who gathered on April 18th to make their final pitches to a panel of distinguished value investors. (We’ll tell you who won and why in a moment.)
But winning, while nice, wasn’t really the endgame—at least not entirely. The competition focuses on educating interested students in the process of value stock picking. “We want to show that stock picking with the right process, and the right temperament, works,” said George Athanassakos, director of the Ben Graham Center at Ivey. He explained how the final four groups had to analyze an assigned value stock. This year, that stock was Sabre Corp. (Nasdaq: SABR). It’s a U.S. company that provides technology and data systems to the travel and tourism industry and it operates in two segments: travel network and airline and hospitality.
All four teams had their own methods of analyzing whether the stock was a buy, hold or a sell—given whatever value metrics they chose to use in their analysis. I learned a lot about how value investors evaluate stocks and often times what one team considered very relevant, another—not so much. But there were many key lessons to be learned and you may be able to use some of those tips yourself as a jumping off point to picking your own next winning stock.
Here’s eight metrics to take into consideration:
“Intrinsic value” (also known as fundamental value). Intrinsic value is the key concept of value investing. To fully understand it, it’s worth your while to put in some reading time to get a basic understanding of how a company’s corporate reports work and how to read the numbers on both a balance sheet and income statement. It’s not hard. You can start by watching a few youtube videos on the topic (like this one on Intrinsic Value of a Stock Problem or this one on Warren Buffett’s Intrinsic Value Calculation). Next, consider taking some courses that will teach you the basic rules and ratios of evaluating a company. The Canadian Securities Course is an affordable way to wet your feet.
Alternatively, it may be worth investing a week of your time this summer (and about $5,000) at a one-week seminar on value investing given at Ivey.
All this is to say that becoming familiar with reading corporate annual and quarterly reports is important. You can have a look to see what those reports look like for Canadian companies here: SEDAR and those for U.S. companies at EDGAR, the Electronic Data Gathering, Analysis, and Retrieval system, which is maintained by the U.S. Securities and Exchange Commission.
High debt levels matter—as does no debt—for a company’s outlook. But often it’s not just the amount of debt, but more importantly, how it’s structured. Does the company have piles of short-term debt that may have to soon be renewed at higher interest rates? Does it have a debt strategy? These are key items that affect the value of any stock.
How does the company get its revenues? Is it through airline fares? Transaction fees? Royalties? Understanding which revenue streams a company relies on and how they can be affected by future global trends is important.
How competitive is the industry the company is in? In Saber Corp’s case, it had only two major competitors, making it an oligopoly. There are special rules that affect oligopolies so understanding what they are and how they affect future revenue and profits is helpful when analyzing such companies.
Is the company growing? If the company is merging and acquiring other companies it’s worth doing a bit of digging and looking at the company’s past deals. Then analyze whether the company’s board of directors has a good track record for amalgamating and absorbing other companies. Deals can be easy to do but difficult to execute in the long term.
Do the CEO and managing directors have several years of experience in their industry? It’s a good sign if they’re dedicated to the industry and the business and have been with the company several years.
Does the company have any lawsuits against it? Lawsuits can cost companies hundreds of millions of dollars. By looking at a company’s revenues and historical data you should be able to determine fairly easily if those revenues can absorb the extra litigation costs easily.
How has the company performed in bad economic times? Was it able to cut costs appropriately and still thrive long term? That’s a difficult but indispensable asset for a growing company in difficult financial times.
Of course, there are some who would say that simply running a passive Couch Potato portfolio or even just flipping a coin when deciding what to invest in is a lot easier and often more profitable to an investor’s bottom line. But believe me, the enthusiasm of these students showed me it certainly wouldn’t be as much fun.
The winning recommendation
And as for Saber Corp. three of the four teams decided it was “not a buy at this $21 price”, while the fourth thought it was a ‘Buy’. The winner? Saint Mary’s University in Halifax. They recommended avoiding this company at all costs because they didn’t like the board members, slowing growth in the airline industry and high litigation costs. Sometimes the best investments are the ones you don’t make at all.