Pay attention to these 5 things
This earnings season, La Bell will be paying careful attention to five things, all of which he says will help him determine how well the businesses he’s analyzing will survive the COVID-19 crisis.
1. Is the business scalable?
The speed and cost at which a business can scale down and scale up is important. The ones that can do this relatively easily and without a lot of cost will recover faster, he says. For example, oil sands operations have to spend a lot of money to slow down their business and pay a lot to ramp it back up again, while service businesses can usually come back to full capacity quickly and cost-efficiently, he says. “This is important because if it costs money to shut down and start back up, then that’s negative for cash flow and they’re not going to get that money back,” he says.
2. What are its fixed costs?
Naturally, in an environment like this, the less money a company can spend per month, the better. If its fixed costs are low—the includes rent, interest, salaries for staff it needs to keep on and more—then it may be able to keep its doors open longer than companies with high fixed costs. One key figure to determine is how fast a company might burn through its cash. While a lot of people still think the economy could bounce back quickly, more are saying it will take a lot longer for businesses to get back to normal. If that’s the case, does it have enough money to survive for what could be months or even years?
3. What is management’s recovery plan?
Owning a company with a good management team is always important, but it’s especially critical today. La Bell will be paying careful attention to a company’s reopening plans. Executives don’t have to have everything figured out yet, but they should be outlining at least some ideas as to how they’ll get their company back online. Plans should include details on how a company might open stores or plants or how it intends to deal with new product launches. But it must also consider how it will bring its people back to work. For instance, Apple CEO Tim Cook told staff on Thursday it will likely institute temperature checks and social distancing measures for when they return to work. It’s that sort of thing La Bell wants to see. “HR will need a lot more attention than it typically gets on conference calls,” he says. “How people are bringing people back to work, and how they’re going to protect them, is a big deal right now.”
4. How disrupted is the supply chain?
Even if a company has a good plan in place, if its supply chain is disrupted, then it won’t be able to stock its shelves or get products made. With the pandemic affecting every country around the world, how global a company’s supply chain may be is of particular interest to investors today. “One small issue can prevent a company from finishing off a product,” he says. He’s heard of an apparel company that can’t get the logo patches it sews on its jackets from its supplier overseas and that’s holding up entire production lines. Companies must have contingency plans, he says. “I expect more people to be asking questions about that,” he says. “The more complicated the product, the more complicated the supply chain.”
5. How is the company selling?
It’s also important to determine how much of a business’ sales will be impacted by COVID and if it’s doing anything to counter that problem. If a business generates most of its revenues in malls, it’s likely that company is going to struggle for some time—though maybe it’s found a novel way to continue selling, such as improving its online sales interface or offering drive-through pick-up. Also look at how reliant a business is on global sales. It’s possible that companies with exposure in China, which is starting to reopen its economy, may recover faster than those with stores only domestically. “This is interesting because it’s going to be a staggered reopening of economies, depending on what country was hit first,” he says. “The hardest hit in Europe may open up sooner than the U.S.”
Do your own homework
It’s important to listen to what company CEOs are saying about their business and their industries, but finding out how efficiently a company can, say, scale up or down, will take some work. La Bell suggests looking at how a company fared during past crises. Was it able to reduce its costs and ramp business back up quickly? How did pivot in a time of crises or find new sales opportunities?
No matter what happens this earnings season, if you are in a position to buy, it’s still important to buy good companies with strong management teams and ones that can manage through this downturn, says La Bell. “The biggest thing you should be worried about is damage that could be done between now and a full recovery,” he says. “At this time, it’s the well-run companies that will come through.”