May 7, 2013|
4 simple steps to Value Investing: Step 3
In the previous article, we covered the second of the four steps to successful value investing created by the legendary investor Warren Buffett. Let us now move on to the next step in this article.
A word about management
Perhaps among various factors that need to be looked at before investing in a company, the management is the most important. But that is also where the difficulty lies. After all, how do you assess management? Unlike company financials, ratios and valuation methods which can we quantified and expressed in numbers, management quality is more subjective. No number can be assigned to it. And yet it is one of the most crucial elements in value investing.
Buffett's views on management quality
Legendary investor Warren Buffett also attaches a lot of importance to management quality. He is of the view that there are two main factors in assessing management:
Let us consider these separately.
- The results of the company
- The treatment of the company's shareholders
- How well it allocates capital
Results: Past performance is highly indicative of how well the management has been able to steer the growth of the company. This is through both good times and bad. Indeed, a good management needs to be proactive and should have the ability to respond to changes, competition, opportunities and threats. Having said that, what needs to be noted is that the management track record has to be evaluated in context of the sector dynamics in which companies operate. For instance, it would not be fair to compare Infosys' management with that of Bharat Petroleum Corporation Limited (BPCL), as the oil and gas sector is highly regulated, whereas the software sector is not.
Treatment of shareholders: Shareholders obviously stand to benefit if the management has been able to provide healthy returns on capital and dividends on a consistent basis. Return on invested capital and dividend yield are some of the important parameters to be looked at while determining whether a shareholder is getting the most of what he has put into the company.
Allocation of capital: How effectively the management is able to allocate capital is a very good indicator of its quality. For instance, one needs to evaluate whether this capital is being invested in projects or activities in line with the company's overall growth strategy. Moreover, are these investments generating good returns? If the capital is not being invested, then whether the same is being distributed to the shareholders. For instance, FMCG companies do not require heavy capex and hence rock solid companies such as Nestle and Hindustan Unilever have not only been generating strong returns on capital but have also been doling out healthy dividends.
There have been instances in the past where the management of cash rich companies has made ill suited acquisitions which have been a drag on the overall company performance. Instances such as these are examples of misallocation of capital by the management.
Management strength at the end of the day is a qualitative factor. But investors need to have a grasp on the people at the helm of affairs before they decide to invest in the stock of a particular company. This would mean reading annual reports, analyzing company performance and keeping check on the management's communication with the shareholders. This may not be as concrete as numbers but it certainly helps in forming a reasonable judgement on what the management's objectives are and what it intends to do to drive company performance going forward.
||Radhika Pandit (Research Analyst), Managing Editor, ValuePro is one of our most senior analysts with nearly a decade-long stint in the field of equity research. She has helped build our pharmaceutical sector research from scratch and has a firm grasp of the Indian automobile industry. Being an ardent follower of Warren Buffett's value investing philosophy, she believes in investing in solid businesses for the long haul.
More Views on News
Jul 14, 2016
Tata Consultancy Services (TCS) has declared results for the quarter ended June 2016. The company has reported a 3% QoQ increase in consolidated sales while the consolidated net profit was up 0.3% QoQ.
Jul 8, 2016
Tata Motors Ltd has reported a 19% YoY and 202% YoY growth in sales and net profits for the quarter ended March 2016.
Jul 4, 2016
Idea Cellular has reported a 12.4% YoY growth in the topline and a decrease of 0.4% YoY in the bottomline for the quarter ended March 2016.
Jan 21, 2017
Bill reminisces Trump's triumph over 'Little Marco' Rubio, John Kasich Carly Fiorina, Rand Paul, Mike Huckabee, Ted Cruz, Jim Gilmore, George Pataki, Rick Perry, Bobby Jindal, Lindsey Graham, Chris Christie, Ben Carson...and finally...the Bushes and the Clintons!
Jan 20, 2017
The profitable silver lining amid the gloom of technological disruption.
More Views on News
Jan 10, 2017
The future multibagger opportunities will be created by robots, not humans...
Jan 11, 2017
The bad loans of these banks have jumped further for the period of six months ending September 30, 2016.
Jan 11, 2017
Seven Trading lessons from the movie Dangal.
Jan 16, 2017
Job creation in India to remain stagnant in 2017 and 2018.
Jan 11, 2017
In life one must continue to add value wherever possible and inculcating this attitude will create long term wealth.
Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement. LEGAL DISCLAIMER:
Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Use of the information herein is at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here
. The performance data quoted represents past performance and does not guarantee future results.SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.
Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
Telephone: +91-22-6143 4055. Fax: +91-22-2202 8550. Email: firstname.lastname@example.org. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407