Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2017 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.

Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Lessons from Philip Fisher - VII - Views on News from Equitymaster
  • E-MAIL
  • A  A  A
  • Jun 14, 2012

    Lessons from Philip Fisher - VII

    Profit maximization can be considered the most important objective for a business. After all shareholders invest their hard earned money into the business in the hope of commensurate reward for their 'risk capital'. Nowadays the concept has expanded into a three pronged approach where people, planet and profit are the three pillars of achievement. This helps measure organizational success on economic, ecological and social grounds. However in this article we will focus on one of Phillip Fisher's most important investing criteria: i.e. profits.

    Does the company have a profit-margin worth looking at?

    Let's say you are stuck on the boat in the middle of the sea without any drinking water. All the water in the sea surrounding you would not make an iota of a difference since you cannot drink it. Similarly if sales keep on growing without growth in profits it won't make any difference to an investor. Increased sales without a corresponding increase in profits is meaningless. This is why an understanding of a company's profit margin - or the ratio of profits to sales is important.

    When one analyses company profit margins over a period of a few years one can see an evident variation among different companies in the same industry. When the industry is in trouble most companies report lower profit margins and profitability improves when the industry is prosperous.

    Phil Fisher advises investors to go for companies that have the best profit margins in the industry. While marginal companies may see a greater improvement in margins during boom times, they can all but collapse during the tough times. However, there is one important deviation from this rule. Some companies try and speed up growth by investing in research and development (R&D) and sales promotion measures. This may dampen profit margins temporarily; however it can be highly accretive over the long run. One needs to take care, however, that these expenses will help facilitate higher growth over the long term and not just sustain growth at current levels.

    What is the company doing to sustain its profit margins?

    When one buys a car or a television one buys it on the basis of the current utility of the product. Unfortunately this is not the case with stocks. The success of a stock purchase does not depend on what is generally known about the company at the time of the purchase. Rather it depends on what is discovered about the company after it is bought. Now if only all investors had crystal balls

    Therefore it is not the profit margins of the past, but rather the future profit margins which are of concern to an investor. We are living in an inflationary environment where salaries and wages go up every year and input costs also increase every other day. All these are threats to a company's profit margins.

    Some companies are fortunate enough to be able to raise prices to sustain profit margins. This is because they are in industries where the demand of their products is abnormally strong; for example petrol. Or because the selling prices of competitive products have gone up, in the case of a few FMCG products. However, improving profit margins in this way may sometimes only be a temporary phenomenon. As new production capacity is added, most of the gains from these price increases get wiped out and then profit margins start to shrink.

    However, there are other companies who manage to improve profit margins by far more ingenious means than just increasing prices. They are able to improve their margins by changing product mix or change in capital allocation. These companies constantly review their processes and procedures to see where economies of scale can be brought in. A few examples of such companies are Apple Inc, with its revolutionary products and Infosys' ability to retain margins through its off-shoring advantage and superior project delivery. A prospective investor should keep an eye on companies with an ability to maintain margins through ingenious means or streamlining or operations rather than solely by increasing prices.

    Does the company have a long range or short range profit outlook?

    No better example can be seen of long range or short range outlook than in the stock markets. A person who is in it for the short term may just book 15-20% gains on a stock purchase. But may lose out on potential multi-baggers over the long term.

    Similarly some companies are out to make the maximum profits in the shortest possible time while others sacrifice near term profits in order to build a sustainable business and reap the benefits over the long term. These companies treat their suppliers, customers and even other stakeholders with care. These companies know that the relationships will be built with a strong foundation for the future. A savvy investor should try and identify the companies with a true long-term outlook concerning profits.

    Philip Fisher Series - Previous article | Next Article | All Articles



    Equitymaster requests your view! Post a comment on "Lessons from Philip Fisher - VII". Click here!


    More Views on News

    How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

    Jun 10, 2017

    Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

    Were You Lured By Mr Market's Bait? (The 5 Minute Wrapup)

    Aug 23, 2017

    Mr Market lured investors into believing they'd bitten into a crash. Did you take the bait?

    Deep State First (Vivek Kaul's Diary)

    Aug 23, 2017

    Nowhere was the darkness deeper than in the nation's capital. There, no light shone. No flicker of awareness...observation...learning...or reflection appeared.

    Why Hasn't Warren Buffett Rung the Bell Yet? (The 5 Minute Wrapup)

    Aug 22, 2017

    It's surprising Warren Buffett hasn't warned investors about the expensive stock market? Let us know why.

    Think Twice Before You Keep Money In A Savings Bank Account (Outside View)

    Aug 22, 2017

    Post demonetisation, a cut in bank savings deposits rates was in the offing.

    More Views on News

    Most Popular

    This Small Cap Can Drive Chinese Players Out of India (and Make a Fortune in the Process)(The 5 Minute Wrapup)

    Aug 17, 2017

    A small-cap Indian company with high-return potential and blue-chip-like stability is set to supplant the Chinese players in this niche segment.

    Dear PM Modi, India is Already Land of Self-Employed, and It Ain't Working(Vivek Kaul's Diary)

    Aug 21, 2017

    Most Indians who cannot find jobs, look at becoming self-employed.

    It's the Best Time to Buy IT Stocks(Daily Profit Hunter)

    Aug 16, 2017

    The IT Sector could be in an uptrend till February 2019. Are you prepared to ride the trend?

    5 Steps To Become Financially Independent(Outside View)

    Aug 16, 2017

    Ensure your financial Independence, and pledge to start the journey towards financial freedom today!

    Think Twice Before You Keep Money In A Savings Bank Account(Outside View)

    Aug 22, 2017

    Post demonetisation, a cut in bank savings deposits rates was in the offing.

    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. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used 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 investment advice or 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: +91-22-61434055. Fax: +91-22-22028550. Email: info@equitymaster.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407

    Become A Smarter Investor In
    Just 5 Minutes

    Multibagger Stocks Guide 2017
    Get our special report, Multibagger Stocks Guide (2017 Edition) Now!
    We will never sell or rent your email id.
    Please read our Terms


    Aug 24, 2017 09:19 AM