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Author: skandy Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 63760  
Subject: DD Know How: One Fool's Summary Date: 12/27/1999 10:29 PM
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Hey all, angele1 (Brian) asked at http://boards.Fool.com/Message.asp?id=1050002002758000&sort=id

After months of listening to the veteran fools here talk about doing DD before buying a stock, I was wondering if we could do a DD on a company here. It would be a great help to all . Pick a stock , just one. Then in an orderly fashion show us how. Step by step. Any takers?

In true Foolish Fashion, the response was fantastic, covering most bases - and I hope giving Brian and other new Foolish investors a plan of attack for their own DD. But lest all the varied responses get lost in the maze of this Board, I have in this post pulled together all the different lines of thought and examples and added a few comments of my own. Brian suggested in a subsequent post that we use a boring bank (hey, aren't all banks boring?) such as National Bank as an example. So some of the steps outlined below refer specifically to National Bank, other steps refer to more general sorts of things.

While I have listed the steps in numerical order, this is simply my own construction and by no means implies the specific order that DD ought to be undertaken. In fact, I myself perceive DD to be more of a chaotic (e.g., nonlinear) as opposed to a linear process. I tend to follow up on questions that come to mind as I proceed rather than try to start with a given list of questions to which I look for answers. Finally, if I have left out anything, let me know and I will add it and perhaps the whole thing can be added to this Board's FAQ set up by Tecmo (Brant) or to the Canadian FAQ website that FrozenCanuck (Chris) is putting together.

Hope this is useful.

Ted

************************************************

Due Diligence Know-How: A Summary:

1. Website Visit:The first thing I try to do is to get a "feel" for the company and to do this I go first to their website and browse through it in order to get an overall sense of what the company is all about, what it's products are and whatever else might be of interest at first blush. Typing in a possible website address for National Bank of Canada, http://www.nationalbankofcanada.com we find, lo and behold, that some fink has reserved this URL and probably wants to sell it to National Bank for a handsome sum. So we need to use a different strategy to find the proper website. A search using AskJeeves turns up http://www.nbc.ca/
2. Investor Relations:Once at the website, I eventually head for Investor Relations. This is where information directly relevent to potential investors is located: corporate overview, press releases, financial statements, etc. At this point, I am usually interested in a fairly quick look at the financial statements and a read of the past year's press releases. For example, from a December 2, 1999 press release we learn that Record Fourth Quarter National Bank of Canada reports income of $115 million, up 28%. Remember that the company's press releases give their version of events, therefore it is important to balance these with independent views from analysts, journalists, etc. But if the company is still sufficiently interesting at this point I will request the Investor Relations' Package. Note:Some documents such as financial statements and annual reports may be in Adobe (.pdf) format so you will need to have the Adobe Reader installed.
3. Survey the News: In addition to corporate press releases it is essential to get independent views/analyses. A search of the archives at the Globe & Mail (http://www.globeinvestor.com) or National Post (http://www.nationalpost.com) for the past year will turn up any articles of interest. The G&M search page can be found at http://www.globeinvestor.com/news/newsearch.html A search for National Bank of Canada turned up 240 documents. Some of these will be specifically about National Bank, others will only be referencing the bank. All are worth scanning, never know what little nugget of information you might turn up. Some of these will also be the company news releases lifted directly off the wire.
4. Get Thee to the Foolish Boards: An invaluable resource, of course, are these very message boards. For example). Tecmo (Brant) did a nice job of outlining the steps he goes through from identifying industries all the way through to evaluating how good a buy a particular stock might be (http://boards.Fool.com/Message.asp?id=1050002002758014&sort=id). Jimandjava (Jim) posted his insights about some of the factors affecting the current and future outlook for banks (http://boards.Fool.com/Message.asp?id=1050002002758006&sort=id). Palsan (http://boards.Fool.com/Message.asp?id=1050002002759002&sort=id) has also posted a useful source of analyses of the banking industry. Although mainly devoted to the US banking industry the parallels to Canada can be drawn where useful. Visiting the Company Message Boards also provides a rich source of information. While I personally find the Fool Boards the most valuable, they only support Canadian Stocks that are listed on US Exchanges. Silicon Investor (http://www.siliconinvestor.com/stocktalk/forum.gsp?forumid=11) also has message boards for Canadian companies, as long as someone has started a discussion thread as does Quicken Canada (www.quicken.ca). I don't know what's available on Yahoo! or Raging Bull.
5. Financial Analysis: Assuming you are not a day trader (or other short-term buy and sell trader), you will want to take a close look at some of the company's financials. Tecmo (Brant) posted the results of his financial analysis of National Bank (http://boards.Fool.com/Message.asp?id=1050002002759003&sort=id). And lest you think that financial analysis is hard and fast read this question from foo60 http://boards.Fool.com/Message.asp?id=1050002002759005&sort=id and Tecmo's answer http://boards.Fool.com/Message.asp?id=1050002002759006&sort=id SemperAugustus (http://boards.Fool.com/Message.asp?id=1050002002758015&sort=id) has provided a great summary of the different indices, rations and other fancy things to look at. I've taken the liberty of copying his list here for easy reference:

a) Current price and 52-week Hi and Lo prices: Set yourself a lower bound, say nothing under $5. You don't have to buy 100 shares, so there's no need to set an upper bound. Want to own Berkshire Hathaway some day ($58,000/share last time I checked)? You've got to start with a dream. Use this annual trading range to pick an entry price--as Tecmo said in his post, "price matters."

b) Market captialization: You can get this when you ask for a quote at www.tse.com, or when you ask for a detailed quote at www.bigcharts.com (be sure to include "ca:" in front of the ticker). Go big for value, but you might want to go small for growth. The biggest on my list is $25 billion (TD bank) and the smallest is $75 million (Nu-Gro).

c) Daily Dollar Volume: Bigcharts will give you the average trading volume for the last 90 days. Multiply by share price to get average $ volume. Look for volume > $50,000 day if you want liquidity.

d) Sales and Sales/share: You can get annual sales information at Wright on page 2 and number of shares outstanding from the annual report. Beware if market cap exceeds this figure. For sales/share, you'd like to see an upward trend over each of the last 5 years.

e) Net profit margin: This will vary by industry, so it's hard to give a quick rule-of-thumb. Bigger is better, but it varies by industry, so look for a company that has high margins relative to its competitors; i.e. don't compare Dofasco to Microsoft.

f) Cash and Total Debt: You'll probably have to download the latest annual financial statements at Sedar (www.sedar.com). Cash is good. Debt is bad. You all know that. Some debt is okay, but you'd like current debt to be less than 50% of current assets (a.k.a. a Current Ratio > 2).

g) Cash flow per share: When companies run out of cash, they pull a Loewen (LWN), going from $40 to $1 in a matter of weeks. Don't let it happen to you. This is hard info to get. Check out the annual report and look for positive numbers for the last 5 years, along with an increasing trend.

h) Earnings per share: You can get this at Wright. Look for increasing values over the last 5 years. If you can get hold of an analyst's estimate for next year, you'd like that to have increased too. This is the most important feature of a growth stock. For a value stock,
you might allow one year of poor performance, but a stock with a 5 year decline in earnings is not a bottom-feeding value stock. It's a dead fish.

i) Dividend yield: Historical data is available at Wright. Current data is available anywhere (make sure it isn't based on a single extraordinary dividend (CWL.a), or doesn't ignore a recent cut (TRP)). Important only for value stocks. I like to see yield >2.5% if I'm looking for value, but 0 is okay if I'm looking for growth.

j) Return on Equity (ROE): This is earnings divided by book value per share at the beginning of the year. You can get this at Wright; it's called "Profit Rate." I like to see this average > 10% for a value company and greater than 15% for a growth company during each of the last 5 years. http://profiles.wisi.com/profiles/scripts/new02.asp?cusip=C124S3130&curconv=124

k) Insider Ownership and Stock Buybacks: Both of these are great, although palsan has cautioned about stocks with too much inside ownership (e.g. Magna, Thomson Corp.). Don't worry too much about insider selling (unless it's by Michael Cowpland), but insider buying is a great signal. So are company buybacks, which are announced through press releases (a.k.a. Normal Course Issuer Bids). Look for an intent to buy back at least 5% of the outstanding shares.

l) RPS rank and 5 year price: Unfortunately, you can't easily get RPS (relative price strength) for Canadian stocks, but just go to Bigcharts and look at the 5 year chart. Do you want to buy the ones that tend to go up, or tend to go down? Doh!

m) Rankings: You can't use the Value Line system, but you can use the Wright system. I'd suggest a minimum of BBB10 for consideration. AAA20 is the best.

n) Current and long-term average P/E: You can get this from Wright. There's no sign on the door of the TSE that says anything under 10 is a bargain, and anything over 20 is overpriced. You've got to compare P/E multiples to competitors. Watch out for astronomically high P/E multiples, but watch out for low ones too. For value, I like P/E to be in an 8-15 range. For growth I'll go up into the 20's.

o) Price to Book (P/B) ratios: You can get this at Directions (www.ndir.com). For value companies, look for something in the range of 0.8 to 1.5. For growth companies, the assets are often the employees or the technology, and this doesn't show up on the balance sheet.

6. Investor Advisory Services: SemperAugustus (http://boards.Fool.com/Message.asp?id=1050002002759000&sort=id) also reminds us to look at such Investor Advisory Services as Wright's (http://www.wisi.com/index.htm) for additional clues as to how a potential investment is viewed by these services. SEDAR (System for Electronic Document Analysis and Retrieval) at http://www.sedar.com is also an important resource. All Canadian public companies and mutual funds are generally required to file their documents in the SEDAR system. In addition, some third parties who are involved in public company transactions such as take-over bids or proxy contests may be required to file.
7. Know Your Management:Remember, when you are investing in any company you are, in part investing in the management team. The best investments are not lead by losers, believe me. Why have companies like Nortel and JDS Uniphase excelled as companies and as investments? Because they are led by visionaries. When you think of NT, think John Roth, when you think of JDU, think Josef Straus. All the great companies on the NASDAQ this year had gold-star, platinum-plated leaders: Cisco, Broadcom, Qualcomm, etc. So, in short, I always look very closely at the management team ... look for the news articles, interviews, comments, etc. that give you a feel for who is leading the company. Hard to quantify, but in my mind just as important, if not more so, as current financials as an indicator of future success.
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