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Author: Rubic 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 2794  
Subject: Fisher's 15 points in detail Date: 12/4/1999 9:08 PM
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[ Below are Philip Fisher's 15 points from "Common Stocks, Uncommon Profits" along with the first paragraph for each point. -Rubic ]

Point 1. Does the company have products or services with sufficient market potential to make possible a sizable increase in sales for at least several years?

It is by no means impossible to make a fair one-time profit from companies with a stationary or even declining sales curve. Operating economies resulting from better control of costs can at times create enough improvement in net income to produce an increase in the market price of a company's shares. This sort of one-time profit is eagerly sought by many speculators and bargain hunters. It does not offer the degree of greatest possible gains from their investment funds.

Point 2. Does the management have a determination to continue to develop products or processes that will still further increase total sales potentials when the growth potentials of currently attractive product lines have largely been exploited?

Companies which have a significant growth prospect for the next few years because of new demand for existing lines, but which have neither policies nor plans to provide for further developments beyond this may provide a vehicle for a nice one-time profit. They are not apt to provide the means for the consistent gains over ten or twenty-five years that are the surest route to financial success. It is at this point that scientific research and development engineering begin to enter the picture. It is largely through these means that companies improve old products and develop new ones. This is the usual route by which a management not content with one isolated spurt of growth sees that growth occurs in a series of more or less continuous spurts.

Point 3. How effective are the company's research and development efforts in relation to its size?

For a large number of publicly-owned companies it is not too difficult to get a figure showing the number of dollars being spent each year on research and development. Since virtually all such companies report their annual sales total, it is only a matter of the simplest mathematics to divide the research figure by total sales and so learn the per cent of each sales dollar that a company is devoting to this type of activity. Many professional investment analysts like to compare this research figure for one company with that of others in the same general field. Sometimes they compare it with the average of the industry, by averaging the figures of many somewhat similar companies. From this, conclusions are drawn both as to the importance of a company's research effort in relation to competition and the amount of research per share of stock that the investor is getting in a particular company.

Point 4. Does the company have an above-average sales organization?

In this competitive age, the products or services of few companies are so outstanding that they will sell to their maximum potentialities if they are not expertly merchandized. It is the making of a sale that is the most basic single activity of any business. Without sales, survival is impossible. It is the making of repeat sales to satisfied customers that is the first benchmark of success. Yet, strange as it seems, the relative efficiency of a company's sales, advertising, and distributive organizations receives far less attention from most investors, even the careful one, than do production, research, finance, or other major subdivisions of corporate activity.

Point 5. Does the company have a worthwhile profit margin?

Here at last is a subject of importance which properly lends itself to the type of mathematical analysis which so many financial people feel is the backbone of sound investment decisions. From the standpoint of the investor, sales are only of value when and if they lead to increased profits. All the sales growth in the world won't produce the right type of investment vehicle if, over the years, profits do not grow correspondingly. The first step in examining profits is to study a company's profit margin, that is, to determine the number of cents of each dollar of sales that is brought down to operating profit. The wide variation between different companies, even those in the same industry, will immediately become apparent. Such a study should be made, not for a single year, but for a series of years. It then becomes evident that nearly all companies have broader profit margins -- as well as greater total dollar profits -- in years when an industry is unusually prosperous. However, it also becomes clear that the marginal companies -- that is, those with the smaller profit margins -- nearly always increase their profit margins by a considerably greater percentage in the good years than do the lower-cost companies, whose profit margins also get better but not to so great a degree. This usually causes the weaker companies to show a greater percentage increase in earnings in a year of abnormally good business than do the stronger companies in the same field. However, it should also be remembered that these earnings will decline correspondingly more rapidly when the business tide turns.

Point 6. What is the company doing to maintain or improve profit margins?

The success of a stock purchase does not depend on what is generally known about a company at the time the purchase is made. Rather it depends upon what gets to be known about it after the stock has been bought. Therefore it is not the profit margins of the past but those of the future that are basically important to the investor.

Point 7. Does the company have outstanding labor and personnel relations?

Most investors may not fully appreciate the profits from good labor relations. Few of them fail to recognize the impact of bad labor relations. The effect on production of frequent and prolonged strikes is obvious to anyone making even the most cursory review of corporate financial statements. However, the difference in the degree of profitability between a company with good personnel relations and one with mediocre personnel relations is far greater than the direct cost of strikes. If workers feel that they are fairly treated by their employer, a background has been laid wherein efficient leadership can accomplish much in increasing productivity per worker. Furthermore, there is always considerable cost in training each new worker. Those companies with an abnormal labor turnover have therefore an element of unnecessary expense avoided by better-managed enterprises.

Point 8. Does the company have outstanding executive relations?

If having good relations with lower echelon personnel is important, creating the right atmosphere among executive personnel is vital. These are men whose judgement, ingenuity, and teamwork will in time make or break any venture. Because the stakes for which they play are high, the tension on the job is frequently great. So is the chance that friction or resentment might create conditions whereby top executive talent either does not stay with a company or does not produce to its maximum ability if it does stay.

Point 9. Does the company have depth to its management?

A small corporation can do extremely well and, if other factors are right, provide a magnificent investment for a number of years under really able one-man management. However, all humans are finite, so even for smaller companies the investor should have some idea of what can be done to prevent corporate disaster if the key man should no longer be available. Nowadays this investment risk with an otherwise outstanding small company is not as great as it seems, in view of the recent tendency of big companies with plenty of management talent to buy up outstanding smaller units.

Point 10. How good are the company's cost analysts and accounting controls?

No company is going to continue to have outstanding success for a long period of time if it cannot break down its over-all costs with sufficient accuracy and detail to show the cost of each small step in its operation. Only in this way will management know what most needs its attention. Only in this way can management judge whether it is properly solving each problem that does need its attention. Furthermore, most successful companies make not one but a vast series of products. If the management does not have a precise knowledge of the true cost of each product in relation to the others, it is under an extreme handicap. It becomes almost impossible to establish pricing policies that will insure the maximum obtainable over-all profit consistent with discouraging undue competition. There is no way of knowing which products are worthy of special sales effort and promotion. Worst of all, some apparently successful activities may actually be operating at a loss and, unknown to management, may be decreasing rather than swelling the total of over-all profits. Intelligent planning becomes almost impossible.

Point 11. Are there other aspects of the business, somewhat peculiar to the industry involved, which will give the investor important clues as to how outstanding the company may be in relation to its competition?

By definition, this is somewhat of a catch-all point of inquiry. This is because matters of this sort are bound to differ considerably from each other -- those which are of great importance in some lines of business can, at times, be of little or no importance in others. For example, in most important operations involving retailing, the degree of skill a company has in handling real estate matters -- the quality of its leases, for instance -- is of great significance. In many other lines of business, a high degree of skill in this field is less important. Similarly, the relative skill with which a company handles its credits is of great significance to some companies of minor or no importance to others. For both these matters, our old friend the "scuttlebutt" method will usually furnish the investor with a pretty clear picture. Frequently his conclusions can be checked against mathematical ratios such as comparative leasing costs per dollar of sales, or ratio of credit loss, if the point is of sufficient importance to warrant careful study.

Point 12. Does the company have a short-range or long-range outlook in regard to profits?

Some companies will conduct their affairs so as to gain the greatest possible profit right now. Others will deliberately curtail maximum immediate profits to build up good will and thereby gain greater over-all profits over a period of years. Treatment of customers and vendors gives frequent examples of this. One company will constantly make the sharpest possible deals with suppliers. Another will at times pay above contract price to a vendor who has had unexpected expense in making delivery, because it wants to be sure of having a dependable source of needed raw materials or high quality components available when the market has turned and supplies may be desperately needed. The difference in treatment of customers is equally noticeable. The company that will go to special trouble and expense to take care of the needs of a regular customer caught in an unexpected jam may show lower profits on the particular transaction, but far greater profits over the years.

Point 13. In the foreseeable future will the growth of the company require sufficient equity financing so that the larger number of shares then outstanding will largely cancel the existing stockholders' benefit from this anticipated growth?

The typical book on investment devotes so much space to a discussion on the corporation's cash position, corporate structure, percentage of capitalization in various classes of securities, etc. that it may well be asked why these purely financial aspects should not be given more than the amount of space devoted to this one point out of a total of fifteen. The reason is that it is the basic contention of this book that the intelligent investor should not buy common stocks simply because they are cheap, but only if they give promise of major gain to him.

Point 14. Does the management talk freely to investors about its affairs when things are going well, but "claim up" when troubles and disappointments occur?

It is the nature of business that in even the best-run companies unexpected difficulties, profit squeezes, and unfavorable shifts in demand for their products will at times occur. Furthermore, the companies into which the investor should be buying if greatest gains are to occur are companies which over the years will constantly, through the efforts of technical research, be trying to produce and sell new products and new processes. By the law of averages, some of these are bound to be costly failures. Other will have unexpected delays and heartbreaking expenses during the early period of plant shake-down. For months on end, such extra and unbudgeted costs will spoil the most carefully laid profit forecasts for the business as a whole. Such dissapointments are an inevitable part of even the most successful business. If met forthrightly and with good judgement, they are merely one of the costs of eventual success. They are frequently a sign of strength rather than weakness in a company.

Point 15. Does the company have a management of unquestionable integrity?

The management of a company is always far closer to its assets than is the stockholder. Without breaking any laws, the number of ways in which those in control can benefit themselves and their families at the expense of the ordinary stockholder is almost infinite. One way is to put themselves -- to say nothing of their relatives or in-laws -- on the payroll at salaries far above the normal worth of the work performed. Another is to own properties they sell or rent to the corporation at above market rates. Among smaller corporations this is sometimes hard to detect, since controlling families or key officers at times buy and lease real estate to such companies, not for purposes of unfair gain but in a sincere desire to free limited working capital for other corporate purposes.
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