No. of Recommendations: 1
Hi everyone,

Before we get too much further, I need to lay out my thoughts on selling and when and why I would do so. This also needs to be done for each position, so that we won't be panicked out of the position if something bad happens to the stock price.

Selling in the MUE Port:

1) First, of course, is when the market has a messed-up expectation, but in the opposite direction from what we've been looking at so far. In this case, when the market has priced in way more growth than the company can reasonably produce.

This one's tough to quantify, however. It's easy to say "1.1% for five years before grinding to a complete halt" as I did for the latest purchase. But how much is too much? Well, for one, I don't think matching what the company has been able to do over the past 3 or 5 years is too much. That would make the company fairly valued and, as long as everything else is good, I wouldn't sell. I'm thinking more of 2- or 3-times what the company's been able to do.

This criterion is kind of squishy and I'll have to see how it plays out as we go forward. I'm sure that I'll get plenty of chances!

2) Next, one of the criteria laid out in the buy decision comes to pass. For instance, using GameStop once more as an example, I wrote that if margins continued to decline, I'd likely close the position. Each buy thesis should have at least one of these situation-specific sell triggers.

The following are more generic reasons and will usually apply to all positions.

3) The thesis breaks down. This could be from something important that I just completely missed (such as GameStop had actually announced they were closing all their stores and going 100% digital download -- they haven't, by the way) or from a risk that I totally misjudged or from something else. It could be that management wasn't able to effect a turn around, even though I've given them a full year (or more) to do start showing signs of doing it. It could be that management changes the way of doing business. For instance, if part of the thesis is that the company will continue to acquire tuck ins, and that stops.

I can't predict what will qualify as a broken thesis, because each situation is different, but those are examples of what would.

4) A C-level executive suddenly leaves. I'm not talking retirement, because those are almost always announced well in advance. I'm also not meaning he or she is killed, as happened to one of Coke's CEOs a few years ago. This is more along the lines of "left for personal reasons" or "to spend more time with family." That often means, "resigned after being asked to do so" (which means "fired").

Lower level management isn't as much a concern. This one is for the CEO, CFO, and COO, along with some situation-specific special ones, like CIO (e.g. Tom Gayner of Market -- chief investment officer) or CTO (like the chief technology officer at a software company).

5) The SEC opens an official investigation. As soon as that's announced, I'm out, regardless of the loss (and by then, a loss is almost certain). An unofficial investigation will cause serious concerns, but might not be reason enough to sell. Make it official, though, and there's almost certainly other stuff seriously wrong at the company.

6) Evidence of serious financial shenanigans. This involves keeping an eye on working capital management and looking for changes in revenue recognition, CFFO trailing net income on a consistent basis, and growing use of off-balance sheet financing, imbalances in inventory (raw materials, works in process, and finished goods). There are more, but those are big.

I'm sure there are others, but those half dozen reasons are enough to get started with.

Cheers,
Jim
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