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No. of Recommendations: 5
this is a free-flowing thought process from me
not a final draft


I have been very unsteady with my position sizes. I'm not sure for how long, but in the past two years I've had now three high-profile bouts of indecision of which 2 of 3 have really reduced a potential meaningful gain (the 3rd is undecided)

Lack of Confidence
After giving this a LOT of thought, I believe it due to a fundamental lack of confidence in my analysis of certain business models. When I first started this investment journey, I focused 100% on restaurants and retail. I did so cause 1) these are biz's where you gain meaningful observations from sampling the product, 2) the key factors were readily identifiable, 3) the financials - once understood - were very straightforward, 4) growth rates and saturation could be determined, 5) outside research rarely contained important insights I did not derive on my own, 6) I liked researching these names. I still do. Lately I've moved away frankly because at least some of my investment areas are no longer operating like they used to (why is not important).

New Areas
In these new areas, these questions are far more difficult. For software providers, for example, I am not a primary user of the product and don't have a 1st party understanding of who is better. I don't have a clear idea of saturation, and I don't have access to the same sources that outside research uses to investigate these names.

Numbers & Business Buys
In essence, I think investment ideas are a combination of numbers oriented buys and business oriented buys. All are numbers buys for you to sensibly buy in - we all define these differently, but for me this is usually a company with a solid and easily understood BS (where the primary asset is usually cash), high free cash flow, and appropriate capital allocation. But for some, you know the business better than other business models. I feel like I understand most restaurants though to be clear there are aspects that say - roark - gets to a far higher degree than I ever will (ie, lease vs own; pension accounting; rsus and option plans; etc). But I get enough - enough to form my own opinion which time has shown has be more accurate more often than not. And my confidence is higher.

The Line
But where is the line when a company becomes more numbers oriented than business oriented? For me, it centers on reading the 10K and the conference calls and the research. If you read the 10K for some companies you will gain limited insights. This is because the 1) info is obscure, because 2) the biz is obscure or complicated and 3) you don't have a background to understand it, and 4) the biz itself has difficult disclosure. If you read the research, you find it difficult to refute the points made - ESP if they are divergent from your own. They may, for example, do surveys of CIO's to determine who is the best software provider and you have no ability to judge that. For calls, usually this involves information that cannot be quantified. If you can't quantify or put context around a statement, you aren't getting it.
We all know where this line exists for ourselves.

Crossing into the Numbers Buys
I think most of my problems have come in the numbers buys area. The ones were it is 75% numbers, 25% business. This is the area where you are most prone to extrapolation and accepting management forecasts - cause you have no idea how to derive these yourself. The problem with relying on other people's opinions is you are flailing in the winds of sentiment.

A New Approach
Thinking about my own ventures into numbers buys, I'm stuck by how just how three simple things can make you successful. I am assuming here you are already interested in the company - you want to own it for whatever reason. So what would make these picks even MORE interesting - say, above a core size. Here are three suggestions:

1 - the stock is REALLY cheap. This is VERY subjective, but if you believe the valuation is very inexpensive that's a powerful sign. Enough to overcome your lack of confidence in your understanding of the business model

2 - sales growth is strong. Again, subjective, but we all know it when we see it. Extrapolation is far easier to be confident in when the company in question is outperforming the competition. We aren't going to assume this management team gets stupid and looses its edge. The tough thing with this is not being able to independently verify the PATH to future rates but that's understood.

3 - you believe in capital allocation via acquisitions. Being blunt, dividends and buyback don't mean squat for confidence. While there are possibly positive signs, these factor can be completely overwhelmed by negative news. Acquisitions are different if they are done at seemingly reasonable prices and add to the growth rates. The more confidence you have in this activity, the more confidence you can have in the business.

None of this is easy. I would RATHER own 100% business buys where you like the numbers but this isn't always possible (those buys might be too expensive) or desirable (we have know ideas that we didn't understand completely that went up a gazillion times).

more later
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