Qualitative Analysis- II

Qualitative analysis is a part of fundamental analysis, which common investors fail to look at. This section holds the left out essence of the qualitative way of finding the best managed business. Investors of early 20th century were fortunate to find the book “Common stock and Uncommon Profits (2007)”which constantly stresses the caliber of the managers and people at influential posts. OK TESTED is what we all expect all the stock names to end with.

Understanding business models, Competitive advantages like brand establishment, track records, Corporate governance are all some of the emphasized aspects of a well managed business. Similarly, pricing power, business risks are also comes under the part of the analysis which we will wade through in minutes.

Pricing power:

The ability of a business to command prices of the service they render or the product they produce. Businesses which sell the same kind of products are considered as commodity business which lacks the pricing power. The price depends only on the supply and demand of the international market, well penetrated stores, competitive pricing i.e., lower than the market price. A cash cow might withstand the tussle by temporarily making losses. A renowned and fresh example of zomato swallowing uber eats with their stock sale. Zomato is owned by Info edge which is a well diversified, full online interactive business which can also be said as a cash cow had INR 600.29 crores in the time of acquiring. Aim businesses which are of franchise type. These models are conventionally built to price the products and oscillate them in business cycles. Therefore, pricing power is generally a function of industry dynamics, elasticity of demand and branding and customer loyalty/addiction. Nestle’s Maggi is a classic example of the pricing power where the volume is never affected when size differed or price fluctuated.

Well diversified business

Organization Structure:

A clear hierarchy of decision making and should not be driven by an individual. Apple had this problem when Steve jobs was forced to step out of his empire and then pulled back because the promoter knew no one can run apple like Steve did. Rather than individual driven the organization should be procedural, system driven. Its called “Key man risk- what if key one or two individuals are not there tomorrow”. One man show can be appreciated as of integrity wise, but investment needs are different. This is a valid point that the reports fail to acknowledge which may drastically affect the company’s future.

Risk in business:

Promoters very rarely talk about the business’s risk, but can write a thesis on the impossibly superior future of the business. Entrepreneurs are generally are risk takers and they don’t mind telling “It’s all fine” that’s not mendacious, they always hope to turn the business to good and can tolerate risk. Risk averse investors should always look for “What can possibly go wrong?“. If promoters state that nothing could go wrong in the business, clearly they fall into the category of “people who don’t know that they don’t know”. If the promoter is aware of the risk in which the business floats, the moat would already be formed to protect itself from competitors.

Example of this sort is low interest foreign currency loans, people often confidently borrow loans of this kind with a positive picture of comfortably neglecting the currency strength over the repayment tenure which is hidden almost all the time. The fall of reliance communications is due to this.

Compliance orientation of the company:

Announcing results every quarter, giving details of shareholding patterns, handling investors’ complaints in an appropriate manner, disclosing allocation of money raised from investors in an IPO/FPO, providing information on the changes in the management’s shareholding in the company, among others are all expected to be done by regulation and are a part of compliance requirements. Compliance officer became mandatory by regulation. Letters from Warren Buffett of Berkshire Hathaway discloses every mistake he made also confronts in front of the huge audience. A track record of the company should always be ticked in the checklist.

Documentation on Guidance v/s actual:

Investors are curious to know about the future prospects of the company. Taking advantage of this the management paints rosy picture to manipulate the audience. Other side of the world few businesses are brutally honest about opportunities missed, mistakes made and even lousy estimates. Unfortunately, no one takes speeches too serious and harks back to the points made while evaluating the company later. Investors should look for what the management promised to deliver in its previous year’s annual report or AGM and to compare it with what has actually in execution. In this way the investor will clearly be distinguishing between what should be taken at face value and which one to be chopped off.

The most emphasized and failed to look areas of qualitative analysis are put up front to know where to concentrate while looking for more than financials of the business. Most of the analysis stops with reading and interpreting numbers, the devils are in the details look carefully for the keywords which convinces you to stop reading and start accumulating.

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