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The First Principle of Investment is Quality of Value

The term value is frequently misused. Dollar-store advertisers use it to mean that even though something is complete garbage, at least it’s cheap garbage. Portfolio managers use the term “value” to mean an underpriced-but-valuable asset. That’s better, but also includes the idea of cheap.

Understanding value–real, quality value–is the first principle of investing, and it has nothing to do with price.

Amazon Books

Amazon is the disruptive innovation that is terrifying brick-and-mortar retailers and threatening the bonuses of retail executives. Amazon has undercut retailers’ price, broadened beyond retailers’ inventory, competes with retailers for convenience, and may eliminate them through its logistic prowess.

So you would be forgiven for being surprised that Amazon just opened up a brick-and-mortar bookstore in Seattle.

Amazon’s diversification from online into retail is an impressive application of two of its core competencies: big data and logistics. We previously posted a story about diversification, and we applaud Amazon for its demonstration of true diversification. Amazon Books (Amazon’s brick-and-mortar brand) will be stocked with the books that reach the top of Amazon’s online sales, wish lists, weekly purchases, pre-orders, and ratings. The books come with the same customer-review data found online: quote, stars, and number of reviews. This strategy is only possible because Amazon is really good at big data.

Amazon is also managing to sell books in its retail store at the exact price found online at its online store. Unless all other retail book-sellers have been earning egregious economic profits for decades, that’s impressive logistics.

Even more impressive than the innovation is the quality value.

Value

Delivering value begins with qualitative analysis, and that’s our point. Establishing future cash flows is the foundation of what CFOs do for a living. But while quantitative calculation may be all that’s needed for calculating differences in financial instruments, it’s not nearly enough for telling you how you should invest your time, personnel, and resources in your business. Value needs to come first.

Consider the value of Amazon Books. Amazon has learned that people love to buy highly-rated books, and it now knows enough about highly-rated books that it can fill an entire bookstore with them. That value needed big data to be coordinated, but it didn’t need big data to be understood.

If you have read Common Stock and Uncommon Profits by the father of Growth Investing Philip Fisher, this should be a familiar principle to you. Mr. Fisher offered a 15 point checklist for consideration of a company’s value.

Here’s the full list. We at Preferred CFO ask you to read them with your own business in mind. Do you meet all the criteria of a good investment?

  1. Does the company have the products or services with sufficient market potential to make possible a sizable increase in sales for at least several years?
  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?
  3. How effective are the company’s research and development efforts in relation to its size?
  4. Does the company have an above average sales organization?
  5. Does the company have a worthwhile profit margin?
  6. What is the company doing to maintain or improve profit margins?
  7. Does the company have outstanding labor and personnel relations?
  8. Does the company have outstanding executive relations?
  9. Does the company have depth to its management?
  10. How good are the company’s cost analysis and accounting controls?
  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?
  12. Does the company have a short range or long range outlook in regards to profits?
  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?
  14. Does the management talk freely to investors about its affairs when things are going well but “clam up” when troubles and disappointments occur?
  15. Does the company have a management of unquestionable integrity?

Next Steps

Qualitative consideration of value is the first step. Quantitative analysis of its cash flows is the second step. While it’s your job to build value in your strategies, it’s our job to estimate the cash value of those strategies. Whether you need part-time, temporary, project, of full-time assistance, our team of CFOs is the best value available…in all senses of the word.

Please call us at 801-804-5800 for help improving your revenues in a way that improves your profits.

And your lifestyle.

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