Friday, April 30

How I Research a Stock

Investing should be fun. If you aren't having fun (and, generally, making money), you probably aren't doing it right.

First off, investing in individual companies just isn't for everyone. If you don't enjoy doing the research, you won't be good at it. Instead, just put your money into an index fund and spend your time doing something you do enjoy.

I am a sleuth when it comes to investing in a company. I love rolling up my sleeves and getting my hands dirty. Below are some of the things I do both before I make an investment and ongoing to stay current:
  • Stick with what you understand. This is the most important rule for me. If I can't tell you how a company makes its money, it's too complicated for me to own. Back in November I purchased shares of Dollar General (DG). If I had listened to the professional analysts, I would have heard them say how, at $22 per share, the stock was fully valued, the company had too much debt, etc. What I like about Dollar General, and why I made an investment in the company, is that it is easy to understand. It's a low-priced retailer that specializes in opening stores in small towns. These are often communities too small to be served by the behemoths like Wal-Mart. Because the company leases its stores, the cost of opening a new store is usually paid for within two years of opening the store. While there are already close to 9,000 stores in the U.S., the company has a presence in just 35 states - room for expansion westward.
  • Read everything you can get your hands on. I have a voracious appetite for reading anyway, so I'm always looking for new information about a company I like. For example, my local Dollar General recently remodeled, and somehow several copies of the employee newsletter were left on the sales rack. The information wasn't proprietary, but it gave me an idea of what information management thought was important to share with its employees. I also set up Google Alerts so that I receive emails whenever new information is posted online. This is cool because I hear about new stores coming to towns across the country, different crimes that occur (after noticing several stories about shoplifting incidents, I did some digging to see how DG compared to other retailers in terms of shrink, which is the expense a company associates with lost inventory due to theft, damage, etc.
  • Get hands on. This is where the rubber meets the road. I'll email company officers to ask questions (surprisingly, many times I'll get a personal email responding to my question). I'll visit stores and talk to employees. I've even stopped truck drivers at truck stops and asked them about their jobs so that I can learn more.
  • Read between the lines. If there are any red flags about Dollar General, it is its debt level. KKR, the company that took DG private in 2007, saddled it with debt. The company went from having $260 million in debt before becoming private to more than $4.2 billion in debt when it was made public again in November 2009. Interest on debt is consuming about 39% of earnings right now. On the surface this is scary. I don't mean to make light of it, but the debt was taken out not in the normal day-to-day operations of the company, but instead to fatten the wallets of the pirates at KKR. Now that it is once again a public company, it can pay off this debt and move on. Do I agree with what happened? Of course not - it should be illegal. But does that change how I feel about the company? Not at all.
For me, investing in a company is a long-term relationship. I am an owner of the business, and as such I want to know as much as I can about my business. It doesn't matter that I may only own 1/1,000,000,000th of the company, I still am an owner and will think like one.

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