Monday, May 15, 2006

Great company, good stock but not a good buy

One important tenet about investment is to separate a good stock from a good investment. What do I mean by that? A good stock or a good company is one that consistently delivers earnings, capable of making good strategic decisions, always one step ahead of competition and the leader in its field. Essentially the WalMarts, the Googles and the Toyotas of the world. A good company however may not be a good investment, because its "goodness" is already factored in the share price. A good investment is buying a good company at a cheap price. That is, buying WalMart 30 years ago, when nobody has heard of it and when it was trading at a huge discount to its intrinsic value.

To put it in another perspective:
- a good stock = a good babe
- a good investment = dating a good babe at a cheap price
- a bad investment = dating a good babe at an expensive price

As another analogy, take the Dom Perignon champagne. It cost roughly S$200 per bottle. Is it expensive? To answer that we need to know its true or intrinsic value. For consumer products, an easy way is to breakdown its cost components. For the champagne, probably goes like S$50 labour, S$40 processing, S$20 packaging, S$10 logistics, S$10 admin cost (I am arbitrarily putting in no.s here), the rest of it the Dom Perignon's brand, taste, prestige and heritage. When you buy a bottle of Dom Perignon for S$200, you are paying all these, so you probably did not overpay or underpay.

In other words it is fairly priced (i.e. going on a date with a good babe at an expensive price). When you buy a great company like Google, or WalMart, it is the same. Chances are you are not buying them at a bargain price. This is what it means: its "goodness" is already factored into the share price.

So how do we find a stock that is a good investment? That is the question, isn't it? Just like going on a cheap and good date with a good babe, good investments don't come by easily. One has to dig, to search, often to find that it is not so good after all. But they do exist. At least the guru, Mr Buffett managed to find 12, and that made him a billionaire.

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