Common Stocks and Uncommon Profits Philip Fisher

A lot of the investing books just looks at the numbers for investing into publicly traded companies. If it were as easy as just figuring out how to calculate discounted cashflow, then why isn’t everyone who went to business school rich from the stock market? I only have heard of less than 5 people who made millions from the stock market. By the time this occurred, they all were old, in bad health, and penny pinched saving money everywhere in every facet of life. They effectively did all the calculations right and ended up living poor, and dying rich. Figuring out the art, the actual business side of a business, could yield exponential returns and allow one to actually enjoy the gains they make from the stock market. Philip Fisher’s book Common Stocks and Uncommon Profits goes into depth on the art side of evaluating the companies to be investing in.

-more about figuring out the art of investing using common, or uncommon sense

-when you can ask different questions based on the answers then that is a really good state of mind

-what are you doing that your competitors aren’t yet?

-selling stocks after they have fallen in anticipation of another fall is ill-advised

-scuttlebutt: Search voraciously for information about a company

-do not over diversify

-to all investors: stop investing when you get old, whatever old means. This is when age really hits the person and capabilities are clearly deteriorating. By then investing will be too difficult. At that point an index fund may be the best option

-odd ball, was antisocial, towards friends and family. None sounded emotionally close. Cold; avoidant personality. Philip Fisher was not a man to be close to people. This typically happens to career-oriented people, both men and women. Anti-social are typically insecure socially

-in order to get rich you have to take big calculated risks and not be scared of marginal risks

-two big factors needed for investment success: patience and being contrarian. Doing what everybody else is doing is often the wrong thing to do

Chapter 1

-rising research and development is a good sign

-even great projects can take 7-10 years to show any profit

-the fortunate stockholders, rather than the proverbial meek, may well inherit the earth

-with inflationary policy and government involvement, a 1930s style depression is now unlikely

-in depressions major inflation occurs to spur the economy. So stocks will soon be valuable again

-buy good companies; prefer smaller companies, but large companies will do well also

-need good management

Chapter 2

-scuttlebutt; gather information from everywhere, including vendors, customers, other companies. Forward indicator is reviews of the product by recent customers

Chapter 3 – what to buy

15 point checklist

-mature industries offer limited sales growth upside. An expanding industry offers more sales growth; however, the big winner in a stagnating industry can still do well. The business cycle is non-linear; periods of high sales growth and periods of slow sales growth. 80/20 rule

-find management with vision and are able and owner-oriented

-look for companies with sustainably growing revenue, preferably recurring, not where there is a short runway or one time gains. The sales gains must be in a trend, not a fad.

-if the company is growing and expanding to new products within its circle of competence, that company will continue to do well in the long haul. They can expand to new industries but that is more difficult and risky; related industries are better.

-look for management that is innovative and has initiative rather than complacent as those companies get eaten up.

-growth occurs from continuous spurts

-a company should be willing to expand its own efforts and be open to new sources of revenue

-good companies invest more in R&D, and often have 2x or greater gains than other companies from R&D. 2/3 of companies in the S&P do not have any R&D. This comes from good employees.

-Good companies allow these secret labs to keep going and do not interrupt, pause or stop them as that delay leads to never coming back again.

-For companies that are regulated and working alongside government, the work done must simultaneously add immense value in difficult and not replicable scenarios for the government, that other companies cannot so easily or the government. And, the company must be able to learn in R&D as well as have the applications useful for other government agencies or even other public companies. However, the R&D must be used in a manner that produces value, not just thrown away burning cash.

-a company must have the ability to advertise and market properly

-good margins; prefer high gross and operating margins. If high gross and low operating, if operating in future can increase, or if intentionally made low from R&D, and can become higher, then this will be an unusually attractive purchase. This only works if the company deliberately is reducing margins. If it’s unintentional, then do not invest as it’s a disaster.

-pricing power only works if prices are raised and the long term demand remains intact; otherwise, it sacrifices long term for short term gains

-look for companies with good employee relations. If bad, high turnover. Additional signs include a union being present (so bad needs organization)

-look for companies that earn above average and pay above average

-does the company have outstanding executive relations? Is it run on meritocracy, where the best ideas win?

-does the company have depth to its management? Key-man risk?

-managements that overly manage, micro-manage, do not allow people to grow and use their own abilities. This is bad behaviour in management and anywhere else

-how well can the company keep its costs under control?

-patents are nice for small companies but should not be relied on for large companies

-find companies that forgo current profits for long term profit maximization. This is extremely controversial. Therefore, focus on finding and evaluating cashflow, particularly operating cashflow

-find companies who treat customers right

-growth companies that can easily raise capital via debt and equity, but also do it conservatively and not overly dilute in a short time period is the best financing cashflow management

-investors should be buying into innovative managements trying different products and will fail. But they must address those failures swiftly and transparently or else they will go down in flames

-management can easily use the company to benefit themselves: above average pay, lease property to company at above market rates. Exception: smaller companies leasing property to the company at below market rates. The only way to avoid immoral abuse is no question of character, absolutely none.

-a person should only perform investing if they have special interest in and skill in investing. Otherwise, they should defer to the experts

-growth stocks are superior to value stocks

Chapter 5 – when to buy

-buy in dips where fundamentals have not changed. It’s better to study possible mistakes and mistakes in general than past successes

-see how a company does with difficulty, such as a scandal, recession, or black swan. If they can deal with those well, then the company is under good management. Qualitative leading indicators; companies that get awards for things that don’t immediately show up in financial statements, such as top 5 product rankings by reputable sources, will do well. Furthermore, want a company with less institutions so that when it grows and then gets bought, you have twin engines of growth; increased fundamental earnings and increased valuation metrics to the expensive side. Buy points: immediately before capital expenditures finish (May take 1-1.5 years for market to appreciate), or on disappointing earnings but improving earnings. Troubles should not last more than a year. Stay invested and invest new capital as soon as see a good opportunity where the market isn’t clearly overheated. It pays to stay mostly invested as 75% of years indexes are up and 90% of time in a bull market. Cash just rots in the sidelines otherwise. Without a strong track record, stage purchases to get lower price, and in protection of a drop. Always have some cash available, but doesn’t have to be a whole lot. Don’t focus on the market or timing for the most part, focus on what the business is doing and if the business is offering a discount

6 – when to sell

-1. when a mistake is clearly made

-2. When the business fundamentals have sustainably depreciated. Thus, investors must keep a close eye on holdings at all times to see if that is the case. Bad management, loss of moat, complacency, new technology or competitors taking market share

-3; found a new company with better prospects. Difficult to determine and unlikely if done right

-selling a stock because it’s over valued is risky business, hard to gauge as overvaluation can continue for a long time. Therefore, back to the old and simple adage, “Buy right and sit tight”

-the best time to sell a stock is never

7 – dividends usually bad signs, meaning limited growth or management doesn’t know what to do anymore. Also tax advantageous to not pay dividends, keep them in retained earnings to invest and expand business

8 – don’t of investing

-1; do not buy promotional companies. If want to buy small caps, wait at least 2-3 years of commercial operation (so not entirely new). As well need one year of operating profits to show they can actually make money (exception; they had positive operating margin but due to other relevant charges they were not profitable). As Charlie Munger says, if something is that good, do you really need to promote it?

-2; don’t ignore a stock just because it’s OTC

-May be more selling commissions for OTC to keep afloat and greater spreads for brokerage firm profit. Smaller companies on OTC if reach big boards, like NYSE or TSX, will gain stock price in the move alone. OTC offers even greater opportunity as smaller

-3; do not buy just because you like the tone of the annual reports or the tone of the CEO

-4; do not assume a high recent run-up in price is due for a downturn or indication that future growth is limited. If the company can continue high growth, like amazon, it will continue to rise and command high or even increasing valuations. Wonderful businesses typically consistently trade at a premium to the average company.

-5; don’t quibble over quarters or eighths. If a company is going to do well in the long run, it won’t matter if you overpaid by a couple of cents or dollars in the short run, you still win have won big time. If you want to save a few dollars there is probably a weakness to the company and it shouldn’t be bought to begin with

Chapter 9 – five more do nots for investors

-1. don’t stress over diversification

-shares should never be sold just because the stock price has had a huge run-up and may seem temporarily overpriced

-practical investors find the problem is invested in too many companies, not enough time and money to do so. Investors who own too many stocks show they are not sure of themselves

-2; Buy in scares. Wars and pandemics and other negative high uncertainty situations lead to more money printed, or inflation, which raises stock prices despite the economy worsening. Thus, when more quantitative easing occurs, more buying should occur, not less.

-3; forget about the past. Past stock price gains or losses, as well as EPS. What matters are the future prospects of a company, not the past. This is particularly true for the heavy growth companies that offer the most potential.

-if a company’s insiders sell shares, this is typically a bad sign unless pre-arranged yearly for low amounts for say charity, or if say to diversify wealth as most wealth is in the company. E.g: Texas Instruments back in 1958. Everyone thought insiders selling is bad and doubled in one year.

-even outstanding companies have 1–3-year dips in earnings, like Apple in 2015-2016. During those times, when valuations and prices are lower, it is time to buy in or add to position. Companies going forward may have new opportunities to make money as well as share revaluations. Don’t be influenced by past statistics.

-4; don’t fail to consider time as well as price in buying growth stocks. In growth stocks, buying before the growth is more important than the price paid. If explosive growth is going to happen and don’t buy hoping for a lower price, then you may be robbed entirely missing out in the gains. Buy wonderful growth at a fair price.

-5; don’t follow the crowd

-the best time to buy a stock is when others are fearful, and you be greedy, as long as the fundamental analysis shows a good company, and is for some reason temporarily priced and valued low.

-companies that secure government contracts for very difficult things, such as with the FBI, CIA, etc, have a strong moat and will grow, even if the profit margins are not the greatest

-analyze why a company is hot or cold and the industry itself to see if it is warranted. If it’s undue fear or pie in the sky expectations, it may be overvalued.

-fundamental changes made by small companies or under the radar ones will not lead to stock price change immediately; it may take several years. However, for companies in the media, this can often happen immediately and way overshoot in either direction.

Chapter 10 – how to know what companies to buy

-too many stocks out there, must use a filter, to quickly find 100 bagger stocks. Then secondly, to find the 100 baggers and not ok companies. The best way, per Philip Fisher and Mohnish Pabrai, is to clone successful investors and look at what they invest in as their ideas will typically be better than normal. Follow the best investors ideas and invest in the companies with the highest potential, the 100x.

-it follows that public sources widely available are not good as they are copycats it each other and only chase the most popular stocks. Popular websites that are free are not as good. Publications or memberships requiring money as such are going to be better in the companies offered. It may be worth money to buy into those private publications.

-Then once found reputable source with an interesting company, do a high level present analysis. See what is being said of the company (if at all), look at any recent troubles and earnings calls. Only then do deep dive into 10k, previous years analysis. Do not do the dirty work without likely getting good value for it.

-Good people with honourable character tend to be frank, forward and candid, even for their own weaknesses or negative experiences.

-try to speak to management if at all possible. Must come prepared and armed; best to get introduced by someone else, like the investment bank or a big shareholder. Most of the work in deciding to buy must already be done before buying.

-Even with this much work out in, the stock market of done correctly is the best vehicle for financial gain. As if you calculate over a long period of time, the reward for hours worked is very high compared to everything else.

-stock investing requires great judgment and great vision. It also requires hard work, and then a willingness to bet massively for opportunities that arise, that are seen by the prudent and intentionally patient investor.

Chapter 11 – conclusion

-a good nervous system is more important than a good head

Part 2 – conservative investors sleep well

-1; -characteristics of a conservative investment. Need superiority in production, marketing, research, and financial skills

-ideally want the lowest cost producer. Though ignored and grows less in a bull market (compared to higher cost competitors), helps avoid bankruptcy, and help fight a recession as it loses the least. Out of a recession will have most market share as able to maintain most production

-avoid companies in sunset industries unless they are the big winner. In general in the long run pick the #1 or #2 in an industry

-need good research

-if a company isn’t growing then it’s shrinking. Therefore, must find a company with growth opportunities ahead

-a strong offence is the best defence

2; 2nd dimension – the people factor

-venture capitalists say to invest in “vivid spirits”: entrepreneurial personality, drive, audacity, unmistakable passion, original ideas, and necessary skill, vision. A serial entrepreneur is the best option.

-companies that cultivate leaders from within, who hire from within on merit are the best companies to invest in on a personnel placement perspective

-companies that keep bringing in new executives who have not been with the company before, this is a bad sign, shows something is wrong. Hint; in the proxy statements, if the CEO makes way more than everyone else on the executive board than of the CFO, COO, etc, then that is a problem. You want multiple people with vivid spirits who want to get things to be better than they are, a determined visionary with skill

-good companies tend to have unique policies unlike others

-individuals change but change little once they reach maturity

-companies must recognize change is constantly occurring in the world, and the only way to succeed is to innovate and constantly re-examine old ways of doing things, not stay complacent and maintain status quo

-there must be conscious effort to make the company a good place to work at. Since most people spend their whole lives working, it helps boost productivity and employee morale

-do not let grievances go on for too long. Solve them right away, and if they can’t, then leave

-performance oriented incentives. Companies that worry about its people end up doing the best

-growth companies: make minimal profits short term, for maximum profits long term. This is to ensure minimum capital needed to expand for the long term. Traditional companies try to maximize profits in the short term and focus on each quarter rather than the long term; incorrect move and should not buy these companies. Focus on long term cash flow.

-3; inherent valuable qualities of the business

-ROA, return on assets is not overly useful as it doesn’t give details per asset, asset life, maintenance costs per asset, etc

-so the better metric is profit margins, particularly gross profit. Operating margin can increase over time, but gross margin not as easily unless find new opportunities. Margins for safety of investment. Growth of sales for growth in company reward basis.

-High margins generally don’t exist for a long time as they will attract new competitors. Only two ways then. Monopoly or higher operating efficiency.

-big companies have economies of scale but also bureaucracy

-if a company is trending as the clear market winner, only invest in that company and no one else.

-over the long term, market positions goes like this:

-#1 – 60%

-#2 – 25%

-#3-5 – approximately 15% split

Remaining 5% for everyone else, a terrible position to be in. Don’t play in games where you have no advantage in, play in games where you do have the advantage. Must pick top 1 only.

-a small company has a tough time where multiple technologies intersect and they have to try and master multiple things. And particularly if they also need to create or steal a network

-multi-disciplinary technological companies offer the strongest technology companies

-companies with particular products and good marketing, such as Microsoft with its webinars and sales routines for ERP software, will do well over time

4th dimension – valuation

-when investors lose money, they conclude common stocks of any kind are scams and not suitable for savings

-a significant price move is due to a change in appraisal of that stock by the community in general (rightly or wrongly). This causes more buying or selling. So the key is to get in before everyone else. Hard to trade based on psychology however. Best to buy when low valued or fair value. Don’t if high valued as this prevents the twin engines of growth.

-simply do not invest in low quality companies

-a company is valued on three things: current financial community assessment, industry valuations, and future basis cashflow tied back to present. Companies will lose valuation if there is an expected technological negative force coming, or if prospects of the company look dim

-over time fundamentals always dominate

-the conservative investor must be aware of the financial community’s current appraisal of an industry and a company

-the further into the future profits continue to grow, the higher the P/E can be. However, if earnings do not keep going as expected, then the P/E comes crashing down and investors get burned.

-if a stock gains or drops a lot, it could still be over or undervalued substantially. Even if the stock trades at a certain price for years, it could still be significantly under or overvalued. The current price as well as the financial community’s appraisal of a stock has no impact to its true fundamental value.

-as long as interest rates are low, stocks will keep going up

Part 3 – developing an investment philosophy

-for a company to outsell and outearn the industry for an extended period, they must have two additional characteristics:

1- superior day to day performance that is geared towards the long-term vision

2- when a mistake is made, repentance occurs immediately and remedial action is taken immediately

-only in drastically bad times are people able to become open-minded

-rather than work another dead-end job, started his own investment fund

-manipulation in the past via buying and selling within each other to sell to outside parties

-food machinery had: quality products offered, scale manufacturer, low cost producer, good marketing as products well regarded

-A business leader must both be good with execution and have long-term vision

-business skill and integrity are the most important founder factors. Great people have great ability and great character

-in order to be successful, you must be contrarian and you must be right. Being only contrarian is not enough (bad) nor is only being right with the majority (average)

-an investment should be judged on 2-3 years time; if in that time still bad; then it’s time to sell. Investments take time to play out.

-only large safe companies are in the financial communities minds. Small companies or ones slightly speculative are completely disregarded

-Fisher later concluded its better not to try and time the market and instead just focus on the long term and looking for other companies than spending it doing timing. It led to at best insignificant gains.

-common investment mistake: setting limit orders to try and save $0.50 or $0.25 per share. Better to buy at market value, and be a fish in the ocean, than to buy nothing and end up being a shark in a pond.

-A company that values its people and tries to grow from within from the HR perspective is important

-companies, like people who just go along with the crowd and don’t try to take chances or grow, will end up dying in mediocrity

-companies that miss earnings, especially for a few quarters, if exceptional, offer a massive buying opportunity

-weakness from success; getting complacent and investing in nonsense you don’t know and not doing the standard checks

-technology companies or industries that massively outperform often end up being overpriced and lead to bubbles. Avoid the greed of buying into bubbles

-“do few things well” Philip Fisher

-an investor should never sell an exceptional holding. Even if the market is likely at an overvalued point with a likely recession to come, no selling. The fundamentals of a company that remains intact for higher highs in the future should not be sold in a guessing game of stock prices. Exceptional companies even in best markets lose little value. More money is lost missing out on huge future gains than is the money made from timing the market from small gains.

-do not pay too much attention to what you’re hearing from the management and instead focus on your checklist of analysis

-speculative darlings of the moment often prove to be the most dangerous kind of trap for the blind crowd

-some new products are bound to fail in all new companies

-the future belongs to those who attempt to achieve it

-if there is already an industry incumbent, it is hard to make money in that situation by being innovative. Use intersectionality of multiple disciplines

Disclaimer

This is not Financial Advice. This article is meant only for educational and perhaps entertainment purposes.