Finding a company with a competitive advantage means finding an investment that will offer solid returns for decades to come. What identifies a company with a strong competitive advantage? Some results may surprise you.

“…managers and investors alike must understand that accounting numbers are the beginning, not the end, of business valuation.”

-Warren Buffett 1982 shareholder letter

There is so much more to finding a good investment than finding a specific ratio on a company’s balance sheet. As Buffett says, evaluating a company’s financial statement should be the beginning of your research, not the end.

Buffett has made his billions by identifying companies with strong competitive advantages, and buying and holding those companies for decades (Or as he says, preferably forever).

A strong competitive advantage means that a company will continue to make profits year in and year out, no matter the economic or political environment. It maximizes shareholder wealth by harnessing the power of compounding interest in its accumulated earnings.

But, a strong competitive advantage is not identified just by looking for a certain Price to Book (P/B) or Price to Earnings (P/E) ratio. Instead, it means understanding how the business operates and how the company’s financial statements identify advantages the company has its in field.

For example, consider Coca-Cola’s current ratio. Historically, it has been under 1. Any basic stock screen that excludes companies with current ratios of less than 1 (which is a quick test to see which companies can afford to pay their bills over the next 12 months, read more on current ratio here), would have excluded Coca-Cola from the results.

How can it be possible that one of America’s strongest companies looks like it won’t be able to afford to pay its bills by a simple ratio like the current ratio? It turns out, this may in fact be a sign of a significant competitive advantage for a select set of companies!

A low current ratio is #4 below, here are the rest:

Generally, increasing assets are a sign that the company is growing, but everyone can relate to the fact that there is much more behind the scenes than just looking at the assets. The goal is to determine how the asset growth of a company is financed.

To do so all we need is the last few years of a company’s balance sheet and the most basic financial statement equation:

Assets = Liabilities + Equity

The assets of a company are what the company owns. Typical examples of assets are; equipment to make a product, buildings owned, raw materials to create a product, inventory of the product to sell and cash in the bank.

Think of your household. Your car, your home, your furniture, TVs, Computers, bank accounts etc.

Generally, increasing assets are a sign that the company is growing, but everyone can relate to the fact that there is much more behind the scenes than just looking at the assets. Back to our household example:

Imagine watching a neighbor pull a sparkling brand new BMW into their driveway, getting out dressed in his fancy Italian suit, talking on the latest smartphone, and coming over to ask if you can watch his house for 2 weeks while he travels to sail in the Caribbean. You may think he is making it big, right? Maybe he got a big bonus from work, or a promotion…

That may very well be the case, or he may be racking up debt (liabilities) to finance these assets.

You may never find out which option applies to your neighbor, but thankfully the SEC requires publicly traded companies to be a little more transparent with their financials than your neighbors. [continue reading…]

Mr. O’Glove is the author of one of my favorite fundamental analysis investing books: Quality of Earnings

This talk only begins to touch on the topics covered in his book. If you find any of his talking points interesting, read the book for much more details and insights.

He is known for is in depth analysis of company financial statements. He was the author of the ‘Quality of Earnings Report’, a newsletter focused on identifying financial discrepancies, primarily for institutional investors. He published the Quality of Earnings book in the mid 80s. It may be old, but it is still one of the most useful for education investors on reading a company’s financial statement.

I can’t say I agree with everything he says in this talk (specifically that Buffett should break up Berkshire Hathaway, inflation comments, deficit speak, etc.), but that doesn’t mean he doesn’t provide a ton of value in his talk. [continue reading…]

A New Year for the stock markets – That means it is time to run our Ben Graham Value Screens again and see what companies have made the cut this quarter! [continue reading…]

What stocks do Warren Buffett, Carl Ichan, George Soros and other billionaires own? Here is a great infographic I saw on WalletHub:

How can you find this information in the future, or for other investors? Read below. [continue reading…]

The first step in finding potential investment opportunities is to be able to go through and evaluate a company’s financial reports. In this article we evaluate the Cash Flow Statement, one of the most useful of the three financial statements.

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Another quarter has come and gone on Wall Street.  That means it is time to run our Ben Graham Value Screens again and see what companies have made the cut this quarter! [continue reading…]

This is a continuation of our “Ben Graham Value Screens” series, where we look at investment opportunities based on the criteria that Ben Graham used and that is outlined in his (excellent) biography, The Einstein of Money.

Here we present the results from 2 different screens. Ben Graham’s “Defensive Investor” screen and “Enterprising Investor” screen. [continue reading…]

Looking for potential investments? With thousands of stocks to research, getting started can seem a bit overwhelming. Here are a couple screens (and the companies that made it through) using sets of criteria utilized by the “Dean of Wall Street” and “Godfather of Value Investing”, Ben Graham.

The significance of Ben Graham’s Wall Street career cannot be overstated. His investment partnership averaged 17% annual returns over its existence. He created and mentored some of the most successful investors ever to live and has been responsible for the education of more investors than almost anyone with his 2 best-selling investment books, The Intelligent Investor and Security Analysis. He had a very disciplined, rule-based approach to investing that focused on only one thing: A company’s intrinsic value.

The following comes from the book, “Einstein of Money”, a great biography of Ben Graham that is also focused on his investment work. Every other chapter breaks from the life story of Graham to detail a main concept in his investment philosophy. Whether it is his concept of Margin of Safety, Fundamental Analysis or advice on dealing with “Mr. Market”, the author does a great job mixing in the life of Benjamin Graham and the ideas behind his work. [continue reading…]

We have previously discussed the more well known financial statements; the balance sheet, income statement and statement of cash flows, but there is one additional financial statement you will see listed within every company’s 10-k report, the statement of shareholder equity. Value investors like Warren Buffett consider information within this report as some of the most important and telling signs of a company’s health. Here is why:

 Shareholder Equity – What is it?

Recall the most basic equation in finance:

Assets = Liabilities + Shareholder Equity

Or, said another way:

Shareholder Equity = Assets – Liabilities

So really, shareholder equity should be considered the net worth of the company, or what the company is worth if all its assets were sold and debts settled.

The Statement of Shareholder Equity depicts the value of the company and describes where that value comes from and how it has changed over time for investors. [continue reading…]

Leverage has been responsible for some of the most glamorous gains and disastrous declines in the financial world. Here we look at what leverage is, and show an example of its devastating potential.

What is Leverage?

Leverage is typically defined as your “exposure” relative to “actual capital”.

Where exposure is the value of your holdings, and actual capital is money paid or invested by you. The additional “exposure” comes from borrowed money, and this is why being “leveraged up” can be so dangerous.

In the most general terms, leverage is:

The most common form of leverage that consumers are familiar with deals with mortgages. Consider a family looking to purchase a $500,000 house. They likely cannot afford to write a $500,000 check. They will most likely go to a bank and put, say, $100,000 down and take out a mortgage for the remaining $400,000.

Here the family’s “exposure” is $500,000, the actual value of their house, but their “actual capital” is just the $100,000 they put down. [continue reading…]

The SEC requires that investment managers with more than $100 million in assets file a 13-F form, disclosing their holdings each quarter. Here’s how you can use it to invest like your favorite famous investors.
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The first step in finding potential investment opportunities is to be able to go through and evaluate a company’s financial report. In this article we evaluate the Income Report and show how investors can use the information within the income report to uncover potential value.

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The first step in finding potential investment opportunities is to be able to go through and evaluate a company’s financial report. In this article we evaluate the Balance Sheet.

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