The value of a company is the amount of cash it will generate for its owners over its lifetime. It’s hard to work out what that figure is in advance so we are drawn to companies that have a control over their own profitability, usually because of the strength of their business franchise. We call this pricing power. It can take many forms; strong brands or market position, a unique niche, lowest cost of production, patents, and more.
We also look for a high return on capital. Most of the money generated by businesses is re-invested. If we want excellent returns, then that money needs to be re-invested at high rates. An enduring high rate of return is another sign of a great business.
We consider a purchase of stock as handing over our money to a management team. We choose people that we believe possess integrity and will act in the interests of shareholders and look for management teams that are competent and honest.
Having found great companies and good managements, we wait for the opportunity to invest at attractive prices. This can take years and may never happen.
Great companies rarely trade very cheaply and if they do it is usually because there is some recent bad news for the company, its sector or the economy. We specialise in looking at these situations and determining whether the factors causing the price to fall are temporary or more permanent.
Occasionally, the market overreacts to short term negative developments and we get a great opportunity to invest with a long term horizon.
To discover more about how we invest, read the Phoenix Primer.