Five key questions in considering investment opportunities:

1.  Is this a good business run by smart people?

This may include items such as quality of earnings, product lines, market sizes, management teams, and the sustainability of competitive positioning within the industry.

2.  What is this company worth?

Value investors perform fair value assessments that allow them to establish a range of prices that would determine the fair value of the company, based on measures such as normalized free cash flow, break-up , takeout, and/or asset values.  Exit valuation assessment provides a rational "fair value" target price, and indicates the upside opportunity from the current stock price.

3.  How attractive is the price for this company, and what should I pay for it?

Price assessment allows the individual to understand fully the price at which the stock market is currently valuing the company.  In this analysis, the investor takes several factors into account by essentially answering the question.  Why is the company afforded its current low valuation?  For example, a company with an attractive valuation at first glance may not prove to be so appealing after a proper assessment of its accounting strategy or its competitive position relative to its peers.

4.  How realistic is the most effective catalyst?

Catalyst identification and effectiveness bridges the gap between the current asking price and what value investors think the company is worth based on their exit valution assessment.  The key here lies in making sure that the catalyst identified to "unlock" value in the company is very likely to occur.  Potential effective catalysts may include the breakup of the company, a divestiture, new management, or an ongoing internal catalyst, such as a company's culture.

5.  What is my margin of safety at my purchase price?

Buying shares with a margin of safety is essentially owning shares cheap enough that the price paid is heavily supported by the underlying economics of the business, asset values, and cash on the balance sheet.  If a company's stock trades below this "margin of safety" price level for a length of time, it would be reasonable to believe that the company is more likely to be sold to a strategic or financial buyer, broken up, or liquidated to realize its true intrinsic value - thus making such shares safer to own.

There is no price low enough to make a poor quality company a good investment.

If you're in doubt about the quality of a company as an investment, abandon the study and look for another candidate.

When in doubt, throw it out.

Abandon your study and go on to another.  There is no price low enough to make a poor quality company a good investment.


The worse a company performs, the better value its stock will appear to be.

Because declining fundamentals will prompt a company's shareholders to sell, the price will decline.  This will cause all the value indicators to show that the price has become a bargain.  It's not!

When the stock is selling at a price below that for which it has customarily sold, you will want to check to see why - what current investors know that you don't.

Evaluating Company Quality

To buy a good stock, you only need to know if the company is a good-quality company and if the price you have to pay for its stock is reasonable.

A good-quality company is one whose growth, upon which you rely to increase the value of your investment, is strong and stable, and one in which management's efficeincy will enable it to continue that satisfactory growth. 

The first assessment of a company's quality is the analysis of its sales and earnings growth.

As a company passes through its life cycle, its success and its potential as an investment can be sized up at a glance.

Companies that are good candidates are easy to spot.

More important, companies that are not good candidates are even easier to spot.

As you become more experienced, you'll be able to gain more insight into what is in store for a company and why.

Quality: There are a relatively small number of truly outstanding companies. Their shares frequently can’t be bought at attractive prices.

Investment is most intelligent when it is most businesslike. 
Ben Graham - "The Intelligent Investor"

“There are a relatively small number of truly outstanding companies. Their shares frequently can’t be bought at attractive prices. Therefore, when favourable prices exist, full advantage should be taken of the situation.”
Philip A. Fisher, ‘Developing an Investment Philosophy’, 1980

The moral of this is that only an excellent business bought at an excellent price makes an excellent investment. One without the other just won’t do. 

Investors start from the premise that there is no philosophical distinction between part ownership (i.e. buying shares in a company) and outright ownership (i.e. buying the business in its entirety). All we are looking for is pieces of businesses to buy at the right price.

Warren Buffett put it thus:
 “Stocks are simple. All you do is buy shares in a great business for less than the business is intrinsically worth, with managers of the highest integrity and ability. Then you own those shares forever.”¹ 

Criteria for Stock Selection 


It follows that there are several important criteria that companies selected for investment consideration must exhibit in abundance. Among these are that:

• Their business model is easily comprehensible; 
•  They produce transparent financial statements; 
•  They demonstrate consistent operational performance with earnings being relatively predicable; 
•  They generate high returns on capital employed; 
•  They convert a high proportion of accounting earnings into free cash; 
•  Their balance sheet is strong without unduly high financial leverage; 
•  Their management is focused on delivering shareholder value and is candid with the owners of the business; 
•  Their growth strategy is more likely to rely on organic initiatives than frenetic acquisition activity. 

 Buy when the Odds are in Your Favour 

 Great investment opportunities come around when excellent companies are surrounded by unusual circumstances that cause their share prices to be misappraised. Again as Buffett puts it, “Price is what you pay, value is what you get”.² Having identified a universe of truly outstanding companies, we must wait until their shares can be bought at a price on the stockmarket that is substantially less than their true economic worth. 

References: 

 ¹ Warren E. Buffett, Forbes, 6 August 1990 

 ² Warren E. Buffett, Letter to Partners (Buffett Partnership), July 1966

http://www.sanford-deland.com/pages/quality+of+business

How to do a stock research & analysis.

Opto Circuits India Ltd - Stock Research & Analysis
(15 Dec 2008)

Synopsis

Opto Circuits is a small company in Medical Electronics industry with focus in the niche areas of invasive (coronary stents) and non-invasive (sensors, patient monitors) segments. Prior to '2002 Opto's Revenues were less than Rs. 50 Cr. Today Revenues stand at Rs.468 Cr, with exports accounting for more than 95% of Revenues. Opto Circuits is based in Bangalore India and operates out of offices established in USA, Europe, South-East Asia, Latin America and the Middle East and boasts of a strong international distribution network present in over 70 countries.

The Numbers speak for themselves. Net profit margins are healthy (over 28%), great return on equity (~ 40%, unmatched in the Medical Electronics industry), and solid return on invested capital ratios (over 45%). Financial health has been steadily improving over the years with comfortable financial leverage (1.34) and Debt to equity (0.31), with solid Current & Quick ratios. However, Opto Circuits still has a long way to go before it can show loads of excess cash on its books, due to its aggressive business expansion. Free Cash Flow as a percentage of sales is ~6 percent. It has consistently increased Dividends per share and has a unique track record of rewarding shareholders with bonus shares every year, for the 7th straight year! Opto Circuits seems to enjoy an above-average Economic Moat and fares very well when compared to its peers in this Peer Comparison snapshot.

Though there are Significant Risks going forward, Opto Circuits has lots of positives going for it. Over the last 7 years since FY2002, Opto Circuits Revenues have clocked a long term sales growth of over 45% while long term EPS growth has galloped at a handsome 60% plus. It has been working steadily grow its business through pursuing organic growth through investments in manufacturing capacities and penetrating into newer markets, supplemented by inorganic growth through judicious acquisitions. To its credit Opto circuits has managed acquisitions so far quite well, drawing synergies by leveraging distribution networks and lower-cost manufacturing bases. There is some evidence of Sustainable Growth over the medium term. We posed a few questions to Opto Circuits Management to be able to understand and assess its longer-term prospects and growth sustainability, better.

Opto's track record so far evidences early signs of being served by a Competent Management Team. The stock is promising and there's nothing wrong with investing in a young growth company like Opto Circuits, as long as you know what you are getting into. It has a long way to go before it qualifies to be among the Core holdings in anyone's Portfolio. It’s a long shot, though one that might just pay you back many times over. However, this is only half the story because even the best companies are poor investments if purchased at too high a price. We cover Opto Circuits' stock valuation in the other half story. 

Read more here:

http://www.stock-picks-focus.com/opto-circuits.html#Profitability-Snapshot

Warren Buffett: About Socks and Stocks

"Long ago, Ben Graham taught me that 'Price is what you pay; value is what you get.' Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down."

Source: Letter to shareholders, 2008

Read more: http://www.businessinsider.com/warren-buffett-quotes-on-investing-2010-8?op=1#ixzz1oXHwI5c2