Finding Stocks with Continuous Improvement (Part 1)
Fluctuations for no apparent reason are the bane of most stocks. We do not complain when unexpected windfalls come our way, but live in dread of vanishing dividends and reduced values. Not much of public trading in stocks is rational, predictable, or reliable, but that should not limit our abilities to choose the best securities to adorn any portfolio.
The principles of business management apply to stocks of profit making companies and to bonds of public bodies in equal measures. Therefore, an understanding of how the best organizations function is central to optimal trading in stocks. There is no investing joy in fluctuating performance: dramatic swings in balance sheets are no good for people who enter stock markets with long term perspectives. Are there any securities which display steady progress and continuous improvements?
Though each sector of an economy has its own characteristics, there are also some shared features which set the best organizations apart from others. Quality and productivity for example, are essential ingredients for continuous performance improvement (Cartin, 1999). Even entrenched monopolies will eventually crumble if they do not meet the expectations of people they serve, and keep getting better at doing it. Competition pressures dramatically compact learning curves, forcing executives to understand their customers better, and reducing costs of operating from year to year.
The Performance Excellence Route to the Best Stocks
The traditional financial statement route to evaluating stocks is inadequate when one wishes to use the quality and productivity yardsticks to evaluate organizational excellence. Companies and public bodies can keep doing better only by adopting the right processes rather than by declared intents or past achievements alone (Oakland, 2001). Public market sentiment does not invariably pick up signals of new trends in the internal workings of companies, so some highly valued stocks may have reached crests, whereas other poorly rated ones may have turned corners. Institutional investors have resources such as custom interaction with executives and due diligence procedures to aid their analyses, but how can the proverbial small guy know what really transpires within the cloistered walls of powerful organizations?
Benchmarking stocks against direct and indirect competitors with respect to key indicators of quality and productivity is a feasible approach to spotting continuous improvement candidates (Oakland, 2001). What is the break-up between volume and price increases in revenue growth? How much do new products and services contribute to cash flows? Are financial, material, and human resources used better than last year, and more effectively than others? Have projections been met? Have unproductive operations been curtailed? Is there evidence of linkages between operations and overall strategy? These are the kinds of pointers which outsiders can glean from public disclosures to gauge inherent values of stocks.