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Sunday, July 13, 2008
Lessons from Warren Buffett’s guru
Phillip Fisher says he doesn’t want a lot of good investments but a few good outstanding ones.
Q: What can we learn from Philip Fisher?
Philip A. Fisher, one of Warren Buffett’s investment gurus, is known for his philosophy on the qualitative aspects of selecting a good company for investment. Buffett learned qualitative analysis from him.
Fisher got his early education at Stanford Business School . He joined an independent San Francisco bank as a securities analyst in 1928, and founded Fisher & Co, an investment rganizati business, in 1931.
According to his book entitled Common Stocks and Uncommon Profits, one of the most important investment philosophies from Fisher is Scuttlebutt, which he also calls “the business grapevine”, in investing.
Scuttlebutt is the use of the business grapevine to analyse a company. We can obtain the information from customers, employees, suppliers, academics, trade association officers, industry observers, etc. This information is crucial in determining the character of its managers and the potential of the company.
A good company should exhibit unquestionable management integrity, own highly competitive products, be in a healthy financial position, have good cost control and be effective in its research programme.
According to Fisher, even though it is hard to know quality of management, a good management team should possess the ability to carry out day-to-day tasks efficiently and have good long-term planning. The management should also have high integrity and maintain good labour, personal and executive relations.
Fisher is a believer of growth investing. We need to select stocks that have great potential to grow their businesses. It will be a waste of time to hold on to stocks that have no growth potential. He believes that we can get capital gains by buying into these companies as their stock prices would go up in line with the increase in their intrinsic value.
It requires extensive research before you can get one. Fisher said: “I don’t want a lot of good investments; I want a few outstanding ones.” These companies can be bought at high historic price earnings ratio (PER) because there is a possibility that their stock price is reflecting good news you don’t know about yet.
The growth companies should demonstrate strong and well-directed research capabilities. These companies should also exhibit an above-average sales organization. Besides, they need to have a sustainable profit margin and good return on capital. Normally, these companies are the market leaders in the industry and have the advantages of scale.
A consistent and predictable dividend policy will provide the minimum returns to investors. Although high dividends are good for investors, to maintain business growth, high growth companies need to retain a certain level of profits for future expansion.
If a company is paying dividends with little retained earnings, it will cause lower reinvestment, which will affect its long-term growth. As mentioned earlier, the main returns to an investor is capital gain. He believes that buying into high growth companies will provide the capital gain.
When to sell
Fisher believes in long-term investment. According to him, the most important thing is to select the right stocks. “If the job has been correctly done when a common stock is purchased, the time to sell it is almost never,” he said. However, if we select the wrong stocks, we need to sell.
We need to admit that we have made mistakes in our calculation. This attitude is important as not many retailers have the courage to admit their mistakes. Furthermore, we should not expect to be right all the time. We should be aware that we can make mistakes and we will make mistakes in our analysis, but more importantly, we need to learn from our mistakes.
Fisher said: “The chief difference between a fool and a wise man is that the wise man learns from his mistakes, while the fool never does.”
Fisher will only call a sell on a stock when the company or industry has changed and the stock no longer qualifies as a growth stock or a better prospect is available elsewhere. He will not sell a stock just because a stock appears to be selling for a significantly above average PER or because the stock price has increased.
He believes that most investors always make mistakes by selling their stocks with the hope of buying them back at lower prices. In most instances, the investors miss the stock when it recovers.