In my previous article I highlighted three rules that great investors have followed to amass huge fortunes by investing in companies on the Australian or international sharemarkets. The first three rules were:
- The company must be resilient
- The company should produce plenty of free cashflow
- The company's debt level should be manageable
Now, the next three are slightly more difficult but are just as important to ensuring you also generate better-than-average returns.
4. The company must represent good value
This is a tricky point to define, as each investor will likely put a slightly different fair value on a stock depending on the assumptions used. The point is, that whatever value you put on a company, you should buy it for less and understand the risks in your valuation.
Large risks or incorrect assumptions can make a massive difference. Take Fortescue Metals Group Limited (ASX: FMG) for example, not long ago some analysts were putting a fair value of $6 on the stock when using a forecast iron ore price around US$95 per tonne. With the price now around US$70 the calculation changes significantly, beware!
5. The company should consistently grow earnings
This can be difficult for companies that have recently listed, but investing in fast-growing companies at a reasonable price has led to massive gains over time. A couple of opportunities for the future are Ozforex Group Ltd (ASX: OFX) and Liquefied Natural Gas Ltd (ASX: LNG). OzForex is growing earnings and users at a rapid rate, and while LNG is not yet profitable it's looking like a promising long-term investment.
6. The company has to have a competitive advantage
Many investors will have heard this phrase hundreds of times. Companies that have a firmly entrenched industry position or possess infrastructure that would be near-impossible to replicate hold incredible long-term earnings potential. Two companies in this position that I believe would be terrific buys at the right price are Brambles Limited (ASX: BXB) and Qube Holdings Ltd (ASX: QUB). Logistics companies are built over generations, not just years, and these two companies have the assets and networks to fight off most of the competition.
