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 a little more difficult but are just as important to ensuring you also generate better-than-average returns.
- 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 however, 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 Woolworths Limited (ASX: WOW) for example, not long ago many analysts had a fair value target of around $30 on the stock in assuming that margins would remain at all-time highs. With competition hotting up and margins falling rapidly the calculation changes significantly, beware!
- 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 Bapcor Ltd (ASX: BAP) and Corporate Travel Management Ltd (ASX: CTD), which are starting to prove that they can consistently grow earnings both organically and via acquisitions.
- 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 almost any competition.
