Philip A. Fisher part 14 Inflation

Inflation reduces real income, as Fisher sees it. He saw it moving with social trends. These trends primarily regulate government spending. He believed that government was the main culprit. He believed that increased government spending created a self-reinforcing inflationary spiral. The spiral produced temporarily high inflation. He saw the cure for inflation as increasing efficiency and achieving it through science and product development projects. He believed that mediocre companies’ stocks would not fare well in the fight against higher inflation, but that quality companies would even benefit from it. Inflation eats into returns as both costs and taxes paid on profits increase.

Fisher believed that most investors misunderstood the origin of inflation. He defined inflation as meaning that the amount of services and goods available for the same dollar is less than before. He believed that the more people saw the government's responsibility to increase or maintain the amount of services provided to citizens, the more likely inflation was to be inevitable. The worse times got, the more pressure the government felt to increase spending. This increased inflation. Many see increased spending as a necessary evil in bad times, but Fisher disagreed.

Increased spending can lead to an inflationary spiral, where far-sighted people begin to prepare for faster price increases when they see the first signs of inflation. They buy products they will need in the future before their prices increase. Demand causes the prices of these products to rise more than expected. Others wake up to it too, and the spiral continues, growing larger. Storing unnecessary products causes inefficiency because it is not free. Fisher also believes that high interest rates contribute to the inflationary spiral, because they limit businesses' investment in cost-effective development inputs. Only the best of them are implemented and the others are postponed or abandoned.

Price increases are rarely endless and inflation does not often run rampant. Investors need to see it impacting returns and think about it in the long term. Investments must be able to increase returns more than inflation and investors need to understand that buying the right investment at the right time is more important than quickly hedging against inflation. True top investments are never made because of short-term factors, such as higher inflation.

Investors want to increase their real purchasing power, so the impact of inflation must be reduced by buying shares. A company that can significantly increase its earnings with high profit margins acts as an excellent inflation hedge because it can finance its growth internally. Such companies best increase investors' real returns. Companies that do not require large investments also often act as better inflation hedges, but there are exceptions to this rule.

Companies that are able to operate more cost-effectively by increasing their machinery can use economies of scale to combat inflation. As unit costs decrease, they can quickly pay back their large investments, even if the machinery becomes more expensive. Companies that have to keep their capital tied up in fixed assets, such as land, can also benefit from inflation, because the real price of land usually does not fall. In addition, many companies that receive their payments in cash do not suffer as much. In particular, service companies that do not have to wait for their payments or those service companies that do not have to tie up their capital in inventories can cope during higher inflation.

Not all capital-intensive industries are as bad as investors think. Rapid technological development in a capital-intensive industry weakens a company's ability to hedge against inflation. This is especially true for industries whose demand is not affected by rising inflation, and industries that do not have a shortage of supply. Demand gaps improve the ability of even capital-intensive companies to price their products. The product portfolios of capital-intensive companies ultimately determine their ability to act as inflation hedges. Capital-intensive and price-regulated companies act as some of the worst inflation hedges because, during periods of higher inflation, regulation cannot keep up with price changes.

Companies that are able to control their prices have the best inflation hedges. Companies that are able to pass on their increased costs directly to prices and quickly to customers will fare best when inflation rises. Fierce competition, high supply relative to demand, and regulation pose the biggest problems for companies when inflation rises. An investor doesn't need to fear inflation when they understand how well a company adapts to it.

Philip Fisher part 13 On selling

If the purchases have been made correctly, there is little need to make sales. No one can be right all the time, and companies do not operate forever, as they did at the time of purchase, so selling is sometimes necessary. Fisher found three reasons to sell, from an investor's financial perspective:

1. Correcting a wrong decision

2. The company no longer meets the purchase criteria

3. Finding a better investment

An investor must sell their shares when they notice a clear difference in the negative between the company's facts and the assessment made at the time of purchase. Correcting such mistakes requires the investor to be able to control their emotions and be honest with themselves. Ego is an investor's biggest enemy, and no one wants to admit they were wrong. Small losses become large when ego prevents them from admitting the facts. According to Fisher, the biggest reason for investors' losses is hanging on to a stock that they do not actually want to own.

Fisher believes that recognizing reality and acting on it requires skill, understanding, and judgment. He sees achieving superior returns as a complex process. That's why investors make mistakes that they have to correct. By buying great stocks and holding them for a long time, an investor can make back the money they lost many times over. This is true when the investor is able to admit their mistakes quickly. By selling the wrong stocks, the investor frees up his money for better-performing investments.

An investor should sell his shares when a company's operations do not match the fifteen purchase criteria. Over time, business operations change, and the changes are not always for the better. An investor must stay on top of his holdings. A company's business and its growth potential usually decline for two reasons. Either the quality of the management or its future prospects have declined. Sometimes it's both.

Sometimes the quality of the management declines because one or more of its members has become complacent or incompetent. More often than not, the new managers do not perform as well as their predecessors. Either they do not operate according to the old corporate culture or they are not competent enough. When any of the above things happen, the investor should immediately sell the shares, regardless of the general state of the market or the high capital gains taxes.

The size of the company's business can also reach a level where it is not growing faster than the growth of its own industry or the industry as a whole is no longer growing. This usually happens after years of growth. When growth prospects disappear, there is not as much urgency to sell as when the quality of corporate management deteriorates. Fisher can hold on to some of the shares until a better investment is found. He suggests the following test for assessing growth prospects: the investor should ask himself whether the annual growth rate of the company's earnings per share from the current point in time to the peak of the current general business cycle is faster than from the peak of the previous business cycle to the present. If the answer is yes, the investment is worth holding, otherwise it should be sold.

The third reason for selling rarely occurs when an investor follows the right principles when making purchase decisions. An investor should sell his shares when a better purchase option comes along only when he is sure of the profitability of the decision. Attractive purchase options are difficult to find. They rarely come across to an investor when he has extra money. Therefore, selling is sometimes justified. High taxes alone can defeat a sensible change in investment, so the future prospects and growth rate of the new investment must be significantly higher than that of the investment whose shares are being sold.

Fisher urges great caution, because the risk of misunderstanding is high. An investor is very likely to misunderstand some fact when changing investment. In this case, the new investment will perform worse than expected and the switch will not be worthwhile. The business of both companies should be carefully reviewed using fifteen points before considering switching. The great advantage of old investments is that the investor is likely to know them better than the new ones.

The three reasons mentioned above are the only sensible financial reasons for selling stocks, according to Fisher. In addition, an investor may have personal reasons, such as buying a new home, etc. Sensible investors do not consider other reasons, such as bear markets. According to Fisher, only a maximum of one in ten investors buy back the stocks they have sold. If you have done your homework when buying, you do not need to consider selling often.

Philip Fisher part 12 Stock prices

 Investors determine the market price of a stock. The price depends on three things: The attractiveness of the company’s business, its industry, and the stock in general. The price does not always have anything to do with the true value of the business itself. The cheapness or expensiveness of a stock’s price is directly proportional to the future cash flows generated by the business. If the cash flows are greater than expected, the price is cheap. If the cash flows are less than expected, the price is expensive. Fisher never explained how he determined the true value.

All significant price changes in individual stocks relative to others occur when large numbers of investors change their perceptions of the company or its shares. Market prices change more because of what investors believe will happen than because of what actually happens. The market price fluctuates according to perceptions, and the true value of a stock can differ from reality for years. Sooner or later, false valuation levels will be broken and the price will correspond to true value, at least for a while. False prices arise from short-term psychological factors when investors become excited or depressed about a company, industry, or stock market.

A high P/E ratio does not directly indicate that the shares are expensive. Higher P/E ratios for companies that have increased their earnings and turnover over a long period of time can indicate their ability to increase earnings far into the future. An investor needs to understand the company and its future. This will allow them to draw conclusions about the correct value of the shares. A company's P/E ratio will likely be high in 5-10 years if the company is continuously developing new sources of income, its cost-efficiency, and its industry allows for positive earnings development. The shares of such companies take the future into account in their prices less than investors believe. Therefore, the prices of shares may seem high at first glance, even though they are inexpensive after valuation.

No one can determine the exact value. Conclusions can be drawn about companies that provide sufficient accuracy. Shares of companies that are rapidly growing their earnings and revenue can have high P/E ratios. Determining their true value is difficult because the current growth rate is less important than how long the growth will continue. The further you try to predict, the more likely you are to be wrong. Fisher offers investors excellent return opportunities, as shares of such companies can be purchased at a price that is no more than 25-30% of their true value.

Fisher defined the risk of stocks based on the quality of the companies' business and the general valuation level. He examined quality using his fifteen points and the general valuation level using market expectations, which was reflected in the shares' P/E ratio. He examined the latter using the last result. Fisher found the lowest risk and most sensible investment target in stocks that meet the quality criteria, but are undervalued by P/E ratios compared to the quality of the business. The second most sensible investment targets are found when the quality criteria are met and the valuation level reflects them.

The third group is companies that meet the quality criteria, but have become so attractive investment targets in the eyes of investors that they are willing to pay almost anything for them. Fisher recommends keeping these companies in the portfolio, but not buying them. In his opinion, if the business is truly high-quality, its development will soon prove that the current prices are reasonable.

Meeting the fifteen points is rare for companies, so it is difficult to find undervalued companies. The risk of changing such an investment to a lower quality one is high, so it is not worth taking the risk. Owners of temporarily overvalued but high-quality investments should be prepared for rapid price declines. According to Fisher's experience, most sellers of these shares do not return to their owners later, even if it would be reasonable to do so.

The fourth group is companies that are mediocre or poor in quality, but are either cheap or attractive in price. They may be suitable for speculators, but they are not sensible investments. The last group are stocks with high valuation levels compared to their quality and which the general public considers attractive investments. These stocks destroy the money and enthusiasm of many investors to invest. The investor has to ask himself whether the market's view is based on the correct valuation level, which is determined by the economic facts of the business?

Many investors base their view of a good time to buy on changes in the market prices of stocks. They can focus on analyzing historical price behavior, estimating the current price through historical highs and lows. They create an idea of ​​a reasonable price for themselves and end up with a nice-looking even sum. This price is illogical and dangerous.

This method is dangerous because it causes the investor to focus on things that are not important and forget about the important things. Staring at prices often causes the investor to reject stocks that would give the best returns. Investors forget that the current price is only the collective view of the price produced by a large group of investors, i.e. buyers and sellers. A stock is either correctly or incorrectly valued, and the investor must understand the true value regardless of the crowd. The value of a business changes when changes occur in it. These can be the result of new management, products, or other things that affect the business.

Some investors also focus on comparing the behavior of a company’s share price to the historical price changes of the entire market and form their purchase price based on this. This thinking also causes the investor to focus on the wrong things. It causes the investor to create an illusion in his subconscious that all stocks rise or fall by the same amount. Following historical price changes in the market and comparing them to individual stocks also makes the investor think that he knows more facts. The increase in the amount of work makes the investor believe that his investments are significant, which leads to wrong conclusions.

One of the unnecessary mistakes of the investor, which Fisher mentions, is fighting over cents. Small changes in purchase prices do not affect returns much in the long run. If the quality of the company's business is in order, the investor may miss out on significant sums of money while fighting over a few cents. This is especially true for small investors who buy such small amounts of shares that they do not have to fight over cents.

Philip A. Fisher part 11 Diversification

 Diversification should not be overestimated. The number of shares does not directly indicate the extent of diversification, if their number is not in the tens. The business operations of individual companies can also be diversified. Most of the business operations of companies listed on the Helsinki Stock Exchange take place around the world. The companies' customers can operate in different industries. One example of this is the chemical industry. In addition, the companies owned by an investor can operate in the same industry and fight against each other.

Fisher wrote: “Generally, high diversification does not indicate a brilliant investor but an insecure individual.” A large part of investments go to mediocre targets when an investor spreads his money across several stocks. In addition, it is difficult for an investor to follow a large number of companies. There is so much fuss about the dangers of concentrated portfolios that investors buy so many stocks that they do not know enough about their investment targets. Investments made with insufficient information are probably more dangerous than too little diversification.

The need for the number of different share classes depends on many things. An investor can get the same diversification by investing in five stocks as in fifty. Many companies have diversified businesses, while others have concentrated businesses. Buffett's Berkshire Hathaway is diversified. As the number of cyclical stocks increases, more diversification is also needed. Companies with one client or one top executive also need greater diversification than companies with several. Everyone's situation is different, and Fisher divides investment targets into three different types for diversification purposes.

A) Large companies that grow earnings and business. Individual companies should not account for more than 20% of the entire portfolio at the time of purchase. In this case, the investor should have at least five companies. The businesses of the companies should not overlap. If this is the case, diversification should be increased. Fisher points out that companies that grow earnings and business should not be sold for diversification reasons. Instead, the investor should be confident that the company's future will continue to be as bright.

B) medium-sized companies that grow earnings and business. The share of individual companies must not exceed 10% of the portfolio at the time of purchase, i.e. the portfolio must contain shares of at least ten different companies. These companies must have a good management team with several qualified members. Their business activities may overlap somewhat.

C) Small companies that can generate large profits and losses. The share of individual companies must not exceed 5% of the portfolio at the time of purchase, i.e. the portfolio must contain shares of at least twenty companies. Only money that can be safely lost should be invested in these companies. These companies usually either fail or develop into B-group companies, as long as the top management gains more depth, the business grows and competitiveness develops.

Philip A. Fisher part 10 about dividends

 Different dividend payout weights can confuse investors. Retaining profits in the company may make sense if they are used to launch new products, build factories, or purchase more cost-effective equipment, etc. Not all companies have the same need to invest in more efficient production. The investor's task is to assess how much capital the company needs to increase efficiency. The capital left in the company should maximize the returns received by the owners. Investors have different dividend needs.

Investors do not always get the full benefit of leaving capital in the company instead of paying dividends. The worst reason for this is that the company's management is of poor quality and does not get a return on the capital left in the company, but uses the capital to expand inefficient operations instead of making them more efficient. Top management may expand operations to justify increasing their salaries, which is directly out of the hands of the owners. Such companies do not meet Fisher's fifteen points. Companies that meet the conditions, on the other hand, find a use for the extra money in developing the company.

Management may also raise too much cash to increase their sense of security. This may happen unconsciously. Sometimes capital needs to be raised because customers or regulators want investments that do not have a positive impact on cash flow but will reduce it if not made. Such things include air conditioning and government-mandated investments such as ship scrubbers.

An investor should evaluate a company’s dividend policy at regular intervals because capital investment needs can change. This does not have to be done every year. Needs rarely change suddenly. The policy should be evaluated with long-term returns in mind, because that is the most useful. The most important thing for an investor in a dividend policy is its predictability. A rational investor plans ahead, so predictability is important. A company should tell investors its dividend policy and keep its word. According to Fisher, a company should tell investors what percentage of its annual profit it will pay out as dividends to its investors. The dividend rate can vary. Fisher used 25-40% of earnings as an example.

A percentage is most appropriate when it does not jeopardize long-term earnings growth but rather seeks to maximize it. Opportunities for earnings growth are rarely maximized by leaving all earnings in the company's capital. For Fisher, companies that offer high dividend yields do the investor a disservice in the long run because they rarely maximize earnings growth. By increasing earnings, dividends increase while the dividend yield remains the same, which increases the investor's income. Despite this, Fisher allowed a company to increase its dividend only when the company has enough income to grow the business, its profits, and has the ability to pay a higher dividend in the future. For Fisher, it was vital that a company not lower its dividend except in dire straits, because it affects the stock's valuation.

Philip Fisher part 9, on company visits

 A fifteen-item questionnaire prepared Fisher for the meeting with the company’s management. Without going through them, he would not have been able to ask the right questions. In addition, he would not have been able to ask follow-up questions to the answers he received. He prepared the question lists before the company visits. He wanted to be prepared for the meeting so that he could also provide added value to the respondents. In this way, he improved his chances of meeting the management again.

The company’s management meeting should provide the investor with detailed answers to two general questions. The first is how good the business practices are and the second is how well they are implemented. When answering the first question, the investor should focus on understanding, among other things, how well the company avoids basic mistakes, such as shortcomings that lead to a deterioration in the work atmosphere. The goal of such questions is to ensure that the company is not being managed poorly. Understanding exceptionally good management requires finding answers to more demanding questions, such as how well the employees in the sales organization are trained.

Many people talk better than they do. Good policies are not enough if they are poorly implemented. Understanding this and drawing the right conclusions is vital because managers learn to say the things investors want to hear. Many companies claim to take care of their employees while top management is on the warpath and workers are on strike. All statements by top management should be verified by those who have dealt with them.

According to Fisher, given the size of the investee’s business, an investor should focus on about five members of senior management. The qualifications of one or two members are not enough. The investor will probably not meet more than these members, so he must use his network to determine the quality of management. Adequate background information helps the investor better understand the people he meets and their abilities. It can help the investor confirm the assessments he has made about them before meeting them.

One of the best questions Fisher ever asked management was, “What are you doing now that your competitors aren’t doing yet?” The dynamic of this question centers on the word “yet” because most business leaders can’t answer it. Most companies don’t do anything that others aren’t doing, and most leaders have never asked themselves that question. The question refers to leadership in the business world, whether it’s about improving customer service, employees, products, or investor relations.

Philip Fisher part 8 and the Fisher method, Company research, points 11-15 /15

 12. Is the company focused on making a profit in the long term or the short term?

An investor should focus on companies that are focused on making a profit in the long term. Many companies focus on making a profit right now, others on making a profit in the future. The best evidence of this is for an investor to focus on understanding how the company treats its customers and subcontractors. Companies that invest in customer well-being are willing to invest in individual events to keep them coming back. Individual events may be more expensive, but the subsequent cash flows from customers make up for the effort.

Squeezing subcontractors to the limit by squeezing the cheapest possible parts or services from them can cause costs to increase in the future. Replacing one subcontractor with another can reduce the quality of the parts or services received, even if the price drops. This can lead to a deterioration in the quality of the final products and loss of sales. In addition, losing a subcontractor can lead to dangerous bottlenecks in production when demand for products suddenly increases faster than expected.

13. Does the company have enough capital to finance future growth?

The company must have enough capital to finance future growth in the near future, or it must have the ability to do so without the help of shareholders. The best opportunities for an investor come from companies that do not need their owners to finance their growth in the future. The investor does not have to worry about this beyond the near future. Many years from now, financing will likely be much more expensive for good companies, so it has no impact on the current investor.

14. Does management talk about the company's difficulties as much as it talks about its successes?

Even the best-managed companies experience unexpected difficulties, such as shrinking profits and falling product demand. The management's response to these situations provides the investor with valuable information. Management should immediately bring all the information to the investor. The investor should react immediately by selling the company's shares if he finds evidence to the contrary. A company that introduces new products and services to the market is bound to encounter failures. One place to look for evidence to the contrary is in the CEO’s reviews when presenting quarterly results or financial statements. The CEO should be able to tell investors where the company needs to improve.

15. Is the management completely honest?

The management has easier access to its assets than the owners. It should be completely honest with both the owners and the employees. Top management should not hire relatives by paying them more than other employees for the same job. Management should not buy real estate or production machinery from relatives or friends at market prices by paying more than the market price. An investor should never put their money in a company whose management’s sense of duty to the owners is in doubt.

Philip Fisher part 7 and the Fisher method, Company research, points 9-11 /15

 9. Is there depth in corporate management?

Small companies can do well when they have a capable person at the helm alone. Investors need to understand what happens to small companies if that person has to stop working. Sooner or later, a small, brilliant company grows so large that it cannot manage with one capable manager. At that point, the number of capable people in top management begins to affect success. A capable manager has to share responsibility because his or her time is not enough to handle all management tasks. The need for a large company to find a CEO from outside its ranks indicates that there is something wrong with the current management.

Top management is forced to share responsibility downwards or the company itself will not be able to develop future top managers. By sharing responsibility to lower management levels, top management does not turn its subordinates into incompetent decision-makers. Future leaders will develop if they are given enough opportunities to use their skills. A company is rarely a good long-term investment if top management interferes with the day-to-day operations of the company at lower levels. In addition, top management should welcome all suggestions for improvement, even if they criticize the way the company is run. Lower-level employees can provide a flood of useful ideas if their feedback is utilized.

10. How well does the company analyze its costs and manage its accounting?

No company will succeed in making investors high returns in the long term if it cannot examine its costs in sufficient detail in each of its operations. Only then will management know what requires the most attention. Successful companies do not rely on just one product. The success of companies suffers if their management does not know exactly the costs of individual products or services compared to others. The company will not be able to set the right prices to maximize profits if it does not know which products require special efforts in sales and marketing. In the worst case, the products with the greatest profit potential will make a loss.

Accounting management is important. The problem for investors is that if a company's accounting and cost analysis are inadequate, they will not receive enough information about the matter. Investors need to understand their limited ability to know when cost analysis is effective. Investors can consider it likely that a company is operating efficiently if its ability to manage its business is above average. The probability of this is significant as long as top management understands the importance of cost analysis and accounting management.

11. How well does the company manage the specific characteristics of its industry?

These characteristics include, for example, the locations of grocery retailers or the patent portfolios of technology companies. Finding good retail locations at low prices compared to the number of people moving around in the environment helps to increase the turnover of grocery retailers and thus also profits. Without good relationships with the bodies that decide on retail locations, it is difficult to succeed.

The patent portfolios of large technology companies improve their chances of success. They are rarely sources of large profits. Strong patent portfolios can give companies exclusive opportunities to make products more cheaply than others. Patents can usually prevent only a few ways to achieve the same result. An investor can foresee difficulties for a larger company that relies solely on its patent portfolio to achieve higher profit margins. An investor should pay special attention to the patent portfolios of small technology companies, because large companies can easily destroy them if their patent portfolios do not provide sufficient protection against large ones. Continuous product development is more important to companies than their patent portfolios. An investor should not give patents too much weight.

Philip Fisher part 6 and the Fisher method, Company research, points 6-8 /15

 6. What does a company do to maintain or increase its profit margins?

Past margins can be used as a guide, but they are not nearly as important as future margins. Costs tend to rise, so a company must strive to reduce costs by continuously improving its cost efficiency. A quality company must be the most cost-efficient company in its industry or close to it. It must also show evidence that it will remain so.

This gives it room to maneuver, since most competitors cannot compete on price for long in difficult times. Low costs also help it win the market when less cost-efficient companies are forced to abandon competing businesses. In addition, a higher-than-average margin helps finance most of the company's future growth internally. This reduces the company's need to draw on its owners' money to finance growth.

A company must strive to improve its operations by improving its products and services to be more cost-effective. An investor needs to understand how well a company is reducing its costs by improving its operating methods. It is likely that the companies that ared most ingenious in improving their cost efficiency will be the most successful investment targets in the long run. According to Fisher, business leaders talk about cost efficiency more enthusiastically than many other things to investors.

Improving cost efficiency is not the only way to improve margins. Companies can raise prices. Few companies can do this without increasing competitors. Prices can rise as demand increases. A company's margins can also rise when competitors raise their prices more, which promotes sales as customers switch vendors. These ways of increasing margins are rarely long-term. For a long-term investor, continuous price increases to increase margins for all players in a business sector offer a poor prognosis. Monopolies and other closely regulated businesses can be considered exceptions. Fisher also did not understand the concept of a sustainable competitive advantage that would arise, for example, from through psychological factors.

7. Does the company have great relationships with its employees?

One thing investors often neglect is to examine how good the work environment is in the company. A great atmosphere among employees leads to better profit margins. The difference in productivity between a great atmosphere and an average atmosphere is much greater than the direct effect of strikes. Effective management that makes employees feel well-treated improves productivity. Training new employees is expensive, so high staff turnover leads to unnecessary costs.

When management can convince all employees that it is serving their interests, it will be rewarded with lower costs and higher productivity. Management must treat its employees with respect and consideration and communicate well with them. Top management must know how employees at every level think. Management must deal with grievances quickly with employees. Whistleblowers cannot be punished, but must be rewarded. Employees should not just be told to do their jobs, but let them decide how to do their jobs. A high number of strikes indicates difficulties in the work environment. Their absence does not directly mean a great work environment.

In addition, a company should pay wages according to merit. A company that pays its employees better than average and has a better than average profit margin probably has a good work environment. Management should be prepared to improve employees' wages as productivity increases, even at lower levels, and not collect glory and euros only for itself. A company management that takes an unreasonable share of the profits rarely guarantees the best possible returns for investors in the long term.

8. Is the work environment among the company's management great?

The relationships among the top management also affect the company's success. They have the greatest responsibility and their decisions have the greatest impact. In companies that offer the best opportunities for investors, the relationships among the top management are great. Everyone in the top management trusts the CEO and the chairman of the board. This means, among other things, that all employees can rely on their own merits to reach the top management level. Relatives and friends are not favored in the career path. Top managers constantly review salaries according to qualifications and there is no need to ask for raises separately. Top management does not allow solo work but emphasizes working together. It also behaves that way. Investors can find information about these issues by asking employees at different levels of the hierarchy.

Philip Fisher part 5 and the Fisher method, Company research, points 4,5 /15

 4. Is the company able to sell its products and services better than average?

Few companies have products or services that are so good that they do not require excellent selling. Selling is one of the basic functions of a business. Repeated transactions with old and satisfied customers are the first sign of success. Fisher believes that investors do not appreciate the relative effectiveness of the sales organization enough. This is due to the difficulties of measuring this issue as easily as the effectiveness of many other business functions.

The marketing and sales organization must be constantly aware of the changing desires of customers. This way, the company can offer products that customers want right now. Some marketing organizations create desires for customers that they are not aware of. They create markets with product developers that did not exist before. Simply observing customer desires is not enough; the organization must also communicate the benefits of the products it sells in a way that customers understand.

All of this must be done in the most cost-effective way possible. Company management must constantly measure and manage the process. Sales can suffer in three ways if management is inadequate. 1. Sales volumes may fall short of potential. 2. Costs increase beyond what is possible, reducing profits and 3. Profitability of certain product groups decreases when some products do not reach their full potential.

It is easy to find evidence of the relative effectiveness of the sales organization from sources outside the company. Both competitors and customers know the answers. The effectiveness of the sales organization is at least as important as production and product development. Many successful companies develop their sales organization by continuously training their personnel in the sales organization. The importance of sales is constantly increasing today, because customers have more information about the products sold than in the past.

5. Does the company have a sufficient profit margin?

An increase in sales is of no use if it does not increase the company's profits. The first task of an investor is to examine the profit margin, i.e. how many cents the company makes in profit for every euro. A profit margin of 2-3 percent higher than the next best competitor will give an investor a great return. Company margins vary within and between business sectors. The issue needs to be studied over a longer period than a year. Margins should be examined over at least one business cycle. Margins in a business sector almost always change with the cycle.

A company must be either more cost-effective than other players or at least as efficient as other companies in all its most important products. It must also show investors that it will be so in the future. This is reflected in profit margins when the company is compared to competitors.

Almost all companies increase their margins when the industry is booming. Less high-quality companies increase their profit margins relatively more during the cycle than high-quality ones. The margins of weak companies fall much more as the brilliance of the business sector fades after the peak of the cycle. An investor will not make the greatest returns in the long run by investing in weaker companies. Fisher says the only reason to invest in companies with lower profit margins is clear evidence that the situation is changing. The cycle cannot be the cause of the change. The company must either improve its efficiency or introduce new products to the market.

In the case of older and larger companies, the greatest returns come to the investor when the company's profit margin is among the highest in its industry. There is one exception to this. Sometimes these companies reduce their margins to accelerate their growth by using their profits to increase product development and sales more than usual. Investors need to find out what is going on when margins are falling and not just take the company's word for it. Investors should avoid these companies unless they can be sure that the falling margins are temporary and intentional.

Philip Fisher part 4 and the Fisher method, Company research, points 2,3 /15

 2. Is management ready to develop new products and processes when the growth potential of the current ones has already been used up?

Few companies have enough current products to sustain decades of growth that will bring the best returns to investors. The company should invest in scientific research and product development. These are the best ways to increase sales in the long term. New products and the development of old ones improve opportunities. Investors usually get the best returns by investing in companies whose new products are related to the current ones.

This does not directly mean that the company should focus only on certain products. It can have several product groups for which it develops new products. A company that creates a foundation for its future growth and focuses on its research foundation will produce the best opportunities for future growth. Developing new products for completely new businesses that do not correspond to the company's current business is more likely to fail.

3. How efficient is the company's product development activities relative to its size?

Many companies report their product development costs, so measuring their efficiency in relation to the size of the company and other companies in the industry does not sound like a complicated task. One big problem with this is that not all companies measure the same cost items in the company's results. An investor can only use the figures to make rough estimates of whether a company is doing an abnormal amount of product development, only clearly less than others. Even in well-managed companies, the differences in efficiency can be a ratio of two to one. The differences between well-managed and poorly managed companies are even greater.

Creating new products and methods requires high-level expertise in several fields. New products are rarely developed by a single genius. Expertise alone is not enough; high-quality management is also needed, which makes people with different backgrounds work efficiently towards a common goal. Coordinating product developers, production and sales is not easy. If this is not done, new products will not be manufactured as cheaply as possible and the new products will not achieve the best possible sales. In this case, the risk is that the market will be taken over by more efficient competitors.

Senior management must also understand the importance of product development processes. Development projects should not be expanded in good years and suddenly reduced in bad ones. Some in senior management may suddenly transfer experts from other important projects to their own purposes, temporarily suspending projects for the sake of a momentary important project. This is rarely sensible. The essence of successful commercial research is that the company focuses only on projects from which the highest profits are expected compared to the costs. Many in the company's management did not understand this since Fisher. Company management must avoid the temptation to invest heavily in projects whose markets are too small to make significant profits.

If an investor cannot find the company's reported figures for product development investments, he can try to find answers himself by talking to researchers in the field at universities and research institutes, competitors and statistical offices. A simpler approach might be to examine a company's profits and sales growth compared to its R&D investments over a longer period. Fisher suggests ten years as one possible period.

Philip Fisher part 3 and the Fisher method, Company research, intro and point 1/15

 Researching Companies

After finding ideas, Fisher began researching companies. He used many sources, including financial statements, competitors, customers, subcontractors, and former employees. Fisher himself was amazed at how accurate a picture he could get of a company’s strengths and weaknesses by using multiple sources who were involved with the company. Without the confidentiality of the sources, this would not have been possible. Fisher had to gain the trust of each of his sources. He also had to live with this trust for decades, because his network of sources would have disappeared. The biggest weakness of Fisher’s method is its duration. Good opportunities can disappear while the company is being researched.

The questions had to be intelligent and well-prepared. Competitors were one of the best sources. By going through five companies in the business sector and asking intelligent questions about the strengths and weaknesses of their competitors, Fisher was able to create a surprisingly accurate and detailed picture. He got a clear picture of the capabilities of the people, or management, by talking to subcontractors, customers, and other people who worked with the management. He had to be careful with former employees, because their motives were not always pure. It is important for an investor to understand the reasons for their departure from the company. Former employees were not so much reliable sources as those who left voluntarily.

Fisher had fifteen points that he examined for each company. Almost all of them had to be true for him to talk to the management. These points mainly dealt with the quality of the managers and the characteristics of the business. Important quality factors for management included honesty, long-term perseverance, openness to change and conservatism in accounting. Important characteristics of the company included growth orientation, high profit margins, high return on capital and investment in product development. The list of fifteen points:

1. Do the company's products or services have significant growth potential that will last for several years?

Declining or flat sales do not offer investors the opportunity for high returns in the long term. A company can increase its profits in the short term, but it cannot do so in the long term. An investor aiming for high returns is only looking for long-term growth, which will increase the company's returns. An investor also cannot focus on companies whose business can be expected to grow for a while, but then stop. Even the fastest growing companies do not increase their sales every year. Sales of new products and services grow in spurts. Do not expect continuous steady development. Business cycles also matter. They bring their own fluctuations to sales. Growth rates should not be assessed annually but rather viewed over several years. Many companies can demonstrate that their growth will continue beyond the next few years.

Fisher divided growing companies into two groups, namely those that happened to be competent in the growth sector and those that grew while they were competent. As examples of the first group, he described Alcoa, which focused on aluminum, and Du Pont, which originally operated as a gunpowder manufacturer until it moved on to manufacturing polymers such as nylon and Teflon. Both groups can make a lot of money for an investor if their managers are competent.

One of the most important factors in investment success is the investor's ability to understand what the company's sales growth will look like in the future. Incorrect estimates can be disastrous. In addition, the investor must constantly understand how well the company's management can see technological changes and take care of product development that enables growth. A careful investor constantly studies how management takes care of sales growth by focusing the best employees and resources on increasing sales in the long term. Fulfilling this point was one of the most important conditions for Fisher in finding an investment target.