Knowing a Business Leads to Investing Success

Great investing may be simple, but it is not easy. It requires that you master not only a number of analytical skills, but also your own emotions.

One of the mistakes that investors make is spending too much time studying investment philosophy and process, and not enough time studying businesses. Investment philosophy and methodology will never be a substitute for knowing a business inside out.

When you come across a “millionaire next door”, he or she probably made their money by mastering a small corner of the business world, not spending endless hours studying management theory or entrepreneurship.

Think Rose Blumpkin. She had an advantage over her competitors because of her relentless focus on the furniture business.

There’s a show on the History channel called American Pickers about two guys who travel around Iowa looking for antiques and collectables that they can then restore and resell. The reason they can make a business out of it is that they have an informational advantage. Through years of focus and experience, they know what will sell and what won’t and, most importantly, what things are worth.

Investing is very similar. You must be able to 1) value a business and 2) wait for the right price.

I believe you should spend at least as much time reading annual reports as you do studying books on value investing. I’m not saying you don’t need to master the great books and writings on investing. On the contrary, this is essential and part of the reason this blog exists. Nevertheless, as you master the framework and develop your own investing process, more and more of your time and energy should shift to studying businesses.

Think how much sense it would make for an aspiring golfer to spend all his time reading books and magazines on golf, but only infrequently play golf.

The foundational skill of a great investor is being able to confidently value a business. Only then will you have the confidence to make a meaningful investment when everyone else is afraid or focused on the wrong things.

What annual reports and 10-K’s are queued up for your reading this week?

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7 thoughts on “Knowing a Business Leads to Investing Success

  1. kungfu panda

    totally agree…. sometimes,,, people get caught up with all these value investing books/blogs and not spending enough time in learning a new industry….

    Just curious Greg, how do you approach in learning a new industry? Would you mind sharing some of your experiences? thank you

    Reply
  2. eclecticvalue

    Hey greg, your blog is one of the best out there and this post is very truthful. Keep up the good work and I second kungfu pandas question.

    Also I am taking a look at jva and cresy

    Reply
  3. Greg Henricks

    Thanks for your inspiring words and pointing us towards what matters in investing. I have been doing a kind of hybrid mechanical investing using the Magic Formula with some fundamental analysis to weed out the more obvious stinkers. But I don’t do enough of studying a business to feel confident with a concentrated portfolio. Eventually….So I invest in 15 to 20 companies generally. I’m the kind of person who Greenblatt wrote for. Anyway, Its a compromise for sure, but given my busy life its alot better than not being invested. I’ve been invested using Magic Formula since January 2008, and am doing not too shabbily.

    Reply
  4. Greg Speicher Post author

    kungfu panda, I don’t really have a set formula for doing this. I start with a business I think I can understand and then start identifying and following the better companies. Pretty soon you get a feel for the important variables that drive a particular industry. Don’t waste time with industries that have lousy economics or that are too complex to analyze and predict. Sometime you can find good books on a company to help you jump start your research. I did that recently with Google although that is not usually possible with smaller companies. Also, look for trade magazines that follow an industry you like. Value Investor Club also has a lot of great write-ups. Find ones in an industry that you are studying and see how a professional investor looks at it and breaks it down. hope that helps.

    eclecticvalue, thanks for the positive feedback. It is greatly appreciated. I don’t follow jva or cresy. Good luck with both.

    Greg, thanks for posting. There is nothing wrong with a mechanical approach. That was a focus for Graham as he wanted to make investing more accessible to those who do not have time to do more active research. If you use a mechanical approach, I think it is important to have a greater level of diversification. Greenblatt’s magic formula is impressive. As I’m sure you know, the trick is staying with a mechanical system in the down periods since you can begin to question your holdings.

    Reply

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