Another Reason Why Investing in a Good Business Makes Sense

Value investing does not always work. Put more precisely, there are periods of poor performance and underperformance. As Joel Greenblatt has pointed out, if it wasn’t this way, everyone would do it. The good news is that, in the long-term, value investing consistently delivers satisfactory investing returns.

What is required is the patience to wait until the market recognizes the mispricing that you uncovered and re-prices a stock to reflect its intrinsic value. Sometimes the market recognizes this quickly, but frequently, it takes several years for this to happen.

This is one important reason why investing in good businesses makes sense. With a good business, time is on your side. There is less risk of the business losing value, and over time many good businesses grow in value so you get a double dip: the price increases to intrinsic value and intrinsic value grows. With a lousy business, time is your enemy as you face the risk that the business will deteriorate or burn through its liquid assets and lose value.

Here a useful list of characteristics of a good business from value investor Richard Pzena. The list can be used as a checklist when analyzing and thinking about an investment.

Good Business

High Barriers to Entry

Brand Name

High ROIC

High FCF

Loyal Customers

Growth Opportunity

Responsible Management Team

Pricing Power

Strong Balance Sheet

Low Capex Requirements

High-return Reinvestment Opportunities

Commodity Inputs – suppliers have low power

Bad Business

Obsolete technology – newspapers

Money Loser

No Strategic Vision

Legacy Costs – high cost producer

A Commodity Product

Poor Corporate Governance

Heavy Regulation

Prone to litigation

High Maintenance CapEx Requirements

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2 thoughts on “Another Reason Why Investing in a Good Business Makes Sense

  1. Serge

    Having the time on your side is a very important point. I learned this the hard way. The flip side of the same argument is that shorting a good business is a dangerous thing to do, even if it is significantly overpriced – the time is working against you in that scenario, and the business might just earn its way up to its previously too-high valuation.

    Reply
  2. Mohammed

    I think The Little Book That Builds Wealth by pat dorsey is good introduction on how to find good business with economic moat

    Reply

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