Go beyond the numbers when picking stocks
NUMBERS on a page do not mean much if taken at face value.
Profit may have gone up by 5 per cent year-on-year, or it may have been down by 20 per cent. But all this happened a few months ago. What is going to happen next?
Accounting statements, by their very nature, are backwards-looking. But stock prices are forward-looking.
Investors often find it useful to project where revenues and profits are going in the next year or two.
They can rely on secondary data, such as research reports and government statistics, to help with projections.
Sometimes, it is not easy to get hold of industry reports, and investors are left with only historical information. Using historical information to project future revenues and profits is most advisable for large, mature companies.
For companies undergoing change, such as Eratat Lifestyle - a Fujian-headquartered footwear and apparel designer, manufacturer and distributor - projections are more difficult. So are companies growing a product segment quickly, such as tech giant Apple when it first launched the iPhone in 2007.
Analysts are employed to add some rigour to the projection exercise, but their assumptions might also be incorrect.
The best way to make more accurate projections is to go on the ground and talk to people, understand industry nuances and see things with your own eyes.
Noted investor Philip Fisher described this method as "scuttlebutt", a seafaring slang word for gossip or rumour.
While we commonly understand relying on rumour as a bad way to invest, Mr Fisher was referring to a rigorous way of getting primary information: talking to as many customers, suppliers, competitors, and even fellow investors as possible to get a sense of industry trends and how a company is perceived.
For example, to check how Eratat's products are doing, a retail investor could:
Visit as many Chinese retail stores that stock Eratat products as possible and note the crowd sizes.
Check the prices that products are being sold for, and whether there are massive discounts offered.
Ask retail assistants how consumers view the Eratat brand compared with others.
Ask young Chinese professionals with spending power if they have heard of the brand.
He could then tweak his projections accordingly after these checks.
Just surfing local stock forums, too, would have turned up numerous warnings about various aspects of the company. He can then decide if they are justified or not, based on his ground checks.
Famous Apple analyst Gene Munster, of investment bank and asset-management house Piper Jaffray, offers an instructive example of ground checks.
A Bloomberg video titled How The Apple Oracle Predicts The iPad's Future tracked him covering an iPhone 5s and 5c launch event on Sept 20 last year.
By 6.15am, he is shown walking to the Apple store in Fifth Avenue in New York, surveying those in line on their thoughts and doing a count of how many people there are in the queue.
He found that, at that particular store, the number of people waiting in line was the same as that at the launch of the iPhone 4, which was a peak number - better than he had expected at that store. He then moved on to other stores.
Going through this exercise gave him a sense of the staying power of the brand, the excitement around Apple's products, and whether a product is likely to flop or do well - even before markets opened for trading.
How do we apply this to Eratat? Its operations are overseas, so a serious retail investor would need to do some legwork in China - perhaps while on holiday - before coming to a conclusion.
You can project all you want using numbers plucked from the air or the Internet, but understanding the present will give you an advantage in predicting the future.
THE BUSINESS TIMES