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3 Important Factors When Seeking Long-Term Value Stocks

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The story "Tech Stocks Have Bubbles, Zoloto Resources Has An Ore Mill In Ecuador" was written after Twitter had been on a bumpy decline since its high in late December. A few days later, it took another dive.

Twitter, Facebook, and Netflix are what many call buzz-worthy stocks. Two of these three lost around one third of their stock price in the past five months, Facebook half of that, and each is a significant dip for investors who put their money down near the end of last year.

These are the so-called fast-growth Internet stocks, but they have also been fast loss stocks too. The total loss to Twitter shareholders since that high is $8.6 billion, and Facebook is down 16 percent, losing $24 billion.

Rich Karlgaard, author of the new book The Soft Edge: Where Great Companies Find Lasting Success, says he knows why these dips are happening and what they mean for investors.

Karlgaard says people are not giving up selfies, oversharing, or TV and movie streaming, but investors have had a change of heart and they abandoned buzz in favor of long-term value.

Dips In The Market

Money is moving back into value stocks, Karlgaard says, because investor sentiment has "shifted away from growth stocks with high price/earnings multiples." Those fast-growth stocks are risky and while some still think they are sexy, they don't have a lot of value.

The stock market had a large dip at the end of January, but it has recovered all of that and more, as money seems to have come out of those high-flying "fast-growth stocks" and moved into value instead.

Only two main things are needed to tell us whether a stock is a "value stock" - attractive price and the quality of the company. Of course, the early buyers get most of the gains and the slow players hang on their coattails.

In that previous story, there was a sharp contrast between the air-filled fast-growth stocks and stocks of companies like Zoloto that actually produce something. Investors must do their due diligence, whichever stock they hang their hat on, and that is the subject of Karlgaard's book. He uses the very best value stocks as examples, to explain how his ideas work.

"Value means the stock is priced modestly compared to the strength of its balance sheet and cash flow. These are easy calculations to make with the availability of cheap or even free stock analytics tools available on the web. You don't have to be Warren Buffett." - Rich Karlgaard

Most people aspire to be as successful as Warren Buffett. Karlgaard says it isn't difficult if you follow Buffett's plan.

Explaining Buffett's method, Karlgaard says "Warren Buffett didn't become the world's greatest investor by just buying cheap stocks. He bought and buys great companies when their stock prices are cheap compared to the underlying value of the company. Or as he put it in a letter to shareholders in 2008, 'Whether we're talking about socks or stocks, I like buying quality merchandise when it is marked down.' Then he waits. He knows the stock will rise eventually because he buys only stocks of companies built for enduring success."

Buffett doesn't care about the latest buzz, just longevity.

To determine which companies are built for enduring success, Karlgaard wrote about them in his book, The Soft Edge. He says those companies do three things exceptionally well, forming a structure that he calls the triangle of lasting success.

Those three things are:

  • Great strategy
  • Masterful execution, also known as the "hard edge"
  • The "soft edge" - the company's cultural values
  • Karlgaard says the usually neglected and misunderstood soft edge is difficult to quantify, but he sees it as "the expression of your deepest values" or "the heart and soul of your company." He says investors can think of the soft edge culture in terms of five pillars - Trust, Smarts, Teamwork, Taste, and Story.

    Karlgaard explains these in the book and as an example, points to FedEx, the package delivery company. He says FedEx is strong on all three sides of his triangle of lasting success.

    To get a better idea of what enduring success looks like, let's take a closer look at the triangle. (below the graphic)

    fast growth stocks dip
    Fast-growth stocks are dipping, but the money is going elsewhere, because the market is still rising.
    Graphic: NewsBlaze.com

    Using FedEx as an example, here is how Rich Karlgaard works through the triangle to check on enduring success:

    Strategy

    Great companies know what business they are in. They are close to the desires and needs of their customers. They know how they measure up against their competitors. They know the effect of pricing. They can see and react to technology changes, market upheavals, and new competitors.

    How important is getting your company's strategy right?

    "When I visited Fred Smith, chairman and CEO of FedEx, at his Memphis headquarters, he said strategy was his company's top priority," says Karlgaard. "He told me, 'The number one thing that every organization has to get right is strategy. You can have the best operations. You can be the most adept at whatever it is that you're doing. But if you have a bad strategy, it's all for naught. Think Digital Equipment. Think Wang. Think Lockheed in the commercial airplane business. There were forks in the road where these companies chose the wrong strategy. Absent a viable strategy, you're in the process of going out of business.'"

    Execution

    Great companies do not waste time or money. They constantly seek what Karlgaard calls "marginal gains." If you cut 1 percent in cost or time, that's not much. Yet when you do it repeatedly for months and years, it adds up. Great companies are fanatical about measuring. They are always seeking new efficiencies. They are big users of data and analytics to reveal new areas for improvement.

    "Obviously, if FedEx couldn't be successful at execution, they wouldn't be in business very long," notes Karlgaard. "They are a delivery company, after all. When FedEx promises overnight delivery, they have to make it happen or their brand will suffer."

    The Soft Edge

    Great companies look beyond financial numbers to find endurance from cultural values-or what Karlgaard calls the soft edge. Soft-edged excellent companies put a high premium on the aforementioned five pillars. They value Trust, both internal (employees) and external (customers and shareholders). They invest in employee learning (Smarts). They have a preference for small teams of 2 to 12 people, and they embrace diversity in thinking style (Teamwork). They signal their intelligence by putting great emphasis on the design of their products and services (Taste). They know how to tell their company story in ways that are both authentic and compelling (Story).

    "FedEx rarely makes a strategic mistake," says Karlgaard. "They are fanatics about execution. But this hard-nosed company also excels at the soft edge. They've built high levels of employee and customer trust. They are always learning. They use lean teams. Their packaging and services are distinctly designed. They know how to tell the story, which CEO Smith calls 'the purpose promise.'"

    "Has a focus on enduring value benefitted FedEx and its shareholders?" asks Karlgaard. "Absolutely. Its stock has outperformed the U.S. stock market for the last one-, three-, five-, and ten-year periods. The point is, buzz-worthy stocks will come and go. They'll make money for investors and then they won't. But you'll never go wrong when you look for companies that are strong on all sides of the triangle. They'll always have staying power."

    Rich Karlgaard has a lot of experience. He is the publisher of Forbes magazine, where he writes a column, Innovation Rules, a witty assessment of business and leadership issues, and he has been a regular panelist on television's Forbes on FOX since 2001. He co-founded Upside magazine, Garage Technology Partners, and the Silicon Valley premier public business forum, the 7,500-member Churchill Club.

    Alan Gray is the publisher of NewsBlaze, the independent online newspaper for thinking people. Read more stories by Alan Gray.

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