When evaluating a stock, one has to consider both qualitative and quantitative factors. The qualitative factors tend to be regarding the business model of the company, its risks and opportunities as well as the quality of its products. As such, it can be really subjective. In this regard, I find the quantitative factors quicker and easier to analyze as figures do not lie (unless they are being manipulated, which in this case qualitative factors like the quality of its management would come into play). However, it is important not to be blinded by numbers alone, as numbers on its own do not tell the whole story.
When I was starting out, I used alot of financial metrics like ROA, ROE, debt to equity, increasing trend of sales and earnings, etc. to filter stocks. These churned out a number of companies of which many turned out to be solid businesses. Convicted by many of their financials, I paid less attention to the qualitative side. This proved to be a costly mistake. Some which I have personally invested in are China Minzhong, Food Empire and Challenger Technologies. All three companies had strong financials, growth, and a sturdy balance sheet. However, I did not understand the risks of each investment completely. In China Minzhong, I did not understand the industry, its competitors, and the quality of its goods. For Food Empire, I did not comprehend fully the currency and country risks of the business itself. Its two main markets were Russia and Ukraine, and as such, the performance of the business could be affected by political situations, along with economic problems. We have seen how the Russian rouble depreciated massively against the USD this year due to political issues and the tanking of oil prices, which brought turmoil to the oil industry – a major contributor to Russia’s economy. As for Challenger Technologies, I was able to pay visits to its stores, and get a first hand feel of its business and products, but I did not fully apprehend the risk of online retail. Granted, all three may still be great businesses to some, and better investments to others, but the point I would like to highlight would be that qualitative analysis is crucial in any investment.
In 2014, we have seen how companies with fantastic financials perform badly, for eg. Biosensors International, Cordlife Group. I had been keeping up with these two companies for their strong financials but I was not able to understand their business model from a qualitative standpoint. I had no experience with the medical industry, and thus it was not in my circle of competence to analyze Biosensors. As for Cordlife, I have had exposure to its products but could not understand the complexity of their investments and holdings in other associates. Moreover, their deal with CCBC was confusing to me. It is important to understand what one is getting into, and if things seem too hard to understand, it might just be better to stay away.
Saying ‘no’ to an investment when you are unsure of it qualitatively is an important thing we all need to practise if we are to get better at investing. In essence, always ask yourself – “What’s the story?” behind this investment before pulling the trigger.