Chapter 7: Curate an Actionable Investment Thesis
Chapter 7: Curate an Actionable Investment Thesis
Book Serialization | Quality Value Investing: How to Pick the Winning Stocks of Enduring Enterprises
Welcome to Chapter 7 of the serialization of my next book, Quality Value Investing: How to Pick the Winning Stocks of Enduring Enterprises.
I am writing the book on Substack Finance as part of the QVI Newsletter and look forward to subscribers’ support and feedback as we produce the manuscript in real time.
Chapter 7 revisits the checklist-driven approach to equity analysis using a bottom-up strategy focused on the company’s current wealth and the stock’s present value. Based on the weighted research and analysis, the resulting investment thesis summarizes why the covered company and its representative shares are rated a buy, hold, or sell.
Chapter 7
Curate an Actionable Investment Thesis
Research and compose an investment thesis, driving an actionable company and stock rating counteracted by potential catalysts that confirm or contradict our hypothesis.
This chapter focuses on curating equity analysis using a proprietary strategy focusing on the company’s current wealth and the stock’s present value.
Simplified research methodologies weigh the value proposition, returns on management, shareholder yields, valuation multiples, and enterprise and share price downside risks.
The ultimate goal of an investment thesis is uncovering the value-priced common shares of great businesses that produce quality products and services and generate alpha-achieving total returns.
How to Curate the Investment Thesis
An investment thesis summarizes why the company and stock have rated a buy (bullish or accumulate), hold (neutral or watch), or sell (bearish or avoid) founded on the stock picker’s most recent research and analysis. In addition, selected equities should meet the parameters of our portfolio objectives. Then, write a final actionable thesis after completing the research checklist.
In curating the investment thesis, we’ll discover how to exercise a bottom-up research approach that acknowledges and accounts for stakeholders in the company, including the board of directors and senior management. In addition, it treats market participants as stakeholders, if only for a contradictory confirmation of our investment thesis.
Once a quality business with palatable enterprise downside risks is recognized, we’ll evaluate the stock’s share price and downside risks to ensure we are paying a fair price for an investment with a high probability of protecting our invested capital.
Current Wealth and Present Value Checklist
QVI puts the targeted company and its common shares through a proprietary, data-driven investment research checklist in its initial and updated primary ticker research reports.
By focusing our investment research on the fact-based current wealth of the company and the present value of the representative shares instead of unreliable predictive analysis and speculative growth, Quality Value Investing (QVI) ’s 45 combined stock picks have collectively outperformed the broader market by an average 7,020 basis points (bps) or 70.20 percentage points average per holding from June 2009 through the market close on September 26, 2024.
The investment thesis combines the principles, strategies, and practices of quality-driven value investing to build potential market-beating, well-allocated, low-cost, common stock portfolios.
By focusing research on fantastic companies with ethical management generating consistent, organic revenue growth, sustained profitability, adequate free cash flow, and high returns on investable capital, alpha-achieving portfolios are possible for motivated, retail-level investors.
Strategically analyze select areas of a company and its common shares with simplified research methodologies. Then, rule out businesses that present as lacking in these targeted traits.
A quality value investing mission includes learning how to uncover, buy, hold, and occasionally sell the value-priced common shares of great businesses producing quality products and services and generating long-term, total returns in capital appreciation and income for shareholders.
Here is a review of the bottom-up, quality-driven, current wealth and present value checklist approach to researching a publicly traded company and its common shares toward curating an investment thesis with market-beating potential.
Begin with the Enterprise’s Value Proposition
Define the enterprise’s value proposition as presented in Chapter 2:
Value Proposition Checklist
Create company and stock profiles
Reference due diligence resources such as investor relations and SEC filings
Uncover the competitive advantages of the products or services
Assign an economic moat rating
Create a value proposition elevator pitch for the company and its stock
Start the investment thesis with a brief synopsis of the company’s business biography, major exchange listing, stock symbol, market capitalization, and dividend-paying status.
Understanding the products or services and the competitive advantages of the targeted company is paramount to thriving retail investors. To own a slice of a business, we must acquaint ourselves with the enterprise generating the equity analyses facts and figures. Unfortunately, the crowd pays less attention to the value proposition and instead focuses on overanalyzing mostly useless metrics such as technical charts, news, and quarterly earnings.
The more investors know about the companies they invest in, the higher the potential for their portfolio to achieve alpha. Own select companies whose products or services are understood in principle, whether we use any of those marketed goods.
Quality-driven investors always begin their research by attempting to define the value proposition. Suppose we cannot explain it via an elevator pitch or suspect a lack of clear and concise competitive advantages. In that case, we practice the art of patience and save our precious time and dry powder for a better opportunity.
Determine a weighted value proposition rating of bullish, neutral, or bearish and include it in the investment thesis.
Screen for High-Quality Business Models
Measure the company’s fundamentals or returns on management as discussed in Chapter 3:
Quality Business Model Checklist
Actual revenue and earnings growth
Operating and net profit margins
Returns on equity, including the company’s stock buyback history
Returns on invested capital, including weighted average cost of capital
The fundamentals or returns on management research measure the company’s senior executives’ performance strength and overall effectiveness.
Assessing actual returns on management instead of predicting future outcomes compels quality value investors to limit precious capital to the stocks of enduring operators held for the long term to profit from the compounding returns courtesy of superior capital allocators.
Rate the company’s returns on management as bullish, neutral, or bearish in the investment thesis.
Calculate Shareholder Yields
Quantify the stock’s equity bond rate of shareholder yields and owners’ earnings as discussed in Chapter 4:
Shareholder Yields Checklist
Earnings and free cash flow yields
Cash flow margin and cash on hand
Forward dividend yields and the yield-on-cost-basis
Average of shareholder yields versus the Ten-Year Treasury
Owners' earnings such as EPS plus dividend growth rates
Quality-driven investors quantify shareholder yields beyond the more conventional dividend payout. Nonetheless, as shareholders, we deserve a compounding return or yield from each leg of the earnings vertical, dividends included.
If the shareholder yields, including owners’ earnings, underperform the ten-year government bond benchmark, consider the company unworthy of taking an ownership slice because of the higher equity risk. In other words, investors should be confident that a targeted common stock has the potential to be more valuable than a conventional government bond over a long-term holding period.
In the investment thesis, assign a resulting shareholder yields rating or equity bond rate, which is bullish if well above the Ten-Year Treasury rate, neutral if in the same range, or bearish if below the rate based on the stock’s average total yields.
Valuate Quality Company Stock Prices
Weigh the stock price’s valuation multiples as offered in Chapter 5:
Valuation Multiples Checklist
Price-to-sales ratio
Price-to-earnings ratio
Price to operating cash flow ratio
Enterprise value to operating earnings
A simplified but telling research report’s valuation section uses select multiples to estimate the intrinsic value of the targeted enterprise’s stock price. It weighs the market sentiment on the share price relative to the company’s financial vertical of sales, earnings, cash flow, and enterprise value.
The lesson remains: Own slices of companies with high-quality business models purchased when their stock prices appear reasonable, if not trading at temporary bargain prices, after being shunned by the near-sighted crowd.
Assign a bullish, neutral, or bearish valuation rating in the investment thesis.
Uncover Enterprise and Share Price Downside Risks
Assess the business’s and common shares’ downside risks as discussed in Chapter 6:
Enterprise Downside Risks Checklist
Long-term debt coverage relative to current assets and equity
Short-term debt coverage or current ratio
Share Price Downside Risks Checklist
Stock price volatility or beta
Short interest as a percentage of the float
Total return stock performance versus sector and broader market
A quality-driven research report downside risks section uncovers and rates the margin of safety of the targeted company and its common shares by assessing debt, volatility, sentiment, and performance history.
Uncovering downside risks is paramount to the ultimate success of the investor.
When investing in stocks, remember to manage the downside while letting the upside take care of itself.
In the investment thesis, assign a downside risk rating to the company and its common shares of low, below-average, average, above-average, or high. Quality value investors are biased toward below-average and low-risk profiles.
Write the Investment Thesis
Compose the curated investment thesis, including an actionable rating tempered by analyzing potential catalysts.
Review and weigh the company and stock ratings in each current wealth and present value category.
Company Current Wealth
The value proposition: bullish, neutral, or bearish
Returns on management: bullish, neutral, or bearish
Enterprise downside risks: low, below-average, average, above-average, or high
Stock Price Present Value
Shareholder yields: bullish, neutral, or bearish
Valuation multiples: bullish, neutral, or bearish
Share price downside risks: low, below-average, average, above-average, or high
Assign an Overall Weighted Rating to the Equity
Conclusively, weigh and assign an overall rating of a buy, hold, or sell to the company and its stock as one unified investment. Answer the question, “As quality-driven value investors, why should we buy, add, hold, reduce, sell, or avoid this equity?”
The curated investment thesis or current view of buy, hold, or sell reflects the actionable call for the targeted stock. The rating culminates from a review of select research indicators weighted towards the key attributes that define the company’s current wealth—inclusive of the value proposition and returns on management—the stock’s present value—inclusive of shareholder yields and valuation multiples—and the enterprise and share price downside risks.
Potential Catalysts to the Investment Thesis
Entertain potential catalysts that would confirm or contradict the thesis.
Although quality-driven investors are skeptical of predictive analyses’ arbitrary and unreliable practices, they should consider conceivable events that affirm or counter the overall investment thesis and its actionable call.
Catalysts involve anticipated or surprise events that could accelerate or decelerate our buy, hold, or sell rating. Essentially, specific inflection points are what the bulls and bears say, which can be verifications or repudiations of our thesis.
Popular sources of catalysts are online brokerages, Wall Street analysts, and Morningstar.
Remember that catalysts are typically short-sighted. Stock price-oriented opinions and predictive analyses are less reliable than a long-view critique and subsequent thesis of the strength of the company’s current financial wealth, the competitiveness of its products or services, and the intrinsic worth of the share price’s present value.
Nevertheless, we must be self-aware of our inherent biases as investors. Chapter 11 provides a discourse on the critical subject matter of behavioral investing.
Copyright 2024 by David J. Waldron. All rights reserved worldwide.
About the Author
David J. Waldron is the contributing editor of Quality Value Investing and author of the international-selling book Build Wealth with Common Stocks: Market-Beating Strategies for the Individual Investor. David’s mission is to inspire the achievement of his readers’ financial goals and dreams. His work has been featured on Seeking Alpha, TalkMarkets, ValueWalk, MSN Money, Yahoo Finance, QAV—Australia’s #1 Value Investing Podcast, Money Life with Chuck Jaffe, LifeBlood with George Grombacher, The Acquirer’s Multiple, Capital Employed, Amazon, Barnes & Noble, Apple Books, the BookLife Prize, and Publisher’s Weekly. David previously enjoyed a 25-year career as a postsecondary education executive. He received a Bachelor of Science in business studies as a Garden State Scholar at Stockton University and completed The Practice of Management Program at Brown University.
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