August 28, 2018

Understanding Businesses & Business Models

To invest in Equities, You Must Understand businesses & its business models too..

You must consciously understand the fact that – investing in stocks / equities is all about part ownership of business. If you have no time or no interest to understand the business of the company you are investing – please treat your investment just like a lottery & accept that your probability is less than 10-25%. Well as i always say – even if made a monkey to invest – he still stands a probability of winning 50% – as the invested stock can either go up or down – while we humans have emotions attached to money unlike a monkey – so this reduces our probability of winning to 10-25%.

Therefore its very important to understand the business or business model of the company before you invest. Starting point of your research to understand the company can start with basic questions such as these –

  • What does the company do & How does it do?
  • Who are the customers & why do customers buy those products & services?
  • How does the company serve these customers?

Remember these are not one time questions for which you find answers & stay invested happily in the company for ever. It’s best you check – if not quarterly atleast half yearly balancesheets of these companies to see if the answers to above question still look convincing for you to continue your holding/investment into the company. This may sound like text book knowledge to you, but these are intricacies which builds your investing descipline habits & you will never regret your descisions later.

One must always invest in a company where one understands the business. Don’t ask yourself the next question – if you do not have an answer to this primary question. Each sector or each business has its own parameters. If its a Retail company – you should look for Footfalls & same store sales (SSS) where as for banking – its in Net Interest Income (NII) or Net Interest Margin (NIM) are the driving factors for their businesses. For Telecom – its the Average Revenue Per User (ARPU) and for Hotels – it is average room tariffs.. etc.

These are the primary questions to measure a business. Further each company will still have unique way of doing business. The efficiency with which products & services are produced and sold to end customers – may vary from one business to another – and this will significantly impact its earnings. I remmeber this quote from a management guru Dr.Garry Hammel – “Competition in the market place is not between products & services but between the Business Models of the competing companies”.

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