Some Investment Criteria for Small and MidCap Companies
This blog favors stock picking of small and midcap companies.
… so good….
but what are the criteria to evaluate a company?
For me four criterias are the most important:
Strong balance sheet, earnings power and cash flow
I would not invest in companies which have a debt loaden balance sheet or which even in good times do not generate strong cash flow. They would be too vulnerable in difficult times (as we can experience right now…..)
Certainly, a dividend can add nicely to the investment return over time but if a small fast growing company has better use internally for the money it should reinvest it in the business.
A sustainable competitive advantage:
The best companies to invest in are surrounded by a wide moat filled with crocodiles as Berkshire Chairman Warren Buffet puts it.
Those competitive advantages can be strong brands, patents, de facto standards, or low cost production processes which can not easily be duplicated by competitors.
Long standing good relationships with important clients belong here too.
These factors normally lead to above average earnings and cash flow power.
Honest Management:
This is perhaps the most difficult criteria to assess but the most important too!
I do like intelligent capital allocation (and not risky and exaggerated M&A activity), reasonable executive compensation (and not exaggerated option grant).
The perfect match is certainly when founders and/or executives are still large shareholders so the interests of them are more aligned with outside shareholders.
The share price is cheap
which can happen when p.e.
– the company already is a great business but so small that it is unknown and does not have the attention of many analysts,
– the company faces a temporary setback caused by bad news from its business or caused by a general negative stock market sentiment.