ROICommunity was launched on May 1, 2006. To date we have grown to well over 3000 members who gather here to share knowledge, experiences and ideas.  Our primary focus is based on the teachings of Phil Town and Rule #1 although we also talk a lot about the value investing principles of some of the greatest super investors to date. Warren Buffett, Benjamin Graham, Charlie Munger, Joel Greenblatt and many others share a common goal: Find wonderful businesses selling at attractive prices. We begin by identifying businesses that have a durable competitive advantage over the competition.

Phil Town accurately describes this as “moat”. Businesses that have moat have a built-in layer of protection that automatically wards off most competitors from storming the castle. This is crucial to our style of investing as we want to own businesses that we are confident will still be around in the next 10-20 years. Wide-moat companies are hard to find but they DO exist, and there are several different types of ”moat” to look for:

 

-Brand: Product you're willing to pay more for because you trust it.
Examples: Coke, Disney, Nike

-Secret: A patent or trade secret that makes direct competition illegal or very difficult.
Examples: Pfizer, Intel

-Toll: Exclusive control of a market collecting a "toll" from anyone needing that product or service.
Examples: Media companies, utilities, ad agencies

-Switching: a business that's so much a part of your life that switching isn't worth the trouble.
Examples: Microsoft

-Price: a business that can price products so low that no one can compete.
Examples: Wal-Mart, Costco, Home Depot

 

Once we have identified the businesses durable competitive advantage, or moat, we then check the integrity of the moat by looking at the businesses historical data. This is because most true wide-moat businesses will show steady, consistent rates of past growth. We do this by looking at the five most important elements of a predictable investment. We want each of the following five elements to be at least 10% or better and increasing.

 

ROIC: Return on Invested Capital is one of the most important factors for determining the integrity of the moat. ROIC is a measurement of how effective a business is at re-investing the cash into itself year after year

Equity/BVPS: Equity shows us the business‘s ability to accumulate surplus. It is a leading indicator for the overall rate of growth for a business

Earnings per Share/EPS: This is the amount of a corporation's earnings that is apportioned to each share of stock

Sales/Revenue: A steady increase in sales is always important. Difficult to make a buck when the business doesn‘t turn any product

Free Cash Flow: This is the amount of money that a business has at its disposal at any given time after paying out operating costs, interest payments on bank loans and bonds, salaries, research and development and other fixed costs. This is important because it shows us the business‘s ability to expand into new markets, make acquisitions, etc.

 

Once we have identified a wide-moat business with a steady and consistent history, we can be a lot more confident in determining the future of that business. Furthermore, we can declare a reasonably accurate intrinsic valuation of that business, or as Phil Town suggests, the “Sticker Price.” We do this by looking at these three factors:

-Current EPS: Also referred to as TTM EPS, TTM meaning “Trailing Twelve Months”

-Estimated Future Growth Rate: We use the more conservative figure of either the Analyst’s Estimated Growth Rate, or our own estimation based on past EQUITY growth

-Estimated Future PE: The most conservative figure of either the current, historical, or default PE ratio

 

Phil Town writes: “The Sticker Price of any business is based on its future EPS and future PE. In other words, if we can figure out what a company‘s future EPS and PE numbers are going to be in, say, ten years, we can multiply those two numbers together and determine its future price in ten years and then, from that, work backwards to determine its Sticker Price today.”

Sticker price, intrinsic value, or retail value are all the same thing. It is what is declared the true, fair, underlying value of a business and is the heart and soul of our style of investing. As Phil suggests, think of Sticker Price like you would buying a car. A good car shopper does their research. They find out what the car is valued at, and then they pay less. It‘s the same thing with investing. Once we‘ve done our research and are confident in our calculation of sticker price, we protect ourselves buy paying less. 50% less, to be specific. Phil Town, Warren Buffett, Benjamin Graham and thousands of other successful investors call this a “Margin of Safety,“ and it has made them very, very wealthy. When we can buy something that is worth a dollar by only paying fifty cents, we know that we are going to make money.

This can seem like a daunting task at first, and it certainly can take some time without the proper tools. Fear not! You can have all of this information in just a few moments. Here is a quick glance at what our members have developed:

This open-source project is the culmination of nearly a dozen very talented members of our community who have volunteered countless hours of their time in its development. This incredible tool, appropriately named the “Margin of Safety Calculator“ will save you hours of time. With minimal user input and just a few seconds of automatic data retrieval, you can literally have a snap shot image of the 10 year track record for any business. We are very proud of this tool and know you are going to love it. Oh and in case I haven’t mentioned this yet this tool is ABSOLUTELY FREE!

That being said, strange market behavior can and does happen. On the way “up“ there will always be those gut wrenching “downs“, and vice versa. Some businesses never make it to their Margin of Safety Price. This is because not everyone involved in the stock thinks like we do. Many are in it for the quick buck and the profit taking begins. This profit taking can quickly get out of hand and spark huge sell offs. As investors, we sit back, relax, and wait while the traders duke it out over control of a stock. We watch the typical day to day, month to month fluctuations in stock price and wait for Mr. Market to play OUR game. As our wonderful businesses go on sale and enter the range of our Margin of Safety price, we buy as much of the business as we can. We know that in time, the general market is going to realize this pricing mistake and drive the price right back up to sticker, and perhaps often well beyond.

To help protect ourselves from anomalous market behavior, we use Technical Analysis to track the flow of money in and out of our stock. While we approach our investments with a “long-haul“ mentality, we like to minimize and control any losses incurred during these pullbacks and profit taking. We enlist several tools such as Volume, Moving Averages, MACD, Stochastic, and others to track the shorter-term price movements, within a stock.

Consider this - out of the nearly $17 trillion dollars invested in the market, more than 80% is controlled by large institutions such as pension or mutual funds. 80%! As Phil states, these guys ARE the market - which affords the individual investor a HUGE advantage over fund managers. This is because when we move a couple of hundred thousand dollars in or out of the market, no one notices. We’re in - we’re out, and the stock price isn’t affected much. Not so with institutional money. These guys are moving TRILLIONS of dollars which makes an awful lot of noise on the charts. Furthermore, such a process can take days and even weeks for fund managers to complete, whereas the individual investor can quickly move back into cash during any major correction or pullback. Once the stock price meets its support and begins its ascent towards sticker, we can quickly jump back in and ride the wave. By using Technical Analysis we can move WITH the market, not against it. How cool is that?

We’ve built this community to assist you in all of your investing endeavors, and believe we will be one of the most useful resources for information regarding your investment. Please feel free to ask ANY questions you may have, or jump in on ANY conversation that you can contribute to.

Thank you and I hope you enjoy your stay!

Justin Brand
admin@roicommunity.com