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Dave: 00:35 All right, folks, we’ll welcome to the Investing for Beginners podcast, episode 122 tonight we’re going to do part two of analyzing the growth of the stock. And one of the things that are going to be a theme tonight is appearances can be deceiving. Not all growth is equal, so you never know what you’re going to get until you get into it. So like Forrest Gump used to say, life has a box of chocolates; you never know what you’re going to get. So tonight I think, you know, worst you’re going to get, but Andrew and I are going to talk a little bit. So Andrew, once you go ahead and start us off and then we’ll chat a little bit.
Andrew: 01:11 Yeah, sounds good. I’m excited to hear about the example that we talked about off air. I think that kind of ties it in nicely, and it’s, you know, we’ve been talking about growth and, you know, if you haven’t listened to the last episode, I would recommend doing that. But bottom line, you know, a business grows, a stock goes higher in the stock market because it’s able to grow earnings and profits over time. And so as an investor, there are so many different ways, and like a box of chocolates, I guess. There are different flavors of ways that you can try to reevaluate a stock’s growth. And what’s frustrating is there’s never one perfect way. And you know, one, if you have some indicator that you found this year that’s worked to help you pick stocks that grew, maybe that, that indicator doesn’t work next year.
Andrew: 02:06 But you know, if we zoom out and not necessarily try to look for a magic bullet, but maybe try to look for general trends and maybe if we just have a bigger understanding of what some of that accounting jargon means, what are some of the causes and effects of growth and, and some of these metrics. So if we understand those kinds of big-picture elements, then as we’re digging into the stocks that we look at, we get more understanding, and it’s not just random. We understand situations where maybe like you were saying in the intro; growth was deceiving. Or when a company’s track record is showing that at that it’s not only growing but looks like maybe
Dave: 02:59 A sustainable growth, and it looks like growth that has come from a strong business model, strong core business, and not anything else with the numbers. So I think you mentioned a bank you have been looking at, and from some of the numbers you started throwing to me it made me think of some of the other parts of growth that we didn’t cover in the last episode. So I would love to hear what you have been looking at lately. So, yeah. Andrew and I, after last a recording, we had talked a little bit about some other possible aspects of growth and maybe exploring a little bit, some other things that we could think about. So as I’ve been doing more and more writing about actual companies for seeking alpha recently, I’ve been noticing a trend when I’ve been looking at these companies, and my mentioned this to Andrew, and he and I were going back and forth a little bit about this.
Dave: 03:59 So there’s a bank that I’ve been looking at that I was going to write some more about. There’s a big kind of analyzing it cause I was interested in investing in it, and I noticed that there are earnings per share has shot up quite a bit, almost doubled actually in the last four years. But the thing that I noticed that was interesting was the revenue hadn’t had gone up correspondingly. So that led me to go, well, why is that? So then I noticed on their income statement that their shares had gone down, so they’d been doing a lot of buybacks on their shares, probably modestly aggressively, but enough that it affected their earnings. So their, their net income has gone up, which is good. As you know, their revenue has gone up. So all those things correspond, but when you look at the percentage of the earnings growth versus the growth of the revenue and the growth of the net earnings, it was not all the same.
Dave: 05:06 And so that led me to start working at other things in their financials to kind of help explain this to me a little bit and I just felt like it was deceiving is not the right word for it, but it was maybe illusionary, or it wasn’t as great as I thought it was when you just looked at the earnings per share. If you go on a website, you see that, Hey, this bank’s earnings or you know, jumping up, you know, almost double in the last four years, you go, wow, this is amazing. This company’s growing like crazy. But then we start to dig into the numbers. It’s not quite as amazing as it looks. And is it dishonest? I don’t think it’s dishonest because it’s, you know, they’re doing legitimately either buying back shares, which a lot of companies was doing as a way of reinvesting into the company instead of just sitting on the cash or you know, buying, you know, foolish things or investing back in their company, which is, you know, great.
Dave: 06:08 We’ve talked about that before. We had an episode that we talked about Bev Faber’s book, a shareholder yield, and this is a big part of what he was talking about in that book was the share buybacks. And so that’s all great and find a dandy. But I think the thing that I wanted to illustrate with this was when you’re thinking about growth; you have to try to look at it from a lot of different angles to make sure that what you are seeing is what you’re are seeing. And if you look at one metric, just earnings per share and you see that, you know, it’s gone, you know, 10 acts in the last three or four years and that’s all you base your investment on. You could burn yourself pretty badly. And another aspect of this that we were talking about that is moderately concerning is their debt has gone up.
Dave: 07:02 It’s almost doubled in the last four years. And the short term debt, as well as the long term debt, have all doubled in the last four years. Now their shareholder equity has been pretty flat actually over the last four years. So, it needs you to think, well why are these things, so as you start looking at how all this interconnects, and we’ve talked about this in the past, when you look at one aspect of the financials, they all kind of feed into each other. And this is why trying to look at these things will help you paint a better picture of why different things happen and how this affects this and going back and forth. And we, you’re just talking about growth. A lot of times the analysts will base all of their predictions based on the earnings per share. And wall street loves to talk about earnings per share, earnings per share, earnings per share, earnings per share.
Dave: 07:59 And that’s one of them, you know, the big metrics out there. And that’s one of the big terms that’s bandied about on wall street. And that’s what the majority of the focuses on is that you know, that you got to have those earnings per share. And as a tangent, a general electric. And one of the huge things that really burned them over the last few years was the previous CEO’s obsession with always being better than the quarter before, even if it was only a penny, you know, and he manipulated things on their financials to have the company growing every single year and it was fake. And I’m not saying that this bank I’m looking at is fake, it’s not, but those are just things that you have to be aware of and, and kind of keep in the back of your mind when you’re thinking about growth. And we all want to see growth. We all want to see all these numbers going up and everything going, you know, to the right and up. But you always have to look
Andrew: 08:56 At what you’re working at and try to balance it out with what you’re seeing because you want to make sure that you, you aren’t getting into a growth crap that you are, it’s not what it seems to be. And in the case of the bank that I’m talking about, one of the things that are going on in the background, it’s, you know, I’m looking at the annual numbers, so I’m looking at 2018 versus 2008 through 2015 so I’m not looking at the last 12 months of not looking at, you know, what it did last quarter. I’m just going on the annual numbers because I feel like those are, they’re audited number one and number two, it’s just an easier way of comparing apples to apples. For me. And one of the things that I know that’s happened this year is this bank has purchased another bank, and it’s going to be interesting to see the next financial report that comes out sometime in February of next year.
Andrew: 09:53 What, how that’s affecting the bank and what’s going on is you know, is there going to be huge Goodwill in there, or they paint cash or this I that using shares to buy this. I’m not exactly sure how that’s going to go down yet cause they haven’t investigated that part of it. But I know that’s going to have a bearing on this and it could have a bearing on their earnings as well. And so these are all things that you have to kind of keep in mind. And I’d be quite curious to hear what Andrew has to say about me, all my comments now. Yeah, I mean, it’s something you have to be very cognizant of. And like you said, earnings per share is such a huge focus. Whether it’s how did they do last core, they were with earnings per share, or it’s, you know, what’s the guidance for this upcoming Corp there?
Andrew: 10:44 How, you know, what’s the range that we see earnings per share coming in compared from this year to last year. And if the next three months look like it’s, you know, not as the, it doesn’t have that growth that analysts want to see. You could see a sell-off quite quickly in the stock and a matter of minutes sometimes. So the EPS thing is a big factor when it comes to pricing. The more and more you get into the daily craziness and fluctuations of the stock market, the more that becomes very, very, very evident. But over the long term, you know, when you want to think of is this business going to be around in 10 years are they going to sustain a good size and continue to grow profits and you know, grow kind of in a reliable way I guess. Then I think that’s where a lot of other metrics can come in and either support that or, or not.
Andrew: 11:48 So I think the fact that you brought up that there is a merger coming up, it reminds me of a stock I bought recently, I want to say recently, but it was maybe two years ago ish. And that’s another one of those where I was like, I wish I didn’t buy it, but CVS, I bought them knowing that they were also going to go through a merger. But I guess looking back, and I maybe should have waited until after the merger to see how the balance sheet and income statements were affected by it. And because sure enough, you know, kind of to the theme of this episode this idea that the growth wasn’t like the grow, like the growth that was shown on the financials, was maybe not reflective of real true business growth. So I have to like reign myself back and not get too far into the accounting jargon.
Andrew: 12:50 But basically when the acquisition or a merger happens, then that can be a quick way to boost. You know, we, we talk about how you can kind of boost earnings per share through buybacks. You can also boost shareholders’ equity, and book value per share member book value’s the same as shareholders’ equity that can also be boosted through acquisitions. And so in the same way that you’ll see some companies kind of take it too far and maybe do share buyback so aggressively to the F to the effect that they’re burning, you know, basically putting shareholder capital on fire. You can see that also with companies that make heavy acquisitions and because of the way that those are banked into the balance sheets the assets will also go higher even if they overpaid for acquisition. I hope that makes sense if you’re not familiar with mergers and acquisitions.
Andrew: 13:50 But it’s like an if a company borrows a bunch of money and let’s say they bought this printer company, the printer companies only worth $1 billion, but they paid $3 billion for it, right? Well, in the real world, if I paid $3 billion for something, then that’s $3 billion out of my pocket. So I’m $3 billion poorer and only a billion dollars richer by buying this printer company. With the way the balance sheets work and accounting. If a company pays 3 billion for a $1 billion company, they still get 3 billion in assets on its balance sheet. So if you remember some of my lemon stations, if that’s the right word, and when I was lucky my wounds from that Noel brands purchase I made and the Goodwill impairment that happened afterward, that’s an example of where of an that was overpaid for makes growth look good in the short term.
Andrew: 14:58 But over the longterm, it was not reflective of true growth. And so it took a hit to the financials later on. And that’s, that’s one of the downsides with some of the accounting that goes on with mergers and acquisitions. And I think it just represents another reason that when you are evaluating growth, it’s not, it’s so, so, so important to not just rely on one metric. And so that’s why I think becoming a value investor unintentionally can help you evaluate growth. Because if you can understand that there are several metrics intertwined and working together to paint the picture, of a company story, then you can understand that maybe in one example, growth is not as it appears. It’s embellished in this case. And maybe in another example because you have the experience and kind of the context and know when that has been the case.
Andrew: 16:08 Now you can kind of look at the company and say, well, you know, from a share shares outstanding perspective share buybacks perspective, it doesn’t look like they’re wasting money. Maybe from a reinvesting in the business kind of Warren buffet owner’s earnings cap X perspective, it looks like they’re the fishing with that money. It looks like a, from a balance sheet perspective, from a mergers and acquisitions perspective, they’re efficient with that money, and we’ll look at that. Earnings are also growing and earnings per share growing, all the metrics are growing. And so w the, you can feel that much more confident about the history of stock when you understand some of these deeper intricacies. And if it’s something that you’re diving into for the very first time, I would caution not either a being too overwhelmed or B being too gung ho about anyone metric that makes a company look good.
Andrew: 17:08 And I think that’s where with growth, it’s, it’s so challenging because there’s ways kind of like a GE a if a management is really, you know, trying to max out their stock options every core there and really trying to you know, put, put the RPMs at 8,000 for 60, 60 minutes in an hour while somehow it’s gonna show up in the accounting that eventually whereas, you know, if you kinda think of it logically, and you think that you know, from what I’ve noticed, for the most part, things in the world tend to take time when, when it’s time to grow, trees take a long time to grow, right. Businesses generally take a longer time to grow Microsoft and, and become, or Apple or Amazon or you know, any of these huge, huge companies that have changed the world. They did not become those types of businesses overnight.
Andrew: 18:11 Yes, they had periods of very large extensions of growth, but it’s still in certain cases it was, you know, started in in a garage or started from some innovation on the technology and over time it was able to build and build and build on itself. And that’s, you know, growth takes time. And that’s true with businesses, and that’s going to be true for sustainable investments as well. So if you’re going to look for the type of stocks that are going to give you the types of things that we like to talk about, what we like to look for, dividend compounding and dividend growth longterm performance and share price appreciation, those things take time. And so for those things to naturally happen, you want to see all parts of the business growing and not just one or two. So maybe understand that you’re not just going to focus on earnings per share or earnings.
Andrew: 19:18 And I think that’s something that when I first started, I didn’t comprehend the significance of that. And I think luckily for most companies you generally won’t run into that. But there’s always the chance that you do. So now for as an example, I recently looked at my portfolio, looked at the stocks on my watch list and kind of tried to reevaluate the growth picture on some of these, do some comparisons and get get, get like a, a grounding on what kind of decisions was I going to make moving forward and how was I going to kind of evaluate how the business is done. Try to separate that from what’s gone on in the stock market with the stocks, how they’ve gone up and down, and just try to look at the financial statements and how if the business Julia has grown or not.
Andrew: 20:12 And so I noticed that it’s helpful to look at either earnings per share and book value per share or net earnings and book value or shareholders’ equity. And if something weird were happening with the shares, then I would tend to look at the net earnings. And if, if earnings per share, like back to your example they have with the bank, if earnings per share growth were higher than that earnings, then I won’t understand why and if it’s because of buybacks, that could be a good thing. That could be a bad thing depending on at what price, you know, if the stock was expensive when the company did a buyback, then they’re not efficient. There, they’re overspending to buy back the shares. So that’s something like, to further dig into. But from a general sense, if those two numbers are different, I’m going to find out why.
Andrew: 21:14 And either I wasn’t going to count the earnings per share growth because I was like, well, you know what, like what they’re doing with the shares outstanding is making these calculations wonky. And so I’m going to instead focus on the complete net earnings or, you know, it looks like they’ve done buybacks, but it’s been like a steady kind of consistent thing, and other parts of the business look stable. So I’m okay with using those numbers when I’m thinking about the company’s growth. So those are, that was a thought process I had recently that I don’t think we talked about much when it came to thinking about growth and some of the things that can manipulate some of the numbers that investors generally look at when they’re thinking about [inaudible]
Dave: 22:23 I like how you were talking about comparing book value to earnings per share and kind of how they’re intertwined. And I think one thing that I, I think that I would like to stress when you’re thinking about growth and trying to analyze companies and [inaudible]
Dave: 22:43 Trying to determine whether this is something that you want to put your hard-earned money into is all part of creating your kind of checklist of having things that you’re going to look at for every company so that you have as good as you can. An idea of what you think is going on with the company.
Dave: 23:05 Earnings for shares weren’t going to be one of them. Revenue is going to be one of them. Net earnings are going to be one of them, you know, shareholder equity, book value. All those things that we have talked about and are talking about are all things that are kind of intertwined that you should try to look at forever single company and not just taking on face value, that the earnings per share are a great standalone thing to use to evaluate every company. Because businesses cyclical and things that go up, we’ll go down and vice versa. Things that are going down, we’ll go back up and depending on where you are in the life cycle of that particular company, where you are in the life cycle of that particular industry what’s going on with the economy either nationally here in the United States or even outside of the United States.
Dave: 24:00 If things are going very poorly overseas and that particular company that you’re looking to invest in, do, you know half or more of their business overseas will continue that’s going to affect them. So all those things are kind of intertwined, and when you’re looking at growth and trying to analyze it, you want to look at a longer period. Andrew’s talked about that before, and I fully agree with that. You know, looking at one or two years is not enough. You got to look at 10 years at least, to just give you an idea of what this company has done, what it’s gone through, and trying to try to incorporate some of these growth metrics and ideas into when things weren’t going great, when we weren’t in a bull market, when the economy wasn’t expanding, when things were kind of eh, or even bad.
Dave: 24:50 All those things will give you a really good idea of the management of the company and what they’re doing and how good they’ve been in all different kinds of circumstances. You know, it’s, it’s easy to look at things when everything’s going great, and everything’s rosy, and stock market’s going up and up and up and up. Well then obviously, you know, all these things are going to be going great at, what’s that Warren buffet phrase? You never know who’s [inaudible]. Oh, what is it about the Tyler out? You never know. I mean, they can’t until the tag is out. Yeah, exactly. That’s when you’re thinking about earnings, and you’re thinking about all these things. That’s why it’s so important to try to go a little bit deeper, and we’re looking at
Dave: 25:34 How things are intertwined and what is going on with the company. You know, when you see that the earnings are doubled, but the revenue has gone up that much, the net earnings haven’t gone up that much, then it’s coming from somewhere, and the share buybacks are great. But as Andrew mentioned, you know, our, the sugar buy bikes, buybacks, sorry, are those the best use of the capital right now? And I’m not making assumptions or statements that I know more than a CEO of a company does because I don’t because I’m not him or her. But if the company is really expensive, is buying back your shares as your best option, would there, would there be other options? Would there be opposite the, you know, opportunities to, you know, acquire a company that could help you grow or you know, give you other avenues of revenue for that particular company or giving us back dividends? You know, there’s, there’s just there, there are different ways than just doing share, buybacks to do, share buybacks.
Dave: 26:35 Again, this is all part of the process, of learning about a company and learning how to buy the company and what’s going on with the company. And growth is something you want to see. You never want to see a company going down, you know if the revenues are going down, but then, you know, year after year after year, but the earnings, the earnings are going up, well to me that’s a red flag because they’re buying back shares. But if the company is not doing their job and growing sales and growing their earnings, then it’s illusionary. It’s not, it’s not sustainable because eventually at some point you’re going to run out of shares to buy back and then what are you going to do? You know, because, and those are all things that you have to take into consideration when you’re looking at investing in a company.
Dave: 27:23 Because we all work hard for money and you don’t want just to throw it away because you saw something shiny and you fell in love with the company because of that shiny thing. But when you start to dig into it, it’s not as shiny as you originally thought it was because we’ve all had that happen to us. I know I’ve certainly had happened to be, GameStop was a perfect example. It was, it was shiny. I thought it was good. It was not good. So you know, you just, you live in Lauren, but I think that’s one of the things I wanted to kinda touch on today with the growth aspect of it is, is making sure that you have a checklist, and you have these ideas and understand maybe not fully, you don’t have to understand it completely, but we used to have an idea of where to look and what to look for and to help protect yourself when you’re looking at all this stuff.
Andrew: 28:11 Yeah. So you mentioned a checklist. And so I assume I’m somebody who’s, you know, this stuff sounds interesting. But I’m a little bit lost. I don’t know where to start. So for you to speak to somebody who’s maybe in that camp who understands that I probably should learn to, to either make a checklist for myself, you know, or learn more about some of the terms, I guess that you and I were talking about today, what would, where would you point people and you know, I don’t think to give either you or meme even myself, like if I were to say, Hey, this is exactly how you need the exact metrics to evaluate a company’s growth, I don’t think, I don’t think it’s as easy of a calculation as like an evaluation might be per say. So how would you kind of, how would you teach somebody to fish? Like what, what direction would you point them in if they are looking to take that next step may be and learn more about growth and make
Dave: 29:19 Yeah, a checklist for stocks and all of those sorts of things. Oh, that’s a good question. I think I guess the first couple things that kind of popped to mind would be too Start to look at an income statement and try to figure out how you would read through that. And the easiest way to think of an income statement, for example, is it’s, in essence, a checking account for the BA for the company.
Dave: 29:51 So for the bank I’m talking about, it’s their checking account if you will. It’s not literally, but it’s, in essence, it is because they’re bringing in money, which is our paycheck. And then they have to pay a whole bunch of stuff out expenses, whether it’s, you know, employees, its buildings, it’s, you know, paper, whatever it may be, you know, buying stuff. All that stuff comes out of the checking account. And then the money they have leftover is their earnings. And so when you’re looking at evaluating growth of a company, obviously you want to look at the quote-unquote bottom line, which is the earnings and that’s the money that they have leftover. That’s what they’ve earned.
Dave: 30:33 And then the first, then you’d also want to look at the top line, which is the revenue is. So you want to see those numbers going up. In addition to that, you want to start to understand a little bit of how some of those things are going up. So you see that the revenue is increasing, you see that the net earnings are the money that the company has made is growing, and you see the earnings per share is growing. And then maybe kind of just really quickly looking at maybe the growth of year over year of those particular three items, you can go to quick fs.net, and you can see on that particular website it’ll show you year over year. So you can kind of get an idea of how much it’s grown and maybe do a real quick comparison of, you know, the earnings and the net earnings and the revenue have both grown by three and a half percent over the last five years.
Dave: 31:32 But the earnings per share has grown nine and a half percent. Well, okay, that’s, that’s not correlated. So what’s causing that? And I guess when you’re thinking about checklists for me, I’m thinking about questions that asked me to ask myself that is going to lead me to another question. So, for example, I just asked the question of why are the earnings per share growing faster than the revenue or the net earnings because those are the income and what the money I have leftover that doesn’t correlate. You would think that they would be, logically they’d have to correlate. So why is that? So then that’s the question I would ask myself, and that would be what I put on a checklist is why are the earnings per share growing faster than the revenue or the income or the net earnings, excuse me. And then that leads me to investigate further.
Dave: 32:26 And just looking at the income statement, you can see that the share buybacks are, the shares that they have leftover at the end of the year is less than the year before and the year before in the year before because they’re more shares back or their company. And that would, in theory, tell you that, okay, that’s why the earnings per share have gone up because they’ve been more aggressive buying back more shares. So those are just three fairly simple, easy protocol questions that you could put on your checklist right there that are fairly easy to understand, don’t involve a lot of higher math, and are just things that you can look for fairly easily. Either in the financial statements of B of a 10 K or even going on a website like seeking alpha. You can find all that information just by searching for this, you know, a particular company and seeing all their financials right there.
Dave: 33:22 Excuse me. So to me, that’s, those are some things that are easy and would be good beginner places to start and then you can kind of branch off from there. What are your thoughts? Yeah, thanks for providing that. I think that’s like the perfect amount that you and a gun kind of launching point. And you know, it’s one of those things that you continue to immerse yourself in, and you’re not going to Yahoo who can memorize a textbook completely overnight. You’re not, you know, there’s a reason why people take weeks and weeks and weeks to learn something. And you know, when it comes to evaluating growth or looking at stocks, it’s the same way. And I think that’s a great actionable piece for the listeners to take. So thanks. Yeah. Yeah, you’re welcome, man. I guess to kind of tag off of that real quick if you go to guru Fuko guru focus.com and type in a ticker or a company to look up.
Dave: 34:18 One of the cool things that I like about this site that’s helped me learn stuff is that when you’re looking at the 30-year financials that they offer, you can do click on every single line item, and they will break down how they achieve. They come to a particular number. So when you’re looking at, you know, revenue of a company, if you click on that line item, it’ll take you to a separate page that will show you where the revenue numbers come from, whether it’s the trailing 12 months, whether it’s quarterly, whether it’s the annual. So I’ll show you where that number comes from, but they’ll also give you a definition of what that term means. And so it can help you start to learn as you’re taking meal bite-sized pieces of this. It’ll help you start to learn what these, what this terminology means.
Dave: 35:14 And like Andrew said, you’re not going to learn all this overnight, and it’s impossible to, and you shouldn’t expect yourself to. But as you start to broaden your horizons and awareness language and build on that language, you’ll learn more and more, and they’ll start to make more and more sense to you. But I think just starting with the simple things that I talked about with the income statement will help you tremendously and discovering what’s going on with the growth of the company.
Dave: 35:42 All right folks, we’ll, that is going to wrap up our discussion on growth for tonight. I hope you enjoyed our conversation, and you found a thing or two that can help you with your investment in your journey to learn more about this great opportunity. So without any further ado, I’m going to go ahead and sign us off. You guys go out there and have a great week. Invest with a margin of safety, emphasis on safety, and we’ll talk to y’all next week.
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