Finding value in a rising market is a big ask, but has risen to the challenge to nominate the best-value shares for 2013



THE TOP 5 STOCKS chosen by Skaffold for Money readers at the start of 2012 have performed very well – better than the overall sharemarket. Indeed, if you had invested $50,000 in the shares that figure would now be $58,858, including dividends. This is a return of 19.5% when franking credits are included, compared with the 17.9% return recorded for the All Ordinaries Accumulation Index over the same period.

For a more detailed analysis of how the 2012 Top 5 – ARB Corporation, Codan, ThinkSmart, Seymour Whyte and M2 Telecommunications – performed, see page 34. The Top 50 returned 12.8% and the top 28 high-yield and growth stocks returned 20%.

For 2013, Skaffold has come up with a new Top 5, plus a list of 50 undervalued stocks worth consideration. It’s a tougher ask this year because prices of many companies listed on the sharemarket have risen over the past six months, making value harder to find.

After 18 months of falling share prices, the past six months has seen the S&P/ASX 200 gain about 16%, reducing the value in the market. After removing the more than 1200 companies listed on the ASX that are yet to turn a profit, investors are left with fewer than 150 companies that may offer value for money. Remove those with poor economics and the list is drastically reduced.

Given such limited opportunities, having a solid framework to identify and evaluate the very best stocks – growth, income, blue-chip or defensive – for your portfolio is critical.

Designed to simplify stockmarket investing, Skaffold is a state-of-the-art online stock-research application that interprets key historical financials and broker forecasts into image-rich visuals. All stocks listed on the ASX, plus the top global stocks, are rated, from A1 to C5. It’s entirely automated and updated daily using information sourced from top-tier financial institutions.

With Skaffold you can see at a glance all the relevant information about a stock rather than poring through heaps of facts and figures. The unique visual interpretations of earnings, dividends, equity, debt, profitability and cash flow mean narrowing the almost 3000 ASX and globally listed stocks to a shortlist of the very best is simple, and really fast.

How to think about businesses

As an investor, your aim should be to acquire shares in companies whose businesses you understand; are managed by honest and high-performing managers who have a track record of delivering value; and have underlying fundamentals expected to continue along the same path over the next five, 10, 15 years.

The story of a company, regardless of whether it is owned by one shareholder or many – its history of earnings, dividends, equity, debt, cash flow and capital growth – is told the same way. As a part-owner, you must thoroughly evaluate candidates. Only those that make the grade are worthy of a place in your portfolio.

What are the questions you need to ask?

What is the business of the company? Does it operate in a sector exposed to future economic growth, or is the business model susceptible to fluctuating economic conditions? Are earnings rising and are they expected to continue rising? Avoid companies whose earnings are stagnant or declining.

Does the company pay a dividend? Also investigate whether it can actually afford to pay a dividend and how that dividend is funded. Avoid those incapable of generating organic growth.

Does it use too much debt? Debt directly affects the bottom line – it costs money and requires ongoing servicing. Do the companies in your portfolio rely too heavily on debt to fund their business activities?

Is the company profitable? Return on equity (ROE) describes a business’s profitability. ROE compares how many dollars of equity were required to produce the company’s profit. If a company has $100 million of equity and produces a $5 million profit, its ROE is 5%. If another company produced a profit of $25 million on $100 million of equity capital, ROE is 25%. Which business would you prefer to own?

Attractive businesses can increase profits each year without raising additional capital or taking on debt. They produce increasing ROEs without raising risk.

Is the company in a positive cash position? Has a company in your portfolio been spending more money than it’s earned? Has it raised capital, taken on debt or paid dividends it couldn’t afford? Poor and worsening financials can result in a falling share price.

Has the company displayed a favourable track record and is its underlying value forecast to rise over the next few years?

If you’re satisfied with the answers and hold the view that the future for the company is positive, there’s just one more question to ask: can you buy shares in the company for less than they’re worth?

Ideally, you want to buy shares when some of the existing shareholders are willing to sell them for much less than they are worth; then you want to sell the shares when other members of the investing public are happy to pay you much more than their underlying value. Over time, share prices tend to converge with underlying value. Buying shares in a company for $20 when the underlying value is $10 can be dangerous.

Created especially for Money readers, includes constantly updated data for Skaffold’s 2013 Top 5 stocks. Visit this special page to see large-scale versions of the graphs and you’ll also be able to see how your stocks are rated by Skaffold. Plug in 5 ASX-listed companies and see Skaffold’s A1-C5 Scores, the Skaffold Verdict and up to three years of future valuation estimates for each stock.


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