The Six Criteria of Great Companies to Invest

Investing in the stock market for long term is about uncover great companies or businesses that are most likely to grow. Financial author and coach, Andrew Chia shared about the six criteria of great companies to invest. Watch the video below:

There are six indicators in any financial report to determine whether a business is worth investing in or not. These indicators are: The Net Profit Margin, Dividends, Growth in Earnings per Share, Return On Equity, Debt Equity Ratio, and Current Ratio.

These indicators can usually be found in an annual report or audit report. We will not show you all these technical reports here because it’s going to cause some of you to faint if you’re not an accountant. There is a shortcut though, which I’m sure this would be familiar to you if you are from Penang. There is a publication done by a Penang company called Dynaquest. It is called the “Stock Performance Guide”, which you can find in most leading bookstores in the country.

This report is a summary of the performances of all the listed companies on the Bursa. Well, not all, but most of the so-called good companies. It contains about 650 reports on 650 companies – 400 companies on the main board and another 250 companies on the second board. I believe they have merged it now. Basically, these are the 650 out of the 1000 or so companies on the Bursa. The rest, which are not reported in this report, we can consider as weak companies.

Net Profit Margin

The first indicator is what we call the Net Profit Margin – meaning the profitability of a business. Of course, when we do a business, we are not running a charity organization or a non-profit organization, right? So, the most important thing for a business, I believe, is profits. If the business is not profitable, I think it is only right to say, that it is not worth doing.

So, how is the net profit margin derived? It is derived by dividing the profit by sales and getting a percentage of it. What would be a healthy range? I would say a healthy range for net profit margin would be between 10-30%. Of course, less than 10% is not attractive. With more than 30% – a lot of people will have their saliva dripping.

There are a lot of businesses in the country that have a gross margin of less than 10%; we’re not even talking about net profit here. A common example would be taking a trip to Lowyat Plaza where people sell all electronic goods. Most of the time, when we look at their gross profit it is less than 10%.

So as a business, how can you survive if your gross profit is less than 10%? What would be your net profit? If your gross is 10%, your net could be just 1% or 2% after deducting the expensive rental, and salaries, and overheads.

For me, personally, if the business does not generate more than 10% in net profits, it is really not worth doing. So, if you ask me why there are so many people doing business in Lowyat Plaza, well – Who knows?

From the Dynaquest report you’ll find a summary of all the figures in to one simple report. The report we’ll reference here is for a company called the PPB group, which in case you don’t know, belongs to the richest man in Malaysia, Robert Kouk.

To find the net profit margin from this report, you will have to look for the Profit Before Tax. For December 06, it is 840 million. Then, manually divide it by Sales which is 2.5 billion.

Why is the annual chart showing outdated figures? Well, it’s important for financial reports to not just look at the latest figures, but actually take figures for at least 10 to 20 years, and get an average from there. That will give you much better idea of whether the business is sustainable or not.

There’s no point having a good net profit for just one year. For example you have a good profit for the latest year, and then in the subsequent years, you have a very low profit or even a loss. So, this is what you will get from the Dynaquest report.

What about the are 5 criteria? For Premium Webinar Members (PWM), you can watch the full session here: