Qualitative Data Analysis is the Secret of Quality Fundamental Research
Qualitative data analysis is researching company's business model, competitive advantages, management, customers, competition, regulation and others.
Qualitative data analysis is often difficult or even impossible to measure and quantify, but this part of stock fundamental analysis is the most important part of determining stock intrinsic value besides analyzing pure figures in company's financial statements. In this article you can read about some qualitative factors to watch when analyzing company or industry.
Company's Qualitative Data Analysis
Company's Business Model
The first question you normally ask yourself when you start researching a company that is new to you is to get familiar with company's business - what they do and how they make money. The easiest way to get the information about company's products or services is to check their website.
While sometimes it is very easy to get familiar with the business model of the company, this is not always the case. It can happen that a company is positioning itself as something that is not the major source of their income. A well known example of such business model was once publicly traded company Boston Chicken, which was never making money by selling chicken, but through high royalty and interest fees to its franchises. Like you could expect, the company went bankrupt when business model details were revealed.
Company's Competitive Advantage
Try to find the company's moat, something that makes you believe that the company will stay in the business on the long-term. It can be a well know brand (like for example Coca Cola) or a powerful domination in a specific niche (like Google among search engines for example).
There are two major way of how a company may gain a competitive advantage. It can be done through operation effectiveness, which is the case when a company is doing better in similar activities then its rivals. But the real long-term competitive advantage is gained by doing better while performing different activities or similar activities in different ways then its rival.
Researching the quality of company's management is an area of qualitative data analysis where private investor has a big disadvantage compared to professional investors, who can easily attend analysts meetings and even schedule a one to one meeting with management.
There are few ways to get a feeling about management. You can join the Q&A section of conference calls with CEO and CFO, which are usually followed after reading quarterly financial results; notice, how they answer the questions, forthright or do they avoid clear answers like politicians do.
Secondly you can read discussions and management's outlook in annual reports. You should check if past outlooks of the management were realized or not, to get the filling if they are realizing their plans, if they are overoptimistic or over pessimistic perhaps.
Another signal of how confident the company's management is is to research the ownership and insider trading of company executives. If you can find managers among shareholders and if they were increasing their share lately, it is a very positive sign.
If you would like to do a more in depth research of the management, you could also check the past performance of the members in former companies, read their biographies, etc.
Company's Corporate Governance
Qualitative data analysis is also concerned with company's corporate governance, which is a company's internal document describing relationship between shareholders, supervisory board and management. Corporate governance covers topics like shareholders rights, structure of board of directors, transparency of financial and other information, etc.
Qualitative Data Analysis of the Industry
Every sector and industry is different in terms of its customers, growth, barriers for entrance of new players, difficulties to gain market share, regulation, competition, etc. You should get familiar with how the industry you intend to invest in, works.
Research the customer base for the industry. Are companies serving only few or millions of clients with their products and services? As you can imagine, depending on one or only few customers (buyers) is high risky business.
Analyze the market share of the biggest players in the industry. Is the company you intend to invest in the largest player on the market, is its market share increasing? Higher market share is a plus for the company, as it is only than possible to use economies of scale.
The growth potential of the company depends on increasing the overall amount of new customers. You should be especially careful with industries with a lot of innovations and fast evolution, like IT and electronics for example. There used to be a lot of new customers for classic cameras once, but today they were displaced by digital cameras.
Check the competition in the industry, is it growing? Industries with many competing firms and which are easy to enter (no special capital or knowledge requirements for example) are treated as difficult operating environment, where pricing power is one of the biggest risks.
Some industries are heavily regulated while others are not. Regulation can for example directly influence the attractiveness of the investment in utility companies, where governments often regulate their profitability. In drug industry the regulation effect is not so direct; the regulation is focused more on effectiveness of the drugs and not so much on pricing. Another example of highly regulated industry is new energy (solar, wind, etc.), which strongly depends on subsidies. You should have the regulation effect on the company's success in your investment mind all the time.
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Written by: Goran Dolenc
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