What important factors separate a good stock from just another stock? This is another way of asking: What separates a great company from its competitors?
Investing in the stock market for long-term results is about identifying a great company and buying its stock at a price that gives you the best chance for success.
Finding a stock at an attractive price (trading at a discount to its intrinsic value), is only half of the equation. If the company is not great, the stock may not grow at a rate that makes it a good investment.
Finding a great company whose stock is trading at a large premium, is not the answer either. If the stock is trading way over the intrinsic value there may not be any room for future growth and, in fact, the stock may be setup for a fall.
It is only when you put the two together, that you have a long-term investment opportunity: a great company with stock trading at an attractive price.
A great company has strong financials and the market leadership to press its advantage.
For this exercise, I'm going to look at some non-financial characteristics of businesses and why they are important. The financial analysis is important, but if a business doesn't possess these important market attributes, it is unlikely it can sustain a leadership position and if they do possess these characteristics, it is likely to have strong financials also.
Will anyone want their products or services tomorrow? It makes little difference if the company has the hottest product on the market today if it is a passing fad or yesterday's technology.
VCRs were once the hottest thing in video technology, but now the retailers that still sell the machines are practically giving them away. Most major video stores has no longer carry new releases on video tape - everything they stock is in DVD format. While on the subject, with streaming video and access to movies for download, how long will video stores last?
Great companies have products and services that people want year after year because of their universal appeal or because the company keeps the products fresh with shifting consumer concerns.
There is not a railroad or steel maker in the 30 stocks of the Dow Jones Industrial Average, yet those two industries created immense wealth for their owners in the not too distant past.
Great companies create products and services before consumers know they want them.
The Deep Moat
Strong competitive advantages, often called the deep moat, protect great companies from competitors. These can be high costs of entry, such as in heavy manufacturing (think cars and airplanes); or name recognition like McDonald's and Coca Cola; or low-price leader, such as Wal-Mart.
These advantages (and superior companies usually have more than one) make it difficult for competitors to grab market share. Apple created the smartphone with a design and functionality that let it grab a huge chunk of market share before competitors could even launch a product and did the same thing with tablet computers.
Southwest Airlines is another example of a company that did the same thing as its competitors, but did it better and cheaper.
Leader of the Pack
One of the most important characteristics of a great company is market leadership. Market leaders can set the agenda for their industry.
However, beware of the complacent giants that grow fat and slow in their leadership roles. They will eventually go the way of all companies that rest on past accomplishments and disappear into merger oblivion.
Market leaders set the pace for the industry and use their size to protect their position. They are able to hire top talent and have the resources to keep pushing their advantage.
Market leaders that pause to catch their breath are often passed and they never regain their leadership standing again. IBM is a good example of a company that could have owned the personal computer market, but let it slip away.
These are non-financial characteristics of great companies. The numbers will usually follow any company that has a durable product or service, a significant competitive advantage and holds a market leadership position, but not always, so always check.