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How to Find Winning Companies

In order to find the best share to invest in, the first thing an investor has to do is to gain an understanding of the company. And, one way to gain that understanding is by reading the company’s annual report.

Looking back at the past to find out what helped drive highly successful companies to lofty share-price heights can help reveal a lot about the attributes that are likely to define future winning investments.

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One of our readers recently posted a question on how to read an annual report so I thought I’d share how we can go about doing it.

I’ll be breaking this down into a series of articles, using land transport giant ComfortDelGro Corporation Limited (SGX: C52) as an example. You can find the company’s latest (2013) annual report here. Let’s get started!

Get a sense of the business

Often, I would start off by identifying how the company earns its money. Hopefully, the business is easy enough to illustrate with a crayon. Remember, if we’re gonna own a company for the long term, then we should start by making sure that we will be able to follow the firm’s developments over the next decade.

For the case of ComfortDelGro, it seems to be easy enough to know how it earns its money – the company rents out taxis and operates buses for instance. It’s hard to miss the blue Comfort taxis ploughing the streets of Singapore when we are out and about.

Some quick notes from ComfortDelGro’s latest annual report:

  1. From the first few pages, we can see that the company has a big international presence besides its Singapore businesses; it has operations in Australia, 12 cities in China, as well as 10 cities in the UK. More on that later.
  2. Page 5: We get a quick sense of the comapny’s sources of revenue by country. It looks like we have to pay attention to Singapore, the UK, Australia, and China.
  3. We may also want to examine pages 11 to 13 as it gives a summary of the historical business performance. Take note of the metrics used by management to measure their performance.
  4. Page 12: It’s noteworthy that the bus operations make up almost half of ComfortDelGro’s revenue for 2013. So, it’s not the taxis alone that drive the growth of the company.
  5. Pages 19 to 30 have the profiles of the management team. You may pick up that Vicom Limited (SGX: V01) and SBS Transit Ltd (SGX: S61) are both subsidiaries of ComfortDelGro.

As a note of caution, if you find yourself having to read a report five times just to understand what the company is doing, it’s perhaps better off to toss it into the “too hard” pile. Keep in mind the words of investing maestro Peter Lynch:

Chairman’s letter

I consider the letter from the Chairman as a blank space where management is able to summarise – in their own words – the business of ComfortDelGro to shareholders. This happens in pages 4 to 10. After getting a sense of the business in our own terms, we can compare it with how ComfortDelGro’s Chairman sees his own business.

Furthermore, it’s also good to understand how management segments its reporting and where its focus lies. There would also be a summary of the past year from the management team and that’s something to take note and compare later with our own observations. Advice from author Thornton O’Glove on reading a Chairman’s letter also comes to mind.

Other possible questions:

  1. Is the management acknowledging the challenges ahead?
  2. Do the actions of the management work towards future challenges?
  3. Are there actions taken to lay the groundwork for future long term growth?
  4. Do the actions of management match the company’s long term vision?

As it is with any exercise, we will get better at it the more we work on it. And this includes the act of reading the annual report of companies. Stayed tuned for the second part of the series tomorrow!

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.