At the Fool, we believe that finding good shares to invest in first starts with figuring out how strong a company’s business is. And to do so, we can turn to the Rule Maker framework outlined by Motley Fool Chief Executive Officer Tom Gardner in his book Rule Breakers, Rule Makers. The Rule-Maker Framework Here’s how the framework looks like: Is the company selling low priced, everyday items? What do the business’s gross margins look like? What about its net margins? Is the company’s sales growing? What about its cash-to-debt ratio? Is its Foolish Flow…
At the Fool, we believe that finding good shares to invest in first starts with figuring out how strong a company’s business is.
And to do so, we can turn to the Rule Maker framework outlined by Motley Fool Chief Executive Officer Tom Gardner in his book Rule Breakers, Rule Makers.
The Rule-Maker Framework
Here’s how the framework looks like:
- Is the company selling low priced, everyday items?
- What do the business’s gross margins look like?
- What about its net margins?
- Is the company’s sales growing?
- What about its cash-to-debt ratio?
- Is its Foolish Flow Ratio (a gauge of how fast the business can bring in cash) strong?
- Lastly, what’s your level of familiarity and interest with the business?
Figuring out Challenger Technologies
With that, let’s run Challenger Technologies Limited (SGX: 573) through the framework today.
Here’s a quick rundown of Challenger Technologies for the Rule Maker framework (numbered in the same order as the seven criteria above):
- Challenger Technologies provides IT tools, from popular smartphones to action cameras. While the typical customer might not purchase IT products on a daily basis, the IT outfit has half a million members under its loyalty program. Most of the items retailed should also be within reach of the general consumer.
- Challenger Technologies does not provide details about its gross margin in its financials. That said, the margin based on its profit before tax in 2014 came in at 5.2%.
- For the 2014 net margins, Challenger Technologies’ clocked in at 4.2%.
- Challenger Technologies’ topline has grown 13% annually the past five years. Unfortunately, sales decreased in 2014, coming in at 8% lower year on year.
- As of the end of 2014, Challenger Technologies had $52.6m in cash and equivalents, and no debt. This sets the cash to debt ratio to be well above Tom’s desired ratio of 1.5.
- As of the end of 2014, Challenger Technologies had $52.6m in cash and equivalents, $97.8m in current assets, and $43.3m in current liabilities. This gives a borderline Foolish Flow ratio of 1.04. Part of the reason for the borderline ratio is due to the higher inventory level that Challenger Technologies has to maintain as a retailer.
- It is hard to judge the level of interest for every individual, but with popular IT products such as smart phones, it would be fair to say that the business of Challenger Technologies would be familiar and easy to follow for most investors.
Putting a company through the Rule Maker framework can help you size up the type of opportunity at hand.
With Challenger Technologies, we might see a company with a good revenue growth rate. The number of loyalty members it has may provide a level of stability in its revenue and cash flow. That would be important, as Challenger Technologies earns a fairly thin net margin which is typical for an IT retailer.
Furthermore, Challenger Technologies has to maintain a level of inventory to be able to execute its business as an IT retailer. This results in a borderline Foolish Flow ratio. Thankfully, it has a strong a cash-to-debt ratio to keep its business humming.
As a final note, it is important understand that no one company is perfect.
With the characteristics defined above, the onus remains with the Foolish investor to decide if Challenger Technologies’ current share price provides an appropriate margin of safety and whether it fits into his or her portfolio.
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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.