Joe Kittinger’s 100,000 foot jump. Source: US Air Force
Aldo Gucci, the Italian fashion king, is supposed to have said, “Quality is remembered long after price is forgotten.” People may forget how much they paid, but how a product performs is in their face every day. That cheap suit doesn’t look thrifty, it just looks cheap.
The same can be said of investments. How much you pay for your investments matters a lot. The price you pay is a big factor in your long-term returns. But the quality matters more. If a company is on its way towards bankruptcy, the only appropriate price for their stock is nothing.
Conversely, high quality can overcome a bad entry point. A lot of great companies have stumbled over the years. Remember “New Coke,” or J&J’s Tylenol poisonings? In these cases, the strength of the firm’s management and the resources they drew upon allowed the companies to put their troubles behind them and resume growing.
There are three aspects to an investment’s quality: their management, their finances, and the marketplace: who’s running the firm, where the money goes, and how the marketplace treats their products. Good management can be transformative, generating more performance than anyone thought possible. Bad management is like poison gas: anyone who comes close gets sick.
How do you tell the quality of management? Look at their compensation. Is it reasonable, or do they treat the firm like their personal fiefdom? Bosses who look at a company like a piggy bank tend to break it when they need spare change for new toys. Do lower-level managers get out there and make the company’s presentations, or does the big boss need to hog all the air-waves? Do they mentor and develop talent in-house? Has the management team been together for a while?
Great business leaders create value. But do you bet on the jockey, the horse, or both? A great manager has to have resources to work with – growing revenues, efficient operations, and steady, growing cash flow. These things don’t just happen. They have to be built up over time. But a high-quality financial engine can help a firm weather rough economic seas without running onto the rocks.
“High Surf along the Laguna Coast” by Edgar Alwyn Payne. Source: Athenaeum
But where do these strong financials come from? The stork doesn’t just bring them! Strong financials come from strong products and services. If a firm has a recognizable brand that they’re willing to defend against cheap knock-offs, that indicates that they have something worthwhile. Consumers are ruthless evaluators. If a product doesn’t offer excellent value, specialized functions, or an elegant design, it won’t survive very long. Conversely, a company that devotes resources to continually improving its offerings will outperform.
Whether it’s part of a company’s management, finances, or products, quality matters. Aristotle said that quality isn’t an act, it’s a habit. And when it comes to investing, when you’re out of quality, you’re out of luck.
Douglas R. Tengdin, CFA
Charter Trust Company
“The Best Trust Company in New England”