Investing Tools for Investors Looking to Excel
10/21/02  

Accounting, marketing, systems, operations, and a company's legal environment are analyzed to provide  reference points to determine an investment's suitability.

Preparing to invest for your own account requires great background in the field, training, and experience. Anyone with no background or experience, however, can pay as little $8.00 to buy or sell, or even, short stocks. You would not go into combat without basic training in weapons, their deployment, and battlefield strategy, plus more. Yet many novice investors, emboldened by the ostensibly low cost to play, are entering financial battles without any weapons, basics, or strategy. These novice investors are risking a lot more than the $8.00 commission to buy, sell, or even short stocks. They are risking their principal. Here are some of the basics investors should know, and the type of perspectives they should gain on the companies they choose to invest in.

Companies need to keep track of their Assets, Liabilities, and Shareholder's Equity. Additionally, they must keep track of Revenues and Expenses. Concurrently, companies keep track of the Sources and Uses of Cash Flow. Without these procedures and systems to control the business, a company will fly out of control in short order and end up disappointing customers, employees, lenders and shareholders alike.

How does a company set up its accounting systems? First, it creates a Journal of Accounts, which is a detailed listing of the items a business must track in detail. This will consist of Assets and Liabilities, as well as revenue items and expenses.

The Journal of Accounts will include assets such as Cash in Banks, Receivables, Raw Material Inventory, Finished Inventory, Property, Plant and Equipment, as well as costs for software development.

Liabilities include Accounts Payable, Loans Payable, as well as certain Deferred Items like Deferred Taxes where the Taxes have been expensed for accounting purposes, but not payable because of timing differences in booking income and expense for tax versus book accounting purposes. For instance, the company can depreciate (expense) fixed assets faster for tax purposes than required for accounting purposes. In other words, companies are motivated to minimize expenses for taxes, and maximize accounting profits. The difference is reconciled through the deferred tax accounts.

Any business must keep track of its Shareholder's Equity. Shareholder's Equity must be equal to Assets less Liabilities, and represents how much of the business the Shareholder's actually own after giving account to amounts owing to others. These Accounts consist of Paid In Capital (the amount shareholders paid for issued shares of equity ownership, Retained Earnings (Accumulated Net Income less Dividends), less Treasury Stock which is repurchased stock held in the company's treasury.

Keep in mind that accounting books are constructed using historical costs, not current valuations. The analyst will attempt to determine whether there is excess or deficient values between current value and historical cost. 

The Income Statement specifically tracks revenues and expenses, and helps track profitability of the business. Generally, the Journal. of Accounts is set up with a degree of specificity that allows very detailed accounting by product, by division, etc. 

Companies employ double entry bookkeeping which balances entries by having a debit and credit for each action and movement in the business. For instance, a sale with an invoice or bill rendered to the customer would credit sales, and debit accounts receivable in the same amount. From the process of keeping track of debits and credits for each item in the Journal of Accounts, the company can draw a Trial Balance, which can be generated on any given day for any account which would reflect any movements (changes in the account). The Trial Balance shows the balance in that particular account at any moment in time.

From the Trial Balance, the accounting system can create A Balance Sheet, An Income Statement, and a Statement of Changes in Working Capital. A Balance Sheet specifically shows assets and liabilities at a particular time. The Income Statement tracks income and expenses for any particular period of time for the business (Go to the fundamental analysis section to show the type of analysis that can be performed with these statements to monitor and determine the true health of the business). Analysis should key on liquidity, asset turnover, financial leverage, profitability, operational leverage, and growth in earnings.

Companies employ automated accounting systems but transactions, events, etc. must be entered into the double entry system (for every credit there must be an equal and offsetting debit). The automation allows real-time systems to create up to the moment reports on the state of the business in incredible detail.

A few other notes. Accounting policies can affect how the results of business operations are presented. It is critical to understand these policies because there is sufficient latitude, that you may  be comparing apples to oranges between companies if accounting policies are different. Policies relating to acquisitions, capitalization of expenses, tax accounting, amortization and useful life definitions, etc. can lead to different portraits of results of operations of companies in the same industry.

Pump Up the Volume- Creating Demand, Features and Benefits, Marketing for Orders, Marketing for Mindshare

Winners and losers are often differentiated by their marketing prowess, not by product superiority. Additionally, successful companies recognize that the selling effort does not conclude with the sale, it intensifies with the sale. Successful companies create relationships with customers, not one time interactions. From the initial marketing effort, through the sale, to after sale support, to cross selling and up-selling, a relationship of trust and reliability should be created. Unfortunately, many companies act like getting your money was their only objective.

Successful companies strategize a full line of compatible products that are well conceived to meet market needs and wants, exceed buyer expectation, and combine features and benefits which convey a clear differentiation with competitors and which can command a premium price. Some companies merely use F,U,D to cast fear, uncertainty, and doubt about imminent competitive offerings to buy time to upgrade their products to meet unexpected challenges from up-start companies. IBM attempted this approach with Microsoft, EMC, and many others during their long decline. Ultimately, it is a bankrupt strategy.

Companies that compete on price alone are generally in trouble. People will pay a premium price for great products and service. Profit margins for a Mercedes, for a Microsoft product, for Intel, for Gucci, etc. exceed those of their low price alternatives. It is incumbent on business to have a competitive edge and to sell the benefits and sell the difference.

Marketing consists of Business to Business or Business to Consumer. Business to Business and Business to Consumer consists of the following methodologies:

• Person to Person Sales with Sales Organization

                    - Product Orientation

                  - Geographic Orientation

• Direct Selling
• Outbound and Inbound Telemarketing
• Internet Websites
• Direct Marketing including
•       Direct Mail
•       Newspaper and Radio Spots-Advertising can either be actionable (a way to place orders directly) or directed at image and mindshare.

Sales can either be to the end user or to distributors, who in turn sell to another intermediary or to the end customer. Some companies sell direct, as well as selling to the end customer. Nike sells directly through its own retail outlets, and to department stores, etc. Compaq sells direct to consumers with mail, internet or phone orders and sells to Value Added Resellers (VARS), and retail outlets. This can create resentment with distributors and what is known as distribution channel conflict or contention, but it also maximizes sales, if not profits. Each process is referred to as a distribution channel.

Marketing that is not specifically targeting a sale is involved with creating "mindshare". This is a process of making the prospect think of the company when they have a need for a product the company provides. Some of this marketing involves creating demand that needs stimulation. Beverage companies are great are making you thirsty, while snack companies make you hungry. Some mindshare advertising aims at created a sense of value added which will justify a higher price. Intel's spectacular "Intel Inside" ad campaign has taken an internal and invisible component into a vital piece of mindshare.

Great companies know that selling occurs with each and every customer contact, including complaints, product returns, warranty claims, etc. Smart companies manage every single customer engagement with a fully scripted scenario aimed at surprising the customer with how well they are being treated. This kind of treatment can be the foundation for up- sells (selling a customer up to a more expensive product, like a BMW 328 to a BMW 540), cross sells, and future sales.

Great marketing companies also have extensive marketing data bases, which identify their customers by their demographic and psychographic makeup. They realize the most important aspect of creating business is matching the company's products with the most likely user. Electronic data bases track who the customers are and how a "marketable universe" can be established or extrapolated from the existing book of business. The smart marketing companies also do extensive testing of prices, products, creative approaches, seasonality, etc. to drive the cost of customer acquisitions as low as possible.

Great marketing companies not only explain the product's features, they sell the benefits. In other words, don't explain how the products make me lose weight, tell me what my love life will be like when I do lose weight.

Frontrunner, Also-Ran, or Never Was/Never Will Be- The Role of Computer Systems in Success and Failure

Increasingly, winners and losers are separated by who has the best systems. Great systems allow the following;

• Creates data, information, and ultimately knowledge about how a company should change and enhance its business to lower the cost of sales, marketing, and managing the business, at the same time maximizing revenue possibilities.

• Lowers inventory and capital requirements by creating Just-In-Time Inventory systems,

• Allows creating an electronic data base to better understand and manage customer relationship to maximize customer satisfaction and revenue possibilities.

• Allows the cheapest and most automated techniques to be employed in production, operations, and marketing, thus lowering the cost of sales and selling, general, and administrative expenses. Allows the company to price compete against its most efficient competitors.

• Permits the company to flatten its organization and eliminate needless layers of analytical positions that the company's systems can routinely perform without human interaction. For instance, Materials Requirement Planning Systems (MRP) allow businesses to generate and modulate demand forecasts, integrate with inventory and Purchasing systems and automatically reorder materials necessary to minimize inventory, but still fulfill future customer orders on a timely basis.

Systems vary from company to company and little is relayed in company documents to testify to the state of company's computer operations. Many companies have different computer systems handling different operations. In other words, there is no uniform Technology Audit of a business that is released to the public. A corporation may have acquired a number of companies each with different systems. A large company could have so many different systems that, in some respects, it is a model of inefficiency.

Generally, systems must perform the following tasks:

• Marketing Management

• Order Management

• Inventory Management and Material Requirements Planning

• Shipping Management

• Accounting

Most companies have different systems handling each function, creating many clerical keystrokes to completely process, allocate, ship, and account for the transaction and update the client and inventory files. Each time data is passed from system to system there is an opportunity for a mistake. Each entry in a disjointed environment must be batch processed. A run of orders must then be applied to different files such as the inventory system, and to the accounting system. At a minimum, it involves too many operations for an order. 

Great companies have real-time systems which take orders through systems that automatically allocate, ship, and account for the transaction, at the same time customer records are updated and inventory is decremented and reordered, if required, based on automatically revised sales forecasts.

Strategic objectives without the supporting systems are merely pipe dreams and doomed to inaction and failure.

Blocking and Tackling- Operations

Operations involve the process of managing orders, fulfilling orders and creating the inventory necessary to handle the flow of business. Operations must work closely with marketing to determine order flows. They must work closely with systems to insure that information is at their fingertips on all customer relations and that keystrokes are minimized. They must work closely with the business planning to help assess forecast demand. 

In each case, operations must be ready to meet demand in a cost efficient fashion, but mindful of the need to meet and exceed customer expectations. Additionally, because they will come in contact with customers, they must be trained and scripted to be an integral past of the marketing and relationship management function. Managing operational flows in the face of marketing campaigns is critical since many companies fail to anticipate the incoming flow of orders. They often have inadequate customer service, inventory, shipping boxes, etc. and leave the new customers with a sour taste.

Recently, the Regional Bell Operating Companies have begun rolling out ADSL service for high speed internet access. They have underestimated the demand and the network has experienced tremendous downtime. Customer Service lines remain unanswered. This is a lost opportunity to extend these companies record of uninterrupted service to a new product area. They failed.

Software companies are notorious for shipping new releases before being thoroughly tested in order to be first to market. They let the customers test the software and debug it. Because of this, there is sufficient cause for Corporate Information Officers to often refer to software as "where ware", "vapor ware", or just "no ware". Rushing incomplete products to markets ultimately shows a lack of respect for customers and the employees who have to handle the abuse from justifiably angry customers.

Companies, in essence, must be prepared to handle the business flows in a way that enhances customer relationships and perceptions at the lowest possible cost. They must build their infrastructure and human and physical capital to handle the business. Likewise, companies experiencing business contraction should contract their operations to lower costs.

In today's society, litigation and pending legislation create an obstacle course that all companies, big and small, public and private, profitable and unprofitable, must negotiate. Running this gauntlet is expensive, but not as expensive as ignoring environmental, securities, consumer protection laws, OSHA regulations, etc. Political pressure to change the legal playing field, together with potential regulatory actions to take a new of different enforcement slant on existing laws, all conspire to create a minefield for business.

The tobacco companies, Microsoft, the telcos, transportation, etc. have all had the underpinnings of their businesses called into question. Investing in these companies should involve an understanding of the legal and regulatory landscape, what political parties are opining about legal changes and how these issues will impact your investments.

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