Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com Demonstrate BetterInvesting’s time-tested, proven method of analyzing companies using fundamental, long-term oriented growth approach. Consider 20 key factors affecting company as by Douglas Gerlach evaluated on BetterInvesting’s Stock Selection President, ICLUBcentral Inc. Guide, in 3 categories: gerlach@iclub.com ◦ Growth. October 2020 ◦ Quality. ◦ Valuation. 1 2 1 2 NYSE: DG Sector: Consumer Defensive Industry: Discount Stores Description: Operates national chain of discount stores selling food, snacks, health and beauty aids, cleaning supplies, basic apparel, housewares & seasonal items at everyday low prices in neighborhood locations. 3 4 3 4 Page 1
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com Companies with consistent historical results: ◦ Suggest highly-functioning executive management, able to successfully tackle challenges. ◦ Are less likely to deliver erratic future results. Companies with widely-varying results: ◦ May continue to be less consistent in future. ADVANCED: R 2 (R-Squared) value measures straightness of plotted points, with 1.0 being a perfect line. This is useful when stock screening & ranking companies. 5 6 5 6 Growth is tied to size of company & will slow as company gets larger. For very largest companies, 7% sales growth is required in order to drive returns adequately. 2. Are Sales & EPS Growth Strong? For smaller companies, growth should be faster to generate higher returns that compensate for increased volatility. 7 8 7 8 Page 2
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com • Outliers should be removed for years “out of range.” • Recent growth is weighted more • DG growth should heavily. be faster than 7%, • All years appear in which it is., range for DG, 9 10 9 10 • If weakness is evident, What are the primary drivers of future growth conduct research to ( tailwinds ) & key obstacles to future growth that understand if problems should be monitored ( headwinds )? are short- or long- ◦ New products, new locations, expanding market share? term. ◦ Does the company rely on acquisitions to boost growth? • DG’s recent quarterly ◦ Are share buybacks inflating EPS? results seem strong. TIP: Company investor relations presentations can be good source of research. 11 12 11 12 Page 3
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com Review & incorporate: Has grown from 1 store in 1939 to 16,000+ in 44 ◦ Expected drivers of future growth. states in 2020. ◦ Analysts estimates. ◦ None in WA, ID, MT, WY, AK, HI. ◦ Assessment of past growth. No acquisitions since 1985 ― profit growth is ◦ Company guidance (if offered) organic. Note that shares decreased from 344.8M in 2009 to 258.0M in 2019, helping boost EPS faster than ADVANCED: ◦ Trend of change in growth rate. sales. ◦ Implied growth rate (AKA rate of return on retained earnings or sustainable growth rate). 13 14 13 14 Tailwinds: Increasing sales in consumables, growing average transactions, increasing customer traffic, expanding product lines (home goods, beauty supplies), defensive during economic downturns. Headwinds: Competitive threats, declining margins, customer perception as source of fresh & frozen foods. Analysts see downturn in 2021 but long-term uptrend. 5-Year Analysts Consensus Estimate (ACE) of EPS: 14.79%. TIP: Company investor relations presentations can be good Analysts think DG has good prospects for future growth. source of research. 15 16 15 16 Page 4
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com ◦ Historical EPS growth: 15.0%. ◦ Implied growth rate: 20.8%. ◦ 5-yr ACE EPS growth: 14.79%. ◦ IAS EPS projected growth rate: 10.0% ◦ Next 2 FY Analysts Consensus EPS: FY 2020 (up 50% from FY 2019) $10.07 FY 2021 (up 45% from FY 2019) $9.66 ◦ No company guidance for 2020 due to COVID-19. ◦ ADVANCED: Projecting 3 years of 15% growth from FY 2021’s $9.66 results in 17.1% annualized growth rate from today. 17 18 17 18 If not, no matter how low price is or how high dividend is, stock may not be desirable. Without growth of sales & EPS, how will future price growth be generated? 20 19 20 Page 5
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com 22 23 22 23 5-yr avg. : 8.4% Pre-tax profit margin (% PTP to Sales) should be FY 2019: 7.9% stable & strong. 5-yr PTP trend: Down ◦ Review pre-tax margins to remove impact of changes Investigate down trends. from taxes or shares outstanding. Shows how management manages all expenses. CONCLUSION: DG is changing product mix to ◦ Aim should be to maximize long-term profitability. include lower-margin ◦ Companies that deliver consistent profitability will likely consumables. manage all other aspects of business well. 24 25 24 25 Page 6
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com What are primary drivers ( tailwinds ) & key Company Avg 5Yr PTP/Sales obstacles ( headwinds ) that should be understood & Ollie's Bargain Outlet 11.3 monitored? Dollar General 8.4 Research sources: Dollar Tree 5.8 CONCLUSION: Company’s 10-Q, 10-K, 8-K SEC filings. Target 5.5 ◦ DG compares Big Lots 4.2 Seeking Alpha conference call transcripts. ◦ well to similar Revenue-Weighted Industry Average 3.9 ◦ News articles & commentary at Yahoo! Finance News discount stores. Walmart 3.7 Headlines for company. Costco Wholesale 3.1 Source: StockCentral 2020-10-10 26 27 26 27 Tailwinds: successful past product lineup which should Do quality measures suggest this company is well- continue, higher margins than peers allow for increased managed? costs but can still remain competitive. If not, no matter how high growth is or how low price Headwinds: new lower-margin products are untested; is, low-quality company may not be desirable. energy, storage, distribution costs likely to increase; labor costs on long-term uptrend. “It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” CONCLUSION: Even if headwinds are strong, company - Warren Buffett has room to manage increased costs & remain effective. 28 29 28 29 Page 7
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com 31 32 31 32 Identifying high-quality, well-managed, growing business is not enough… Must buy when price is reasonable to deliver required annual return. Measure valuation trends with Price/Earnings (P/E) Ratios. CONCLUSION: No P/E ratios in last five years are outliers. 33 34 33 34 Page 8
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com Why is Current P/E 24.2, higher than 17.9 Avg P/E? ◦ Bull market – “rising tide lifts all ships.” CONCLUSION: P/E Ratios have been trending up, while high & low P/E ◦ TINA – “There Is No Alternative” to stocks. ratios remain in stable relationship. ◦ Good company performance – investors appreciate consistent profitability. ◦ Economic downturn – discount stores industry is defensive. ◦ Positive outlook – investors buy stocks because they perceive good prospects. CONCLUSION: P/E is high, but for understandable reasons. 35 36 35 36 Is company currently selling below or close to its Past P/Es guide likely future P/E ratios, but: Average P/E Ratio (Relative Value <~100%)? ◦ P/Es tend to decline with slowing EPS growth. ◦ P/Es are affected by economic & market cycles. ◦ P/E contraction trends may be difficult to break out of. ◦ P/E expansion trends may be difficult to sustain. ◦ Depressed P/E ratios may take years to recover after CONCLUSION: company performance recovers. At 135% RV, ◦ Very high P/E ratios are not sustainable & will eventually DG is pricey! decline. 37 38 37 38 Page 9
Doug’s 20-Point Stock Checklist by Doug Gerlach, gerlach@iclub.com Carefully consider 5-year average P/Es. High P/E Low P/E 10-Year Averages 20.4 13.9 ◦ Be conservative unless you have experience. Adjusted 10-Year Averages 19.4 12.9 If slower EPS growth expected, P/E Ratios may 5-Year (Section 3) Averages 21.3 14.5 decline. CONCLUSION: Adjusted 5-Year (Section 3) Averages 19.3 13.0 Not a lot of Set High P/E to no more than ~150% of EPS growth Median 19.9 14.1 variance in rate. TK6 Alt-M (Avg 5 lowest hi/Avg 5 lowest low) 19.2 12.6 high & low ◦ “Blue chip” or other popular stocks are often exempted options! 1.5 x EPS Growth Rate (10.0%) 15.0 --- from this rule. 1.5 x EPS Growth Rate (15.0%) 22.5 --- 1.5 x EPS Growth Rate (17.0%) 25.5 --- 39 40 39 40 First, set Low EPS to TTM EPS. Then, select Low Price (usually low P/E x low EPS is best choice). 41 42 41 42 Page 10
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