Stock Shares are Partial Ownership in a Business
Some people never get started with investing because they believe stocks are too risky. They see the market as a gambling casino, with equity shares merely tokens or lottery tickets, and success just a matter of chance or lucky timing. That might be the case if one’s time horizon is too short – days or weeks or months – especially if you overpaid getting in. But for long holding periods of many years, market risk averages out. In the long run, the most important factor is owning good profitable businesses in the first place. If you hold winners, time works in your favor.
Maintaining Reasonable Expectations
2023 and 2024 were great years to own equities, a bull market, especially in the technology stocks. In many ways that makes us happy – who doesn’t like prosperity? – but the trouble with a long stretch of investment gains is that after a while we get a little lazy and complacent, half forgetting there can be downside risk too. Despite a long-term upward trend in sales and earnings, reflecting growth in the U.S. economy (and inflation), from time to time the market is going to take part of it back. Even if our stocks don’t collapse, they may stumble around, going nowhere for long periods. It is not realistic to expect big gains every single year, especially starting from the rather plump valuations we are seeing now. Naturally we hope for our investments to grow in value, but being in too much of a hurry can work against us. Patience is an advantage.
The Annual Checkup: How is the Business Doing? It All Begins with Sales
Even if you cannot watch your portfolio every day, certainly an annual checkup is in order, at a bare minimum. In this article we will “look under the hood” of a few familiar companies. We believe sales growth is an important factor, one we look for in choosing stocks. (For our Core Stocks, sales growth averaged 3.7% last year.) Here is a recent Income Statement for SYSCO Corp., a major U.S. food distributor. Start with sales, subtract all the expenses, and what’s left is profit – also known as Net Earnings.
One thing we notice right away is that for a food distributor like Sysco, the net earnings are pretty lean, a modest 2 to 2.5 percent of sales. Even that small profit can easily turn into a loss, if management isn’t careful about how much it pays for salaries and supplies. They cannot simply raise prices, because if you charge too much your customers will buy somewhere else. It’s a balancing act, with new challenges every year. Running a business profitably is a lot harder than most people realize. Sysco has managed well over the years.
Sysco delivers food mostly to restaurants (62% of sales), but also to schools, colleges, government offices, corporate offices, hospitals, retirement homes, caterers, cruise ships, churches, fraternal organizations — any place with institutional dining facilities. Here is a breakdown of their product sales for the past few years. You can see the depressing effect of COVID on restaurant sales after 2020, which recovered in succeeding years as people started dining out again. COVID merely dented Sysco’s business, but for a lot of small restaurants, the lockdowns were fatal. These are big numbers – billions of dollars – and there is overall growth most years, though not always in every product line.
Sysco is good for illustration because they report their segment sales in such detail. Other businesses may be a little harder to visualize, but still show interesting data on their various activities. Let’s look at Microsoft, one of America’s most important, durable, and profitable technology companies. Some divisions are growing rapidly, others less so.
Retail stores operate in a brutally tough, competitive business. Whatever they sell, they are up against giants like Amazon, Home Depot, and Walmart, which for price/selection/convenience are very hard to beat. Kohl’s illustrates the heartbreaking difficulty of competing, and trying to grow, in this suffocating environment. With labor and merchandise costs going up every year, and sales/earnings mostly NOT growing, it is a discouraging spot to be in. We try to avoid such stocks.
Amazon has a remarkable story of success that is still unfolding. Founded by Jeff Bezos in 1994, the company started out selling books online, a novel approach to a seemingly sleepy business. Not having to build and support physical stores, they could sell cheaply, but the big attraction was convenience: using Amazon.com, you could buy books from the comfort of home, without needing to go to the store at all. Customers loved it. Nowadays Amazon sells just about everything – it would be fair to say they disrupted, or at least frightened, the entire retailing world (even mighty Walmart!) – and have expanded into other fast-growing lines of business, notably AWS (Amazon Web Services) which enables users to access (rent) the power of cloud computing without having to invest in a lot of expensive equipment. A ferocious competitor, Amazon has become much, much more than just another retailer, offering music, movies, games, medical services, and more. Merchandise sales are very large, and getting larger; and some of their other activities are growing even faster.
Alphabet Inc. is familiar mainly through its Google search business. They have many other things going on as well, such as YouTube, Gmail, Google Maps, the Android mobile operating system, the Chrome browser, Google Play Store, Google Workspace – each of which has over one billion users. Most of their revenues come via online advertising, a byproduct of their various Google Services. They also own a substantial Cloud computing business, not yet as big as Amazon’s, but growing nicely; and Waymo, a leader in the difficult technology of autonomous driving. Their Google Maps data gives them a big advantage in navigation for Waymo.
The stock market is an emotional organism. It over-reacts to short term news, rumors, baseless fears, and inflated hopes. If all a person did was watch stock prices, it could impair his ability to think calmly or exercise good judgment. Looking quietly at the actual year-by-year numbers helps us to better understand the companies we own, and gives a calming perspective. Especially when the market isn’t behaving well, it is reassuring to see that a company’s business operations are intact, with sales ticking right along. We all need a little encouragement, sometimes, when fear is in the air, so that we will keep holding on. That’s how we get to be long term investors.
Written by George Donner
