Qualiport

[ August 25, 2000 ]

A Little Monkey Business, Please!

By Maynard Paton (TMFMayn)

Rochester, Kent -- The Qualiport is fully invested! After Wednesday's trading announcement, the Qualiport has subsequently purchased 299 shares of MMT Computing (LSE: MMT) at a price of 552p each. Add on the £15.00 commission and the £8.25 stamp duty (boo!), the total consideration amounted to £1673.73. As you can see from the Qualiport's current numbers, it just leaves £3.28 in the kitty. These days, you can't even buy one share of Independent Insurance Group (LSE: IIG) for that!

However, with the cash all gone, it doesn't mean the Qualiport isn't going to consider alternative companies for investment. Quite the opposite.

The Qualiport is aiming to beat the stock market. That being the case, we need to constantly pursue investment ideas. Although it's always dangerous to make an investment prediction, I'm quite sure of one in particular -- the seven best stock market performers of the next five years are not sitting in the Qualiport at the moment.

As well as missing opportunities, we'll also restrict our knowledge and understanding of investment in general. Although I'm sure we'll pass on the majority of possibilities, the more companies we look at, the more we improve our ability to recognise companies that really do merit Qualiport status.

The perfect company...

So what corporate characteristics should we look for in a potential Qualiport candidate? The ideal Qualiport company is outlined here. But there'll never be a company that fits all of the criteria. However, the guidelines are still very much in place. We must be flexible, but potential Qualiport constituents would still have to meet more than most to enter the portfolio.

But when hunting for portfolio candidates, there are two "unofficial" guidelines that I personally tend to follow.

Small companies

I prefer smaller companies to larger ones.

The larger the company, the greater the investor interest. Beating the stock market involves moving away from the crowd. I've never associated "great value" with a company that has hordes of investors following it.

Take Vodafone (LSE: VOD). It's one of the world's largest companies. The company has an army of analysts poring over it each day, every day. In this case, I think it would be unlikely that the Qualiport would ever have the "edge" over the investing competition.

Although FTSE 100 members do have their wobbles (witness Emap's (LSE: EMA) plunge to 730p last year), "great value" opportunities don't last for too long in the stock market's upper tier. A portfolio of a varied spread of heavily-researched blue-chips isn't going to see any notable market outperformance. Those seeking to beat the market over the long-term must look towards under-researched or heavily out-of-favour companies.

Smaller companies also have superior growth potential. The FTSE 100 is an index of yesterday's winners. How many times have you read something along the lines of "Had you put £1,000 into Sage (LSE: SGE) in 1990, when it was a sub-£50m business, you'd now have...". Far too many times, I bet. Nobody ever writes "Had you put £1,000 in Company X when it joined the FTSE 100...".

Tomorrow's Sage will certainly start life in the smallcap arena. The earlier it's spotted (before the crowd catches on...), the greater the investment return will be.

A "monkey" business

We've all heard the phrase "this company is the industry gorilla". And yes, investing in companies that dominate their marketplace is a sound practice. However, I'd like to add another primate-related quote.

Former US fund manager Peter Lynch once said: "Buy businesses that can be run by monkeys, because one day they will be."

I'm all for that.

Find companies that have a dominant and entrenched market position, limited competition and such an established product that even a monkey in charge couldn't cause the business a fatal blow. Unfortunately, there aren't too many of these businesses about.

Here's one of my favourite Buffett quotes. It covers the monkey business issue.

"Retailing is a tough business. In part, this is because a retailer must stay smart, day after day. Your competitor is always copying and then topping whatever you do. Shoppers are meanwhile beckoned in every conceivable way to try a stream of new merchants. In retailing, to coast is to fail.

"In contrast to this have-to-be-smart-every-day business, there is what I call the have-to-be-smart-once business. For example, if you were smart enough to buy a network TV station very early in the game, you could put in a shiftless and backward nephew [or a monkey] to run things, and the business would still do well for decades. You'd do far better, of course, if you put in Tom Murphy, but you could stay comfortably in the black without him. For a retailer, hiring that nephew [or monkey] would be an express ticket to bankruptcy."

Monkeys and monopolies

Looking through the current Qualiport seven, only two loosely pass the "monkey test". Just as long as the creative element remained intact, I think Emap's magazines could hold their own should the incumbent management start to lose their way. And Misys (LSE: MSY), with its software effectively part of the furniture at many a financial institution, could also just survive a monkey in the boardroom.

And of the other five Qualiport members? I think they'd all be doomed with anything other than top-notch managers.

TMFAndrew, in this post, reminded me of Buffett's test for a consumer monopoly. Andrew refers to Mary Buffett and her book, Buffettology.

Mary Buffett writes "In Warren's world, the real test of the strength of a consumer monopoly is how much damage a competitor could do even if he didn't care about making money. Is it possible to compete with the Wall Street Journal? You could spend billions and still not put a dent in its readership."

It's only the WSJ and other monopolistic-type businesses that can survive when a monkey's in charge.

Next week, I'm going to run my sliderule over Halma (LSE: HLMA), a rather unloved engineer with several high margin industry-leading businesses under its wing. Capitalised at below £500m, the company initially appears to be an attractive little "monkey business". One for the Qualiport?

Your turn

Do you know of an overlooked or out-of-favour company that operates a monopolistic business? And would that business survive with a monkey in charge? If you think of a company that fits the bill, let everyone know on the Qualiport discussion board, in the Resources centre below. You can read messages straight away, but to take part in the discussion you'll need to register. It's free, and it also enables you to customise the Fool site using My Fool, track your own holdings with My Portfolio, and gives you access to special offers on Fool products.

Where Next?

• Great Bank Holiday reading -- Mary Buffett's Buffettology and Peter Lynch's One Up On Wall Street.
• Get up to speed with Happy Harry Halma, courtesy of TMFJimmyC