The following framework is Adam Seessel’s BMP investing framework, adjusted for sub-questions in a sensical order to answer them.
1. Business Quality
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Does the company have a low market share of a fast and growing market? (Yes/No)
- How big is the TAM (total addressable market)?
- How fast is the market growing?
- Is the market growing because of demographic or secular trends, or is it cyclical and likely to reverse?
- What is the company’s estimated marketshare?
- Is the company’s marketshare growing? I.e. Is revenue growing faster than the market?
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Does the business have a sustainable competitive advantage i.e. moat? (Yes/No)
2. Management Quality
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Do the executives understand what drives business value? (Yes/No)
- Does management measure and report metrics that map to true economic earnings, rather than metrics chosen because they flatter the number?
- Does management talk about ROIC, durability, and reinvestment opportunity in a way that shows they understand where value comes from?
- Do actual historical decisions follow what is discuss in the above questions?
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Does management think and act like owners? (Yes/No)
- Does management hold meaningful personal equity, ideally bought with their own cash rather than just granted?
- Is capital returned or deployed on terms a rational owner would accept? (buybacks bought at lows, disciplined deal pricing)
- Is compensation tied to per-share value creation rather than size, revenue, or adjusted profit metrics that are easy to inflate?
- How do managers behave in their day-to-day activities? For example, do they make business trips alone, or with a full team? Do they fly first class and stay at fancy hotels, bought on the company card, or, if they do these things, are the upgrade bought with their own money?
3. Price (The Veto Question)
- Can you arrive at a reasonable earnings yield - i.e., over 5%?
- Note that a 5% yield (or a P/E ratio of 20) is what he has deemed reasonable in the low-interest rate environment that was present when the book was written. While interest rates have risen since then, Seessel has said in interviews that he has not changed the target. That said, it should be noted that valuations and thus yield rate thresholds should increase along side escalating risk free rates.
- The Process:
- Start with 2 or 3 year forward revenues.
- Make standard adjustments to one-time costs, maintenance cap-ex, future costs from the balance sheet, etc.
- Break the business down by reported segments, as much as possible.
- Try to estimate segment margins by finding comparable businesses - for example, using Ebay to estimate Amazon marketplace margins.
- Assess the income statement for line items where GAAP obscures earning power. For tech businesses, this often in R&D and Sales and Marketing Expense.
Connections
Value Investing Requires A Paradigm Shift In The 21st Century
Link Explanation: The linked note explains the overarching issue for value investors in the digital age. The current note explains how to operate to correct the issue.