Shares for the future: what do you think of my best idea so far?
Upgrading your share scoring system is a significant undertaking that requires a great deal of thought and care. Our columnist thinks he’s cracked it, but wants to know what you think.
29th September 2023 14:14
by Richard Beddard from interactive investor
In last month’s “Shares for the future” article I proposed the first revamp of the scoring system that powers my Decision Engine for many years. The Decision Engine is the spreadsheet that determines my trades (see 30 Shares for the future, below) but I think it can be improved.
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Since then, I have been jotting down prototypical scoring systems. The one I am sharing with you today is not the first, but it is, I think, the best so far. I would be interested to hear if you think it might deliver what I hankered for, which, to summarise, was to be:
- More explicit about how a business makes money
- More focused on key challenges facing the business and what it is doing about them
- Treat “fairness” as integral to the business and its strategy instead of tagging it on as a category to score on its own.
Prototype #4
My best idea so far is that I will evaluate the past, present and future of companies to find those that have already shown themselves to be dependable and distinctive, and are pulling activities and capabilities together coherently to keep things that way.
With a nod to the past and present, they will have grown profitably through the cycle, they will be distinctive businesses, they will not be dependent on debt and other financial obligations, and the executives should be partially responsible for this agreeable state.
With a nod to the present and future, the actions the company is taking to grow should be coherent. They should build on the firm's strengths, plug fixable weaknesses, and not contradict each other. The intention to build long-term value should be evident in the financial incentives awarded to executives.
These are the factors I intend to score:
The Past (dependability)
- Profitable
- Growth
- Through thick and thin
The Present (distinctiveness)
- Distinctive business
- With strong finances
- And experienced management
The Future (coherence)
- Fixable challenges
- By coherent actions
- And long-term incentives
The scoring starts by identifying companies that have grown profitably through the economic cycle, and by confirming the business is distinctive and its strategy is coherent, it should identify companies that will be able to sustain growth through the next cycle.
Companies that score highly should, in other words, be good long-term investments.
For each factor, the minimum score is 0, I can be unsure and award the factor half a point, or I can be confident that the business satisfies a particular criterion, in which case I will give it a 1.
The total number of factors is nine, but as before there is a final factor, price that is scored according to a formula that I do not intend to change and is explained in the FAQ link at the bottom of this page.
Since the maximum score for price is 1 (the minimum is -2), the maximum score for a share is 10. That is neat, and rights a wrong I described as “barbaric” when years ago I rejigged the scoring system to mark investments out of 9 (I could not make the system round to 10).
This prototype system also adheres to the “rule of three”, which is delightful!
Dependability, distinctiveness and coherence
These factors are multifaceted, so I need to give you an impression of what lies beneath each one.
With Profitability, for example, there is much more to consider than the company’s return on capital in its most recent financial year. There is also to what extent the profitability is delivered in cash, and the variability of profit over time.
To get a perfect 3 for past performance, the company must have demonstrated that it has been able to perform through thick and thin, and although it may not have grown revenue and profit in every single year, the general trend should have been upwards.
The distinctiveness of a business is hard to assess, although it helps that I read a lot of annual reports. What we will be considering is a business's customers, what those customers value about its products and services, how the firm brings these products and services to its customers, and why that creates value.
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This is a method of defining a company's business model, how it makes money, popularised in a book: The Business Model Navigator. Its basic proposition is that companies often share individual aspects of their business models with rivals, but a good business model designer combines these aspects in unusual ways.
Finally, the business should be addressing one or two crux issues. These are obstacles to growth that promise rich rewards if they are overcome. It was the realisation that I was not always focusing on crux issues that inspired me to redesign the scoring system. I wrote about it last month, and intriguingly, since then I have been corresponding with a reader who reckons I have identified the wrong issue for RWS Holdings (LSE:RWS), which I used as an example.
I believed the biggest challenge facing translator RWS was artificial intelligence, but my correspondent has convinced me that integrating the company’s disparate back-office systems after many acquisitions is an urgent consideration for profitability.
It is certainly something to think about next time I score RWS.
Embracing the unknown
Very few companies will get top marks for every factor, because the world is not a perfect place, but that is the point of a scoring system. It allows us to embrace uncertainty and decide when we are confident enough to invest.
Currently I think of businesses that score 7 or more out of 9 as “good value”, and my gut tells me that 7 or more out of 10 might be the new, and equally as arbitrary benchmark.
If I have not thought of a better way by next month, I will re-score one of the Decision Engine’s members using the new system. It may be the first of a rolling revamp of all my individual company write ups.
30 Shares for the future
I re-score each share in the Decision Engine once a year, after the publication of the annual report.
Since the last update a month ago, Oxford Instruments (LSE:OXIG), Games Workshop (LSE:GAW), and Latham (James) (LSE:LTHM) have been through the process. To see how I scored them, or any share, please click on the share’s name in the table below.
Jet2 (LSE:JET2), Cohort (LSE:CHRT), Goodwin (LSE:GDWN) and Cropper (James) (LSE:CRPR) have all published annual reports and are due to be updated.
Generally, I consider shares that score 7 or more out of 9 to be good value. This month there are 30, the same as last month. Shares that score 5 or 6 out of nine are probably fairly priced.
0 | Company | Description | Score |
1 | Designs recording equipment, loudspeakers, and instruments for musicians | 9 | |
2 | Supplies kitchens to small builders | 9 | |
3 | Manufactures tableware for restaurants and eateries | 9 | |
4 | Manufactures filters and filtration systems for fluids and molten metals | 8 | |
5 | Manufactures pushbuttons and other components for lifts and ATMs | 8 | |
6 | Translates documents and localises software and content for businesses | 8 | |
7 | Supplies vehicle tracking systems to small fleets and insurers | 8 | |
8 | Distributor of protective packaging | 8 | |
9 | Manufacturer of scientific equipment for industry and academia | 8 | |
10 | Distributes essential everyday items consumed by organisations | 8 | |
11 | Manufactures surgical adhesives, sutures, fixation devices and dressings | 8 | |
12 | Sources, processes and develops flavours esp. for soft drinks | 8 | |
13 | Whiz bang manufacturer of automated machine tools and robots | 7 | |
14 | Publishes books, and digital collections for academics and professionals | 7 | |
15 | Online marketplace for motor vehicles | 7 | |
16 | Casts and machines steel. Processes minerals for casting jewellery, tyres | 7 | |
17 | Manufactures/retails Warhammer models, licenses stories/characters | 7 | |
18 | Manufactures natural animal feed additives | 7 | |
19 | Imports and distributes timber and timber products | 7 | |
20 | Manufactures power adapters for industrial and healthcare equipment | 7 | |
21 | Manufactures PEEK, a tough, light and easy to manipulate polymer | 7 | |
22 | Manufactures rugged computers, battery packs, radios. Distributes electronics | 7 | |
23 | Makes marketing and fraud prevention software, sells it as a service | 7 | |
24 | Manufactures personal care and beauty brands | 7 | |
25 | Manufactures military technology, does research and consultancy | 7 | |
26 | Manufactures sports watches and instrumentation | 7 | |
27 | Makes light fittings for commercial and public buildings, roads, and tunnels | 7 | |
28 | Sells promotional materials like branded mugs and tee shirts direct | 7 | |
29 | Sells hardware and software to businesses and the public sector | 7 | |
30 | Flies holidaymakers to Europe, sells package holidays | 7 | |
31 | Collects and analyses market research and opinion polls through online panels | 6 | |
32 | Manufactures specialist paper, packaging and high-tech materials | 6 | |
33 | Operates tenpin bowling and indoor crazy golf centres | 6 | |
34 | Online retailer of domestic appliances and TVs | 6 | |
35 | Manufactures vinyl flooring for commercial and public spaces | 6 | |
36 | Supplies software and services to the transport industry | 6 | |
37 | Manufactures disinfectants for simple medical instruments and surfaces | 5 | |
38 | Retails clothes and homewares | 5 | |
39 | Acquires and operates small scientific instrument manufacturers | 5 | |
40 | Chocolate maker and retailer | 4 |
Scores and stats: Richard Beddard. Data: SharePad and annual reports
Richard Beddard is a freelance contributor and not a direct employee of interactive investor.
Richard owns shares in most of the shares in the Decision Engine, including RWS, which is discussed in this article. He weights his portfolio so it owns bigger holdings in the higher scoring shares.
More information about Richard’s investment philosophy and how he implements it.
Contact Richard Beddard by email: richard@beddard.net or on Twitter: @RichardBeddard
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.
Disclosure
We use a combination of fundamental and technical analysis in forming our view as to the valuation and prospects of an investment. Where relevant we have set out those particular matters we think are important in the above article, but further detail can be found here.
Please note that our article on this investment should not be considered to be a regular publication.
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