Thursday, June 21, 2007

Investment Mistakes Part 2 - Buying a company with limited growth prospects at high valuations

To continue with the series on personal investment mistakes, I will now candidly give my account of my investment in Yellow Pages. As most Singaporeans know, Yellow Pages is a company which deals with the printing and circulation of....Yellow Pages booklet (yes that phone book which usually collects dust in the drawer until it is needed, which is like quite seldom unless you are in the tele-marketing industry !). Yellow Pages (YP) also has the Internet Yellow Pages which allows users to surf and search for various locations and their respective phone numbers.

I had bought into the company on May 4, 2005 at a price of S$1.71 and sold out at a substantial loss of 15.8% of my capital at S$1.46 on May 27, 2005. Thus, it only took about 3 weeks for me to lose 15% of my capital, and this was my first experience with a stock that "crashed". The crash in market price was due to Yellow Pages announcing disappointing earnings and the fact that the outlook and prospects for the YP distribution was not bright. My mistake was in buying YP on the basis that it had surpassed S$2.00 before, thus it probably could happen again. That was my first HARD lesson that past price trends do not influence future price movements, as the market price of the company is based on earnings and the earnings were decreasing. Note: YP has NEVER surpassed S$2.00 since the time I sold, the lowest point was below $1.00 and YP is now involved in a boardroom tussle as this post is written.

On hindsight and after much analysis, I concluded that I had not conducted enough research into the company before buying. In fact, I had only about 6 months of investment experience then and I coolly thought that a "stable" company such as YP (I thought it was comparable to SingPost) would generate a decent return as well as dividend. Most readers who read my mistake number 1 on MCL Land will know not to buy a company purely for dividend, as this may indicate limited growth prospects.

In YP's case, the business model was not scalable and there were limited opportunities for it to grow its earnings organically. One option was to acquire but even then, there were no complementary businesses for it to acquire which would generate synergies and enable economies of scale (unlike vertically integrated companies like Olam and Pacific Andes). It was also in a "sunset" industry in that Yellow Pages was a printed booklet and most people were relying more and more on online help to locate buildings/phone numbers. In this day and age, bluetooth, blackberry devices and WAP-enabled phones which are able to access the Internet are commonplace and these are the leading edge which has taken the rug from YP's feet.

Lesson Learnt: Always do sufficient research on a company's industry and its business model to see if it can deliver sustainable growth in the next few years. Also, analyze its competitive edge and see if this can be sustained in the long-term. Now, I use a basic Porter's 5-Forces Model (to be elaborated in a future post on competitive advantage) to assess the company's industry and competitive landscape. This can help eliminate most companies as one can see the erosion of margins and competitive edge which will lead to eventual decrease in earnings. Also, one should stick within one's circle of competence, meaning only invest in companies in which you understand (e.g. an IT professional will understand the computer industry better, while an analyst at Shell may understand the oil and gas sector better). If the business model is too complex or hard to fathom, then it is better to avoid and adopt a wait and see attitude. A lot of new-age industries such as alternative fuels, nanotechnology and solar-energy cells are grabbing headlines now, but the question is will the earnings be sustainable 2-3 years from now ? Ask yourself that before sinking your money into the company.

Business Trip - June 26th to June 30th, 2007

I will be away to Vietnam on business during the above-stated dates. Thus, I will most likely not be able to blog on a daily basis unless I can really find time. Internet connections are not a problem to find in Vietnam but the issue is speed of connection, and frequency of disconnection. I will be back in time to do a June 2007 month-end portfolio review and companies' review.

Research on companies to invest in will only take place from August 2007 onwards, as I am re-organizing my finances after my honeymoon to assess my financial position. In the interim, I will only be taking up a new position in Pacific Andes through the rights issue. More details to be posted once the OIS is released on OPERA and mailed to myself.


la papillion said...

Hey musicwhiz, you know what? I also made this mistake of buying yellow page last year at 1.67. One of the first stock I bought.

My reason for buying is even simpler. DBS recommended it, with tp of $2. Haha, I even believed it :)

I'm still holding onto it (luckily I bought 1 lot only). Waiting to dump it, haha

musicwhiz said...

Hi la papillion,

Yes, another mistake I would highlight in future postings would be to follow analyst reports without doing requisite research on our own. I have been folly to this mistake as well so I can fully identify with you on this.

What I would suggest is for you to do an objective, rational valuation of YP and its prospects moving forward and decide if it is worthwhile to lock your capital up further.

Good luck !