Hey there, I am presuming that by this time you might have heard of the Stock Pitch Competition on the 31st of May we are organizing with B&R. My name’s Todor and during last year I really started exploring equity research and had a lot of fun doing that. With my group we even won the competition :D … I must admit, a little bit of luck, hard work and not having a major financial institution crash really helped.
As such, amidst our preparation for the stock pitch competition, with B&R we decided it might be useful to share some of my main learnings with regards to pitching a stock and outline what the main components behind a reasonably well informed investment are.
Introduction
So, now… this year I really wanted to work on spreading my enthusiasm behind stocks, understanding businesses, their strategies, and extrapolating that into the future. As such, was really encouraged to work on the stock pitch competition.
And because we are all in this together, below I prepared the following material that I feel could help immensely in terms of structure :).
We recommend to adhere to the following structure for all stock pitches:
1. Recommendation
When you begin with your presentation, Bonus points for a price/volume graph and overview of the kind of events that have caused major price swings over the last 3-5 years :).
. In this way, not only are you painting an idea to your audience of how the company has been performing, but also such an approach has a decent explanatory power in terms helping you look for future catalysts.
Next to that, you could also include a summary of your investment thesis, before you dive into your presentation. There you can include the most important underlying factors driving an under-/overvaluation alongside a couple of risks… as risks are important (every AT1 investor ever).
State whether you want to open a long or short position (i.e. whether you think the price will increase or decrease) and what the company should be worth. What is your recommendation?
2. Company Overview
Basics such as what are the company’s products and services, how much revenue, EBITDA does it generate, or / and how is the company performing in terms of relevant business metrics(LTV/CAC, units sold, etc. compared to others), its market cap, current valuation multiples. Depending on how sophisticated the company is you can go deeper, explain who the management is, how long they have been with the company, how they have been performing, how the cap table looks like. You can also explain the overall strategy for value creation and translate that into more tangible things by explaining the business model of the company, what the pricing strategy is, what their go-to-market strategy is if there is something unique there, and what the latest product offerings are.
If the company’s main product is a sophisticated technology I usually like adding a slide explaining the basics of the underlying technology as that is the main competitive advantage of the business in such situations. For instance, if you are analyzing a company like Cisco, where you buy the product because of specific technical characteristics, it would be interesting for your audience to have a basic understanding of the technological differentiation of Cisco’s Juniper product line, or have basic understanding of how 5G networks functions and how that is powering a shift in the business model, etc.
But bear in mind, this can also be an easy trap of unloading too much information. Whenever you are adding something to the company overview, think about from the perspective of how this is going to help your audience understand the business better, and subsequently your investment idea.
3. Market Overview
Alongside a company overview, a market overview is immensely useful. The deeper and more quickly you can communicate the market, this can tremendously help your thesis.
Imagine you are Sequoia Capital, it is 1978, Don Valentine made his first investment in Apple. First of all, Apple had the idea of us all having our own computer. Using Apple as an example, one of the sub-questions in 1978 you should be encouraged to talk about is that the original system governing memory was practically an audiotape player, which was highly unreliable and took forever to download the information. So now, back to you, if you are a Partner at Sequoia, think about Apple as a system. You know that there is a profound market-driven catalyst (an inflection point) for another company active in memory because these will inevitably need to appear as Apple ships computers. You do not know yet exactly which memory company you will bet on, however, the market here, having that simple, yet sophisticated understanding, very strongly supports your investment thesis.
Now, this is a more of a fundamental / more VC specific example, but if you can build up an argument that is simple yet profound through the fundamentals of the market, the better that will support your pitch. It is relevant to outline that this mostly applies as well to nascent, earlier stage markets.
When it comes to more established markets with a lower CAGR, you would still want to have a look at growth drivers and market shares of companies, especially. This will help you evaluate the positioning of your company and the competitor dynamics. Having seen that, it will help you identify the argument you need to be driving / building up - i.e., if your company has a monopoly, how it is going to utilize pricing power, how it is going to further expand the market (i.e. you are Google and you dominate search engine and now you want to enter payments); if it is an established market with multiple players, is there something about the go-to-market strategy or another factor that is going to allow the company to grab market share more quickly; and so on.
4. Valuation
Through valuation frameworks we are able to determine whether what we are paying for is indeed worth it. It is very important to know whether you are not overpaying as it is the easiest way in which losses can be avoided. In a high interest rates environment you don’t want to buy something trading at 20x P/S, unless you are buying Instagram in the early days as Zuck.
In terms of determining the worth of the company, we use typical valuation methods such as DCF (discounted cash flow), trading multiples analysis and precedent transactions if we are able to find data on the internet for the last.
I find financial modelling very important because it is there where now you translate your reading on the market into numbers - for instance, how are you going build your assumptions around user acquisition for a SaaS / marketplace business, or how many units of something is a company going to manufacture for a company like Tesla, Enphase, Apple, etc.; What kind of drift are you going to assume in terms of operating costs; Supply chains are experiencing longer lead times and now inventory days are impacting your working capital; and so on. With financial modeling you are essentially trying to price in the market environment and how it is impacting the business fundamentals into your model. Needless to say, more sophisticated modeling inherently pushes you to understand a business very very deeply.
Now based on this sophisticated reading you have on a given company, after accounting for all such relevant factors, do you arrive at an under- or overvaluation? Financial modeling, DCF are quite prone to mistakes considering how assumptions heavy they are. Therefore, it is important to not build these assumptions in isolation, but to talk with your team members, question each other back and forth and build together towards an idea.
Because everyone is biased, and when it comes to the actual truth for anything, actually, the truth is always somewhere in the middle :)…
Do not forget, alongside communicating your valuation football field, to communicate your future forecast of the business - what are your assumptions exactly? How is growth going to look like, how is EBITDA going to increase, are certain margins going to improve? If yes, how and how much? If not, why?
Bare Bones Example of a Netflix Short: This is a proposal that was prepared back in February after the fact that Bill Ackman (a distinguished hedge fund investor opened a large stake into the company. This brought the company to our attention and as we dived deeper into it we built out our investment thesis. It is important to identify the narrative that public markets are attributing to a company. For Netflix, the consensus narrative was that they would continue growing subscribers exponentially, while contrary to the broader market we were convinced in a red ocean market (a market where any growth in market share happens at the expense of that of others). Therefore, we wanted to make a bet on them not being able to grow their user base, and prior to that we had identified that this is the #1 critical factor driving the valuation of the company. You can review a simplified example proposal here:
5. Catalysts
What are the events throughout your investment horizon that will cause the market to “realise” this pricing imperfection? If you are investing over the longer term, this still applies. Key events may include new product launches, mergers and acquisitions, an earnings announcement, clinical trial results, political events, or any particular macro-event that you can directly translate to how it is going to impact the market etc. You have to look for events that provide a convincing case that those are indeed catalysts that will drive future cash flows at a good growth rate.
Since we are operating on a relatively short time frame, if specific events will not change the company’s stock price for another 3-5 years, the company may be a bad pick for the annual investment competition. But if you want to build a strong case at the stock pitch competition on the 31st… why not :)
There are 2 types of catalysts:
“Hard catalysts” - events that are definitely going to happen and will produce a specific result: earnings report, the announced outcome of a clinical trial, or the announced acquisition of a smaller company.
“Soft catalysts” are potential events that may or may not happen and where the time frame is less certain, such as planned international expansion, a change in market share, or the launch of a future competitive product with an unknown release date (e.g. Apple’s headset metaverse product).
You should prioritize “hard catalysts”, but it is also alright to use a mix of both, as in the Netflix example.
6. Risks and how to mitigate them
In spite of all of the research that one prepares, down to the most basic level, unless you are Nostradamus, you are making a bet. Therefore, it is also very important to understand the risks, and give 2-3 company specific reasons why your investment thesis may be wrong - is it that the company doesn’t have a defensible technology, the business model is not scalable, competition is too fierce, lack of available capital, etc. And even if you are wrong, can you suggest strategies through which you can mitigate your losses.
The truth is that you need to be following industries or companies already to have a decent shot at wrapping up a stock pitch with the degree of precision and insight described above.
Another key lesson I’ve learned throughout this and last year is that as strong as your conviction is, and as solid that the research behind a security is, the truth always ends up being somewhere in the middle of your beliefs and that of others who take a different standpoint.
7. Have an exit strategy
As solid as a thesis for investing in a security can be, there needs to be a definite exit strategy that has a clear implementation, whether it is that it meets a given target price, a catalyst materializes, technical price indicators indicate sell, etc. Without a clear exit plan in terms of at what point we have to exit the position, the pitch will not be complete.