The Importance of Trend

For those of you who’ve followed the blog for a while: I hope you didn’t choke on your coffee when you read the headline. I often mention that value investors don't follow trends. I can assure you, that this blog post is not about what will be trendy in the future, but the importance of a trend and looking back in time to spot trends in a company’s financials. As investors we find a company that we are excited to be a shareholder of and then we investigate the business to ensure that it’s a wonderful business. A healthy business that we want to invest our hard-earned money in. And to get to that level of certainty, we look to the past to determine the probabilities of this business being healthy in the future. To do that the trend is important. 

We have 3 important numbers that we track to determine if a business is healthy or sickly.

  • ROIC (Return on Invested Capital)
  • ROE (Return on Equity)
  • Profit Margin

If you need a refresher on what is behind these numbers, check this article that explains the 3 important numbers and you can even dive even more into profit margins here in a recent article. Now, let’s get back to the topic of trends! 

You want to go back to the data of the company’s annual reports and track the trend of the Profit Margin, ROE, ROIC. Some companies write these numbers in the annual report and others don’t. Use the search functionality in the document to quickly scan if it’s in there. You find the annual report in the investor relations section on the company’s website. There are also certain websites that track these numbers. For example, Gurufocus.com is a good site to use to find data from the past 5 years. We want 10 years of data though, so you might have to calculate it yourself or do some more searching. In my investing course I walk through how to do it because it’s not that difficult – once you’ve learnt where to look and how to do, it’s super easy and takes only a few minutes. 

The importance of a trend is that you track these numbers and though the past doesn’t necessarily say anything about the future – if these numbers show a steady upwards trend, it is likely that this trend will continue in the future. It doesn’t have to be a steep trend but just a stable upwards trend year on year. Note that during the first COVID year there could be discrepancies and in the annual report they will write what happened. If the trend is declining year on year, do you think that it is a good thing or a bad thing? If you answered bad thing you’re right – we don’t want to see these numbers steadily decline for 10 years.

If you find a company with a stable upwards trend you’ve likely found yourself a wonderful business.

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