Understand the Business
model
(How the business makes money?)
Understanding the business model of the company is an important step in an investor-type mindset. The business model means how the company makes money.
What's a business model? You are evaluating a company as a possible investment then you learn exactly how the company makes its money, after knowing the business model then you can think about how attractive and profitable that business model is. Understanding the business model gives you confidence in your investment decisions. Knowing the business model inside out should provide you some level of certainty and reduce the risk when purchasing the stock.
Basically, there are two types of the company either they sell products or provide services. Fundamentally
you must understand the inputs used to produce final products (or services)
sold to the customers. identify the largest product or service contributing to the revenue and earnings of a business segment. Your job as an investor is to:
- Simply understand the revenues and earnings of a company that comes from products or services.
- Is the customer largely a single or concentrated customer base?
- You also know which markets the company is serving geographically be it locally or internationally.
- How big the market share is based on its core business.
- Know the invested capital is directed towards and how it is returned to shareholders in the form of profits.
Evaluating the business
The world's most successful investor Warren Buffets suggests some criteria you should remember. They are:
- Simple business: easy to understand how the company makes money and where the money comes from. Simple business means it is an easy-to-understand business that should not experience major changes – is it 10 or 20 years later
- Consistent operating history
- Favorable long-term prospects
Finding a
company’s competitive advantage is crucial to know whether the company will
be able to sustain its profitability.
Check the company's competitive advantage in form of margin. By comparing its
margin with its competitors it is easy to tell which company (within the same
industry) has better profitability?
Finding the future growth drivers of the company
and the risks associated with the business.
Disclaimer: This blog is exclusively for educational purposes and does not provide any advice/tips on Investment or recommend buying and selling any stock
