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The Truth Behind Business Performance vs Stock Performance

By Jae Jun. Originally published at ValueWalk.

If I’d had the slightest idea of what lay ahead of me when I joined up with Chrysler, I wouldn’t have gone over there for all the money in the world. It’s a good thing God doesn’t let you look at a year or two into the future, or you might be sorely tempted to shoot yourself. But He’s a charitable Lord: He only lets you see one day at a time. When times get tough, there’s no choice except to take a deep breath, carry on, and do the best you can. – Lee Iacocca

Wouldn’t it be great to have the ability to see into the future? This ability would most certainly provide instant success. It sure would save us a lot of pain and frustration. You would never have to face any of life’s challenges. You would always choose the least restrictive path to success. But would escaping life’s obstacles really be living? No, it probably wouldn’t. Like Iacocca said above, it’s good we have a charitable Lord, that doesn’t let us see the future. It forces us to work our hardest today, in hopes that tomorrow will be better.

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Henry Singleton

If you’ve read other articles I’ve written you know I like to ask thought provoking questions. Sometimes the questions are meant to test the quality of a business, and sometimes it’s just meant for preparation. Let me ask you another question. It’s a question that is a great one to ask at some nerdy stock value investing dinner or cocktail reception.

If you knew a stock you owned today wasn’t going to go up for the next 12 months, would you still own it today?

For many investors or traders this might seem like a completely asinine question. Why would anyone choose to hold something they knew wouldn’t go up for 12-months? The answer is because the long-term reward is worth the short-term pain and frustration.

In, The Art of Holding, I mentioned that great long-term investors can disconnect emotion from investment decisions and can differentiate business performance from stock performance. The ability to differentiate or disconnect business performance from stock performance is extremely difficult because it’s our human nature to focus on the thing that is moving. We anchor ourselves to stock prices instead of the business.

In late 2001, Neogen (NEOG) was a $100 million market cap microcap company. From 2001 to 2007, the company grew revenues from $35 million to $86 million and earnings from $3 million to $9 million. Even though the fundamentals of the business were strong, the stock was extremely volatile. The stock price had three drawdowns of close to 50% over this time period. No Pain No Gain. And it would take six years for the stock to make a sustainable move higher. Only if you were focused on the business and believed in the intelligent fanatic vision of the co-founder James Herbert, who founded the company in 1981 by way of a $50,000 investment from Michigan State University, would you have made it through this period.

Business Performance vs Stock Performance

Today, Neogen is a $2.4 billion market cap company. Its shares have appreciated 25x since 2001 (24% CAGR), and 100x since 1990 (19% CAGR). The cool thing is it’s still a relatively small company by public company standards.

Business Performance vs Stock Performance

There are hundreds of other public companies which had similar multi-year periods where stock performance didn’t align with business performance. Most multi-baggers will have long periods of stagnation as fundamentals backfill, old shareholders get bored, and new shareholders enter. Naysayers to stock picking will say it would have been impossible to hold Neogen or one of these other companies through a multi-year period of ill performance and volatility. I think it would be impossible too if you focus on the wrong thing….the stock price. It is achievable if you focus on the business.

During periods of stock price consolidation and volatility an investor is forced to dig deep, form conviction, and really understand the business. If the business continues to perform, this conviction will come in handy when the stock ultimately ascends. Many financial professionals love to point to “luck” or “naivety” on how someone could actually hold something that goes up 5-10-20-50x or more. It’s easier for them to rationalize that someone was just lucky or too dumb to know any better to sell earlier. Yes, there are certainly those that fall into this camp, but there is an equal or greater portion of successful investors that hold on because they know what they own.

If you knew a stock you owned today wasn’t going to go up for the next 12 months, would you still own it today?

The correct answer: If it’s still a great business that is growing and the story hasn’t changed… Absolutely. I’m willing to wait for my pot of gold.

I don’t want to spend my time trying to earn a lot of little profits. I want very, very big profits that I’m ready to wait for. – Phil Fisher

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This article was originally published on MicroCapClub.com and is reprinted here with MicroCapClub’s permission.  MicroCapClub is an exclusive forum for experienced microcap investors focused on microcap companies (sub $300m market cap) trading on United States and Canadian markets. © 2016 MicroCapClub LLC

Article by Ian Cassel, Old School Value

About the Author

Ian has been investing in microcaps for 15 years and has been a full time microcap investor since 2008. Ian looks to invest in great management teams running great businesses with a moat. He tries to invest in the best 5-6-7 companies he can find at all times. Ian founded MicroCapClub in 2011 to be a place for “real” and experienced investors in the microcap space to share ideas and learn from one another. When Ian isn’t researching stocks or administering MicroCapClub, you can find him reading, golfing, or shopping at Costco with his wife.

The post The Truth Behind Business Performance vs Stock Performance appeared first on ValueWalk.

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