Newsletter November 12, 2006

InvestorsFriend Inc. Newsletter November 12, 2006

Free Stock Research Report

The August 16, 2006 edition of this free newsletter made extensive mention of Tim Hortons and suggested that buying it at that time (the price was $27.64) was likely to work out well. We followed that up on August 18 by sending subscribers to this free newsletter a free report on Tim Hortons, by which time the stock had jumped to $29.17. This Friday it closed at $33.61, some 21.6% above the August 16 price and 15.2% above the August 18 price. That’s a pretty nice return in a short period of time.

For this edition of the newsletter we are providing you with a link to a free report on Canadian National Railway which closed on Friday at $54.18. We recently rated it a (higher) Buy at $52.31. There are no guarantees, but we expect the company to continue to do well over the years.

Your free report is at:

Where’s the Competition?

By all accounts total corporate profits in North America are at a record level. Total corporate earnings as a percentage of GDP are at higher than normal levels.

In theory, competition works to keep a damper on earnings. In a highly competitive industry (such as airlines) few companies make adequate money, no large company makes really high returns on equity, and many marginal companies lose money.

I believe that one explanation for today’s higher average profit levels is the ongoing switch to a more service oriented economy. There appears to be intense competition in commodity manufactured goods like (most) automobiles, most electronic products, most clothing and many other basic consumer items.

Some services like airline travel are also subject to intense competition.

But many services may be protected from competition through, the difficulty of comparing the quality level, simple inertia, network affects and high switching costs. For example with cell phones it is a big hassle to switch providers. Even with credit cards it is somewhat of a hassle. With many software programs there are high switching costs associated with learning new software. With software like Microsoft Excel and Word there also network affects – few people want to switch away from the most popular product. Therefore in many services once an incumbent is well entrenched then it finds itself in a position where is is somewhat insulated from competition.

In commodities, we normally expect profits to be low due to competition. At the moment however, apparent shortages of commodities like oil, natural gas, gold and many others have driven profits to record levels.

Whatever the reason is, corporate profits are very high in many industries. As an investor it makes sense to focus on those industries, and particularly the companies that seem to have the ability to sustain high profits for the long term.

Understanding the Stock Market

When you make money in the stock market, that money may come from either other investors or from the customers of the business you bought. This is explained in detail in the following short article:

Don’t Accept Mediocre Returns

It has often been observed that the average mutual fund does not beat the market index. Similarly, it observed that the average stock picker does not beat the market index.

The above statements are true and it should be no surprise. Of course, the average investor can’t beat the market index. The market index IS the weighted average investor. And a huge percentage of the total market investments are professionally managed. So to a great extent the market index is pretty much defined by the average performance of mutual funds and other professionals.

So the above observations are really about as useful as observing that the average person is no smarter than – the average person!

People draw some very wrong conclusions from the statements above. Many conclude that there is no point to attempting to pick stocks given that on average the market cannot be beaten.

But just as some individuals are smarter or taller than average, some individuals will beat the market average. Not only that, but some individuals will beat the market average on a fairly consistent basis.

My view is that if you want to beat the market average it would be a good idea to start by learning the techniques and thinking of people who have in fact beaten the market average reliably in the past. That’s why I have studied the methods of many great investors.

As Warren Buffett has stated, it’s wonderful to compete in a game where most of your competitors have given up because they have been (wrongly) told it is impossible for them to win, except by chance.

Retailers and Charity Solicitations

Have you had the experience lately of making a purchase only to have the cashier ask if you would like to add a small donation to some worthy cause or other? Recently at Zellers I was asked if I wanted to donate the “club-Z” points from my purchase. The week before that it was Shoppers Drug Market asking for a  $1.00 for something or other. Eddie Bauer used to ask for a $1.00 to save a tree.

Personally, I think this is bad business. The reason is that it can make customers uncomfortable. In the case of Zellers it is absurd. Zellers is a discount store, a place that most customers go to to save money. I believe that asking a customer for a donation, even a gift of points, tends to catch the customer off guard. It also puts the customer in a bad position. In a small percentage of cases the customer might be glad to have the opportunity to donate, so that is a win-win position. In other cases the customer may grudgingly give feeling somewhat embarrassed into it. This is not good for business. In other cases the customer will say no, but may feel embarrassed about it. Generally people don’t like to say no and they will resent being put in that position. All of this just seems bad for business.

Personally, I have become a lot more generous with charities in the past few years. I even give money to so-called “pan-handlers” in the Street. I did so as recently as Friday. It’s a free country and I think they have a right to ask for money as long as they don’t do it in a threatening way. But being asked at a store bothers me. I am there as a customer, I expect to be thanked for my business, and not to be asked for a donation. There is a time and a place to make requests for charity. That time and place is not the check-out line.

I doubt that Wal-Mart would get into this sort of thing. They are too smart for that.

Great Companies of Canada

Warren Buffett has advised that he prefers to invest in dominant companies that have such a powerful position in the market that it would be almost impossible to unseat them from their positions. For example if you wanted to sell cola and compete against Coke, you could probably throw billions into marketing a new cola and not make much of a dent in the sales of Coke. (Selling other drinks might work, but good luck trying to sell some new cola against Coke). Other examples, might be the Disney theme parks. There is probably no chance of taking away Disney’s theme park customers.

Turning to Canada it is interesting to think about what companies we have that are world class and/or have almost unassailable customer loyalty.

Manulife Insurance comes to mind. It is a world class corporation that only gets 25% of its revenue from Canada. Further its customers tend to be very sticky. People do not switch life insurance providers very often.

In my view Tim Hortons has an unbeatable brand name. Even Starbucks is not about to make much of a dent in Tim’s business.

Canadian Tire is another one. When Wal-Mart came to Canada I worried about their impact on Canadian Tire. Apparently there was little impact. Canadian Tire has thrived despite Home Depot and the other big-box hardware stores. Canadians seem to shop there almost by automatic habit. Therefore it has a world class brand position.

Canadian National Railway may also qualify. Can you imagine trying to take market share from CN by building a competing railway? No matter how much money was available it seems unlikely that anyone could build new rail lines to compete against CN. CN faces competition from trucking and in some cases from other railroads. But I suspect many of its customers have little choice but to pay whatever rate CN demands.

The TSX Group also might fit Buffett’s criteria. With nearly a 100% market share as a stock exchange it is extremely unlikely that a competitor could un-seat it. Investors and listed companies will not move to a new stock exchange unless it has a lot of trading market share and liquidity which the new exchange won’t have until customers switch over. Therefore the TSX Group is virtually an unregulated monopoly – which explains its obscene profit levels.

Overall, though the list of Canadian companies with world-class levels of customer loyalty seems to be pretty short.


Shawn Allen
InvestorsFriend Inc.