Healthy Things Grow: Determining a Company's Fair Value

Across all of DCM’s investment strategies, we emphasize the benefits of healthy growth. A company’s fair value is determined by the future cash flows it is expected to generate. Therefore, a company steadily growing its cash flow should see an increase in its stock price over time. This is a simple concept, but the challenge lies in finding the companies we think can grow their fundamentals faster than average. Through our research efforts, we have found three factors we believe are reliable hallmarks of healthy growth. They are: Competitive Advantage, Momentum, and Predictability.

For a company to consistently grow, it needs to have an edge over its competition. When evaluating companies, we look for signs that they are doing something truly unique. For example, Starbucks’ image, brand recognition, and technology are unmatched by rivals. With such advantages, the company is well positioned to take business from peers, open more stores, and push new products. We can see the potential for growth exists.

Once we have established that a company has a foundation for growth, we need to see that the fundamentals are actually increasing and that the market notices it. We call this factor Momentum. When we see fundamentals grow, it verifies that a company has been able to follow through on its growth opportunities. If accompanied by a rise in stock price, it is a sign that the market believes the company is creating long-term value.

Last, we need to see that the company has historically had a strong correlation between fundamental growth and price appreciation. We call this factor Predictability. This ensures that the recent action is not just a fluke. Instead, the company has a long record of executing its growth strategy and being rewarded with a higher stock price. With a history like this, we have greater confidence in the company’s trajectory.

This report was prepared by Donaldson Capital Management, LLC, a federally registered investment adviser under the Investment Advisers Act of 1940. Registration as an investment adviser does not imply a certain level of skill or training. The oral and written communications of an adviser provide you with information about which you determine to hire or retain an adviser. Information in these materials are from sources Donaldson Capital Management, LLC deems reliable, however we do not attest to their accuracy.

An index is a portfolio of specific securities, the performance of which is often used as a benchmark in judging the relative performance to certain asset classes. Indexes are unmanaged portfolios and investors cannot invest directly in an index. An index does not charge management fees or brokerage expenses, and no such fees or expenses were deducted from the performance shown. Past performance is not a guarantee of future results. The mention of specific securities and sectors illustrates the application of our investment approach only and is not to be considered a recommendation by Donaldson Capital Management, LLC.

S&P 500: Standard & Poor’s (S&P) 500 Index. The S&P 500 Index is an unmanaged, capitalization-weighted index designed to measure the performance of the broad U.S. economy through changes in the aggregate market value of 500 stocks representing all major industries.