What Are the Numbers Telling You?
Finding an investment's true story through the clues that numbers reveal
For many of us, the numbers of investing are a mystery. They may even appear intimidating and mind numbing. The reality, however, is that they are just the opposite! They are our clues for solving the mystery.
Every investment is a story. Every time someone approaches you to invest money in his or her particular investment, whatever it may be, they will tell you that story.
"This company has just discovered the cure for cancer and will be coming out with its new wonder product in five months. The stock will explode!"
"This 24-unit apartment building is where the growth in Texas is moving. Boeing is opening a new plant there next year, so the demand for rentals will be extremely high."
"My partner and I have created a new clothing line geared for women at colleges and universities. We've been in the fashion world for 25 years. So far, 30 of the major universities have picked up our line. We have verbal agreements that that number will double in the next six months."
Where people get into trouble with investments is when they act upon the story but without getting to the facts that the numbers tell. The numbers may tell the same story or a different story. It's up to you to uncover the true story and to solve the mystery.
Numbers As Clues
Consider every investment you pursue as a mystery to be solved. The numbers that make up that investment's story by themselves means nothing. I never see numbers from an investment analysis as just numbers. Instead, I look at the numbers as clues to guide me to discovering the truth about the investment. What is the investment? How is it really performing? How can we expect it to perform in the future?
Many investment pitches show you pretty brochures. They give you lots of facts about the industry-not the specific company, city, or property. Here's a general rule: The bigger the brochure, the worse the deal.
If the offering is not clear and concise, then chances are, the investment is anything but great. Don't baffle me with your BS (blue sky).
Finding a good deal in the numbers
Imagine you are told a story like this: "For the past two years, my business sold $5,000 worth of product. My projection for this next year, with your investment money, is that we will sell $100,000 worth of product!"
At that point, you have only one question to ask, "How?" Everyone knows you do not go from $5,000 to $100,000 without a strong plan in place. If she can't show you how she will get there, then the $100,000 prediction is meaningless.
If an investment opportunity is a good deal, then:
Show me the numbers-past operating numbers, as well as the worst- and best-case scenario of future numbers.
Explain why and how this investment will increase in value in the future.
Give me the expected rate of return on the money I invest in this investment.
The purpose of the numbers is for you to identify the red flags, the possible inconsistencies, of what you are being told. The numbers help you discover what the facts really are and raise the right questions.
Untangling the Numbers
Let's say you are considering the purchase of a rental duplex. The seller tells you that the property has very low operating expenses. That sounds like a good thing, right?
You review last year's numbers and see that the owner has indeed spent very little on maintenance and repairs for this duplex. It raises a question (could be a clue) in your mind, so you dig a little deeper. The owner is telling you part of the truth. Yes, it's true his expenses to maintain the property were very low. Upon further inspection, however, what he did not tell you is that, because he has spent so little to maintain the property, there are many repairs that need to be done to the building to keep it operating. His maintenance-and-repair expenses are low, but yours, especially when you first buy it, will be very high.
The numbers are just as important if you are purchasing shares of stock in a publicly traded company. Most people buy and sell stocks based upon rumors, tips, and current news. When you buy shares of stock in a company, you own a piece of that company. If you are going to invest in a company, wouldn't you want to review its past performance numbers and future projections, just as you would a privately-held company?
The more comfortable you become through practice and experience at understanding the numbers of any investment, the greater success you will have as an investor.