Factor 1 : How to evaluate the Promoter quality?

Its a million dollar question! Is there any collective mechanism to ensure promoter quality of a company with cent percent guarantee?  The obvious answer is NO.

That’s why including great investors like Rakesh Jhunjhunwala, Ramesh Damani  and others made mistakes while selecting few odd companies.

So I would like to quote a famous quote from one of the most famous American President, before discussing further.

You can fool all the people some of the time, and some of the people all the time, but you cannot fool all the people all the time.

Abraham Lincoln

From the above quote, If we can escape from the second group ( i.e. some of the people becoming fools all the time ), our share market success is bound to happen; and eventually we can differentiate between good, average and bad promoters.

In general, we may be able to classify the promoters in to four groups.

All the promoters comes to share market for collecting money from the public, but the inherent reason behind the collection of the money and future dealings will be different for each one. Based on that reasons and actions, I have made these classifications.

	Listing Objective	Profit Distribution	Other Remarks
Group 1	To create / improve a business	Shares equally among all including Public
Group 2	To create / improve a business	Shares only a minor portion with Public
Group 3	To create / improve a business	Swallow all the profit either by diverting it in to unnecessary investments or by showing operational loss by fudging accounts.	They seldom throw few bones to satisfy retailers.
Group 4	Just to collect money by fooling public, by showing a company which only exist in paper, with the help of photoshop and website!	Some time they show profits, only to rig the share price – normally during a bull phase - to ultimately pump and dump!	They continue as a listed entity to make more money by looting more people by applying lot of frauds or joining hands with operators.

In the above groups, group 1 is ideal, but at the same time very rare too. So as an investor, our aim should be to find promoters of Group 1 or at-least better half of group 2.

Note: Promoters are humans and are bound with human nature. So the migration from one group to another is possible over time (or generations) for either good or bad.

The only remedy for us as an investor is to be vigilant and analyze the latest happenings inside a company at-least quarterly. And also be ready to ask few following key questions yourself and try to find the answers in a particular context.

Key Questions

Q.		Whether the company dilutes equity frequently with out any solid reasons?
Q.		Whether the company issues lot of ADR or GDR to dubious foreign parties and later, after converting it as shares, the same is dumped to Indian public?
Q.		Company is showing consistent growth and profit, but how the money is utilized?
Q.		Whether the company invests lot of money in private / unlisted (and dubious) companies?
Q.		What is the dividend distribution ratio while considering the net profit?
Q.		Whether the promoter sells the shares in open market while preaching great future and giving advertisement on media?
Q.		Percentage of pledged shares and possible reasons behind the pledge.
Q.		Whether the company does unnecessary gimmicks like issuing bonus or FaceValue split etc while the share price is quoting reasonably low?
Q.		Trying to get frequent attention by vague or illogical news?
Q.		While all other companies in the same sector show major trend reversal and operational profit; whether this company still shows operational loss?
Q.		Whether the same promoters earlier promoted any dubious companies which eventually winded up?
Q.		Do there exist any cheating /default cases against the promoters?

[These are the few questions I got from my experience. It would be my pleasure to add any number of questions to this list, if needed, if provided in the comment column. ]

If there arise few answers which sheds doubt on promoter quality please stay away, since there is an entire universe of companies (more than 4000), out of which we can select for investing.

Even if we miss 1 or 2 genuine multibaggers (although possibility is very low) due to this vigilance, there is no need to worry at all, as based on the theory that You Can’t Kiss Every Pretty Girl in the world.

To sum up this section I would like to give a quote from our Legendary investor.

“The difference between successful people and very successful people is that very successful people say “no” to almost everything.”

― Warren Buffett

This is part 1 of series in 6 Most important factors to consider while searching for a Multibagger.