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A solid business may not be a great investment, but you can often make a very profitable investment in an average business. A lot of investors don't fully understand the difference between a business and a stock, and that confusion can cost them money.
A case in point: Microsoft. The company's annual sales have almost tripled since 2000 and its profit has roughly doubled, yet its share price has declined.
The trouble is that eager investors often pay high multiples for strong companies. The math can be devastating. If you bought stock in a great business five years ago at 15 times its annual earnings per share, which is reasonable, you could have lost money if the market decided that nine times was more appropriate, even if earnings grew nicely.
Valuation is everything. With that in mind, we cast an eye on this year's Top 1000 companies and ask: Are you likely to find better investments among the top 10, or the bottom 10?
The top dog, Royal Bank, produced a total return to shareholders (including share price gain and dividends) of about 7% over the past year. But if you consider how volatile bank shares have been in recent years, that return isn't great. By contrast, Bell Aliant, No. 1000, would have earned you close to 20%, even though it posted a massive loss for 2010.
So what gives? First, timing is everything. Royal has been a much better investment over the long term. Also, Bell Aliant's huge 2010 loss is a bit misleading, because it was the result of a write-off. The company is not bleeding cash, as evidenced by its healthy dividend. It doesn't really belong in the bottom 10.
Among the top 10, the Big Five banks have been great investments over time. But some money managers argue that the banks' golden age is over. Rob Wessell, a bank analyst who now runs Hamilton Capital Partners, which specializes in buying and selling bank shares, says that tax rate reductions, interest rate cuts and favourable regulations helped the banks immensely. But don't expect their shares to do as well in the future.
The two energy giants in the top 10-Suncor and Imperial-posted total shareholder returns of more than 20% over the past year. It's hard to argue with that, especially when two of the energy firms in the bottom 10-Compton Petroleum and Pace Oil and Gas-lost investors a lot of money. Provident Energy's shares, on the other hand, easily outperformed Suncor and Imperial.
As for the rest of the top 10, Research In Motion has been a dog of an investment lately, despite being profitable. Possible upsides: It's now a cheap stock and likely to be taken over or shaken up by an activist shareholder. BCE? It's been an amazing stock over the past year, but better than its underlying business suggests. It won't wow investors with more cost cuts, although it will probably continue to reward them with dividends and a little capital appreciation.
Better results might be found near the bottom of the Top 1000. That section often changes a lot from year to year. Manulife, for example, plummeted to No. 997 from No. 18, largely because of questionable decisions its executives made just before the 2008-09 financial crisis. But some analysts say that the company has put its troubles behind it. Valeant Pharmaceuticals, which ranks 991, has more than tripled over the past year and is still firing on all cylinders.
If you search slightly above the bottom 10, other plays look promising. Onex Corp., at No. 953, often posts lumpy results, but it has delivered a 36% return to shareholders over the past year. Intertape Polymer, No. 958, which I know well and own, is a bigger risk. But it could be poised for a turnaround, and insiders have been buying.
In short, although perennial big earners can do right by investors, it often pays to search through the supposed rubbish bin for real bargains.
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See the full top 1000 table here
THE TOP 10
(1 year, Share price gain/loss %)
1 Royal Bank of Canada 3.6 2 Toronto-Dominion Bank 16.0 3 Bank of Nova Scotia 22.2 4 Suncor Energy 26.1 5 Research In Motion -32.0 6 Barrick Gold 5.2 7 Bank of Montreal -0.5 8 CIBC 12.2 9 BCE Inc. 26.7 10 Imperial Oil 18.4
THE BOTTOM 10
991 Valeant Pharmaceuticals 232.1 992 Ivanhoe Mines 74.9 993 Nordion Inc. 20.1 994 Opti Canada -88.8 995 Compton Petroleum -75.3 996 Provident Energy 38.3 997 Manulife Financial -4.6 998 Catalyst Paper -10.5 999 Pace Oil and Gas -16.6 1000 Bell Aliant 11.1