Our Approach

The best way to make money on a stock is to underpay for it. This is the thinking behind the Northwest investment approach. Northwest is dedicated to seeking out the intrinsic value of companies, and invest when a particular company stock is much lower than this value.

 How can an investor determine intrinsic value? By:

    •          Determining how much cash the company will generate and the return on capital for shareholders; all financial values are ultimately determined by cash generation.

    •         Seeking out companies with a competitive advantage in their industry.

    •         Analyzing compensation of management. Are they motivated to act in the best interest of shareholders?

These three steps help ascertain what companies are worth, and then they are purchased when their stock prices are significantly lower than that value.

THE DIAGONAL LINE

The perception of value investing has evolved to denote investing in companies that are cheaply priced relative to their current financial results and at a level less than what is believed can be attained later. This style is known as "price-based" investing and does not factor into the Northwest definition of intrinsic value or into stock selection.

To Northwest, a company that appears expensive based on current results may even be a better value than one that appears cheap. This could be because it has either a better business position and is less likely to be influenced by competitive pressures; or has a better business opportunity and therefore better growth potential. Identifying high quality companies with strong growth potential is the first consideration, their attractiveness relative to price valuation in the marketplace is the second.

In theory, if the intrinsic value of every company in the investing universe were known, one could plot the diagonal line in Figure A. This line shows that as the quality and growth potential of the companies increase, so does the value of each company in relation to its current financial performance (commonly measured by price/earning, price/sales, or other appropriate ratios).

The importance of this line is not its exact location, but rather the concept behind it. As value investors, Northwest seeks to invest below the diagonal line. In the long term, stock prices move toward the diagonal line. Northwest pursues the additional question of whether a stock might move further below the line than its current price, to avoid investing too far from the best available price. However, we will not invest in a company that is above the diagonal line in the belief that some investor will pay even more money for it later.

LIMITATIONS OF BENCHMARKS

 In Figure A note that the style universes are drawn differently than the diagonal line. Those universes are determined primarily by how expensive a company is compared to current financial results. As a result, the value universe represents everything below the horizontal line (i.e. inexpensive) and the growth universe represents everything above the horizontal line (i.e. expensive). While this philosophy may on occasion, take Northwest to parts of the growth universe, in ordinary circumstances Northwest portfolios will have a substantial tilt toward the value universe.

IDENTIFYING DISCOUNTS

 The approach works because stocks do not necessarily trade for exactly what they are worth. So it is important to understand why they might trade differently, at least in the short term. There are two principal reasons.

 First, determining intrinsic value is a difficult task. Two different investors may compute different intrinsic values for the same company, whether because of a disparity in their abilities, their biases or their interpretation of available information. This is why Northwest placed a high priority on securing portfolio advisors that are among the best in the world at determining the intrinsic value of a company.

LOOKING AHEAD

 It is Northwest's commitment to stay disciplined to our investment style. Because investors may incorrectly compute intrinsic values or are only secondarily concerned with intrinsic values at all, market forces can drive stocks to significant discounts or premiums to what they are truly worth on a long-term basis. These discounts create great opportunities for patient investors who can correctly determine intrinsic value.