I am currently reading a book called “Buffett And Beyond: Uncovering The Secret Ratio For Superior Stock Selection” by Dr Joseph Belmonte. Inside I was introduced to the 4 stages of a business life cycle (which is apparently a basic topic that any business school students would have learnt about) and related things to consider when looking at companies in each stage.
1st Stage: Start-up Stage
This is the stage where a business would experience extremely fast growth but statistically, not many businesses make it past this stage. In this stage, (preferably)all of the resources earned (capital) are reinvested into the growth of the company and thus most companies in this stage would not give out dividends. Hence, in line with our consistent growth model, only the companies that are able to maintain a consistent growth for at least 7 to 10 years would pass our growth criterion.
2nd Stage: Consolidation Stage
Generally, growth of the business slows down from the previous stage but is still relatively faster than the general economy. In this stage, as the company is finding it harder and harder to maintain the growth rate from the previous stage (possibly due to saturation or dwindling investment opportunities), it is not uncommon for companies to begin paying dividends back to the shareholders. In general, companies in this stage that pays dividends often have very low dividend yields since most of their capital is reinvested into the company’s growth. It is worth noting that companies in this stage may seem harder to evaluate since they would experience a declining (albeit positive) growth rate yet do not have a long enough dividend history to postulate future growth trends.
3rd Stage: Maturity Stage
In this stage, the growth of the company would slow down to be about equal with the general economy and often, businesses in this stage starts to pay out more dividends as new investment opportunities become harder and harder to find. However, a positive growth rate and a positive dividend payment track record are strong signals that the company’s fundamentals remain strong. When evaluating the returns on such companies, it is likely that the stock price would not fluctuate too much over the long term but such companies are well-fitted into an income growth portfolio.
4th Stage: Decline Stage
This stage is usually where the business is finding it increasingly difficult to compete with newer companies and are hence facing decreasing and possibly negative growth. Avoiding companies in this stage is a given.
Despite my background in Economics, I have not been introduced to this idea and learning it now makes me realise how incredibly obvious it is that there should be such distinctions. Nevertheless, this is possibly a point of consideration in future when evaluating the growth prospects of a company.