Asking the right questions is the first step towards finding your next multi-bagger
As a microcap investor, you’re part of a unique breed that is willing to dig deep to find unique growth opportunities
To get an edge in the market, you should be taking advantage of the asymmetry of information
You’ll discover new questions to ask and why they matter to you as a microcap investor
Have you ever wondered what those magic questions were to find your next multi-bagger?
Me too, who wouldn’t? Over the past couple of years, I’ve been interviewing and working with management teams to carve out alpha generating questions.
I’m not promising you’ll find a multi-bagger with JUST these questions. But I hope I can get you at least a bit closer to understanding what to ask and how to interpret responses.
1. What are you doing to grow 10x?
This may seem like a straightforward question. But it isn’t. A question like this is important to ask so you can see a couple of things:
- Does management want to grow 10x?
- What is the thought process behind how their company will grow?
- How credible do they sound?
- How solid is their plan?
From experience, you want to get a feel for how good of a capital allocator they are. I’ve been in countless meetings where CEOs talk about spending more on sales and marketing to grow.
This isn’t adequate. There is no substance in saying you’ll spend money. Give me the specifics. CEOs need to provide credible examples of how their company will turn $1 into $10.
You’ll find that this revolves around their understanding of customer acquisition costs, lifetime values, and acquisition channels companies are using. You’ll want to see if they have a good grasp and have created their money printing equation.
Now, the fun part is for you to discover. What’s the multiplier on that equation?
2. How will you finance your growth?
This is always a juicy one. It’s also a great follow-up to the previous question.
Companies that will grow multi-fold need capital to do it. Small companies are delicate when it comes to capital as they will not get as favorable of terms as multi-nationals.
Ideally, you want microcaps that can finance growth through cash flows. If they can’t, the next best option is through cheap, non-dilutive, debt. You want to avoid companies issuing lots of cheap paper (equity).
Cut through the noise and get a feel for their knowledge of capital markets
Microcap companies have small, humble, beginnings. Many times they’re run by the founder who may not be the most experienced with accessing capital or debt markets.
A CEO who has explored financings would be able to provide a good answer. He can give you an idea of what the capital requirements are in the short-term and options he’s been looking at.
Firstly, when a microcap company needs to raise money, they will need to market to retail investors and institutions.
As a result of these efforts, the receptiveness of investors determines financing options. Options include equity financing, convertible debentures, etc.
You want to determine if management is aware and prepared for nailing these fine details.
Not being able to get favorable financing or delays in it will affect the company’s ability to succeed. Which will hurt your investment performance.
3. What are you the best in the world at?
I’m a sucker for this question. This is Jim Collins’ idea and he inspired me to think about a company’s ability to dominate and their moats. You can read more about this in Jim’s book Good to Great.
“A company that is the best in the world at something valuable (in a growing industry) is a recipe for success.”
Pay attention to what they say and how long it takes for them to say it.
Every large company started as a small company. In order to grow from a microcap to a smallcap and even larger, the company should be able to position itself strongly in a niche.
Hearing a CEO talk about how they’ll be the best in the world in cloud computing with limited resources is a red flag. Successful companies start out with a filtered down market and then become more general.
This is what makes you the best in the world early on.
Classic examples of this include:
- An online store that only has books, which then sells other products
- DVD rentals through the mail, which then does online movie streaming
- Luxury electric cars, which then sells mainstream electric cars
4. Can you describe your company in a sentence?
A story is everything in the microcap world. We’re looking at can the CEO attract your attention with the first thing that comes out of their mouth.
I like this question because it puts most CEOs on the spot. You can tell how much they have to think and their ability to put it into a few words.
Let’s face it. People are lazy and you need to get your points across quickly. A microcap is also expected to use this sentence everywhere, such as press releases, conferences, and marketing materials.
Without an effective story, a microcap will struggle to gain investor interest
Without an effective story, a microcap will struggle to gain investor interest. This will affect stock performance as it’s intrinsic value will never become realized. New investor interest has to come in and help drive demand for shares.
It’s all about communications.
These small companies are in a precarious situation where often times they never trade or are thinly traded.
Working in investor relations, I’ve come to realize there needs to be more than business performance. Equally important is management’s ability to market the company and how receptive audiences are to the industry.
These are determining factors in your individual company returns.
5. What contributed to your success?
Lastly, you want to look for two things: self-awareness and humility.
I’ve found time and time again that management teams who succeed are self-aware of their actions and using it as a basis to improve.
In addition, they show traits of humility by giving credit to their teams and recognizing that luck has a factor in the company’s success to date.
You don’t want a CEO that’s not able to learn from their mistakes.
You don’t want a CEO that’s egotistical.
You don’t want a CEO who can’t give credit when it’s due.
You don’t want a CEO that’s overly promotional.
They will struggle to see the big picture. This will be a company that will struggle to sustain itself in the long term.
What are some of your favorite questions?
Thanks for tuning in and hopefully you were able to get inspired from these questions. My goal is for you to be able to think of new questions and come better prepared for management meetings.
There’s a lot of fun in investing in microcaps. It’s an opportunity to get in the trenches and really unpack unique investments yourself.
With great power comes great responsibility. Use this power wisely and let’s uncover the next generation of megacaps!
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