We noticed a recent head­line that NASDAQ OMX (NDAQ — $21) has selected Morn­ing Star (MORN — $43) to pro­vide “Equity Research Pro­file Reports” for all their listed stocks.  Today there are more than 3,600 com­pa­nies listed and a large num­ber, let’s say 1,000 have no “research cov­er­age” today. The “pro­file reports” are planned to be four to five pages long and include a descrip­tion of the com­pany, a data “tearsheet” and an ana­lyst blurb on the indus­try that the com­pany is in.  There will be no fore­casts or buy/sell/hold recomen­da­tions.  So if we can para­phrase here the “report” con­sists of what you would get auto­mat­i­cally gen­er­ated from a ser­vice like Cap­i­talIQ or Bloomberg with an indus­try blurb writ­ten by a research ana­lyst with­out any indus­try expe­ri­ence and already “cov­er­ing” 20 com­pa­nies on aver­age. Maybe it will add some value for the com­pa­nies and/or investors but it’s hard to say.  Even free sites like Google Finance and Yahoo Finance pro­vide most of this infor­ma­tion now for free.  More focused sites like Seek­ing Alpha include more com­men­tary and analy­sis along with use­ful com­pany data like call tran­scripts. We prob­a­bly don’t have to say it but it sounds like a pile of use­less, mostly machine-generated infor­ma­tion to fur­ther clog the infor­ma­tion chan­nels that lead to real investors. There’s already a ton of this kind of thing going around and these reports can be seen in just about every place already. But to be more con­struc­tive we should spend some time instead on what con­sti­tutes a research report. There are some major sub-themes here we will cover in future posts but we will go through the first which the most basic and also look at com­pany cov­er­age reports. [We’re dust­ing off some of our Sound­View research train­ing mate­ri­als here!] First of all any pub­lished report tar­geted towards investors should have three things in it:

1. Infor­ma­tion — This is the foun­da­tion of your value add.  Infor­ma­tion pro­vides the evi­dence for impor­tant invest­ment con­clu­sions and with­out it, any­thing fur­ther is just opin­ion, not research.  The more pro­pri­etary or unknown, the more valu­able the infor­ma­tion is to investors.  Most peo­ple, even reports tend to know this.  Prac­tic­ing it is harder to do how­ever.  It takes work and time.  There are few short­cuts to make.  Deep indus­try expe­ri­ence and/or con­tacts cer­tainly help.
2. Invest­ment Rel­e­vance — Why should investors care?  The world is full of infor­ma­tion. There’s even lots that is pro­pri­etary or unknown. A research report high­lights infor­ma­tion that runs counter to con­sen­sus think­ing and investor expec­ta­tions and links it directly to a stock con­clu­sion.  Investors do not want to “fig­ure it out” so your research report must con­tain clear links between infor­ma­tion, invest­ment rel­e­vance and stock conclusions.
3. Impact — A research report should be writ­ten to cap­ti­vate and per­suade the reader about the infor­ma­tion, logic and con­clu­sions that the report is assert­ing.  A con­clu­sion and a point of view is essen­tial.  If there is no clear con­clu­sion that it makes more sense to go back to step one and gather more infor­ma­tion than to pub­lish the report.  (Sce­nar­ios are use­ful how­ever in cases were future devel­op­ments are unknow­able; espe­cially if each one is fol­lowed through to a full stock con­clu­sion.)  For a report to have impact the lead story should be clear.  If con­sen­sus on a com­pany expects declin­ing mar­gins and your infor­ma­tion sug­gests oth­er­wise, pack­age that clearly and unam­bigu­ously.  Go fur­ther and raise your fore­casts and earn­ings esti­mates for the com­pany as well.  Trans­late it all into a crisp, well-defined stock conclusion.

Because most auto­mat­i­cally gen­er­ated or “book report” type stock reports as we call them don’t actu­ally have any new infor­ma­tion in them, may or may not be invest­ment rel­e­vant and cer­tainly are not care­fully pack­aged for impact, they most cer­tainly do not fit our def­i­n­i­tion of what a research report should be.  Do they fit yours? Before we leave this post we’ll sug­gest at least the short ver­sion of what investors expect in a com­pany report. These are at least the major sec­tions that need to be included:

1. The Mar­ket: How big is it?  What key fac­tors are dri­ving (or will drive) demand? How fast is it grow­ing?  What’s the total address­able oppor­tu­nity? What fac­tors could cause mar­ket growth to speed up or slow down?
2. Com­pet­i­tive Dynam­ics:  Who are the com­peti­tors and what are their prod­ucts?  What bar­ri­ers to entry exist? Are there dif­fer­ent tech­nolo­gies, approaches or solu­tions being offered by com­pe­ti­tion.  What are the strengths, weak­nesses, oppor­tu­ni­ties and threats (SWOT) for the sub­ject com­pany and the key competitors?
3. Com­pany Busi­ness Strat­egy & Model:  How is the com­pany posi­tioned?  What is their go to mar­ket strat­egy?  What is the sales and dis­tri­b­u­tion model?  How do these come together in a finan­cial model for the com­pany.  Are there impor­tant bal­ance sheet, cash flow or account­ing issues?
4. Val­u­a­tion: We use intrin­sic val­u­a­tion (see related post) but investors also like to see an array of mul­ti­ples and com­par­isons to the most res­on­able other pub­lic “comps” in the space.  This sec­tion makes an explicit rat­ing need­less since the dif­fer­ence between cur­rent prices and your intrin­sic val­u­a­tion fig­ures are all an investor needs to know.

Research is always chang­ing but the basic ele­ments that any­one needs to make an invest­ment deci­sion stay pretty much the same.  If one intends to pub­lish mate­r­ial that can be con­sid­ered research then it should meet some impor­tant cri­te­ria.  Oth­er­wise it’s some­thing else.  I’m not sure what, but not research.