hi my name is Gary Machaerus i'm thechief investment officer and managing partner of silvering value partners inthis video i'm gonna talk about the first part of my investment process theydescribe in the owner's manual and that's idea generation so ideageneration really you know comes down to how do you
start with a wide universeand end up with a few things that you cannot really investigate in depth andthen also where those ideas coming from what are the sources so let's start thebeginning so as far as the way my generation funnel works I think it'sreally important to have a
very wide top of the funnel so in the first step ofthe three-step funnel if anything potentially qualifiers even at all itcomes in to the top of the funnel the second step is actually a very importantstep and that's where I eliminate ideas from that you know initial list they
theidea here is that many of those ideas made it because you know but maybe theydon't really qualify on further inspection so you don't want to spend aton of time doing research on something that's not that promising so in thesecond step you're looking to kill an idea you're looking
to eliminate it sothat you don't waste time pursuing ideas that you would no not invest in anywayfinally after the first two steps you know and then the third step you get asmall set of companies usually for me that's about a dozen and in that dozenor so that's where
you kind of want to spend a few maybe a couple of hours eachmaybe it is reading a transcript or reading a annual report getting a bettersense of the business to narrow down to the final two or three then I'm gonna beworking on an each cycle so those are
the three steps so number one is you'regonna include a lot of things that are potentially interesting step number twoyou're going to eliminate as many as possible if they don't meet in any ofthe criteria you know you must have criteria and the final step step threeis where are you
you're prioritizing them to find the most promisingcandidates to actually do the more in-depth work on now let's talk abouthow we're going to actually you know generality is what are thesources so I really believe it's important not to have what I call amonoculture of idea generation I mean so
that won't be a monoculture let's sayyou just do you know a screen and all your ideas come from that quantitativescreen that's fine but I think there's a good chance that you're missing a lot ofthings if that's all you look at so why what I do is I have
four differentsources for ideas the first source is what I call my high quality watch listit's really a group of companies that numbers a few hundred that I'veidentified as good companies good businesses that I watch they're notnecessarily inexpensive at the time I add them all to the list but
they'regood businesses I know they're good and I'm waiting for some price dislocationsome potential situation where now maybe they they might become undervalued soevery time I do this idea generation process I go to my inventory of thesehigh quality businesses and I check if there been any large price drops
or ifany of them look cheap now or anything going on with that watch list in orderto determine if any of those companies are potentially actionable at this newprice so that's the first source the next source is value screening and Italked about screening being you know one potential source
you definitelydon't want to have it be your only source but it's a very quick andefficient way to cover the whole universe so for me I am a big fan oflooking at free cash flow over time as the metric to screen on so typicallywhat I do is I have
a 7 year average of free cash flow for company and I look atwhat I call the free cash flow yield based on that so take that seven-yearaverage of free cash flow and divide it in the current market cap of the companyto get an idea of the current free
cash flow yield and that gives me a measureof how cheap is this company right now and also you have you know qualitymetric that I don't require that it's a great business but I wanted to be atleast a decent business so I typically only look at companies that earn
thecost of capital over a full cycle so typically maybe a return investorcapital of 8 or 9 percent or better over 7 to 10 yearsperiod so that's value screening it's a quick way to look at the wide universeand that's the second source of a degeneration third there are specialsituations
and again sometimes people say all my companies are special buthere what they mean is companies that might not screen well for specificreasons but where there is either forced selling or neglect and those are twopatterns that typically you know helpful to have the security miss price in themarkets so
an example might be spin-offs so come a larger company spinning off asmaller company that's then might be sold by the holders of the originalcompany because they don't want to hold it regardless of price it might be apost bankruptcy a situation where a company went through a chapter 11reorganization
and now it's coming out with a clean balance sheet but peopleare just not focusing on that you know people have forgotten about it it mightbe a recapitalization it might be a turnaround these are the examples ofspecial situations and they usually complement screening well becausetypically they don't screen quite
as well purely on financial metrics andfinally I do think it's important to source some of your ideas from a networkof like-minded investors so I have a large network of other value investorsthat I respect who share similar philosophy even if there's specificprocess of how the implemented philosophy might be
somewhat differentfrom mine and talking with them frequently ideas come up that they areexcited about now that doesn't mean that I go ahead and buy something thatsomeone else likes just because they like it well it does mean is that goesinto that you know first step in the funnel thetop
of the funnel for further examination based on my own criterion myown process so those are the four source of idea generation and if I were torecap you know I think you know idea generation it's important to have a widelook at the wide universe you want to look at
it in a ways that you know arecomplementary to each other so you not meet have don't have blind spots whereyou're missing up potential ideas and for me you know the funnel has threesteps the top of the funnel where things come in quite easily if they are allpotential likely
to be interesting they go in the second step which is what Icall the kill step where I try to eliminate the companiesas quickly as possible to save me a time on things that I'm not going to work onanyway and then finally a step 3 theprivatization step where I
try to decide which companies after further researchthe most promising and the most potentially actionable right now thatI'm going to work on two or three at a time so that's the funnel and then thefour sources of ideas that we talked about are you have the high qualitycompanies watchlist that's
the first source the second source is valuescreening the third source is special situations and finally sourcing thefourth source is sourcing ideas from network of other value investors sothat's the idea generation process I use at silvering value partners and I thinkthat it's quite effective and as long as you're
consistent and rigorous and I usein the repeatable fashion that does a great job of surfacing the rightpotential ideas to work on further
