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Talking to Management, Part 1: The Big Questions

Though most of us are outside passive minority investors, pretend for a moment that you are a private-equity investor. There's value to be had in understanding how an investor in the business would benefit in the absence of a secondary market for ownership interests. The value derived by a private-equity investor feeds slowly to the public equity investor in the short run but directly in the long run.

Then sit back and read through these questions. Prepare to ask them of the managements of the companies in which you are currently a shareholder. Imagine the answers, or even try to get them.

And adjust your holdings accordingly.

General Questions

What sustainable competitive advantages do you have vs. your competitors?

As with most of my questions, I usually have a reasonable idea of what the answer is likely to be. Part of my question is to test the competence and veracity of management. If it trots out some answer that is nonsense, that is a big red flag to me.

Given that most of the time I invest in mature industries, I want to hear answers that tell me the company has an expense advantage over competitors. That can be easily verified. Other possible answers include exclusive distribution agreements, patents, technological advantages and company culture.

Once I hear the answer, I try to analyze how much it makes sense. Has the company really created a "moat" that protects its profits from competition, or is it trying to fool me? I don't always get a sharp answer, but the exercise is always valuable. Uncertainty leads to doing nothing or to a smaller position, which is always appropriate when you don't have a big edge.

For instance, longtime readers know that I am a long-term bull on the diversified insurance company Assurant (AIZ). In most of Assurant's business lines, it is the No. 1 or No. 2 provider in the businesses in which it chooses to compete. Part of that stems from locking up exclusive distribution arrangements, some from proprietary technology that would be difficult and prohibitively expensive to reverse-engineer.

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