A little while ago in my previous entry I mentioned that I sit on the fence when it comes to Fundamental or Technical Analysis of stocks and couldn’t decide which way to go. But there is a part of Fundamental Analysis viz. Qualitative Analysis that appeals to me over its other part Quantitative Analysis.

Qualitative analysis makes me immune from my (un)founded fear of cooked up figures (if any) and the uneasy feeling of making decisions based purely on charts(Technical Analysis). There are several factors that must be taken into account like the business model, competitive advantage, management, corporate governance while making a comprehensive qualitative analysis.

While it is not possible to go into all of these factors in this forum, I would like you to give some thought to just one i.e. competitive advantage that any of your current and proposed investments enjoy. Why because, if a company enjoys immense competitive advantage, it can get away with a few dumb moves that it makes in the short term, learn from its mistakes, do some course corrections, survive in the long run and eventually subdue its competition. At least it will help you decide if should buy, hold or unload your stocks.

I would like to elaborate with a real life example that you are most likely familiar with and hence can see my point of view. I am sure all of you who are reading this blog have access to at least one (or several) notebooks or personal computers as otherwise you would not be reading this blog. And I think you are aware that there is a mass storage device ( hard disk drive) in your notebook or PC that stores all your applications and data.

There are several manufacturers who make these hard disk drives, out of these there is one company that I would like to quote as an example: Seagate Technology( Stock symbol US: STX) which is the biggest manufacturer of hard disk drives and nearly twice as big as its nearest rival. My recommendation of Seagate comes to you not as an investor but as a seller and as well as a consumer of Seagate Hard Drives.

As a seller of Seagate hard drives, only rarely do I see a hard drive fail under warranty. Even for such failure, I get excellent after sales service from Seagate and thus could keep my customers happy. I mean within a day or two of shipping the defective hard drive, I get an email confirmation from Seagate that they have received the hard drive and are working on it. And within a week I get a replacement to give it to my customer.

As a consumer I can vouch that none of the Seagate hard drives running in my three PCs has ever failed on me, four of them running as long as 5 years without any problems.

Given their quality, reliability and after sales service, I can infer that they have excellent procedures in place. But their operational effectiveness is not the same as the competitive advantage they enjoy. As this article clarifies

Operational Effectiveness means a company is better than rivals at similar activities while competitive advantage means by doing different activities or performing similar activities in different ways.

Discussing competitive advantage within the context of Seagate Technology, thanks to Michael E. Porter we have a model that defines the existence of Seagate in data storage industry.

1. Competition in the industry ( Seagate is a leader)
2. Potential of new entrants into industry ( See barriers to entry below)
3. Power of suppliers ( could not think of any)
4. Power of consumers ( Seagate is not at the mercy of any particular group of consumers as it enjoys a very wide consumer base )
5. Threat of substitute products ( There could be a real threat from Solid State Drives (SSDs) that are emerging in the data storage market with better features to offer. Though currently Seagate enjoys a price advantage vs. SSDs that it can offer to its consumers , Solid State Drives may eventually take over. Unless Seagate is taking to this new technology it is likely to loose its dominance)

Barriers to entry:

Before I wrap up, I would like you to see what barriers to entry (again there are many, but to name just a few) that Seagate enjoys

• High Startup costs ( To design, manufacture and distribute (worldwide) millions of hard disk drives with such complex technology entails high startup costs and hence a new entrant has to think twice before committing)
• Strong brand identity ( Though as a consumer if you buy a brand name PC you may not be aware of the hard drive inside it, the decision is made for you already. But if you buy a custom built PC or if you build a PC yourself you are more likely to specify a Seagate hard drive.)
• Strong customer loyalty ( Though Seagate HD is little bit more expensive, it has a market dominance)
• High switching costs ( This is where it enjoys a great advantage. Once a hard drive, Seagate or any other, is up and running, no one wants to replace it with another make, even if the latter comes free of cost. The hassle of installation, transfer of contents from one to another and the inevitable downtime this requires will not make it worthwhile)

Finally can you sleep peacefully if you have a suspicion that your hard drive may fail anytime taking all your valuable data with it?

I can’t.