AlleAktien Quality Score (AAQS)
Filter quality. At the beginning of investing in stocks, investors face difficult decisions because there is a very wide range of stocks to choose from. In order not to have to analyze all companies before investing, AlleAktien has developed the AlleAktien Quality Score (AAQS) to find the top quality stocks with decent fundamental data.
Quality leads to outperformance. The AlleAktien Quality Score (AAQS) saves an enormous amount of time on the one hand and on the other hand you have a good basis to then analyze these companies in more detail. Stocks with 9/10 or 10/10 points often indicate the best companies in the world or future outperformers, which can generate a demonstrable excess return. We want to show you these stocks with the AlleAktien Quality Score (AAQS).
Long-term thinking. For the whole concept, AlleAktien has been inspired by Warren Buffett: It is much better in the long run to buy a wonderful company at a fair price than a mediocre company at a cheap price. Long-term investments are based on companies that exist even over 10 or 20 years and still represent absolute quality companies.
The AlleAktien quality score condenses quality into one key figure
1. Filter quality companies: An overwhelming selection of stocks is available to investors. In order not to have to analyze one after the other, the AlleAktien Quality Score (AAQS) offers us a good pre-filter to then perform an elaborate analysis, which would often take several weeks or months.
2. Four key points define quality: Valuation, growth, profitability and risk already show in most cases how a company is to be classified. Using the checklist in the AlleAktien Quality Score (AAQS) with 10 individual points, it is possible to immediately recognize whether the existing company is a quality company or not.
3. Scientific basis: To test the thesis and the points, AlleAktien naturally tested the AlleAktien Quality Score (AAQS) using Bloomberg and Factset and came to the conclusion that stocks with a high score could significantly outperform, whereas low scores resulted in undercredits. Thus, the AlleAktien Quality Score (AAQS) also creates a basis for establishing expected returns.
4. Quality stocks at a glance: In this article, we have picked out and listed the stocks with the highest ratings in the AlleAktien Quality Score (AAQS), allowing anyone to start their in-depth analysis right away to get an excess return.
Definition of quality shares
Quality takes time. At AlleAktien, between two and four weeks of work go into each analysis and research in order to gain an excellent understanding of the business model and the industry. But which companies make it into an analysis at all? Here, the AlleAktien Quality Score (AAQS) serves as a useful aid, which was developed by AlleAktien itself. This helps the investor to make a certain pre-selection of which companies are to be classified as absolute quality stocks. Among 1,000 stocks in Germany and over 85,000 worldwide, one is virtually spoiled for choice, but not every company is a quality company.
The AlleAktien quality score has a clear mission: Finding and holding long-term investments in companies. Long term here means over 10 years. You want to find companies that can steadily increase both sales and profits over the long term, show a deep moat, and increase dividends regularly.
Unique companies. Here, one should pay particular attention to the unique selling propositions of the company, so that it would be difficult for other companies to take over this market position. Speculative stocks, turnarounds or companies with an unclear position are not the target, because here there are quickly sharp price changes and often a significant underperformance. To avoid these, we use the quantitatively designed AlleAktien Quality Score (AAQS). This is the best tool to identify exciting companies in a short time. The AlleAktien Quality Score (AAQS) is based on objective key figures, which makes it clearly determinable and also historically verifiable (backtest).
The AAQS benchmark: clear outperformance
Professional evaluation of the AlleAktien quality score. Before the score was compiled, a benchmark had to be defined against which to measure the performance. For this purpose, AlleAktien took the Dax family, consisting of DAX, MDAX and SDAX. Since banks, insurance companies and real estate companies cannot be evaluated with the AAQS, they were left out.
The backtest started in 2006, with an equal weighting of all stocks. This equal weighting is always restored on July 1 of a year. The Bloomberg-EQS tool was used to create it.
The AAQS benchmark has performed significantly better than the DAX in the backtest with an average return of 8.43% p.a. since July 1, 2006 compared to a return of 5.88% p.a. over the same period.
9 or 10 points means excess return
Risk minimization with high returns. For this purpose, a portfolio was created that exclusively contains companies with 9 or 10 points. If a company loses one or two points, it is sold on July 1. Over the same period as the benchmark, the portfolio has generated an average return of 12% per year. This means that the quality companies in the AlleAktien Qualitätsscore (AAQS) have returned over 3% more than the Dax family.
Now, of course, one wonders whether the excess return is due to the AlleAktien Quality Score (AAQS) or perhaps to some other random factor. This question must be answered honestly: It cannot be proven 100%. However, it can be said that the whole concept was constructed from scratch and only then a backtest was performed.
AlleAktien has therefore previously considered what really makes a company a quality company and what does not. In doing so, they picked out ten unique criteria that fit perfectly with the four main characteristics. The backtest based on this was successful. From this first-principles approach, AlleAktien strongly believes that the AlleAktien Quality Score (AAQS) can be repeated in the years to come.
The 10 criteria for quality stocks
1. Sales growth 10y > 5 % p.a.
The most basic key figure. This metric looks at the average sales growth over the last 10 years (CAGR). In the long term, companies become more valuable if sales and profits can be increased continuously.
Example Microsoft: In 2010, the company generated USD 62 billion in sales. In 2020, sales were USD 143 billion. Microsoft has thus generated average sales growth of 8.7% per year. The 5% hurdle has thus been exceeded and there is one point in the AlleAktien Quality Score (AAQS).
2. Sales growth in the next 3 years
The future should be derived from the past. Here, one looks at the average growth rate in the future, based on consensus estimates at FactSet. Of course, one should not base an investment on the estimates of the analysts, but they usually have a good perception and roughly indicate what the market expects. Here one looks at the three future years, because the company value will really depend on the future sales.
In the best case, a company achieves annual sales growth of more than 5%, both on average over the last 10 years and in the expectations for the coming years. For this, too, there is a point in the AlleAktien Quality Score (AAQS). It is important to note, however, that steadily rising sales are not worth much if operating profits do not also grow steadily.
Example Microsoft: In 2020, the company generated $143 billion in revenue. Analyst estimates are $198 billion for 2023. This suggests an average revenue growth of 11.5%. This is also above the 5% hurdle and is captured by one point.
3. EBIT growth 10y > 5% p.a.
Profitability with high sales. As with sales, we now look at the last 10 years, but this time at operating profit (EBIT). Ideally, a company also manages to increase profit growth steadily in line with sales.
It is often the case with still unprofitable software companies that they have enormously high sales growth, but only make losses because they offer their product with high discounts. Shareholders then receive very little of the growth and the rush of customers.
Example Microsoft: In 2010, $24 billion was achieved as operating profit, in 2020 it was then $53 billion. From this, we calculate an average profit growth of 8.2%. This also gives a point.
4. EBIT growth in the next 3 years
Profit should grow with sales. This indicator looks at the average annual expected growth in operating profit over the next three years.
As with sales, an estimate gives a much better picture of the market's expectations. This is because the value of a share is derived from all cash flows generated in the future, discounted to the present day.
Example Microsoft: In 2020, the company achieved an operating profit of USD 53 billion. Estimates for 2023 are USD 78 billion, representing average growth of 13.7%.
With these points, AlleAktien has created a solid foundation and you can already sort out the companies that have not grown continuously through all market phases.
5. Debt < 4x EBIT
Eliminate indebted companies. Here, one point is distributed if the company's net financial debt is less than four times its operating profit. The calculation is as follows:
All interest-bearing liabilities (current and non-current bonds, loans,...) less the company's cash balance.
The advantage of this criterion is to filter out those companies that are very highly indebted. Should the company no longer be able to handle the accumulated debt (e.g. due to rising interest rates), it can quickly become dangerous for shareholders.
To stay with the example. Microsoft had long- and short-term financial liabilities of USD 82 billion in 2020. The cash balance was USD 137 billion, which means that Microsoft is not only debt-free, but also had net liquidity of USD 55 billion. This is a real showcase and thus deserves the next point.
6. Profit continuity 10Y
Secure business model in all market phases. For the next point, the company must have posted a profit every year for the last 10 years. If a company has made an operating loss in any year, it will not receive a point. This also penalizes companies that have not been well positioned in every market phase.
Here too Microsoft the next point. All years were completed with a positive result.
7. EBIT Drawdown 10J < -50 %.
Crisis-proof. Operating profit (EBIT) must never have fallen by more than 50% in the last 10 years compared with the previous record profit in the 10-year period. Only if this has been achieved is a point awarded.
Example Microsoft: The company saw the highest drawdown in 2016. The profit was 26.1% lower than the previous record. The value was below 50%, which gives Microsoft (US5949181045) the next point.
With the last three criteria, the AlleAktien Quality Score (AAQS) aims to "penalize" companies that have very cyclical or risky business models. This focuses on solid sales and earnings growth, which is supported by proper financing and stable earnings.
8. Return on equity > 15
A high return on equity is necessary for further growth. If the underlying company succeeds in earning a return on equity of more than 15%, then there is another point.
When a business grows, new land must be purchased, real estate must be built, machinery and equipment must be paid for, and employees must be hired. A high return on equity is necessary to finance these expenses.
To calculate: Microsoft: had equity of USD 118 billion in 2020, goodwill is deducted from this (- USD 43 billion) and the tangible equity of USD 75 billion is obtained. Now divide the net profit by the tangible equity and get the return on equity (USD 44 billion / USD 75 billion = 58.7%).
Herewith receives Microsoft: another point, as the company is very profitable and well above the 15% threshold.
9. ROCE > 15 %
Little borrowed capital. To avoid manipulating the return on equity, we also look at the return on capital employed (ROCE). Although this is similar to the return on equity, it cannot be manipulated by a high level of debt. So if the company works with a lot of debt capital, it needs only little equity capital, which may work well in good times with low interest rates, but can quickly become a problem in bad times.
When considering the total return on capital, the operating profit is set in relation to the interest-bearing capital employed for this purpose. The capital employed is the sum of equity (equity less goodwill) and net financial debt. The return on capital employed provides us with a meaningful indicator of the operating profitability of a company, irrespective of its capital structure.
Bei Microsoft: we therefore subtract net liquidity (USD 55 billion) from equity (USD 75 billion) and obtain USD 20 billion as capital employed. Now we divide EBIT (USD 53 billion) by capital employed and get an ROCE of 265%.
Also here supplies Microsoft: an absolute top value, scoring another point. The reason for this impressive result is conservative financing.
10. Expected return > 10
A good future return. If the expected return is above 10%, the company receives the point for the tenth criterion. This is the only indicator that depends on the past performance of the share price.
The expected return is calculated using the IRR model. There are two main components: the free cash flow yield and EBIT growth per year.
To calculate the free cash flow yield, one divides the free cash flow of the current year by the market capitalization. Free cash flow is the amount generated at the end of the year and available for free disposal.
The second source of return is EBIT growth. The model assumes that the share is valued with the same multiplier in the future. Thus, the share price has to follow the increasing profit so that the P/E ratio and the valuation remain constant.
Microsoft: had a free cash flow return of 2.8% in 2020. The Ebit growth of the next three years (13.7% p.a. (expectation)) is now added to the free cash flow yield and a return expectation of 16.5% per year is obtained. Microsoft (US5949181045) thus receives 10 out of 10 points and is an absolute quality company from the perspective of the AlleAktien Quality Score (AAQS).