The first thing I look at when evaluating a stock to buy is the company’s business model. What it does and how it generates profit is important.
In this respect, I will consider the competition of the industry, the quality of its products, barrier of entry, availability of raw materials, as well as the demand and necessity of its products and services.
A growth in earnings without a growth in revenue is not good. A growth in revenue without a growth earnings is also not good. Revenue and earnings must go up in tandem.
Always compare latest quarterly earnings to the previous year’s corresponding period, not the preceding quarter. This is because of seasonality.
Business is all about profits. The higher the profits are the better.
Calibre of Management
Competency and Integrity counts. Competency without integrity is worse than integrity without competency. Lack of integrity of the management is the main cause of failure. The only way for you to know the management is to look at its record. A growing revenue, improved earnings and dividend payments year after year are the things to look at.
Balance Sheet (BS)
The BS is an important statement. It tells you what the company has and what it owes others. Once studied, you will know whether the company is solvent or not. An insolvent company is somebody’s problem which you shouldn’t get involved with.
Cash Is King
A company needs cash to expand. Money is not everything, but money makes everything different.
Current Ratios, Free Cash Flow, Borrowings, Receivables, Payables, Pay-up Capitals, Par Value must all be carefully considered.
Metrics such as EPS, Dividend Yields, Profit Margins, Current Ratio, Debt-equity-ratio, ROCE & Price-to-book Ratio are some important metrics to look at closely. (Refer to Investopedia.com, if you do not understand any of the terms mentioned.)
Quality of earnings must be carefully look at. Not all earnings are the same. The important thing to think about is whether earnings can be sustained or improved going forward.
Cash Flow Statement
How cash flows in and flows out must be analysed carefully. Looking at the bottom line alone is not enough. You must know the details.
CEO (Chief Executive Officer)
The CEO is the most important person in a company. Know who the person is. Failure or success of the company depends on this person rather than on anything else. Besides being competent, the person must have integrity as well. Look at his track record, not how well he can speak.
I like companies that have a dividend policy of paying 30% to 50% of its earnings to shareholders. I don’t like to share risk without sharing the gains. A company that pays regular dividends in tandem with its earnings is preferable to one that pays no dividend in the name of growth. Bear in mind that the only benefit a minority shareholder has is the dividend.
The major shareholders control everything. If, for whatever reasons, you don’t like them, avoid the stock. On the other hand, strong major shareholders can do wonder for the company. Next time, when you are about to buy a stock, don’t forget to find out who the major shareholders are.
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