Fundamental Analysis Valuation

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  • 1. Fundamental Analysis Valuation R I TFinancial Management Association

2. What is Fundamental Analysis?

  • Discovering the fundamental value of a company; what is a business worth?
  • Analyze:
    • Financial Strength (ex. Financial statements)
    • Past Performance
    • Growth Potential
    • Management
    • Get the grand picture of the company

RITFMA 3. Efficient Market Hypothesis

  • In an active market that includes many well-informed and intelligent investors, securities will be appropriately priced and reflect all available information.
  • If a market is efficient, no information or analysis can be expected to result in out performance of an appropriate benchmark.

RITFMA 4. Efficient Market Hypothesis

  • Strong Form Efficiency : Share prices reflect all information and no one can earn excess returns.
  • Semi-strong Form Efficiency : Share prices adjust within an arbitrarily small but finite amount of time and in an unbiased fashion to publicly available new information, so that no excess returns can be earned by trading on that information.
  • Weak Form Efficiency : Implies that Technical analysis techniques will not be able to consistently produce excess returns, though some forms of fundamental analysismay still provide excess returns .

http:// RITFMA 5. Behavioral Finance

  • Studies how cognitive or emotional biases, which are individual
  • or collective, create anomalies in market prices and returns that may
  • be inexplicable via EMH alone.
  • Example: Stock Market Crash of 1987

RITFMA 6. Where Do I Begin?

  • What does the company do?
  • How big is it?
  • Company Goals
  • Financial Health
  • Competitive Landscape
  • Economic Conditions


  • Who are they?
  • Do they make products or sell services?
  • Who are they targeting?

What Does the Company Do? RITFMA 8. How Big Is The Company?

  • Micro-cap: $100 million or less
  • Small-cap: $100 million to $500 million
  • Mid-cap: $500 million to $5 billion
  • Large-cap: $5 billion +

RITFMA 9. Financial Statements

  • Income Statement
  • Cash Flow Statement
  • Balance Sheet

RITFMA 10. The Income Statement

  • The purpose of the income statement is to show managers and investors whether or not the company made or lost money during the period being reported.

What does it look like? RITFMA 11. The Cash flow Statement

  • Acash flow statementis a financial report that shows incoming and outgoing money during a particular period.

RITFMA 12. Statement of Retained Earnings Ending Retained Earnings = Beginning Retained Earnings + Investments - Dividends Paid + Net Income

  • Shows the change in retained earnings over time
  • The Statement of Retained Earnings uses information from the income statement, and provides information to the balance sheet.

RITFMA 13. The Balance Sheet It is a snapshot of a companies current financial position Assets -Current Assets -Fixed Assets Liabilities -Current Liabilities -Fixed Liabilities Equity http:// RITFMA 14. Show Me the Numbers! RITFMA Debt Ratio Current Ratio Return on Equity (ROE) Beta Gross Profit Margin Price to Earnings (P/E) Price to Book Price to Sales 15. RITFMA Price to Sales

  • P/S ratio can be used in comparison to other companies
  • How much is being paid for per share of sales
  • If P/S < 1, it means investors are paying less for each unit of sales

16. RITFMA Price to Earnings

  • Companies withno growthdo not have a P/E ratio
  • A high P/E ratio could mean higher growth in the future

17. RITFMA Price to Book

  • Compares the companys share price to theirbook value
  • A low P/B ratio could mean:
    • Stock undervalued
    • Something very wrong

18. RITFMA Gross Profit Margin

  • How much do they get to keep?
  • Use in comparison to other companies to determine who has the highest Gross Profit Margin

19. RITFMA Beta

  • A method of measure of risk in comparison to the market
  • The market has a Beta equal to 1
  • Beta > 1 = riskier than the market
  • Beta < 1 = less riskier than the market
  • Beta = or close to 0 is no risk in comparison to the market
  • Get examples

20. RITFMA Return on Equity (ROE) Useful to comparing the profitability of a firm in regards to its competitors. 21. RITFMA Debt Ratio Debt Ratio > 1= company has more debt than assets Debt Ratio < 1 = company has more assets than debt *Used as a tool to measure risk of companies 22. RITFMA Current Ratio

  • Measure of ability to pay short-term liabilities
  • Higher ratios means the more capable a company is to paying back short-term debt

23. RITFMA Is This Company Profitable?

  • Gross Margin/Profit/Income, Net Income
  • Look at companys income statement
  • Look at historical gross margin
  • How much does it sell and how much does the company get to keep?
  • More income = more for future business operations, return to investors
  • Look for companies to perform better than their competitors!
  • Citigroup Annual Income Statement

24. RITFMA Stock Performance

  • What has the stock price done in the past year? 5 years? All of its history?
  • Does it show solid performance or very volatile performance?
  • Google Stock Performance
  • Yahoo! Stock Performance

25. RITFMA Management

  • Is management stable?
  • Recent change in management?
  • Has change in management affected the stock price?
  • HP Probe

26. RITFMA Competitive Landscape

  • How are they performing in regards to competitors?
  • Compare to their industry, compare to the overall market
  • Compare:
    • Share price
    • Profit margins
    • Financial ratios
    • Strategies
    • Target markets

27. Dividends

  • Defined:
  • Payments made by a company to its shareholders.
  • Important Dates:
  • Declaration Date
  • Date of Record
  • Ex-Dividend Date (usually before Date of Record)
  • Can be cash, stock, or assets.

RITFMA 28. Dividends

  • The power of dividends.
  • GE 1996 Dividend: $.35
  • GE 2006 Dividend:$1.00
  • Thats a 186% increase in dividends over the past 11years!
  • Average Annual increase 16.9%
  • If this were to continue, a share of GE bought today,would yield a $4.08 dividend ten years from now.

@13%= $3.00 per share RITFMA 29. Dividends Not always a good thing?

  • Can indicate lack of growth
  • Dividend may be unsustainable
  • The effects of cutting a dividend

RITFMA 30. Stock Splits

  • Ordinary stock splits occur when a publicly held company distributes more stock to holders of existing stock.
  • 2-for-1: is when a company simply issues one additional share for every one outstanding.
  • The company's net assets didn't increase, only the number of outstanding shares.
  • Companies issue splits to make the stock more attractive to investors whether it be an ordinary split or a reverse split.
  • http://invest-

RITFMA 31. Stock Buybacks

  • Income Statement

RITFMA 32. A NastieExample for tying the importance of financial statements together http:// = tsty RITFMA 33. Benchmarking How do we compare? The most widely accepted benchmark is the performance of the Standard and Poors 500 Index.RITFMA 34.

  • S&P 500 used to compare stock performance of a single firm against the 500 largest American publicly traded companies
    • Only useful when the company in consideration is equivalent in size and stature to the components of this index.
    • For example, one would not wish to compare the performance of a BB stock against the $SPX

Benchmarking Continued RITFMA 35. Standard and Poors Fortune 500 Index up less than 50% in past five years RITFMA ANF up 300% in past five years 36.

  • Financial ratio

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