One parameter that you can use to compare the relative level of risk of a given stock to another stock is the Beta. Beta measures the volatility of a stock’s price compared to a benchmark (the market) and is commonly referred to as the Greek letter 'ß' by analysts. Let’s take a look at the different beta ranges and what they mean:
Beta = 1
If a stock has a beta of 1 it means that its price tends to follow the market’s movements. For example, if the S&P 500 gains 1.5% on a given day, so will... more
Efficiency ratios measure how well a company uses its assets and manages its liabilities. Common efficiency ratios include inventory turnover, accounts receivable turnover, accounts payable turnover and total asset turnover.
When buying stocks you should look for companies that are the most effective at managing their assets and have good fundamentals which will translate into potential higher future returns for the shareholders. If a company is not running efficiently it is not attractive to investors because they are not making the best use of the shareholders’ capital to generate additional profits for them.
Efficient companies are able to:
Leverage ratios measure the amount of debt a company has on its balance sheet relative to its equity and provide an indication of a company’s financial health.
Before buying stocks make sure you always analyze the debt exposure of the company as if it is excessive it could be risky. This is especially the case during economic downturns where a high level of leverage might lead a company to file for bankruptcy if it is not able to pay the interests to the creditors. This being said, debt isn’t necessarily a bad thing. It also might lead... more
Free cash flows refers to the extra cash a company has generated and that can be shared with shareholders through dividends or can be reinvested in the company without harming the business operations. It is calculated by taking the operating cash flow and subtracting the capital expenditures (these values can be found in the cash flows statement).
Free cash flow = Operating Cash Flow – Capital Expenditures
A company can also use the free cash flows to repurchase the company shares which increases the value of the shares as there are less of them outstanding. However, in... more
Profitability ratios are of key importance for serious investors since they measure the ability of a company to generate profit. By comparing profitability ratios of different companies you can evaluate which has better fundamentals and is worth investing in. If a company does not generate profits for its shareholders, it will not last in the long run.
When using profitability ratios to evaluate a company make sure you look at the profitability of the company for at least 5 years back so that you can see the trend and also make sure you measure the profitability of the average company within... more
When buying stocks or other investments such as company bonds you want to obtain data that allows you to make an informed investment decision. Liquidity ratios are one category of information that should be considered as part of your fundamental analysis.
Liquidity ratios measure the ability of a company to meet its short-term obligations (debt due within one year). They show the investor how many times the company short-term liabilities are covered by their most liquid assets such as cash and cash equivalents (depending on the analyst, the liquid asset classes that are taken into account for... more
Now that you have reviewed our articles on the importance of financial statements when buying stocks and have read the information on the income statement, the balance sheet statement and the statement of cash flows you are ready to interpret this data which will allow you to evaluate a potential stock investment.
A quick way to help interpret the data in these three statements is through the use of various ratios.
When using ratios to evaluate companies, you should always compare these... more
The importance of understanding and interpreting the cash flow statement
The cash flow statement is the most recent of the statements required to be prepared by publicly traded companies and provides important information for the investor that is not in the income statement or the balance sheet. The cash flow statement summarizes the cash that flows in and out of a company within a given period of time (quarterly or yearly). When analyzing stocks for a potential investment opportunity one of the things you should look for are companies that are capable of generating cash. As we’ll see shortly, the free... more
The Importance of Understanding and Interpreting the Balance Sheet
The balance sheet provides the investor with a snapshot of the financial condition of the company. It shows the company’s assets, what it owns, and the liabilities, what it owes. The difference between the assets and the liabilities is the known as equity (stockholder equity) or net worth.
Equity = Assets – Liabilities
As the name suggests, the balance sheet must always be balanced. When you look at a balance sheet you will notice that assets always be equal to the sum of liabilities and owners equity. If assets increase then the total of... more
The Importance of Understanding and Interpreting the Income Statement
The income statement is one of the financial statements that can be found in the company annual 10-K and quarterly 10-Q filings. It provides investors with information on a company’s revenues, expenses and profit over a period of time.
Income statement analysis will help you determine how well a company is performing. As a shareholder you want a company to have high profits, which are usually generated when they have low expenses relative to their revenues and their competitors.
Let’s take a closer look at the three sections of the income statement.
As the name... more
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