October 14th, 2009Published by: jjun0366
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Brad atTMWTFShas stated clearly that a company should
never compete onprice. Those that do, have no competitive
advantage.Operating margins and net margins also provide vitalinformation about the capabilities of the company. Grossmargins could be superb but if operating margins are low,any drop in gross margins could have a material effect on theoverall profit of the company. Huge drop in gross margins leadto a loss in operations and subsequently, net margins. An important note about margins is that we must identify thecompany strategy before immediately jumping to conclusions.Crocs is an example of a typical company banking on highreturns with low inventory turnover to make a profit. Costco, Wal-Mart and other super retailers have small margins yettheir inventory turnover is extremely high. The volume of products sold is where the profits come from. So think strategy before dismissing a company completely.
Selling, General and AdministrativeExpenses
For a company doing so poorly, SG&A for Crocs is far too high.High SG&A for any company is a serious problem. This lineis also where companies expense the limos, private jets, boatsetc used by executives. For a company doing so poorly, as ashareholder you would expect the CEO to take economy.Companies should try to keep SG&A to a certain percentageof revenues. This prevents future problems caused by hiringsprees and huge bonuses. Costco has been able to keeptheir SG&A between 8.5-10% for the past 10 years. A clearindication of the quality of management.
A fancy way of saying “we made some bad decisions which willcost us millions of dollars”. This is not a line in the IncomeStatement that we want to see. Crocs is writing off $31.6mfrom goodwill in the 3rd quarter which is essentially writingoff $31.6m from equity. Another reason why a company withhigh goodwill should be examined further.Impairment charges is also another way to evaluatemanagement.
The impairment charge also provides investorswith a way to evaluate corporate management and its decision-making track record. Companiesthat have to write off billions of dollars dueto impairment have not made good investment decisions. Managements that bite the bullet and take an honest all-encompassing charge should be viewed more favorably than those who slowlybleed a company to death by deciding to take aseries of recurring impairment charges, therebymanipulating reality. - Investopedia
Other Income, Income tax, EPS, SharesOutstanding
Footnotes should always be reference to determine exactly what Other Income is. This is evermore true if the number ishigh.Income tax and Earnings Per Share (EPS) is straightforwardand doesn’t require additional comments.Shares outstanding should be monitored as well. Always usethe diluted number as it includes stock options. Crocs has been buying back its shares from the previous year in an attempt toincrease shareholder value but that is a minor point comparedto what has been discussed above.
View numbers as percentages and compare over severalquarters and years
COGS should never be higher than sales
Margins reflect competitive position and company strategy
SG&A and Impairment Charges determines thecompany’s management quality
Balance Sheet Analysis:Circuit City
In this example, let us analyze the Balance Sheet for CircuitCity.To help get new investors started, here are some greatresources on the Balance Sheet:
Fundamental Analysis: The Balance Sheet
Understanding the Balance Sheet
Circuit City Balance Sheet (click toenlarge)Cash
Any company with lots of cash is a reassurance to investorsthat the company should be able to survive during downturnsas well as expand during booms.Divide the cash by the number of shares outstanding to seehow much of the stock price is made of cash. On Feb 29,2008, Circuit City had $1.76 in cash per share but by August31, 2008, that number dropped to $0.54 and has probably dropped further since then.If the cash per share is greater than the share price, it could bea potentialnet net.