Fundamental Analysis

Fundamental Analysis
• The movements of prices of securities are based
on various factors relating to the economy,
industry and the company.
• The general economic conditions of a country
can have great impact on the stock prices
• These factors are macroeconomic in nature on
which the company has no control
• The microeconomic factors are company specific
 Economic Analysis
• Global Economy Analysis
Indices 23 Aug 2019 09 Sep 2019
Dow Jones 25628 26836
S&P 500 2847 2978
NASDAQ 7752 8087
FTSE 100 7095 7236
Nikkei 20711 21318
Shanghai 2897 3025
Hang Sang 26179 26681
 Economic Analysis
Domestic Economy Macroeconomy
• GDP Growth
• Industrial Production
• Infrastructure Facilities
• Agricultural Production
• Money Supply (Liquidity)
• Inflation
• Savings and Investments
 Economic Analysis
• Unemployment
• Demographic Factors
• Balance of Payment
• Current Account
• Exchange Rate
• Economic Reforms
• Government Policies
 Economic Analysis
• Government Policies
– Industrial Policy
– Budget and Management of Budget Deficit
– Fiscal Policies
– Monetary Policies
– Supply side Policies
– Legal Policies
– Labour Policies
 Economic Analysis
• Government Policies
– Regulatory Interventions
– Tax Regime
– International Relations
– Political Philosophy
– Disaster Management
– Social and Cultural Environment
 Industry Analysis
• Industrial Environment
– Industry/Business Associations
– Industrial support to government
– Impact of government policies on industries
– General trend in the industry
 Classification of Industries
• Micro Manufacturing Enterprises (Less than
50 Lacs)
• Small Manufacturing Enterprises (More than
50 Lac but less than ten crores)
• Medium Manufacturing Enterprises (More
than 10 Crores but less than thirty crores)
• Large Manufacturing Enterprises
 Classification of Industries
According to Activities
• Primary Sector
– Agriculture and Allied Industries
• Secondary Sector:
– Manufacturing
• Tertiary Sector
– Services such as transport, communication,
financial services etc.
 Classification of Industries
Based on Products and Services
• Agriculture and Allied Industries
– Agriculture products like, rice, wheat, sugar cane
etc.
– Agricultural Equipments like tractors, power tillers,
harvesting machines etc.
– Transportation
• Heavy Motor Vehicles like trucks, Buses etc.
• Light Motor Vehicles like car, mini vans etc.
• Three Wheeler Vehicles
• Two Wheelers
 Classification of Industries
Based on Products and Services
– Small and Medium Industries (SME)
• Traditional Industries
– Khadi and Village Industries
– Handlooms
– Sericulture
– Handicraft
– Coir Fibre
• Non-traditional
 Classification of Industries
Based on Products and Services
• Manufacturing Industries
• Wood Products
• Other Manufacturing
• Basic Metals
• Jute Textiles
• Leather products
• Machinery and Equipments
• Rubber and Petroleum
• Beverages and Tobacco
 Classification of Industries
Based on Products and Services
• Manufacturing Industries
• Chemicals
• Non-metal Mineral Products
• Food Products
• Cotton Textiles
• Textile Products
• Wool. Silk, MM Textiles
• Transport Equipments
• Paper Products
• Metal Products
 Classification of Industries
Based on Performance
• Cyclical Industries
• Defensive Industries
• Cyclical Growth Industries
 Industry Life Cycle
• Development Stage
• Expansion Stage
• Stagnation Stage
• Decay Stage
 Industry Life Cycle
Sales

Development Stage

Stagnation Stage
Expansion Stage Decay Stage
Factors affecting Industrial Performance

• Demand and Supply Gap

• Supply of Raw Materials
• Gestation Period
• Permanence
• Labour Condition
• Government Attitude
• Industrial Growth
 Company Analysis
Company Analysis

Project Analysis Product Analysis Financial Health Management Analysis

·Project Potential ·Product/s Financial Economic Environment

·Success Stories ·Technology Analysis Analysis Analysis

·Promoters ·Market

·Appraisal ·Competition Ratio Analysis Financial Statement

Analysis
·Environmental Clearances ·Quality

·R&D initiatives ·Stock Market

·Liquidity ·Economic Conditions
Conditions
·Leverage
·Historic Price movements
oInternal
·Activity
·Current Price
·Operating Efficiency
oExternal

·Profitability
·Balance Sheet Analysis ·Management Team
·Valuation
·Income & Expense Analysis ·Key Personnel and their background

·Earnings Analysis ·Capital structure and Promoter’s contribution

·Cash Flow/Fund Flow Analysis ·Litigations and Legal Issues

 Project Analysis
• Project Potential
• Success Stories
• Promoters and their Background
• Appraisal of the Project
• Environmental Clearance
• Legal Clearance
 Product Analysis
• Product
• Technology
• Market
– Sales Growth
– Sales Stability
– Sales Forecast
• Justifiable
• Achievable
 Product Analysis
• Competition
– Comparative Advantage
– Competitive Advantage
– Market Share
• Quality
• Cost and Profit Structure
• R & D Initiatives
 Financial Health
• Financial Analysis
– Ratio Analysis
• Historical Ratios
• Interfirm Comparison
• Industry Averages
 Types of Ratios
• Liquidity Ratios
– Current Ratio = Current Assets/Current Liabilities
– Acid Test Ratio =
• Quick Assets (Current Assets –Inventories)
Current Liabilities
• Leverage Ratios
– Debt Equity Ratio = Total Debt/Equity
– Debt Ratio = Total Debt/Capital Employed
 Types of Ratios
• Coverage Ratios
– Interest Service Coverage Ratio = EBDIT
Interest Charges
– Debt Service Coverage Ratio = EBDIT
Interest + Loan Repayment
• Activity Ratios
– Inventory Turnover
Cost of Goods Sold
Average Inventory (Opening + Closing Stock/2)
 Types of Ratios
– Inventory Holding Period
= 360/Inventory Turnover
– Receivable Turnover
=Credit Sales/ Average Receivables
– Average Collection Period
= 360/ Receivable Turnover
– Fixed Assets Turnover Ratio
= Sales/ Net Fixed Assets
 Types of Ratios
– Working Capital Turnover Ratio
= Sales / Working Capital
– Total Assets Turnover
= Sales/ Total Assets
• Operating Efficiency
– Operating Expenses Ratio = Operating Expenses
Sales
 Types of Ratios
• Profitability Ratios
– Gross Profit Margin = Gross Profit
Sales
– Net Profit Margin = Profit after Tax
Sales
– Return on Investments = Net Profit
Total Assets
 Types of Ratios
• Valuation Ratios
– Earning Per Share (EPS) = Profit after Tax
Number of Outstanding Shares
– Dividend per Share (DPS
– =Earnings paid to Equity Shareholders (dividends)
Number of Outstanding Shares
 Types of Ratios
• Valuation Ratios
– Dividend and Earnings Yield =
– Dividend Yield = Dividend per Share
Market Value per Share

– Earnings Yield = Earnings per Share

Market Value per Share
 Types of Ratios
• Valuation Ratios
– Price Earnings Ratio (P/E)= Market Price of Share
Earnings per Share
– Intrinsic Value
• Expected P/E ratio in terms of normalized EPS
• Can be arrived at by dividing the expected dividend with an
appropriate discount rate
• If the current market price is lower than its intrinsic value
buy
• Stocks having market price above intrinsic value are
recommended for sale
 Financial Statement Analysis
• Balance Sheet Analysis
– Vertical Form of Balance Sheet
– Horizontal Form of Balance Sheet
– Audited Balance Sheet
– Un-audited Balance Sheet
– Certified Copy of Accounts
– Audit Report
• Qualified Audit Reports
• Notes on Accounts
Vertical Form of Balance Sheet
 Horizontal Form of Balance Sheet

Balance Sheet of High Waves Ltd. as at the end of March 31, 2010
Amount (Rs. Lakhs)
Liabilities 2010 2009 Assets 2010 2009
Share Capital
Equity 200 200 Fixed Assets less Depreciat1 250 1150
Preference 100 100 Current Assets
Reserves and Surpluses 500 300 Inventories 95 105
Profit and Loss Account 395 255 Sundry Debtors 85 95
Secured Loans Short-term investments1 15 125
10% Debentures 400 500 Cash and Bank Balances 355 135
Term Loans 100 150
Current Liabilities & Provisions
Bills Payable 50 60
Sundry Creditors 40 35
Other Current Liabilities 15 10
Total 1800 1610 Total 1800 1610
Sample Audit Report
Sample Notes on Accounts
 Financial Statement Analysis
• Directors’ Report
• Profit and Loss Account
• Analysis of Balance Sheet
– Percentage Analysis
– Income and Expenses Analysis
– Trend Analysis
– Earning Power Analysis
– DuPont Chart
Sample Profit and Loss Account
 DuPont Chart
Return on Net
Assets
(RONA) =
EBIT/NA Profit
Return on Margin
20%
Equity (ROE) EBIT/Sales
= PAT/ NW Financial
Leverage = 10%
18% PAT/EBIT
57% Asset
Turnover
Financial Sales/NA =
Leverage 2.05%
NA/NW
157%
 Financial Statement Analysis
• Cash Flow/ Fund Flow Analysis
– Sources of Cash
• Profit from operations
• Decrease in assets except cash
• Increases in liabilities such as secured loans, issue of debentures, bond etc.
• Issue of equity or preference shares or both
– Uses of Cash
• Increase in assets except cash
• Decrease in liabilities including repayment of loans, redemption of
debentures, bonds etc.
• Redemption of redeemable preference shares
• Buy back of shares
• Payment of cash dividend
 Financial Statement Analysis
• Cash Flow/ Fund Flow Analysis
– Fund Flow Analysis
• Source of Working Capital
– Increase in assets except cash
– Decrease in liabilities including repayment of loans,
redemption of debentures, bonds etc.
– Redemption of redeemable preference shares
– Buy back of shares
– Payment of cash dividend
 Financial Statement Analysis
• Cash Flow/ Fund Flow Analysis
– Fund Flow Analysis
• Use of Working Capital
– Adjusted net loss from operations
– Purchase non-current assets like shares, bonds debentures
etc., tangible fixed assets like land, buildings, machinery,
equipments etc., intangible items like good will, patents,
trademarks, copy right etc.
– Repayment of long and short-term debt
– Redemption of redeemable preference shares
– Payment of cash dividend
– Buy back of shares.
 Economic Condition Analysis
• Internal Economic Conditions
– Economy of scale of operation
– Better accessibility for mobilization of resource
– Good financial governance
– Consistency in growth
– Consistency in financial policies
– Top line growth Vs Bottom line growth
• External Economic Conditions
 Financial Environment Analysis
• Stock Market Condition
• Historic Price Movements
• Current Price
• Target Price
 Management Analysis
• Management Team
– Co-ordination and co-operation among the top management,
middle-level management and the junior level managers
– Knowledge about company’s products and operations among
the staff and management team
– Healthy work culture and employee management relationship
– Effective feedback system and follow up mechanism
– Members of management team, their background,
qualification and experience
• Key Personnel and their background
 Management Analysis
• Capital Structure and Promoters’ Contribution
• Litigation and Legal Issues
– Causes of litigation
– Legal violation and prosecution process
– Involvement in financial frauds and money laundering