When
I left off discussing the numbers of a company you’re interested in adding to
your portfolio, almost a month ago (sorry), I told you about some broad checks
I do to ensure the company is in good shape, like Return on Equity, PEG Ratio,
Total Debt, and 52-week Price Change. Now let’s drill a little deeper. Like in
my previous Financials post, this information is all available and free for the
taking, in Yahoo Finance.
First
let’s look at the Current Share Price.
This is not meaningful in and of itself--- a share can cost $10 or $200 or, in
the case or Berkshire Hathaway A shares, over $215,000 apiece. Share price is
not an indicator of value, though obviously there are few among us who have the
cash to pay for a Berkshire A share. The only thing we care about the price of
a stock is whether it’s not too
inexpensive; we want to avoid “penny” stocks, which naturally are those under
$1 per share, and anything too close to that level.
Penny
stocks often are that price for a very good reason. And while there are those
who like to dabble in stocks with tiny prices (5,000 shares for under $1500!? What a deal!) the truth is usually
that something terrible has happened to the company and it is in danger of not
only bankruptcy, if it’s not there already, but of being dropped, —delisted—
from the major trading houses. Which means it becomes very hard to sell, even
if the prices rises some. And more often than not, the prices stays down and
even becomes worthless. Have you heard of Pets.com or Toys.com?
I
like to find companies whose shares trade above about $7, which is most of the
companies we’re talking about anyway. Less than that is just too close to the line
for me and in those cases I frequently cannot get enough reliable information
about the company, so I can’t make an accurate assessment of its market
chances.
 |
| Market cap |
Insider Holdings is a very useful metric, available of the Yahoo Finance Major
Holders page. It tells you what percentage of the outstanding stock is held by
founders or executives of the company. The higher this number the better. We
want to invest in businesses whose leaders ride in the same boat we do and so
are generally motivated by the things that we are. In most cases an executive
with ownership of 1% or more will be incentivized more by his or her share
ownership than a pay package when making key decisions which affect that
business. Not to mention someone who owns that much of a big, publicly traded
company likely has a passion for that business and will work extremely hard to
see it succeed. Precisely what a passive shareholder wants to see.
Revenue Growth and Earnings Growth:
(For
these you will, unfortunately, need to start calculating. This is where that
Excel spreadsheet comes in handy. I just copy-paste a company's Balance
Sheet, Income Statement, and Cash Flow Statements right off the web and onto a
worksheet, then I can build formulas to track my metrics.)
What
we want to know here is how quickly Revenue and Earnings— profits— are growing
on an annualized basis. And I weight my figures so that last year and this year
are getting more say in the rate calculation than 2 years ago. Here’s the
formula for Revenue Growth:
This Year
Revenues This
Year Revenues
------------------------------ x .65 +
------------------------------- x .35 - 1
Last Year
Revenues 2-years ago Revenues
and
for Earnings Growth:
This Year Earnings This Year Earnings
------------------------- x .65 +
---------------------------- x .35 - 1
Last Year
Earnings 2-years ago Earnings
Ideally, we want
a business where revenues are rising at least 10%/year, and earnings are
growing even faster than that, preferably more than 20%/year. Of course, there
are some outstanding exceptions: Amazon, for example, has astounding revenue
growth and virtually no earnings at all most of the time, as nearly everything
is reinvested into the business to maintain massive growth… it’s a choice
which, as a growth stock investor, I’m totally happy with.
Relative Strength is a
measure of how much the stock’s share price has risen in the last 6 or 12
months relative to a given set of other stocks—in other words, how much faster
a particular stock is rising compared to others. The idea is that this is an indication
of management skill or profit margins or manufacturer efficiency. The reality
is that while it could indicate any of those things, likely as not it’s more a
measure of what we now call “trending,” or the level of investor interest in a
given company. A business that is hot in the market lately will likely have
seen a greater price increase relative to its peers than another business. In
any of these cases, we like fast price appreciation and we look for it.
It is an
impossible number to calculate, as you need to determine the price increase
rates of a whole pile of other stocks and then compare to the one you’re
researching. Best bet: search for it online. Use the ticker symbol (AAPL for
Apple, NKE for Nike, etc.) and then look for Relative strength. Often you can
find some analyst’s take on the first try.
Finally, Cash Relative to Total Debt is just what it sounds like: how much cash and other liquid assets the company has on hand compared to all their debt. We want cash on hand to be the larger number—preferably 1.5 times bigger. To be fair, this pretty much rules out a lot of manufacturers and other capital-intensive businesses, such as airlines and shippers and so on. But you want to know regardless: can the company pay off debt anytime should a need arise?
Of course, there
are man
The Motley Fool offers a wealth
of information just by typing in a company ticker to the top-right corner
search field of their home page, including common ratios (most of those listed
on my blog), charts and graphs, and some comparison tools as well.
Nasdaq provides data
about just about any stock traded in the U.S., both in and out of the Nasdaq
trading exchange. Their home page has a search bar to enter any ticker you want
and get, on the left margin, a page called Guru Analysis which will rate a particular
investment opportunity filtered through the philosophy of a number of renowned
investors, such as Benjamin Graham and Peter Lynch. And you’ll find a quick and
easy visual guide to their own analysts’ take under Analyst Report.
Drifting
to Fifty | Random unrelated nugget
of the week
Short-term thinking— a need for instant gratification— is the source of a great number of our problems. If instead one approaches a consequential decision from the perspective of how her or she will feel about that choice a year from now, or 10 years from now, one will likely find greater satisfaction.
Short-term thinking— a need for instant gratification— is the source of a great number of our problems. If instead one approaches a consequential decision from the perspective of how her or she will feel about that choice a year from now, or 10 years from now, one will likely find greater satisfaction.